Summary
In economic terms, market failure is described as a market situation where the goods or services supplied to do not meet the demand for those goods and services, accounting for several ideal factors that affect the equilibrium. In this paper, we discuss two scenarios of market failure and the possible reasons of why and how these situations failed the market. Additionally, the paper will include possible solutions to the problems after detailed analysis and evaluation. The discussion points are as following:
- Understanding market failure and its consequences
- The importance of analyzing the social benefits and social costs of every economic activity to avoid market failure.
- National defense is a public good
- Public goods are nonexcludable and nonrivalry
- Negative externalities result in market failure which requires being addressed
- Lack of information of the benefits of public goods is the major reason behind the failure of the market
Introduction
Market failure can occur due to the productive and allocative inefficiency. This is when the market fails to produce and allocate the limited resources as demanded by the market and inefficiently, which results in increased wastages, decreased in the standard of living and several other economic issues (Weeden, K. A., & Grusky, D. B. 2014).
Moreover, market failure can result in negative externalities, production of demerit goods, failure to meet the demand for certain products and services, a monopoly in the market, inequality of income, and unstable markets. The causes of market failure are usually the lack of information in the market for the consumers, employees and the business. Some businesses who fail to conduct good market research and evaluate the requirements of consumers, also result in the disequilibrium of the market, while other firms charge extremely high prices and fail to provide choice for the consumer. On the other hand, the government fails to use and allocate its scare resources efficiently to maximize productivity, which is caused by the corruption and exploitation of the tax revenue from the public.
Situation 1:
Firm ‘A’ produces cement sifters. The process includes the melting of metals and chemicals which give the sifters strength. In the production process, waste is produced and released into the river that runs alongside the plant.
Analysis
The production process of firm ‘A’ ensures the strength of the cement sifters which includes melting metals and chemicals. It is reported that the production process creates wastages which are dumped into the nearby river. These chemicals are extremely harmful and dangerous for the river life and may result in a hazardous atmosphere, which will jeopardize the fish, the animals that drink river from the river, and the people living near the river. This is because such wastages not only contaminate the river but due to the evaporation process and the water supply from the river, it also damages the surrounding environment and releases harmful chemicals into the air.
This is a perfect example of market failure, where the private benefits exceed the external benefits and the social costs are greater than the social benefits of the economic activity, which has resulted in negative externalities. While the firm is contributing to the economy in the form of income and producing output and creating employment in the society, it is causing harm to the third parties, i.e., the people that are indirectly affected by the activities of the firm. When they release their wastages into the river it damages the surrounding environment, which is an alarming situation for the third parties. The firm fails to allocate its resources efficiently to reduce the wastages and adopt effective methods to avoid dumping the wastages into the river. This results in market failure.
Evaluation
Firm ‘A’ requires catering the issue of market failure, and the damage to their company image, which has resulted in a decrease in the demand for their product and possible strikes are expected to occur. The government needs to consider the actions of Firm ‘A’ and other similar firms who are damaging the environment and contributing to global warming. Every economic activity requires a proper analysis of the social benefits and costs. The environment needs to be the priority at this stage. Hence, firm ‘A’ should adopt new production methods that are more efficient and effective, which results in little to no wastages. In case the wastages are unavoidable, the firm can install a purifying plant that eliminates the hazardous chemicals from the wastages and avoids releasing it into the river.
The government should charge huge fines on businesses that impose severe danger to the environment and jeopardize the lives of the surrounding people. Nevertheless, it is crucial to consider the external benefits and costs of economic activity. The priority should be the externalities of the activity as it results in market failure.
Situation 4
The President of the United States has determined that the cost associated with national defense has become too expensive. In an effort to reduce costs and balance the budget, the President has asked the public to voluntarily pay for their fair share of the costs associated with national defense. One of his advisors insists that this would not work; another advisor thinks it is good policy. Which advisor is correct?
Analysis
National defense is a public good that benefits and protects the country’s interest and the general public, but they can’t be charged directly for this service provided by the government as it is their basic right. Tyler Cowen (2006) describes public goods as goods or services with two distinct features i.e. nonexludability and nonrivalrous consumption. This means that everyone enjoys the benefits of the good or service whether they have paid for it or not, which also generates the term of ‘free riders.’ Free riders refer to people who are unwilling to pay for a service they can otherwise get for free. Additionally, public goods are non-rivalry, which means that such goods are not limited and do not impose competition to another consumer. Everyone gets an equal opportunity to receive the benefits.
Hence, if the President of the United States expects the American citizens to pay for the defense voluntarily, it will result in a market failure. This because people will be unwilling to pay for a service that they can enjoy for free. Moreover, voluntarily payment is a concept that fails due to the lack of ‘excessive’ income people can generate to pay for the national defense. The national income taxes are already collected from the public which is allocated to the different goods and services. This also shows that the government has been allocatively inefficient. The population does not always consider national defense at the most important good or service provided by the government.
Evaluation
The policy might be effective if there are effective awareness campaigns arranged about the significance of national defense and the need for the protection of the people. This might result in a few nationalist contribute to the funds; however, a majority of the population will refuse to pay for a service that should be provided to them from the tax revenue collected in the first place. This will result in market failure as the market forces will not meet and create disequilibrium. Additionally, the people might also consider other things that they believe are more important than the national defense such as creating employment, improve infrastructure, education, healthcare and the living standards of the country. Hence, the President of the United States will require considering a policy that effectively addresses the demands of the consumer, i.e., the American citizens.
References
Cowen, T. (2006). The concise encyclopedia of economics. The Library of Economics and Liberty, http://www.econlib.org/library/ENC/PublicGoodsandExternalities.html.
Weeden, K. A., & Grusky, D. B. (2014). Inequality and market failure. American Behavioral Scientist, 58(3), 473-491.
