ALLOCATIVE EFFICIENCY is MAXIMIZED HAPPINESS 🥳
Imagine Hong Kong's Yau Ma Tei fruit market late at night. The mangoes are all sold, the durians have found new homes to stink up, and the last vendor packs up his truck. The market literally clears. No one’s left wandering, no sad sacks of untouched papayas. This moment—when supply equals demand or equilibrium—is allocatively efficient, the pinnacle (not 🍍 pineapple 🇹🇼 - they're sold out) of economic harmony.
At its core, allocative efficiency is about maximizing utility which is just a fancy word economists use for happiness 😆 (or satisfaction, contentment, pleasure, preference, etc) so essentially allocative efficiency is about maximizing happiness—at least as happy as we can be, given the resources we’ve got. And just like in finding your own happiness, allocative efficiency can be found in a number of different ways.
TOTAL SURPLUS MAXIMIZATION
When you think of a market that has cleared (any market in equilibrium where supply equals demand) resources are allocated in a way that maximizes total surplus, the sum of consumer and producer surplus.
TS = CS + PS
Allocative efficiency occurs where consumer surplus (the happiness of buyers paying less than they’re willing to) and producer surplus (the satisfaction of sellers earning more than it costs them to produce) are both maximized. It’s where those who are willing to pay meet those who are willing to sell at a price that makes both better off. No wasted resources, no missed opportunities, and absolutely no regrets. Oh, did you notice that's also at the equilibrium quantity (Q*)?
PERFECTED RESOURCE ALLOCATION
Allocative efficiency is all about resource allocation, not distribution. It's not concerned with who gets the cheesecake—whether one person eats 10 slices all by themselves 🐷 (I would never do that 👀) or 10 people 😋 each eat one slice each 🍰 —but just simply that those ovens get turned on those buttery bad boys get baking.
If 10 cheesecakes are valued by consumers 🙋 and can be made efficiently by producers 👨🏻🍳 then 10 cheesecakes should exist—not 3 (which is way short of what would max happiness) and definitely not 16 (which wastes resources and is not very mindful nor demure). To put it simply: a little bit of inequality is tolerable if it means more stuff - ahh, the story of capitalism.
Allocative efficiency is not about fairness in distribution - rather it's about maximized distribution; it’s about ensuring resources are used to bake exactly the right quantity of those sweet, sweet cheesecakes to maximize total happiness. After all, allocative efficiency isn't about who eats the cheesecake—it's the condition that every slice is baked, sold, and savored by someone who absolutely loves those delicious bricks of diabetes; all other things being equal.
ZERO DEADWEIGHT LOSS
Deadweight loss occurs when a market fails to reach allocative efficiency, meaning valuable trades that could’ve made consumers and producers better off don’t happen. These are the lost gains from trade. Wump wump. 🙁 When that happens, there's no allocative efficiency.
Deadweight loss is the lost surplus caused by either underproduction or overproduction. For example, greedy monopolies 🤑 restrict supply to raise prices, leaving some buyers and sellers out. This is underproduction and is not allocatively efficient.
Externalities like pollution or failing to clean up after your dog 🐶💩 distort production by ignoring the impact on other third parties. Usually that means overproduction (but if it's a positive externality - like the societal benefits from economics tutoring! it can be underproduction).
Government 🏛️ interventions, like price ceilings or taxes, almost always create deadweight loss by reducing the quantity traded below the efficient level. Thanks government! 👏🏼
In all these cases deadweight loss leads the market away from allocative efficiency and that's a big no-no if we care about maxing out our collective happiness. 😭
Yau Ma Tei, Kowloon, or as the snobs on Hong Kong Island call it - 'the dark side'.
Fun Fact: Allocative efficiency is found at the quantity (Q*) where total surplus is maximized - that's the sume of consumer and producer surplus.
Allocatively efficient:
🐷
🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰
Also, allocatively efficient:
😋😋😋😋😋😋😋😋😋😋
🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰
Not enough, not allocatively efficient.
😋😋😋😔😔😔😔😔😔😔
🍰🍰🍰
Wasteful, not mindful, not demure, not allocatively efficient:
🤢
🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰🍰
Surplus Summation
In the end, allocative efficiency is about maximizing happiness 🤗 —the economic sweet spot where every resource is used to its fullest potential, every slice of cheesecake is baked and eaten, and no one’s left wishing for more (or less). It’s the moment where supply meets demand perfectly, consumer and producer surplus are maximized 🤩 and no trade is left undone.
But when markets fall short—through monopolies hoarding mangoes 🥭, through the externalities that arise obviously from stinky durians 🍈 or when the governments meddles with price of oranges 🍊—the evil grey triangle of deadweight loss creeps in, and opportunities for happiness slip through our already sugar-coated fingers. Allocative efficiency isn’t just about numbers or boring mathematical economic theory; it’s about harmony, balance, and making sure we squeeze every drop of satisfaction from the resources we have.
Allocative efficiency is not about everyone getting an equal portion of cheesecake—it’s about ensuring it’s baked, sold, and enjoyed by those who really, really love cheesecake! One size fits all solutions are generally not allocatively efficient. Rather, the efficient outcome is where everyone gets what they want most. 🍰 Quite a mixed metaphor between cake and fruit but you get the idea. By the dubs: the delightful little Japanese 🍓 strawberries 🇯🇵 you might find at the Yau Ma Tei fruit market would go perfectly with cheesecake. It's called a complementary good.
*Also maybe don't go to the Yau Ma Tei fruit market at night alone. It's sort of a sketch hood. 🧟