Economics Project – Market Failure
Research Question 1 – What are market failures?
Ans. A market failure takes place when –
Free markets allocate resources inefficiently. The production in an economy is not Pareto optimal as shown on the PPF graph. At A the production is inefficient and at X it is impossible with the current resources. Market failures can take place in all these situations –
- There is a lack of merit goods such as food in the economy which leads to market failure.
- There is overprovision of demerit goods which could harm society. For example – drugs, cigarettes etc.
- There is a lack of public goods as private firms are not ready to produce them as they are not profitable.
- There is a huge income gap. The rich are too wealthy and the poor are very poor.
- There is environmental degradation or any negative externality which causes a market failure.
- There are too many monopolies formed all of which exploit consumers by charging unrealistic prices.
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Economics Project – Market Failure
Research Question 2 – How does the government deal with market failures?
Ans. The government can take the following steps –
- Taxation – Income tax, sales tax and other ad valorem taxes help generate government revenue to provide merit and public goods. Taxes can be imposed on the production of demerit good to reduce production. Taxes can also be imposed on firms which pollute the environment causing negative externalities.