A perfectly competitive industry achieves allocative efficiency because
A. Goods and services are produced at the lowest possible cost.
B. It produces where market price equals lowest average fixed cost.
C. Firms carry production surpluses.
D. Goods and services are produced up to the point where the last unit provides a marginal benefit to consumers equal to the marginal cost of producing it.
The Correct Answer and Explanation is:
Correct Answer: D. Goods and services are produced up to the point where the last unit provides a marginal benefit to consumers equal to the marginal cost of producing it.
Explanation (300 words):
Allocative efficiency occurs when resources in an economy are distributed in a way that maximizes total societal welfare. In a perfectly competitive market, allocative efficiency is achieved because the quantity of goods and services produced aligns exactly with consumer preferences—this happens when Price (P) equals Marginal Cost (MC).
Option D correctly reflects this principle. In perfect competition, firms are price takers, meaning they sell goods at the market price. The profit-maximizing output for a firm is where Marginal Cost (MC) = Marginal Revenue (MR). In a perfectly competitive market, MR = Price, so firms produce where P = MC. This ensures that the value consumers place on the last unit (measured by the price they’re willing to pay) is exactly equal to the cost of resources used to produce that unit. Therefore, no resources are wasted, and no additional net benefits can be gained by changing the level of production—this is the hallmark of allocative efficiency.
Let’s briefly address the other options:
- A. While producing at the lowest possible cost (productive efficiency) is a feature of perfect competition in the long run, it does not guarantee that the correct mix of goods and services desired by consumers is produced—so it doesn’t describe allocative efficiency.
- B. Refers to average fixed costs, which are not relevant to allocative efficiency. Allocative efficiency is based on marginal analysis, not average costs.
- C. Surpluses indicate inefficiency. In allocative efficiency, supply equals demand—there is no overproduction or underproduction.
Thus, Option D correctly defines allocative efficiency in a perfectly competitive market.