Editorials, Uncategorized

Balancing Fairness and Efficiency

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One common criticism of economics is that it focuses too much on efficiency, and not enough on things like equality, fairness and the welfare of future generations. Many economic issues involve conflict between efficiency and fairness.

  • For example, free trade is widely believed by economists to be good for efficiency based on the principle of comparative advantage. Efficiency in this case means greater total output. But free trade also means that the less cost efficient domestic industries will be eliminated by cheaper imports.
  • Although the gain for the economy exceeds the loss of the less competitive industries, these benefits accrue mostly to those employed in the more efficient domestic industries.
  • However, of late, people are questioning the traditional assumption that fairness is irrelevant to economic analysis.

What is ‘Efficiency’?

There are two versions of efficiency in economics- Pareto efficiency and Perfect efficiency.

  1. Pareto efficiency: It is named after the Italian economist Vilfredo Pareto. Basically, it’s just the same thing as gross domestic product. According to this definition, the more things we produce—including goods like TVs and cars—the fewer resources we are wasting.
  2. Perfect efficiency: It is also called Pareto optimality. It is a situation in which the economy is so efficient that it’s impossible to give one person more without taking something away from someone else. Simply put, perfect efficiency is a world where there really is no free lunch.

Why economists mostly focus on efficiency?

Economists focus on efficiency for several reasons. Some of them are-

  • It is probably historical. According to historian Adam Tooze, government attention to economic statistics increased dramatically after World War I. The US, with its massive economic output, had tipped the scales decisively in favour of the Allies, so total output was believed to be an indication of warfighting strength. That logic seemed to repeat itself in World War II, and again in the Cold War, in which the US is widely believed to have outspent the Soviet Union. Greater economic efficiency probably means a more powerful nation.
  • The second reason economists focus on efficiency is that it’s clear and unambiguous. Human welfare, on the other hand, is tricky to define. Economists usually shy away from taking a stand on difficult philosophical questions involving human welfare, and stick to thinking about what will boost GDP.

Arguments against this concept:

The critics cite many flaws in this concept-

  • The most obvious flaw in the efficiency concept is the question of time— by producing more today, we leave fewer resources for our descendants. A policy that is Pareto optimal today may be robbing from our unborn grandchildren. Thus, static efficiency, or efficiency in the present, isn’t always the same as dynamic efficiency.
  • According to this concept, it makes sense to divert some of the gain from the gainers to compensate the losers. But politically and administratively, trade adjustment assistance has been difficult to implement. The issues involve the scope, the length, and the amount of compensation.
  • And also, needless to say, those who gain are less than eager to share their fortune with those who lose.

Arguments in favour of this concept:

Supporters of this concept defend by citing the following reasons-

  • Economic growth usually does enrich the poor as well as the rich. Even the past few decades of global growth, which have seen inequality increase in rich nations, have produced huge gains for the world’s poor, and reduced global inequality in the bargain.
  • Efficiency really does capture how many economic arrangements are simply suboptimal. New policies and institutions really can make things better for everybody.
  • The cultivation of fairness with efficiency maximization, yields greater enhancements of social welfare than efficiency alone, by simultaneously satisfying the criteria of both.

Conclusion:

The most significant conclusion is that efficiency and fairness concerns do not conflict but rather mutually support each other in the goal of maximizing social welfare. This is contrary to the more widely-held view by many that a trade-off between fairness and efficiency is inevitable. The real strength of the efficiency concept is that it focuses on gradual improvement. Instead of trying to radically reorganize society from the ground up, efficiency focuses on finding institutional or policy tweaks that make everyone just a little better off. So far, the history has also shown that gradual reform is the best way to improve the world.

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