The fundamental economic problem is explained as the difficulty of having limited or scarce resources with which to do an infinite number of things. This leads to the need to make choices.

Economic efficiency is said to exist when it could be judged that all of our scarce resources are being used in the ‘best’ possible way. This means that the greatest possible level of infinite wants is being met with those scarce resources.

Economic efficiency is a situation where each good is produced at the minimum cost and where individual people and firms get the maximum benefit from their resources.


The profit motive encourages firms in the free market to be more efficient in order to produce at the lowest price and to minimise wastage.


These firms may thus achieve :

Productive efficiency

Competitive firms are productively efficient, which means that they produce these goods and services at the lowest possible cost.

Competition...

The profit motive...

...in a free market may encourage firms to achieve productive efficiency

Productive efficiency can be achieved through innovation and the development of more advanced technology in the production process.

Productive efficiency can be shown using a production possibly curve

Allocative efficiency

It is not enough for products to be produced at the lowest possible cost. The right products must also be produced if there is to be economic efficiency

Allocative efficiency is a situation where the current combination of goods produced and sold gives the maximum satisfaction for each consumer at their current levels of income.

Competitive firms are allocatively efficient

This means that they produce the goods and services that consumers most greatly desire to consume.

Allocative efficiency can also be achieved in a free market as firms will distribute goods and services to consumers in an optimal way.