Xinefficiency

X-inefficiency is a concept in microeconomics that describes production inefficiency arising within firms due to organizational slack and weak competitive pressure. Introduced by Harvey Leibenstein in the 1960s, the idea holds that even with access to the best available technology, a firm may incur higher costs than necessary because managerial incentives do not align with cost minimization, or because internal processes are poorly optimized.

In contrast to technical efficiency, which concerns producing the maximum output from a given set of inputs, x-inefficiency measures the gap between observed costs and the lowest possible costs for the same output. The efficient frontier represents the minimum achievable average cost; x-inefficiency is the excess cost over that frontier.

Causes commonly include excess staffing, overprovision of slack resources, bureaucratic overhead, weak competition or monopoly power, information asymmetries, and misaligned incentives. Markets with greater competitive pressure or stronger governance can reduce x-inefficiency by forcing firms to streamline operations and improve performance measurement.

Measurement of x-inefficiency is challenging and often relies on cross-firm or cross-industry comparisons, estimating an efficient frontier, and attributing residual cost differences to organizational factors rather than technology alone.

Critics point to difficulties in separating x-inefficiency from other inefficiencies, changes in technology, and sample selection bias. Despite debates, the concept remains used to explain why some firms exhibit persistently higher costs and to inform discussions on competition policy, privatization, and governance reforms.