The condition for allocative efficiency is violated when

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Question restatement: The condition for allocative efficiency is violated when

Option 1: firms are price makers. This is correct because allocative efficiency in a perfectly competitive market requires price (P) to equal marginal cost (MC). When firms are price makers, as in a monopoly or oligopoly, P typically exceeds MC, leading to underproduction of some goods and misallocation of resources, hence a violation of allocative efficiency.

Option 2: the market demand curve is elastic in a competitive industry. In a competitive industry, the demand facing an individual firm is perfectly elastic, but the overall market demand being elastic does not itself imply a violation of allocative efficiency. Allocative efficiency depends on P = MC, not on the elasticity of demand alone. Therefore this statement does not directly indicate a violation.

Option 3: price equals average total cost. When price equals average total cost (P = ATC), a firm earns zero economic profit in the short run or long run in perfect competition. This condition relates to productive efficiency and normal profit, not directly to allocative efficiency, which hinges on P = MC. Therefore this statement does not imply a violation of allocative efficiency.

Option 4: the market demand curve is inelastic in a competitive industry. Market demand elasticity does not by itself determine allocative efficiency. Allocative efficiency depends on how price compares to marginal cost, not on whether demand is elastic or inelastic. Therefore this statement does not indicate a violation.

Option 5: short-run profits exist in a competitive industry. Short-run profits can occur in competitive markets when price exceeds average total cost, but they do not inherently signal a violation of allocative efficiency. Allocative efficiency concerns P = MC, and profits depend on the relationship between price, cost, and output; thus this option is not a direct indicator of inefficiency.

Summary: Among the options, only the scenario where firms are price makers undermines the price-taking condition of perfect competition and commonly leads to P ≠ MC, which causes allocative inefficiency. The other statements do not, by themselves, establish a violation of allocative efficiency.

AP Economics-Hillebrand Micro Unit 4 Exam v2- Requires Respondus LockDown Browser

The condition for allocative efficiency is violated when

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