Market Failure Flashcards
Market failure
when the free market leads to a misallocation of resources in an economy.
Complete market failure
when the free market fails to create a market for a good or service, aka missing market.
Public goods - streetlighting, defense, law & order
Partial market failure
when market for good or service exists, but consumed or produced in quantities that don’t maximise economic welfare.
* underproduced - merit goods, education, health.
* overproduced - demerit goods, alcohol, tobacco, drugs, fatty foods.
Caused by:
- Misallocation of resources
- Inefficiently allocated resources
- Price doesn’t effect true cost of good.
- Production doesn’t take place at social optimum level.
Missed market
For a market you need buyers and sellers.
Social cost (true cost) =
private cost + external cost (negative externality)
↳ generated by one party and passed onto a third party.
Sources of market failure
- Public goods.
- Quasi-public goods.
- Externalities
Sources of market failure
Public goods
Market will not provide.
* Price can’t be changed.
* Non-excludability.
* Non-rivalry.
↳ e.g. street-lighting, law & order, defence, flood defence.
↳ Free-rider problem
Public goods - Free rider problem =
when people benefiit from something without paying for it.
↳Solution = gov provided + payed by all tax-payers.
Sources of market failure
Quasi-public goods
have elements of both public and private goods.
↳ Tradegy of the Commons = people misuse some green areas, rivers, oceans, beaches, woodlens.
↳ Solution = regulations/rules, dispose of rubbish or fined.
Sources of market failure - externalities
Externality
cost/benefit third party receives from economic transaction outside market mechanism.
negative = demerit consumption
positive = merit consumption
Sources of market failure - externalities
Negative - production side
When a firm’s production reduces the well-being of others who are not compensated by the firm.
Coal power station emits harmful gases = pollution/global warming.
Sources of market failure - externalities
Negative - consumption side+ EXAMPLE
where the social cost of consuming the good or service is more than the private benefit e.g. second hand smoke, water pollution
Demerit goods = alcohol, drugs, tobacco
Sources of market failure - externalities
Positive - production side
Research and development companies e.g. electric vehicals
Sources of market failure - externalities
Positive - consumption side
Merit goods = education, healthcare
