market failure(redirected from Neighborhood effects)
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market failurea situation where a MARKET either cannot serve as a means to allocate resources or where the resulting resource allocations would not maximize society's economic welfare. In the case of COLLECTIVE PRODUCTS, like defence, which are enjoyed in common by all consumers, there is no market to allocate defence resources. In other cases, markets exist but do not operate efficiently For example, a product the production and/or consumption of which involves large SOCIAL COSTS of POLLUTION (see EXTERNALITIES) may be overproduced and consumed since markets for these products take into account only the private costs of production and consumption, while products like vaccines may be underproduced and consumed because their positive externalities are not reflected in their market prices. Markets that are dominated by monopolists (see MONOPOLY) may not allocate resources efficiently since BARRIERS TO ENTRY may prevent firms from entering markets and expanding market supply in response to increased market demand. Finally, FACTOR markets may lead to socially undesirable income distributions when low-income workers are paid very little compared with other workers.
Market failure often necessitates government intervention to correct for such failure. Governments generally make decisions about the provision of collective goods and finance their provision through TAXATION. For products that involve pollution externalities, governments may impose corrective product taxes to discourage supply and consumption, while products with positive externalities may be subsidized (see SUBSIDY). Where markets are dominated by monopolies, governments can use COMPETITION POLICY to regulate the prices charged by monopolists and/or supply terms. Finally, governments can intervene to correct socially undesirable income distribution by correctives such as MINIMUM WAGE RATES to help the low paid, AGRICULTURAL POLICIES to subsidize farmers and PROGRESSIVE TAXATION to require high-income earners to pay more taxes. See PRICE SYSTEM, RESOURCE ALLOCATION, ALLOCATIVE EFFICIENCY, WELFARE ECONOMICS, ROAD CONGESTION.