Economic Efficiency and Equity

The two primary criteria used to evaluate systems of resource allocation are economic efficiency and equity.

Economic efficiency occurs when a society obtains the largest possible amount of output from its limited resources. Each country in the world has labor, capital, and natural resources. Countries differ, however, in the sizes of their population (and thus their labor force) and the types and quantities of capital and natural resources. Regardless of its resource endowment, however, a society can produce some maximum quantity of output if it uses its resources wisely. This output is composed of goods and services. A good is a tangible commodity or piece of merchandise that is produced for sale, such as a car, a sweater, or a book. A service is useful labor that does not create a tangible commodity or piece of merchandise. Examples of services are haircuts, financial and legal advice, and many forms of entertainment. To illustrate the difference between goods and services, consider a vacation trip to Walt Disney World in Florida. Admission tickets to theme parks are services because they provide access to the entertainment within the park. Souvenirs, such as stuffed animals, clothing, and jewelry, are goods. Restaurants also illustrate the difference between goods and services. The reason meals cost more in restaurants than when you prepare them at home is that part of the cost of the meal is for the service of having the food prepared for you. A general name for an output is a product. A product is the output of human labor and can be either a good or a service.

Economic efficiency is an important consideration for societies that desire more goods and services. Being efficient with resources allows a society to satisfy more needs and wants than if the resources are allocated inefficiently. Economic efficiency is not the only consideration, however.

Equity occurs if a society distributes its economic resources fairly among its people. Different opinions about fairness, however, cause people to debate how resources should be allocated and are a primary determinant of political affiliation. People who think markets provide a generally fair distribution of output among the population tend to oppose government intervention in the marketplace. This is the position of most traditional conservatives, who usually favor a very limited government role in the economy. People who think markets create an unfair distribution of output tend to favor a larger role for government in the redistribution of wealth. Traditional liberals tend to favor this position.

Some systems of resource allocation may be efficient without being fair. Other systems may be fair without being efficient. Societies choose different types of political and economic systems based in large part on different perceptions and valuations of efficiency and equity.

When a society chooses to have a government, then citizens pay taxes to generate revenue for the provision of government services. Efficiency and equity are also the two primary criteria used to evaluate tax systems. This is discussed in greater detail in Chapter 10 (Fiscal Policy).

Special Types of Labor in Business

The business world is divided into several functional areas, such as entrepreneurship, management, marketing, finance, and accounting. Entrepreneurship is the invention of new products, the improvement of existing products, or the delivery of products in better or more efficient ways. Management is the allocation of economic resources. Marketing is the process of informing society about products in an attempt to convince potential consumers to purchase them. Finance is the management of money, credit, and other financial assets.Accounting is the preparation and inspection of financial reports. Each of these functional areas of business has a special type of labor associated with it.

An entrepreneur is someone who invents a new product that satisfies a want or need of society, improves an existing product, or provides a product in a better or more efficient way. One way to become wealthy is to become a successful entrepreneur. Mark Cuban, the owner of the National Basketball Association’s Dallas Mavericks, acquired his wealth by being a successful entrepreneur. Cuban co-founded Broadcast.com, which provided streaming multimedia on the Internet, in 1995. The Internet company Yahoo! Inc. purchased Broadcast.com in 1999 for $5.7 billion. Successful entrepreneurs are usually highly motivated, creative leaders with some specialized knowledge that can be used to help satisfy the wants or needs of society.

A manager is someone who allocates economic resources. Successful managers are efficient in their use of labor, capital, and natural resources. Economic efficiency occurs when a society obtains the largest possible amount of output from a given set of resources. Skillful management is a key component of successful businesses. Examples of the importance of management are provided by professional sports. The head coach of a baseball team is called the manager and the major league baseball executives in charge of hiring players are called general managers. Four men have even been elected to Baseball’s Hall of Fame based solely on their achievements as general managers: Ed Barrow, Larry MacPhail, Branch Rickey, and George Weiss.

A marketer is someone who promotes the purchase or sale of a product. The marketing process includes the conception, pricing, promotion, and distribution of ideas, goods, and services. These are often referred to as the marketing mix or the four Ps of marketing: product (conception), price, promotion, and place (distribution). Businesses paid an average of $2.4 million for a 30 second commercial during the 2005 Super Bowl. The willingness of some firms to pay such large sums for advertising indicates the importance of marketing to the success of businesses.

A financier is someone who engages in large-scale financial affairs. A financier is sometimes called a capitalist if he or she invests in a business by providing it with significant money or other financial assets. It is not uncommon for people who develop new products to lack the financial resources to market their ideas. Financiers may provide these entrepreneurs with the financial capital to develop and market their products in return for a share of the revenues or profits from future sales.

An accountant is someone who prepares and inspects the tax reports and other financial records of individuals or businesses. Financiers and other business executives rely on accountants to provide an accurate portrayal of the financial condition of a company. Accountants also assist individuals in the preparation of personal financial reports, such as income tax returns for federal, state, and local governments.