Where resources in the economy are not distributed optimally and therefore consumers cannot purchase the quantity of goods that they desire. This occurs when the price is not equal to the marginal cost for firms and also the economy is operating on a point that does not lie on the PPF.
The diagrams below illustrate how graphically allocative inefficiency can be illustrated for firms and the economy as a whole. For firms, if they are producing at the point where price is not equal to the marginal cost, they are producing a sub-optimal amount of resources for consumers, the market shown below is a monopoly market, as this is a market with a high level of inefficiencies due to monopoly power.
The diagram on the right illustrates that when an economy is not producing on its PPF it is not using all the resources in the economy to produce a share of goods for economic agents to consume. Any point not on the PPF corresponds to an allocatively inefficient point.
