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Pareto Efficiency

Definition

Pareto efficiency or Pareto optimality is a state of allocation of resources from which it is impossible to reallocate so as to make any one individual or preference criterion better off without making at least one individual or preference criterion worse off. The concept is named after Vilfredo Pareto, Italian engineer and economist, who used the concept in his studies of economic efficiency and income distribution. The concept has been applied in academic fields such as economics, engineering, and the life sciences.

Pareto Efficiency

What is 'Pareto Efficiency'

Pareto efficiency, also known as "Pareto optimality," is an economic state where resources are allocated in the most efficient manner, and it is obtained when a distribution strategy exists where one party's situation cannot be improved without making another party's situation worse. Pareto efficiency does not imply equality or fairness.

Explaining 'Pareto Efficiency'

Pareto efficiency has broad implications in economics, particularly in game theory. Unlike the predicted logical outcome of a prisoner's dilemma (participants choose selfishly and do not achieve the best possible outcome), if an economic state is Pareto efficient, individuals are maximizing their utility. The final allocation decision cannot be improved upon, given a limited amount of resources, without causing harm to one of the participants.

Using Pareto Improvements to Reach Pareto Efficiency

A primary focus is on productive efficiency, where the production of goods has been optimized for maximum output with optimal input and limited waste. As processes improve internally, resulting in no external deficit, productive efficiency has increased. Once all areas within a system have completed all of the Pareto improvements available, the system is said to be an example of Pareto efficiency. Even when efficiency has been reached, that does not mean that all participants in the system are achieving the same levels of production, only that no other improvements can be made without a detriment to another.

Understanding Production Resources

When discussing the allocation of resources in the attempt to reach Pareto efficiency, many items may be included as any restructuring that can lead to process improvement may be considered a reallocation of resources. It can include tangible production materials as well as any associated real estate, tools or equipment. Employees can also qualify as resources when attempting to arrange an optimal balance. Further, distribution channels and shipping methods can also be adjusted to reach peak efficiency.


Pareto Efficiency FAQ

What is Pareto efficiency examples?

Pareto efficiency refers to a theoretical scenario in which resources are allocated so that all parties benefit equally. For instance, company A only needs bananas and has no use for its 50 apples. Company B has no need for its 50 bananas and only needs apples. Company A receives all of the bananas and company B receives all of the apples. Each company benefits equally.

Why is Pareto efficiency important?

Pareto efficiency, named after the Italian economist Vilfreo Pareto, provides a standard that can be used to compare economic outcomes.

Is a monopoly Pareto efficient?

A monopoly is not efficient because the reallocation of resources to benefit one party, such as increasing the selling price of a product, negatively impacts other parties.

What is Pareto efficient in economics?

Pareto efficiency refers to a situation in which resources or funds cannot be reallocated for one party without negatively impacting the circumstances of another party.

Which market structure is Pareto efficient?

Perfect competition is the only market structure that is Pareto efficient.

What is the meaning of Pareto optimality?

Pareto optimality is another term for Pareto efficiency, a scenario in which resources are allocated so that the benefit of one party will not negatively impact another.

Further Reading

Pareto-efficiency with three varieties of public inputPareto-efficiency with three varieties of public input
ideas.repec.org [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Envy, malice and Pareto efficiency: An experimental examinationEnvy, malice and Pareto efficiency: An experimental examination
link.springer.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Pareto efficiency for the concave order and multivariate comonotonicityPareto efficiency for the concave order and multivariate comonotonicity
www.sciencedirect.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Pareto efficiency with different beliefsPareto efficiency with different beliefs
www.journals.uchicago.edu [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Competitive equilibrium of the stock exchange and Pareto efficiencyCompetitive equilibrium of the stock exchange and Pareto efficiency
link.springer.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

On the intergenerational Pareto efficiency of pay-as-you-go financed pension systemsOn the intergenerational Pareto efficiency of pay-as-you-go financed pension systems
www.jstor.org [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

PAYG pensions, tax-cum-subsidy and A-Pareto efficiencyPAYG pensions, tax-cum-subsidy and A-Pareto efficiency
www.sciencedirect.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Pareto efficiency in robust optimizationPareto efficiency in robust optimization
pubsonline.informs.org [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

An evaluation of dependent variables in experimental negotiation studies: Impasse rates and Pareto efficiencyAn evaluation of dependent variables in experimental negotiation studies: Impasse rates and Pareto efficiency
www.sciencedirect.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …

Weak stability and Pareto efficiency in school choiceWeak stability and Pareto efficiency in school choice
link.springer.com [PDF]
… differ. Suggested Citation. Feehan, James P, 1989. "Pareto-Efficiency with Three Varieties of Public Input," Public Finance = Finances publiques, , vol. 44(2), pages 237-248. Handle: RePEc:pfi:pubfin:v:44:y:1989:i:2:p:237-48 …


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