Market failures can lead to government intervention from "summary" of Comparative Economic Systems by Richard L. Carson
Market failures occur when the free market system does not allocate resources efficiently, resulting in a misallocation of goods and services. This can lead to a range of problems, including externalities, public goods, imperfect competition, and information asymmetry. In the presence of market failures, there is a rationale for government intervention to correct these inefficiencies and improve social welfare. Externalities are costs or benefits that are not reflected in the price of a good or service, leading to an overproduction or underproduction of the good. For example, pollution is a negative externality that can harm society as a whole. In such cases, the government can intervene by imposing taxes or regulations to internalize the external costs and encourage firms to reduce pollution. Public goods are goods that are non-excludable and non-rivalrous, meaning that individuals cannot be excluded from consuming them and one person's consumption does not diminish the amount available to others. This leads to underproduction of public goods in the free market, as firms may not have an incentive to produce them. The government can step in to provide public goods such as national defense, public parks, and infrastructure. Imperfect competition occurs when firms have market power and can influence prices. This can lead to higher prices and lower output than would be seen in a perfectly competitive market. Government intervention, such as antitrust laws or price regulations, can help promote competition and prevent monopolies from exploiting consumers. Information asymmetry occurs when one party in a transaction has more information than the other, leading to inefficiencies in the market. For example, in the market for used cars, sellers may have more information about the quality of the car than buyers. The government can intervene by requiring disclosure of information or setting standards to level the playing field and protect consumers.- Government intervention in response to market failures aims to correct inefficiencies, improve social welfare, and ensure a more equitable distribution of resources. By addressing externalities, providing public goods, promoting competition, and reducing information asymmetry, the government can help ensure a more efficient and fair allocation of resources in the economy.
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