Author: Geoff Riley Last updated: Sunday 23 September, 2012
Market failure occurs whenever markets fail to deliver an efficient allocation of resources and the result is a loss of economic and social welfare.
Market failure exists when the competitive outcome of markets is not satisfactory from the point of view of society. What is satisfactory nearly always involves value judgments.
Complete and partial market failure
Markets can fail for lots of reasons:
Negative externalities (e.g. the effects of environmental pollution) causing the social cost of production to exceed the private cost
Positive externalities (e.g. the provision of education and health care) causing the social benefit of consumption to exceed the private benefit
Imperfect information or information failure means that merit goods are under-produced while demerit goods are over-produced or over-consumed
The private sector in a free-markets cannot profitably supply to consumers pure public goods and quasi-public goods that are needed to meet people’s needs and wants
Market dominance by monopolies can lead to under-production and higher prices than would exist under conditions of competition, causing consumer welfare to be damaged
Factor immobility causes unemployment and a loss of productive efficiency
Equity (fairness) issues. Markets can generate an ‘unacceptable’ distribution of income and consequent social exclusion which the government may choose to change
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