Market Failures

Abstract

Economists define market failure in a very specific way: market failure occurs when the allocation of a good or service by the free market is inefficient. In theory, competitive markets provide the conditions required for economic efficiency in production and consumption, as well as in exchange. Cities are generally viewed as being subject to market failures, with numerous situations where competitive markets do not work and where natural monopoly, externalities and public goods are commonly found. Government intervention, which is often justified on the grounds of efficiency, is supposed to result in an improvement in welfare for each of these traditional instances of market failure. Cities are also locations where poverty is often concentrated and where government intervention on grounds of equity, human rights and social justice is often called for. However, the presence of some form of market failure does not always justify government intervention. Taking into account regulatory, administrative and compliance costs, as well as the possibility of government failure, the outcome of an intervention may not always be superior to nonintervention.