Next video:
Loading the player...

Pareto efficiency is an economic state where resources are allocated in the most efficient manner.

In a Pareto efficient scenario, it’s impossible to make one party’s situation better without harming another’s. Pareto efficiency has broad implications in economics, particularly in game theory. An economic state is Pareto efficient when all individuals are maximizing their utility.

On the production possibility frontier, Pareto efficiency occurs when goods and services are at their outermost points, indicating a level where production of one can’t increase without a reduction of the other.

Pareto efficiency has nothing to do with equality. In fact, Pareto efficiency can occur even when situations are unfair.

If three friends win a free pie at the local bakery, it’s Pareto efficient if they divide it into three equal slices and each eats one. It’s also Pareto efficient if they cut the pie into two equal slices and one of the friends is left out, because, even though it’s unfair, the third person doesn’t lose anything, and the whole pie is eaten.

Related Articles
  1. Insights

    Investors: "All We Need Is Just a Little Patience"

    Here's why practicing patience can give you a huge edge over other investors.
  2. Investing

    Efficient Market Hypothesis: Is The Stock Market Efficient?

    Deciding whether it's possible to attain above-average returns requires an understanding of EMH.
  3. Retirement

    Estate Planning Basics

    Deciding what will happen to your assets when you pass away is a must - no matter how wealthy you are.
  4. Insights

    Explaining Minimum Efficient Scale

    Minimum efficient scale is the smallest amount of production a firm can achieve while still taking full advantage of economies of scale.
  5. Insights

    What Is Market Efficiency?

    The efficient market hypothesis (EMH) suggests that stock prices fully reflect all available information in the market. Is this possible?
  6. Investing

    Efficient Market Hypothesis

    An investment theory that states it is impossible to "beat the market".
  7. Insights

    A Practical Look At Microeconomics

    Learn how individual decision-making turns the gears of our economy.
  8. Insights

    4 Reasons Why Irrational Exuberance Lasts

    20 years ago, Alan Greenspan gave his famous "irrational exuberance" speech, but asset bubbles take a long time to pop.
Hot Definitions
  1. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  2. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  3. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  4. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
  5. Relative Strength Index - RSI

    Relative Strength Indicator (RSI) is a technical momentum indicator that compares the magnitude of recent gains to recent ...
  6. Dividend

    A dividend is a distribution of a portion of a company's earnings, decided by the board of directors, to a class of its shareholders.
Trading Center