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1 Introductory concepts 2  Market mechanism  3 Elasticities  4 Market structures 5  Market failures  6  Macro economic activity/eco growth  7 Inflation 8  Employment & unemployment  9  External Stability  10  Income distribution 11.Factors affecting economy  12  Fiscal/Budgetary policy  13  Monetary Policy   14 Aggregate Supply Policies  15 The Policy Mix

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The trade-off between equity and efficiency


The achievement of the government's equity goal should be consistent with a more efficient allocation of resources providing the goal itself is consistent with community expectations.  In other words, if Australians value the elimination of absolute poverty, for example, then living standards are enhanced (in a non-material sense) and the re-allocation of resources to eradicate absolute poverty reflects a more efficient allocation of resources for Australia.  


However, one could argue that the achievement or pursuit of the government's equity goal causes a reduction in economic growth in the longer term, therefore having negative consequences for 'material' living standards.  This is particularly the case if the distribution of income becomes 'too equitable'.  This argument hinges on greater equity stifling incentive, motivation, drive, etc. and thereby reducing productivity (or efficiency), increasing prices, decreasing AD and ultimately economic growth.  Similarly, if the greater equity has come about via higher taxes, the same occurs.


The achievement of a more efficient allocation of resources that comes about via improvements in productivity or technical/productive efficiency can have an ambiguous impact on equity.  To the extent that technical efficiency/productivity has resulted from structural reform (or industry restructuring), there is likely to be an increase in labour redundancies, causing some unemployment in the shorter term, with negative consequences for equity.  However, higher efficiency levels exert downward pressure on costs and prices, which ultimately contributes to stronger economic growth that can lead to a reduction in the unemployment rate.  In this respect, an efficient allocation of resources can actually contribute to an improvement in equity over time, as many on very low transfer incomes start to earn factor incomes.


The trade-off between efficiency and equity becomes apparent when we consider the existence of many indirect taxes that are designed to achieve a more efficient allocation of resources, such as the carbon and alcopops taxes as well as excise on tobacco and fuels.  While these taxes help to reallocate the nation's resources away from the production of goods and services that have harmful effects on society (i.e. the taxes help to achieve allocative efficiency), they typically have regressive effects and worsen equity in the distribution of income.



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