Leibenstein Gap-filling Theory

also known X-Efficiency Theory

Proponent: Prof. Harvey Leibenstein

Prof. Harvey Leibenstein - Ukrainian-born American

Jewish economist, a professor at Harvard University
Contributions in the field of economics:
- The concept of X-Efficiency
- Critical minimum effort thesis in economic
development

The Concept of X-Efficiency

- X-efficiency is the degree of efficiency
maintained by firms under conditions of
imperfect competition.
- Mainly focuses on the effectiveness with which
a given set of inputs are used to produce
outputs. SUMMARY
Example: If a firm is producing the maximum
output it can, given the resources it employs (e.g.  X-efficiency is the degree of efficiency
workforce and machineries), it is said to be efficient. maintained by firms under conditions of
The inefficiency occurs when these resources are imperfect competition such as the case of a
not achieved. monopoly.
 Economist Harvey Leibenstein challenged the
belief that firms were always rational and called
X-efficiency helps to explain why companies might
this anomaly "X" for unknown–or X-efficiency.
have little motivation to maximize profits in a
 Leibenstein introduced the human element,
market where the company is already profitable arguing that there could be degrees of efficiency,
and faces little threat from competitors. meaning that–at times–firms didn't always
maximize profits.
Defining Gap-filling/X-Efficiency Theory  The profit gained by a production is based on
the degree of efficiency of their product.
It is a belief that companies were always rational,
meaning they maximized production at the lowest
possible costs–even when the markets were not
efficient.

Economist Harvey Leibenstein challenged the belief

that firms were always rational and called this
anomaly "X" for unknown–or X-efficiency.
(Note: X refers to any variable in the production or
entrepreneurial circumstances that can affect the
efficiency.)

Subsequent to this, Leibenstein defined the roles of

entrepreneur:
a. Gap-filler
b. Input-completer
Kirzner’s Learning Alertness Theory are then acted on in the marketplace until market
Proponent: Prof. Israel Kirzner competition eliminates the profit opportunity.

Prof. Israel Kirzner - is a British-born American
economist closely identified with the Austrian
School.
Contributions in the field of economics:
- The Essence of Entrepreneurship and the
Nature and Significance of Market Process
(2018)
- Competition and Entrepreneurship (1973)
Roles of Entrepreneurs in Market Process.
Unlike Schumpeter’s disruptive force, Kirzner’s
entrepreneur is an equilibrating force.
SUMMARY
 Opportunities exist per se and it is being
discovered through entrepreneurial alertness
on opportunity and better knowledge. The
nature of knowledge is untaught.

1. Entrepreneurs has the job in correcting

misallocations by specializing the discovery of
missed opportunities.
2. Entrepreneurs balance supply and demand by
detecting market imperfections and exploiting
them.

Market imperfections are caused by:

Information asymmetry refers to cases where
different stakeholders have varying information
about a business venture.
Bounded rationality* refers to the idea that
humans are not perfectly rational.

*We know that we do not know everything. At any

given time, there are sure opportunities that we are
missing without realizing that we need to be alert
with those opportunities. This alertness is called
entrepreneurial alertness.

Entrepreneurial Alertness – the ability to notice

things without engaging in deliberate search. It is a
form of instinct or sense that allows the
entrepreneurs to see opportunities that other
entrepreneurs have missed.

Defining Learning Alertness Theory

Kirzner focused on entrepreneurship as a process of

discovery. Kirzner’s entrepreneur is a person who
discovers previously unnoticed profit
opportunities.

The entrepreneur’s discovery initiates a process in

which these newly discovered profit opportunities
If not all factors are marketed or if there are
imperfections in markets , the entrepreneur has to fill
the gap.
5. X-EFFICIENCY THEORY BY LEIBENSTEIN  X-
efficiency theory was proposed by Harvey Leibenstein
 Measures effectiveness of firm to produce an output
with a given set of inputs  Entrepreneur can measure
the degree of technical efficiency of the firm which can
be maintained under imperfect competition
1. 13. 3. Harvey Leibenstein’s X-Efficiency
Theory
2. 14. Leibenstein’s X-Efficiency Theory • X-
efficiency is the degree of inefficiency in the
use of resources within the firm: it measures
the extent to which the firm fails to realize its
productive potential. According to Leibenstein,
When an input is not used effectively the
difference between the actual output and the
maximum output attributable to that input is a
measure of the degree of X-efficiency. • X-
efficiency arises either because the firm’s
resources are used in the wrong way or
because they are wasted, that is, not used at
al
3. 15. Leibenstein’s X-Efficiency Theory
4. 16. Leibenstein’s X-Efficiency Theory •
Leibenstein identifies two main roles for the
entrepreneur: (i) a gap filler and (ii) an input
completer. • These functions arise from the
basic assumptions of X-efficiency theory.
Thus it is clear that “if not all factors of
production are marketed or if there are
imperfections in markets, the entrepreneur
has to fill the gaps in the market. To put the
enterprise in motion, the entrepreneur should
fill enough of gaps.” • The second role is input
completion, which involves making available
inputs that improve the efficiency of existing
production methods or facilitate the
introduction of new ones. The role of the
entrepreneur is to improve the flow of
information in the market.
inefficiency
: the lack of ability to do something or produce
something without wasting materials, time, or
energy : the quality or state of
being inefficient.
the state of not achieving maximum productivity;
failure to make the best use of time or resources
Search Results
a producing or capable of producing goods and
services that have monetary or exchange
value. productive assets.
X-
Efficiency is the degree of resource inefficiency. It c
hecks to what degree the organization is failing to u
nderstand its competitive potential.
The second role is input completion, which involves
making available inputs that improve the efficiency of
existing production methods or facilitate the
introduction of new ones. The role of the entrepreneur
is to improve the flow of information in the market.
), Leibenstein postulates that the entrepreneurs are
gap-fillers i.e. they have the ability to perceive where
the market fails and to develop new goods or processes
that the market demands but which are not currently
being supplied. This can be regarded as a special kind of
innovation. He postulates that entrepreneurs have the
special ability to connect different markets and make up
for market failures and deficiencies. Additionally,
drawing from the early theories of J.B. Say and
Cantillon, Leibenstein suggests that entrepreneurs have
the ability to combine various inputs into new
innovations in order to satisfy unfulfilled market
demand (Leibenstein, 1995).
What is the x-efficiency
theory of entrepreneurship?
Harvey Leibenstein, American economist,
developed X-efficiency theory in the 1960s. He
views entrepreneurs as gap-fillers and input
complementors. Gaps (X-inefficiency) emerge
when there are inefficiencies in markets, such as
when incumbents do not utilize their resources
efficiently (Leibenstein, 1966;1978) because of
political, normative, cognitive, and structural
factors.
A classic example is the startup without a union that
enters a market where all the incumbents have
strong unions. The cost advantage of disorganized
labor may help firms with low cost business models
to thrive at the bottom of the market at margins that
are uneconomical for incumbent firms to pursue
within the target ranges given to them by their
shareholders.
Measures effectiveness of firm to produce an output
with a given set of inputs  Entrepreneur can
measure the degree of technical efficiency of the firm
which can be maintained under imperfect competition
If the maximum possible productive use of a
resources is greater than the actual use
by incumbents, an arbitrage opportunity emerges
that an entrepreneur can exploit for profit.
Entrepreneurs can also improve inputs by putting to
use new resources, thus making existing production
more efficient.
Incumbents can ignore, waste, or misuse resources
due to inertia, incompetence or ignorance. Thus, the
entrepreneur is seen as correcting market
inefficiencies by improving the information flow in
a market.
X-efficiency theory seems to align well
with Kirzner‘s view of entrepreneurship as alertness
to opportunities caused by the lack of insight of
incumbents.

Harvey Leibenstein proposed a theory for

entrepreneur ship popularly known as
Leibenstein theory of X efficiency. These
theories basically focus on development of X-
efficiency which means inability of a company
to use the available resources within the
company itself. For example a company is
throwing its waster product which can be
sold in the market than this waste product
increase the X efficiency of the company. In
reference to entrepreneurship this theory
tells us about three types of
entrepreneurships.

Harvey Leibenstein (1922 – 1924), came up

with three traits of entrepreneurship and
considering an entrepreneur as a gap filler
that is determining profitable activities,
developing new products or process in
demand and recognizing market trend. He
continued to argue that entrepreneurs have
special ability to connect different markets,
make-up for market failures anddeficiencies