Microeconomics Chapter: Efficiency and Equity

Resource Allocation Methods

• Alternative methods for allocating scarce resources:
  • Market price
  • Command
  • Majority rule
  • Contest
  • First-come, first-served
  • Lottery
  • Personal characteristics
  • Force

Market Price

• Allocates resources to those who are willing to pay the market price
• Most goods and services are allocated by market price
• Works well for most goods and services

Command

• Allocates resources by the order of someone in authority
• Works well in organizations with clear lines of authority
• Does not work well in an entire economy

Majority Rule

• Allocates resources based on the majority vote
• Works well for decisions that affect many people
• Requires self-interest to be suppressed for efficient use of resources

Contest

• Allocates resources to the winner
• Works well when efforts are hard to monitor and reward directly

First-Come, First-Served

• Allocates resources to those who are first in line
• Works well when resources can only serve one person at a time in a sequence

Lottery

• Allocates resources randomly
• Works well when there is no effective way to distinguish among potential users

Personal Characteristics

• Allocates resources based on personal characteristics
• Can be used in unacceptable ways (e.g., discrimination)

Force

• Allocates resources through force or coercion
• Can be used to distribute resources, but not an effective way to allocate resources

Benefit, Cost, and Surplus

• Value is what we get, price is what we pay
• Marginal benefit is the value of one more unit of a good or service
• Demand is the relationship between the price of a good and the quantity demanded

Individual Demand and Market Demand

• Individual demand is the relationship between the price of a good and the quantity demanded by one person
• Market demand is the relationship between the price of a good and the quantity demanded by all buyers in the market

Consumer Surplus

• The excess of the benefit received from a good over the amount paid for it
• Calculated as the marginal benefit minus the price, summed over the quantity bought

Supply and Marginal Cost

• Supply is the relationship between the price of a good and the quantity supplied
• Marginal cost is the cost of one more unit of a good or service

Producer Surplus

• The excess of the amount received from the sale of a good over the cost of producing it
• Calculated as the price received minus the marginal cost, summed over the quantity sold

Is the Competitive Market Efficient?

• Efficient allocation of resources occurs when the quantity demanded equals the quantity supplied
• Resources are used efficiently when marginal social benefit equals marginal social cost
• Market failure occurs when the market delivers an inefficient outcome

Market Failure

• Sources of market failure:
  • Price and quantity regulations
  • Taxes and subsidies
  • Externalities
  • Public goods and common resources
  • Monopoly
  • High transactions costs

Is the Competitive Market Fair?

• Ideas about fairness:
  • It's not fair if the result isn't fair
  • It's not fair if the rules aren't fair
• Utilitarianism: the principle that strives to achieve the greatest happiness for the greatest number
• The big tradeoff: between efficiency and fairness

This quiz covers the allocation of scarce resources, consumer and producer surplus, efficient and inefficient markets, and fairness in economics.