The paper "The Theory of Market Failure" is a good example of a macro & microeconomics essay. Although perfect competition does offer many desirable results, situations arise when perfectly competitive markets cannot efficiently allocate resources resulting in Market failure. Accordingly, some stakeholders within the market receive undue advantages over others (Jhingan, 2006). This situation requires alternative allocation mechanisms, such as taxation by the government. Market failure can occur when the provision of public goods and merit goods is lacking. Another cause of market failure is externalities in the form of natural disasters, political conflicts, and civil unrest; environmental pollution, in particular, can make the social cost of production exceed private costs (Depken, 2005).
Failure to regulate a monopoly leads to market failure when the monopoly becomes strong to the point of destroying the equilibrium that perfect competition brings (Depken, 2005). In this case, markets can be dominated by low-quality or highly-priced products. The immobility of essential factors of production, such as labour and raw material, is a major contributor to market failure. Immobility of labour can cause unemployment that in turn drives production costs up and makes the process of production difficult.
The end result is the collapse of the production sector and eventually, the market (Jhingan, 2006). Negative Externalities Negative externalities occur when the marginal social cost (MSC) is greater than the marginal private cost (MPC). The social marginal benefit (SMB) and private marginal benefit (PMB) of a project or production are interwoven concepts. If the SMB of a provision surpasses its PMB, the society is said to be better off because a positive externality is created by this provision. When taxes are imposed or any other form of intervention is made the government, the actual production will be at Q1 as shown in Figure 1 below.
This is the point of intersection between MSC and MPB thus equilibrium. The tax is because the manufacture of low-quality cars leads to pollution of the environment causing what is referred to as environmental marginal damages cost.
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