MARKET FAILURE
MICROECONOMICS
, DEFINTIONS
Externalities = the impact of production and/or consumption on a 3 rd party for which no appropriate
compensation is paid/received.
■ Lies outside initial market transaction and price;
■ Causes market failure if price mechanism fails to account for the external costs/benefits of
production/consumption.
Private costs = costs faced by the consumer/producer directly involved in the transaction.
Private benefits = benefits for producers and/or consumer directly involved in an economic
transaction.
Social cost = PC + EC Social benefit = PB + EB
■ Neg ext. SC > PC Positive ext. SB > PB
Market failure = the misallocation of scarce resources (allocative inefficiency) whereby social
welfare is not maximised.
■ COMPLETE = no market is available for a good which society regards as desirable (missing
market) , so its output is zero.
■ PARTIAL = a market is available but market output is not optimal for societal welfare. This mean
too much/little of a good is being produced/consumed.
MICROECONOMICS
, DEFINTIONS
Externalities = the impact of production and/or consumption on a 3 rd party for which no appropriate
compensation is paid/received.
■ Lies outside initial market transaction and price;
■ Causes market failure if price mechanism fails to account for the external costs/benefits of
production/consumption.
Private costs = costs faced by the consumer/producer directly involved in the transaction.
Private benefits = benefits for producers and/or consumer directly involved in an economic
transaction.
Social cost = PC + EC Social benefit = PB + EB
■ Neg ext. SC > PC Positive ext. SB > PB
Market failure = the misallocation of scarce resources (allocative inefficiency) whereby social
welfare is not maximised.
■ COMPLETE = no market is available for a good which society regards as desirable (missing
market) , so its output is zero.
■ PARTIAL = a market is available but market output is not optimal for societal welfare. This mean
too much/little of a good is being produced/consumed.
