A market may be defined as a stage that facilitates goods and services to be exchanged. Its main aim is to ensure efficient allocation of resources across the many choices present. Efficient allocation means that personal gains will have been at the highest level, and no further gain can be made. That is; there is no possibility of making someone better off without making another worse off. Lack of efficiency, therefore, occurs when the market gains have not been fully consumed, and there is a possibility gain more. This essay seeks to answer the issue on market failure, its causes, why the government should intervene and in what ways.
The market economy is an economy where decisions about production, investment and distribution are determined by the forces of supply and demand. The prices of goods in such a system are, therefore, determined by a free price system (Munday, 2000). In order for efficient allocation of resources to be achieved there must be rational decisions being made by the persons and also free and competitive market structure. Failure to meet these conditions leads to lack of efficiency in the market known as market failure. Market failure may be influenced by various factors.
Public goods are goods that are do not rival and are cannot be excluded from some people in consumption meaning that they cannot be consumed by one person while the other person is excluded. Such goods involve the concept known as free rider problem whereby a person enjoys the benefit of a good without paying for it, the private benefits accruing to a person cannot be accurately assessed, and individuals cannot reveal what they like. This leads to a case where the good cannot be provided, or the sub-optimal amount cannot be provided. In addition, due to this nature of not being excluded and not rival, a public good cannot be provided by the market (Mankiw, 2011). The goods are available to everyone at no extra costs and may include street lighting, flood dams, law enforcement among others. Therefore, these goods lead to market failure since if they were to be provided through a market economy; the producer would not be able to meet provision costs.
Therefore the government has a role to play in the market economy in order to prevent market failure. When market systems are left to run with no regulation, firms in the market may engage in unethical practices such as collusion to create imperfect markets. Collusion is observed in an oligopoly market system where there are a few large sellers and who sometimes collude to form cartels. These cartels charge higher prices than the actual hence exploiting the consumers. Monopoly behavior may is also observed where there is no government intervention with a large, influential firm charging a high price for a good because it is the only supplier in the market.
Moreover, government intervention is necessary to correct market failure such as externalities. An externality is positive or negative effect upon a person who is not involved in production. Since some of the effects of firms are positive to the society, the government may intervene to ensure a firm continues to supply a good or service to the society. On the other hand, the government may intervene to prevent the everyday occurrence of a negative externality such as carbon emissions. In addition, the government intervention in the economy may be necessary since there is a lack of proper information about how the markets work. By the government intervening, it can create awareness to the consumers who are the society, thus controlling information failure as a market failure. This puts away the problem of moral hazard where parties who were not willing to reveal some information willingly are forced to comply and to reveal information in order to make aware the public about the functions of the market. The buyers, therefore, get the correct information about the products on offer and hence make the correct decisions.
The roles of government in a market economy include providing public goods. Because public goods cannot be excluded and are not rival, private people cannot provide them since they cannot meet the cost of providing a good, hence no profits. The government has to, therefore, step in and provides these goods so that the society can benefit. The government also intervenes in the market economy by coming up and applying rules. These are rules that are to limit the activities of firms such as pollution effects. The government, therefore, comes up with tax rules whereby companies or firms are fined when they exceed some certain amount of wastes into the surroundings. Such regulation is illustrated by the European commission regulations such as the emissions trading systems. In this system, companies have to decrease their carbon emissions of face the threat of paying heavy fees for those emissions.
In conclusion, the government may intervene in the market economy by increasing government expenditure and ensure that some needs are met. By the government increasing its expenditure, it covers up any shortages that may be left by the private firms and prevent charging of high prices of the consumers due to a shortage in supply. So, market system has a lot of inefficiencies if not regulated and there is need fi the government to intervene and make sure the market economy is the therefore ok.
Bibliography
Munday, S, 2000. Markets and market failure. Oxford: Heinemann.
Mankiw G., 2011. Principles of Economics. 5th edition. South-western Cengage Learning.
Traeger, 2009, Market failure, Public goods & Externalities. The Economics of Climate Change, spring 2009-UC Berkeley. http://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=7&cad=rja&uact=8&ved=0CE0QFjAG&url=http%3A%2F%2Fare.berkeley.edu%2F~traeger%2FLectures%2FClimateChangeEconomics%2FSlides%2F2%2520Efficiency%2520-%2520Market%2520Failure%2C%2520Public%2520Goods%2520and%2520Externalities.pdf&ei=PohqVOulM4jXau_agZAM&usg=AFQjCNHXJcvbnpIJUIfigU9XDousz1bLxQ&sig2=EGrDIJL9tTtA2V2bML0yRQ&bvm=bv.79908130,d.d2s
