Final answer:
The situation where a good or service is produced at the lowest possible cost is known as productive efficiency, which happens when firms produce on the production possibility frontier at the lowest average cost, typically found in perfectly competitive markets.
Step-by-step explanation:
The correct answer to the question is productive efficiency, which describes a situation where a good or service is produced at the lowest possible cost. Productive efficiency occurs when production is on the production possibility frontier (PPF), implying there is no waste in any input. This entails that firms produce goods at the lowest average cost possible, which is typically achieved in the long run in a perfectly competitive market.
Allocative efficiency, on the other hand, is a broader concept that not only considers production costs but also the social preferences and the distribution of goods and services. It occurs when the production is at a point on the PPF that is most desired by society, where the price of a good is equal to the marginal cost to indicate the social benefit equaling the social cost. This is an important consideration in terms of what the society values and the resources it is willing to allocate to different goods.