LOS e: Explain 1) how efficient markets ensure optimal resource utilization and 2) the obstacles to efficiency and the resulting underproduction or overproduction, including the concept of deadweight loss.

Reeves should disagree with Statement 1. In the competitive market, resources are diverted away from goods for which final consumer demand is decreasing, and toward the production of goods for which final consumer demand is increasing. If the market is diverting resources from producing beer to producing wine, it is because consumers have changed their decisions and begun offering more money for wine and less for beer. This means beer brewers are producing more than consumers demand and generating losses on the excess production. They will maximize their profits by reducing their production and using fewer resources. Thus, the new allocation of resources is efficient even from the point of view of the beer producers.

Reeves should agree with Statement 2. The market constantly reallocates productive resources to uses where what they produce is valued more by final consumers, and removing them from uses where what they produce is valued less. When there are no obstacles, resources are always moving toward their most efficient (value maximizing) allocations.

Heyach’s statement is correct but Murdoll’s statement is incorrect. Competitive forces adjust the allocation of resources to changes in consumer preferences. If consumers’ demand for a product decreases, the resources that were being used to produce it are diverted to the production of other goods that are in greater demand.

The “invisible hand” to which Adam Smith referred in The Wealth of Nations did not include any legal authority. Rather, Smith was describing the way that individual producers serve society’s interest by competing with one another to produce the goods and services that are valued most highly by final consumers, even though the producers do not have society’s interest explicitly in mind.

If demand for Good W increases and demand for Good X decreases, the market will allocate more resources to producing Good W and the goods that go into producing Good W (that is, Good S and Good T), and less to producing Good X and the goods that go into producing Good X (that is, Good U and Good V). Changes in the relative prices of all these goods are the signal that tells their producers where to direct resources. Prices will increase for goods W, S and T while prices decrease for Goods X, U and V.

Deadweight loss is the reduction in consumer and producer surplus due to underproduction or overproduction.

Common resources and external benefits both represent obstacles to the efficient allocation of resources. Common resources tend to be overused and external benefits suggest that less than the efficient quantity is produced. Utilitarianism is the idea that fairness means all individuals own the same amount of resources. To bring about such an outcome would require transferring wealth from high income earners to low income earners. This would result in high income earners working less, so the economy would produce less wealth overall. The time and effort required to transfer the wealth would also divert resources from productive uses.

External costs are costs associated with the production of goods which are not entirely borne by producers. The industrial pollution of fishing waters decreases the yield to the fishing industry. However, the lost revenue to the fishing industry is not considered a cost to the firms generating the pollution. The result is an over-allocation of resources to the production of goods made by the firms generating the pollution.

External benefits refer to benefits received by those other than the buyers of a good. Scenic gardens and fountains built by private enterprises for their own interests are examples of goods with external benefits. Since the marginal benefit to society is greater than that of the marginal cost to the producer, less than the efficient quantity is produced.

Government imposed quotas restrict production to a level below that which would occur if marginal benefit equals marginal cost. This restricted output quantity is less than the equilibrium quantity, so marginal benefit exceeds marginal cost.

Price controls and taxes are obstacles to allocative efficiency. Rent controls and minimum wages are examples of price controls. As opposed to being obstacles to the efficient allocation of resources, changes in consumer tastes lead to the reallocation of society’s resources, producing a different mix of goods or services that provide increased benefits.

As opposed to being an obstacle to allocative efficiency, technological advancement requires a constant reallocation of an economy’s resources to more efficient uses.

Public goods can be consumed by every member of a society, regardless of whether they paid for them or not. In a competitive market for public goods, fewer goods than the efficient quantity would be produced because it is not in each person’s interest to pay their share of the cost.