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Market Failure
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Market Failure
• Definition:
• Where the market mechanism
(supply and demand) fails to
allocate resources efficiently to
consumers
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Market Failure
• The Invisible Hand:
– Theory that if all people act in their
own interest, the economy will
produce efficiency
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Market Failure
• Market Failure occurs where:
– Monopolies exist
– Cartels develop
– Externalities exist
– Public Goods exist
– Inequality exists
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Market Failure
• Monopolies:
– Cause a market failure because the
single firm can set prices
– Without competition, markets do not
naturally come to an equilibrium
price
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Market Failure
• Cartels
– When the firms in the oligopolistic
market agree to limit supply or set
prices.
– Causes a market failure because the
cartel prevents the equilibrium price
and quantity
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Cartels
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Market Failure
• Externalities
– Positive externalities cause too little
to be produce
– Negative externalities cause too much
to be produced
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Negative Externalities
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Positive Externalities
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Market Failure
• Public Goods
– Markets would not provide such goods and
services at all!
• Non-excludability – Person paying for the
benefit cannot prevent anyone else from also
benefiting - the ‘free rider’ problem
• Non-rivalry – Large external benefits
relative to cost – socially desirable but
not profitable to supply!
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Market Failure
• Public Goods
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Market Failure
• Inequality:
– Poverty – absolute and relative
– Distribution of factor ownership
– Distribution of income
– Wealth distribution
– Discrimination
– Housing
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Market Failure
• Measures to correct market
failure
– Property rights
– Taxation
– Subsidies
– Regulation
– Redistribution of income
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