Kaldor–Hicks efficiency

A change is Kaldor–Hicks efficient if its winners could compensate its losers and still remain better off. Compensation need not actually occur.

Potential Pareto improvement: A change whose winners could compensate its losers and still retain a net gain. This is the change-level test underlying Kaldor–Hicks efficiency.
Pareto improvement: A change that makes at least one person better off and no one worse off. It is the stricter welfare test that Kaldor–Hicks relaxes.
Cost–benefit analysis: A method for comparing a project's or policy's monetary benefits with its monetary costs. It often treats a policy as desirable when benefits exceed costs, even without actual compensation.
Pareto criterion: A rule that approves a change only when at least one person gains and nobody loses. It rejects many changes that Kaldor–Hicks accepts as potentially beneficial.
Kaldor–Hicks theorem: A result connecting competitive equilibrium with potential Pareto improvements under specified assumptions. It explains why competitive-market outcomes are often defended using compensation-based efficiency.
Willingness to pay: The maximum amount an individual would pay to obtain a good or avoid a loss. Cost–benefit analyses often estimate gains and losses using willingness to pay.
Consumer surplus: The difference between what buyers are willing to pay and what they actually pay. It is commonly used to quantify gains to consumers in cost–benefit analysis.
Regulatory impact analysis: A formal assessment of a proposed regulation's expected effects, costs, and benefits. Regulators may use Kaldor–Hicks reasoning to compare rules with different winners and losers.
Scitovsky criterion: A refinement requiring that a change pass a Kaldor–Hicks test in one direction but not in reverse. It was proposed to address cases where both a change and its reversal pass the original test.
Compensation test: A welfare-economics test asking whether gains from a change could cover losses and leave a surplus. It gives the practical decision rule associated with Kaldor–Hicks judgments.

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