allocative efficiency
Imagine a town with limited bricks. It could build mansions for a few, or homes, schools, and a hospital for many. Allocative efficiency asks: are the bricks going to the uses people value most? It is reached when an economy is producing exactly the mix of goods that society wants — not just making things cheaply, but making the right things, in the right amounts.
The precise test is elegant: a market is allocatively efficient when, for the last unit produced, the value buyers place on it (its price, reflecting marginal benefit) just equals the cost of making it (marginal cost). In symbols, price = marginal cost, or P = MC. If P is above MC, the last unit was worth more to buyers than it cost to make, so making more would raise total surplus — we are under-producing. If P is below MC, we made a unit that cost more than anyone valued it — we are over-producing. Efficiency is the sweet spot where these meet.
This is why perfectly competitive markets are praised: in theory they naturally settle at P = MC, squeezing out the largest possible total surplus. It is also why monopolies, taxes, externalities, and other distortions are criticized — they pull price away from marginal cost and create deadweight loss. Note that allocative efficiency is about producing the right amount, which is different from productive efficiency (producing any given amount at the lowest cost); a market can be one without the other.
If a loaf of bread sells for 3 dollars but costs only 2 dollars of resources to bake the next loaf, bakers should make more — buyers value it above its cost. The market reaches allocative efficiency only when the price of the last loaf has fallen to meet that 2-dollar marginal cost.
Efficiency is where price meets marginal cost (P = MC).
Don't confuse allocative efficiency (making the right amount, P = MC) with productive efficiency (making it at lowest cost). A monopoly can be productively efficient yet allocatively inefficient because it under-produces.