Allocative efficiency, the idea that society is provided the right mix of goods, comes from the theory of Pareto optimality. Named for its creator, Vilfredo Pareto (1848-1923), Pareto optimality is described as a condition where no one can be made better off without making someone else worse off. For the optimal allocation of goods and services to occur, Pareto argued that three conditions had to be met. First, there must be an optimal distribution of goods, meaning that goods are divided amongst people in a way that maximizes total satisfaction. The second condition is the optimal technical allocation of resources. Like the notion of productive efficiency, society must produce its goods and services using the least costly combination of input. Third, there must be optimal quantities of the different outputs produced. For this to occur, quantities of each good must be produced up to the point where the marginal benefit equals the marginal cost.

Born in Paris to Italian parents, Pareto studied mathematics, physics, and engineering at the University of Turin in Italy. He spent time as the director of the Italian railway, but in 1893 replaced Leon Walras (1834-1910) as the chair of political economy at the University of Lausanne in Switzerland. Pareto is referred to as a welfare economist, meaning his analysis focused on maximizing society's well-being.