Misallocation: Economic Inefficiency

________________________________________________________________________________________________________________________________________________

Misallocation occurs when resources or goods are allocated inefficiently so that the potential total value of production is not attained.

If government dictated production and consumption in detail, we could count on policymakers' preferences being reflected, but should not be surprised if there were only two sizes of everything–too big and too little. Government decision-makers face tough dilemmas even if they scrupulously try to mirror the desires of millions of consumers. People's subjective preferences are often idiosyncratic. A national vote to mandate what everyone will eat during Thanksgiving, for example, would ignore those who prefer roast beef or ham to turkey. Vegetarians would be forced to starve. Such decisions are more efficiently left up to individuals and their families so that each family can have its first choice.

Another problem is that most people work better when their expertise is valued and they are rewarded for good performance. Workers who feel powerless tend to perform lethargically, and may indulge in sabotage. (As a youngster, were you ever tempted to break dishes in hopes that your parents would take over your chores?) The quality and amount of output suffers when rigid decisions emerge from distant managers unaware of local conditions–a common failure in all bureaucracies (large organizations), including government. Bureaucratic decisions often fail to allow workers latitude to make intricate decisions that yield high-quality output.

Landscaping a building located on uneven ground, for example, requires adjusting for soil quality and knowing how much moisture, sunlight, and fertilizer suit different plants and trees. These factors will not be reflected in blueprints intended for thousands of buildings and mandated by a "Landscape Architecture Commission" that never visits the specific site. The point here is that government decision making is often crude relative to the fine-tuning made possible through individual choice (a) in consumption, when people have differing preferences, and (b) in production, when policies specified centrally are not attuned to local conditions.

You can probably identify situations in which each of the allocative mechanisms seems to work. Most economic decisions in the United States rely on markets in which prices and productivity largely determine what is produced and who gets it. One important exception is the family, whose decisions are based on varying degrees of command, tradition, and communal sharing, whether equally, by need, or based on some other criterion. Government is the second most important mechanism for decision making in our mixed economy; taxes, regulations, public spending, and transfer payments have all grown rapidly in recent decades.

The past decade or so has seen government's size and scope shrink in countries where it dominated economic decisions for decades–or even centuries. Paradoxically, government has grown most rapidly in countries that historically relied more on markets.

________________________________________________________________________________________________________________________________________________

Author: Ralph Byrns

Economics instructors and students are hereby granted provisional permission to use these materials for educational purposes only. Commercial use of any of these materials is forbidden. Withdrawal of this permission may be announced at this site without notice, and these materials may not be used thereafter without written permission.