What Is the Efficiency Principle?

Malcolm Tatum

The efficiency principle is an idea that accepts as an economic truth that the greatest degree of benefit is created when the marginal social costs associated with a given action are matched or possibly outpaced by the marginal social benefits that are ultimately triggered by that action. In simpler terms, the principle holds that in order for any activity to be truly efficient, it must create at least enough benefits to outweigh the costs incurred as a result of the action. The general idea of the efficiency principle can be used in a number of business applications, ranging from the efforts to secure a new customer to the resources used to create a new product for sale to consumers.

Factual and verifiable data is required to for the efficiency principle to make a valid economic assessment.
Factual and verifiable data is required to for the efficiency principle to make a valid economic assessment.

Applying the efficiency principle requires having a firm grasp on the costs associated with pursuing a given course of action, while also developing an accurate understanding of the benefits that are likely to be created by that action. For example, a salesperson will evaluate the potential business volume that a prospective customer is likely to generate, then compare those anticipated returns to the costs incurred in the pursuit of that customer. If there is reason to believe that the prospect can be converted to a customer within a reasonable period of time and that all costs associated with the acquisition can be recouped and profit gained, then the activity is considered efficient. If the projected returns will require an extended period of time to offset the costs, then the salesperson may choose to focus attention on more lucrative prospects.

Even within a manufacturing environment, the efficiency principle can serve as a guideline for how goods and services are produced. Here, the goal is to make sure that each step in the production process is as cost- and time-efficient as possible, and that the goods resulting from the effort can be sold at a sufficient amount of profit to justify the effort. As long as the level of waste incurred in production is kept to a minimum and the finished goods are selling at a steady pace, then the level of efficiency is generally considered within an acceptable range.

One of the issues about the application of the efficiency principle is the necessity of relying on factual and verifiable data in order to make the assessment. This means that subjective information that is open to a wide range of interpretation is usually not helpful and should not be considered as part of the process. By taking into account only data that is considered reliable, owners and managers can readily decide if a given course of action is in the best interests of the operation, or if a different course of action would ultimately be more practical and efficient.

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