While we are constructing average-total-cost curve, we assume that firms have the most efficient technology. In other words, the firm owns the technology that permits to achieve the lowest average-total-cost at whatever the quantity output is. X-Innefficiency is the failure of firm to produce any specific output at lowest possible average total cost.
Why does X-inefficiency occurs if it reduces firm’s revenue? The answer is that some entrepreneurs may have such goals as easier work time, corporate growth, avoidance of business risks or giving some jobs to their relatives that aren’t competent in performing them, so these causes may be in conflict with cost minimization. X-inefficiency also may arise when firm’s workers are poor motivated or under-supervised, also it happens when a firm is inert when it comes to making decisions about future business actions.
Question is where more likely X-inefficiency is prevailing: monopolistic or competitive industry? Firms in competitive industry are under pressure from rivals, so that they are forced to be efficient at production if they want to survive and get profit, but monopolists are protected from such competition and pressure by entry barriers, so that lack of this pressure may lead to X-inefficiency.
There is one general evidence that probability of X-inefficiency increases as competition decreases. Also, it is estimated that X-Inefficiency may be 10% or more of costs for monopolies and just 4% on average for oligopolies where four biggest firms produce more than 60% of total output. There were a saying :” X-inefficiency exists and it’s more possible to be reduced when there is competitive pressure on firm rather than it is isolated”.
In the figure shown above, both costs are higher than minimum ATC, this implies that in this firm(industry) X-inefficiency exists, since the firm(industry) is operating at greater than lowest cost of a specific level of output. For Q1 ATC should be 1, but for Q2 ATC should be 2.
Finance & Economics!!! 