This paper overviews an important aspect of economic efficiency of a firm, namely, Technical Efficiency (TE), and outlines two major approaches towards measurement of Technical Efficiency, viz., the Frontier Production Function and Data Envelopment Analysis (DEA) approach. The frontier production function can be defined as the maximum possible or potential output that a firm can produce from a specified level of inputs, according to the existing technology. The ratio of the actual output and potential or frontier output of a firm during a given period is defined as the measure of TE of the firm during the given period. Analogous to frontier production function, DEA estimates the potential output of a firm for a given set of inputs and is used extensively to measure TE of firms in various industries. It is found that TE varies widely across firms in Indian industries and there is ample scope for Indian firms to increase their output by using better techniques of applying inputs, via improved application of existing technology, without employing additional inputs.

In order to assess the performance of a particular industry/sector, one must measure the economic efficiency of firms in that sector. According to Farrell (1957), economic efficiency of a firm can be measured and has two components, namely—Technical Efficiency (TE) and Allocative Efficiency (see also Coelli et.al., 1998). Technical Efficiency can be defined as “the ability and willingness of a firm to produce the maximum possible quantity of output with a specified endowment of inputs, given the technology and the environmental conditions that surrounds them” (Kalirajan and Shand, 2000). Precisely, a firm is said to be technically efficient when it realizes its technical potential for the given set of inputs and technology. Allocative Efficiency, on the other hand, is defined as “the ability and willingness of a firm to choose those quantities of inputs that maximize the net revenue (profit), given the conditions of factor supply and market demand” (Kalirajan and Shand, 2000). A firm is economically efficient if and only if it is technically and allocatively efficient.