Market failures
Market Failure
Defintion
market failure is a situation in which the production and allocation of goods and services is not efficient.
Types of market failures
Productivity inefficiency
When a firm doe snot produce at the lowest unit cost.
Pareto inefficiency
The economy is not producing maximum possible output because it is not on the PPF and therefore not fully exploiting it's resources
X inefficiency
Occurs when a firm is not producing at its maximum output. (Usually occurs in highly uncompetitive markets where there is no incentive to do so)
Allocative inefficiency
Occurs when the consumer does not pay an efficient price
The marginal cost of production is not covered by the price paid by consumers.
Social inefficiency
The marginal private costs do not take the costs borne to third parties in account
Occurs when the social costs of production are not regarded
Monopoly Power
A pure monopoly is defined as a single supplier in a market.
Monopoly 'power' occurs when there are only few suppliers in a market or when certain firms are the price-takers
occurs rarely
Leads to:
Less Choice
Higher Prices
Lower Consumer Surplus
Restricted Supply
Productive and Allocative inefficiency
Missing Markets
Negative Externalities
The failure of producing goods and services that are need ed and wanted but not provided
Often public goods
It is a cost suffered by a third party as a result of an economic transaction
It is an external cost
MSC is greater than MPC
Unstable markets
Some markets need intervention to be stabilised
They suffer from three problems
Falling long-term income
Unstable prices
Loss of bargaining power
Remedies
Using Price Mechanism
Changing the behaviour of consumers and producers
For Example: Increasing the price of harmful products
Legalisation and Force
The use of force of the law to change unwanted behaviour
Example: Banning cars from city centres
Social Education
Educate users about demerit goods
Government Intervention
The government intervenes to prevent market failures
Minimum prices
Here goods cannot be sold at a price below this. Minimum prices are set above the market price, so supply will exceed demand, resulting in a glut or surplus.
Buffer Stocks
uses a price ceiling and a price floor
If the price becomes too high, the government or buffer stock authority release the good onto the market from storage
The government or buffer stock authority purchases large quantities of the good and stores it, to reduce the supply available to the market so raising the market price
Subsidies
State Provision
Regulation
Pollution Permits
Private and Public Goods
Public goods
Public Goods often lead to Market Failures
Two important concepts when we are thinking about classifying goods as private or public goods are the concepts of rivalry and excludability.
A good is rivalrous if one person consuming it ‘uses it up’, meaning someone else cannot consume it
A good is excludable if you can prevent somebody from using it
Private Goods
Private goods are rivalrous and excludable, although sometimes the government provides publicly provided private goods
Free Rider Problem
If you can’t exclude somebody from using the good, then if one person privately provides the good, everybody else enjoys the same benefit, but does not have to share in the cost
this incentivises people to not pay for provision of the public good, in the hope that others will do so.
Examples: Education, Street Lamps,