WHY MARKETS GENERALLY FAIL TO ACHIEVE SOCIAL EFFICIENCY?

Why Markets Generally Fail to Achieve Social Efficiency?

Why Markets Generally Fail to Achieve Social Efficiency?

The concept of efficiency is a deceptively simple one. On its face it appears to be a quantitative concept. It can be expressed as the largest output for any given input or more specifically as the largest output/input ratio. It's most obvious application is in physical processes, for example, "the ratio of the work did by a machine to the energy supplied to it" (Hayne 1991, 129). But its exclusively quantitative aspects disappear as soon as we realize that this definition is useless unless and until we identify "work done". And this depends on the kind of work we value. "Efficiency is inescapably an evaluative term...physical facts by themselves can never determine efficiency" (Hayne 1991, 130).

It is more accurately expressed as value of output/value of input. Only processes whose inputs and outputs are subject to unambiguous evaluation (aggregation, measurement, etc.) are capable of being unambiguously evaluated according to the criterion of efficiency. The efficiency concept is crucially dependent on the concept of value. Thus economic processes cannot always be judged according to this criterion. An obvious problem is the old one of interpersonal comparisons. For a single individual, as judged by that individual, the concept, indeed, has meaning in terms of the subjectively evaluated means and ends chosen by that individual. But for many individuals taken together, or for the "economy as a whole", the concept of efficiency has no obvious application. The neoclassical economists, realizing this, attempted to build such a concept of "social efficiency" as it related to individual efficiency and this forms the substance of modern welfare economics.

Although the logical limitations of welfare economics are widely acknowledged, neoclassical economists continue to use its methods uncritically to investigate the normative properties of their models. These efforts rely on assumptions that allow one to make inferences about objective "social" outcomes from subjective individual evaluations. All three authors criticize the normative basis of modern neoclassical economics along roughly the same lines. They point out that the subjective character of value, and constructs that depend on it, like cost, render the usual neoclassical measures of (in) efficiency, and the policy responses they provoke, meaningless. This can be explained briefly as follows.

Efficiency understood to mean the maximization of some measure of "social wealth" or "social benefit" (given the means available to produce it) can also be thought of in terms of minimizing "social cost." These are equivalent concepts as long as we define costs or benefits in net terms; that are benefits can be thought of as negative costs. Then minimizing "social cost" will maximize "social benefit." This is the form in which many economists approach the question of policies designed to achieve efficiency.3 For example, in cases of so called "market failure", where one person's actions impose an external cost on another, which is not reflected in the market in any price, this cost could apparently ...