Introduction to Market Failure
Read this introduction to market failure and externalities. What role
does government play in correcting market failure? How might
externalities affect those not directly involved in a market
transaction?
Bring It Home
The Benefits of Voyager I Endure
The rapid growth of technology has increased our ability to access and process data, navigate through a busy city, and communicate with friends on the other side of the globe. The research and development efforts of citizens, scientists, firms, universities, and governments have truly revolutionized the modern economy. To get a sense of how far we have come in a short period of time, let's compare one of humankind's greatest achievements to the smartphone.
In 1977, the United States launched Voyager I, a spacecraft originally intended to reach Jupiter and Saturn, to send back photographs and other cosmic measurements. Voyager I, however, kept going, and going, past Jupiter and Saturn, right out of our solar system. At the time of its launch, Voyager had some of the most sophisticated computing processing power NASA could engineer (8,000 instructions per second). Today, we Earthlings use handheld devices that can process 14 billion instructions per second.
Still, today's technology is a spillover product of the incredible feats NASA accomplished more than 40 years ago. For instance, NASA research is responsible for the kidney dialysis and mammogram machines we use today. Research in new technologies not only produces private benefits to the investing firm, or in this case to NASA, but it also creates benefits for the broader society. In this way, new knowledge often becomes what economists refer to as a public good. This leads us to the topic of this chapter – technology, positive externalities, public goods, and the role of government in encouraging innovation and the social benefits it provides.
— Introduction to Positive Externalities and Public Goods
Private decisions in the marketplace may not be consistent with the maximization of the net benefit of a particular activity. The failure of private decisions in the marketplace to achieve an efficient allocation of scarce resources is called market failure. Markets will not generate an efficient allocation of resources if they are not competitive or if property rights are not well-defined and fully transferable. Either condition will mean that decision-makers are not faced with the marginal benefits and costs of their choices.
When we think of firms like Apple, Google, Lyft, or Tesla, we do not include the government in the equation. However, as you read above, these firms built their businesses based on the tools the government provided because they could take on riskier and more expensive projects. But wait a moment. Haven't we just discussed how equilibrium price and quantity maximize consumer and producer efficiency? Why are we also suggesting government intervention can foster private innovation? Are these ideas contradictory?
The answer is there is no contradiction. The market is an efficient tool for allocating scarce resources. However, markets can also exhibit market failures. One significant form of market failure arises from externalities. In the realms of consumption, production, and investment, the choices households and firms make can impact economic agents not directly participating in these decisions. While some of these indirect effects may be minor, they can become problematic when they reach a significant scale – they are what economists call externalities.
Source: Saylor Academy (adapted from OpenStax and Lumen Learning), https://openstax.org/books/principles-microeconomics-3e/pages/13-introduction-to-positive-externalities-and-public-goods https://library.achievingthedream.org/sacmicroeconomics/chapter/market-failure/
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