7.3.1—Productive and allocative efficiency

Productive efficiency occurs when output is produced at the lowest possible average cost, often where a firm operates at minimum AC. Allocative efficiency occurs when output matches what consumers value at the margin, represented by P = MC in a competitive model.

A market can satisfy one condition without the other. A monopoly may exploit economies of scale and be productively efficient yet restrict output so price exceeds marginal cost.

If a firm produces at the bottom of its average-cost curve but charges a price above marginal cost, it minimises cost per unit but does not allocate resources according to marginal willingness to pay.

“Efficient” is incomplete unless you specify productive, allocative or another criterion; minimum average cost is not the same as P=MC.