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Market Failure

  • Date Submitted: 01/16/2014 12:39 PM
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market failure

Market failure is a concept within economic theory describing when the allocation of goods and services by a free market is not efficient. That is, there exists another conceivable outcome where a market participant may be made better-off without making someone else worse-off. Market failures can be viewed as scenarios where individuals' pursuit of pure self-interest leads to results that are not efficient – that can be improved upon from the societal point-of-view.
  Public goods problems are often closely related to the free-rider problem, in which people not paying for the good may continue to access it, or the tragedy of the commons , where consumption of a shared resource by individuals acting in their individual and immediate self-interest diminishes or even destroys the original resource. Thus, the good may be under-produced, overused or degraded.Public goods provide a very important example of market failure, in which market-like behavior of individual gain-seeking does not produce efficient results. The production of public goods results in positive externalities which are not remunerated. If private organizations don't reap all the benefits of a public good which they have produced, their incentives to produce it voluntarily might be insufficient. Consumers can take advantage of public goods without contributing sufficiently to their creation. This is called the free rider problem or occasionally, the "easy rider problem" (because consumers' contributions will be small but non-zero). If too many consumers decide to 'free-ride', private costs exceed private benefits and the incentive to provide the good or service through the market disappears. The market thus fails to provide a good or service for which there is a need.
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