A market failure or failure is a situation that occurs when the market is unable to allocate resources efficiently.
In economics, the price system of a competitive market is capable of supplying all the goods and services of an economy. However, there are some situations where this is not possible, these are known as market failures.
The opposite of the market failure is the failure of the State.
Government intervention to correct market failures
In a mixed economy, like the one we live in, part of the decisions are made by the citizens and part by the government. Given that there are certain unavoidable market failures, government intervention in the market is justified by:
- The absence of regulation: The public sector will regulate the markets with both national and international standards and thus favor the development of the economy.
- Inequality in income distribution: The public sector will have a fiscal policy, such as the introduction of progressive taxes.
- Non-existence of certain goods in the market: Some goods may not be profitable for private companies and therefore the public sector will intervene by producing public goods. The exclusion principle does not apply to these assets. The supply of that good is joint, that is, when it is provided to a subject that good or service is available to others. For example, if you put a streetlight on your front door, the light from your house will be available to anyone who passes by. They may be:
- Pure market failure: By using a product you do not exclude others from its use and there is no rivalry, for example public lighting.
- Non-pure market failure: In which a person can be excluded from its use by paying a price, for example education.
- Negative externalities: When social costs are generated, when exercising the activity that will produce goods or services, causing negative effects on the economy, and are higher than the private cost, the public sector will sanction those who produce these goods or services. For example, a chemical plant that discharges its waste into the river, pollutes the water, thus harming farmers. It is also worth noting the existence of positive externalities, which produce benefits for third parties and in which the public sector will intervene by granting subsidies and aid.
- Monopoly: The market tends to be just one company, therefore the public sector will regulate it, favoring free competition, stimulating the existence of many competitive sellers.
Market failure example
For example, the street lights and the sewers in a city could be market failures. It is not profitable for a company to dedicate itself to putting lighting in the street, because it would invest a lot of money but it would not enter anything and in the end it would go bankrupt. Therefore, the government is in charge of carrying out these tasks, covering market failures.