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Economics explained


Market failure

Government failure

Government failure

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Policies to correct market failure may lead to government failure

There may be bureaucracy

Excessive bureaucracy can cause failure. Government intervention can prove costly to administer and enforce. The estimated social benefits of a particular policy might be less than the administrative costs of introducing it.

There may be tax avoidance, tax evasion, and the development of grey markets.

Raising taxes on demerit goods such as alcohol and cigarettes might lead to an increase in tax avoidance, tax evasion, and the development of grey markets. Trade will take place between consumers and suppliers without paying tax

There may be a lack of information

There is a lack of information about the true value of a negative externality. It may be difficult to give an accurate figure for the value of a negative externality such as pollution. Furthermore, the government may not really know the true revealed preferences of so many people. There is a lack of information about the level of consumer demand for a product.

Market failure must not be confused with government failure.

Whereas market failure occurs when markets function inefficiently or inequitably, government failure can occur when government intervention to try to reduce or eliminate a market failure has the unintended consequence of creating a new problem or problems. If the government failure is greater than the market failure that the government intervention was intended to correct, it is better to leave the market failure uncorrected and to live with it.

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