Econ: Market Failures


There are five common forms of market failures. The first is inadequate competition, which can lead to oligopolies or monopolies. There are four basic market structures, each with different characteristics. Because only one of these structures is perfectly competitive, economists classify the other three as examples of imperfect competition and as market failures. Perfect competition is the most efficient and competitive market structure. It consists of many producers who provide identical goods, usually referred to as commodities. Prices are established by the interaction of supply and demand. Monopolistic competition is a market in which many producers provide a variety of similar goods. Such markets are characterized by the use of nonprice competition to differentiate products and build brand loyalty. To the extent that firms monopolize their own brands, they may have some control over prices, but such markets remain relatively competitive. An oligopoly is a market dominated by a small number of producers who provide similar, but not identical, goods. Firms in an oligopoly often set prices based on other firms’ pricing decisions. Because oligopolies can dominate markets, their effect may be much like that of a monopoly. A monopoly is the opposite of perfect competition. In a monopoly, a single producer provides a unique product and therefore has significant control over prices. The government permits certain kinds of monopolies to exist because they are believed to serve the public interest.

The second is inadequate information, which denies people an awareness of better prices or opportunities in other markets. The third is resource immobility, which occurs when factors of production cannot or refuse to move to other markets. The fourth is the failure of the market to provide public goods. The fifth is the presence of externalities, positive or negative economic side effects to uninvolved third parties.  Externalities are side effects of production and consumption. They may be positive or negative. Public goods are goods that are available for all people to consume, whether or not those people pay for the goods. Externalities and public goods are both symptoms of market failure.

The role of government has expanded to preserve competitive markets. This has taken the form of antitrust legislation that outlaws trusts and various forms of price discrimination. As a result, the economy has been modified so that it is now a mixture of different market structures, different forms of business organizations, and some degree of government regulation.



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