Market failure

In economics, a market failure is a situation in which the allocation of resources by the market is not efficient. The first known use of the term by an economist dates from 1958, but the concept originates from the Victorian philosopher Henry Sidgwick.

Market failures are often associated with inconsistent time preferences, information asymmetries, noncompetitive markets, principal-agent problems, externalities, or public goods. The existence of market failures is often the reason organizations self-regulated, states and supranational institutions intervene in a particular market. Economists, especially microeconomists, are often concerned with market failures and their possible solutions.Such analysis plays an important role in many types of public policy and studies. However, state interventionism, such as taxes, subsidies, bailouts, price controls, and regulations (including poorly implemented attempts to correct market failures) can also lead to inefficient resource allocations, known as state failure.​

Causes of market failures

According to all the results, the main reasons why market failures occur are:

• Inadequate calculation of costs and benefits in the form of prices and therefore distortions are introduced in the microeconomic decisions of economic agents.
• Inadequate market structures or with suboptimal performance.
• Imperfect competition, appears when a company has more market power than the rest of the companies that are operating at a given time. As a consequence of this ruling, consumers will consume a smaller quantity at a higher price. Examples of market structures without optimal performance according to economic efficiency patterns are:
  • Monopoly, although generally considered a form of market failure, certain types of monopolies with long-run decreasing cost curves, such as natural monopolies, may not be as inefficient compared to possible alternatives.
  • Monopsony, whereby a product has only one natural buyer who can manipulate or distort prices to their advantage.
  • Oligopoly, in which only a small number of agents have the capacity to produce a certain product or service,
  • Oligopsony, in which only a small number of agents are the demanders of a certain good or service, each of them being able to influence prices to their benefit.
  • monopolistic competition
• price discrimination
  • price skimming
• Asymmetric information, whereby some of the agents have privileged information and can take advantage of the agents' ignorance of certain facts to set prices above or below the equilibrium price to their benefit.
• Negative externalities, which occur when a third party receives some loss or benefit resulting from the economic activity of a producer or a consumer, not related to it. An example of this is environmental pollution.
• Public good, economic good whose nature implies that it is non-rival and non-exclusive. A good is non-rival when its use by a particular person does not harm or prevent simultaneous use by other individuals -for example: a radio signal (media)- and it is non-exclusive when its usufruct by users cannot be prevented. potential or actual.

Sometimes market failures or the natural dynamics of the market have very serious consequences, during the Great Irish Famine (1845-49) that killed between 20% and 25% of the country's population, large quantities of food continued to be exported to England.

Interpretations

As might be expected, the issue of market failures (and how they should be treated) is a source of controversy among the various schools of economic thought.

Neoclassical school

According to neoclassical economics, most market failures create inefficiencies (in the Pareto sense), so for the neoclassical approach any market economic process that is not Pareto efficient is seen as a market failure regardless whether or not the result serves the "public interest". For example, some consider that the existence of great inequalities in the distribution of wealth or income is against the general interest or public interest, but this situation can become Pareto-optimal. On the other hand, a tax system to reduce the degree of inequality, which may be in the general interest, may simultaneously be inefficient in the Pareto sense. Thus, for the neoclassical approach, economic inequality is not a factor that has anything to do with market failures.

On the other hand, some neoclassical authors consider that the situations in which mercantile activity produces a growing inequality of those who are already initially richer are a market failure, since supposedly there would be intervening the ability of those with greater wealth to impose their power. market to increase their wealth. For these neoclassical authors these phenomena would be reflecting the lack of competition in the markets

Keynesian/New Keynesian school

Modern Keynesian or neo-Keynesian macroeconomics applies the neoclassical view to interpret the failure to achieve full employment of resources in terms of market failures. Once the theory is modified to take into account the basic Walrasian model of general equilibrium, it produces Keynesian results. New Keynesians place greater emphasis on the lack of automatic or rapid adjustment of prices and (especially) of wages.

Recent New Keynesian literature has documented several examples where the overall result of individual actions leads to different effects if all or too many agents try to do the same thing. Classic examples of this are the saving paradox or its salary version called Kalecki's paradox enunciated by Michał Kalecki. Paul Krugman describes several historical cases where a foreseeable adverse economic situation led many agents to try to save part of their liquidity, causing a massive drop in demand and a decline in activity that was not desired by the agents themselves.

Austrian School

Some advocates of laissez faire capitalism, such as the Austrian school economists, argue that there are no market failures, or that they can only occur temporarily, until the market detects and corrects them. Theorists of this school refer to market failures as government failures, that is, as the result of state intervention in the economy and not as a product of natural processes in a free market.

Some authors of this school consider several of the arguments about market failure absurd, suggesting that they simply show that the market is not perfect (and therefore perfectible) although they reject the possibility of improving it by other means, since for this school, State intervention through coercion or violence does not determine a solution to the problem, but rather is the cause of such a problem. This leads them to reject the possibility of state intervention. A large part of the Austrians reject the existence of market failures, and emphasize that there is no possibility that they occur in the dynamics of the free market itself. Among the authors with this position are both Murray Rothbard and Hans Hermann Hoppe, who extend ideas of predecessors such as Ludwig von Mises.

For example, for Rothbard the existence of monopolies is associated with State interventions, that is, a situation of monopoly or oligopoly could only exist if competition in the market is prohibited or artificially hindered. Rothbard develops some typical examples of these interventions (mandatory signs, licenses, quality and safety standards, tariffs, immigration laws, etc.). Rothbard then rejects the consideration of a monopoly when there is only one or few companies in the market: the monopoly it is actually the lack of freedom to compete in the market, caused by State intervention in the form of privileges granted to companies or groups of companies that are artificially defended from competition. Rothbard, as well as other authors of the Austrian school,market failures, such as negative externality or public goods. For the Austrian school there are no market failures, since they base their study of the economy on human action, and on methodological individualism with an a priori character.

Public Choice School

Also some economists of the public choice theory argue that the existence of market failures does not justify state intervention to solve them. They argue that in certain situations the costs of corrective state intervention may be higher than those caused by a market failure, the so-called "government failure".

For these schools, market failures are usually just a deficiency in the existence and extension of more markets. Thus they often proclaim that the solution is "more markets" and advocate the establishment of more markets and the "commodification" of the allocation of certain resources.

Marxist school

In general, Marxism has traditionally argued that a system of individual property rights is a problem in itself, and that resources must be allocated in some way other than the market (for example, by democratic election, by a central planner, or by a government). democratically elected planning group accountable to the electorate).

Many Marxists' concept of "market failure" differs from the usual meaning of "economic inefficiency." For many Marxists, the market always has democratically undesirable results, or to put it another way, the preferred solution would be different from the one achieved through market rules. In this way, the Marxist school looks at the market failures inherent in any capitalist economy based on the ownership of the means of production, as well as other phenomena such as cyclical crises inherent in the general functioning of capitalism. Thus, although Marxists argue in favor of abolishing certain capitalist relations, they frequently do not entertain arguments based on market failures, since they do not see "perfect markets" as a desirable or reasonable end.