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What is market failure?

The term market failure describes the failure of the market system to allocate resources effectively. It takes place when the quantity of a product demanded by consumers is not equal to the quantity supplied by suppliers, meaning that the market fails to reach equilibrium. 

In order for resources to be allocated efficiently, the social marginal costs (SMC) should be equal to the social marginal benefits (SMB). 

Market failure can occur due to various reasons such as: 

- Immobility of labour: geographical and occupational immobility
- Public goods: goods that are non-rival (consumption by an individual does not limit consumption by others) and non-excludable (cannot prevent anyone from consuming it) such as street lighting 
- Asymmetric information: when there is lack of information by a party in a transaction 
-Externalities:negative externalities (costs to third parties such as pollution) and positive externalities (benefits to third parties such as education can help the society)
-Monopoly power: when a firm controls the market and is able to set high prices 
-Commodity price instability
 

Angeliki H. A Level Economics tutor, GCSE Economics tutor

9 months ago

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