Market Failures

Market Failures 1

MARKET FAILURES

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Market Failures 2

Market Failures

Economics is significant in explaining the complex contemporary issues. It further

describes the economic behavior of different economic issues. It requires social intervention to

address the market failures where the market fails to correct itself. In this case, the government

intervenes using various policy measures. Therefore, a clear understanding of the appropriate

policy measures can help to address the existing economic problems like air pollution.

Air pollution

Air pollution is the real world problem in the second diagram. Firms and individuals

participate in the air pollution. For example in the picture, the person smoking causes air

pollution. Pollution affects the surrounding environment (Harrison 2001). It is detrimental to the

surrounding. Environmental interference not only causes environmental concerns like global

warming, but it leads to health complications. It negatively affects the individuals around. For

example, those people in the picture feel that their salmon is smoky. Air pollution is a source of

market failure. It causes negative externalities which are not reflected in the prices. Hence, it

leads to market failure.

Economic Explanation for the Existence of Air Pollution

Different factors cause air pollution. The major air pollutants can either be classified as

primary or secondary sources (Reitze 2005). Direct sources like the production of carbon into the

air is an example of a primary factor. On the other hand, the interaction of primary factors with

other elements which cause pollution are the secondary sources. The conventional sources of air

pollution are the primary factors. Burning Fossil fuel causes a higher percentage of air pollution

compared to other factors. Fossil fuel produces sulfur dioxide that is harmful. Additionally,

agricultural activities produce gases like ammonia which are unhealthy. Furthermore, industries

Market Failures 3

emit toxic substances into the air. Moreover, consumption of harmful substances like a cigarette

as shown in the picture is a source of air pollution.

Government Policies to Address Air Pollution

The government can enforce the regulation. Regulations on the limit to which the air can

pollute are effective in reducing air pollution. For example, the EU has a regulation of the Clean

Air Act (1956) which reduced pollution in cities like London (Knight 2006). It achieved this by

banning the burning of coal in major cities.

Also, the government can use tax measure to address pollution. The tax raises the price of

goods (Goetz & Berga 2006). Increased tax can reduce the demand for the targeted product. For

example, increasing taxes on cigarettes would cause the number of cigarettes consumed to

reduce as demand decreases. The purpose of the tax is to make the consumers and producers to

cater for the full social cost of pollution as shown below.

The tax shifts the supply of cigarettes from S

to S

. Consumers are forced to pay for the

external cost of pollution which is reflected in the reduction of quantity consumed from Q

to Q

It leads to reduction in pollution as the consumers pay a higher price of P

from P

. Therefore,

=Social Marginal

Cost

=Social Marginal

Cost

Demand

Quantity of Cigarette

Price

Effect of a tax

Market Failures 4

production is efficient where social marginal cost is equal to marginal social benefit. Thus, the

government will achieve its aim for a reduction in air pollution.

In summary, air pollution is real world problem. It causes market failure. The

externalities caused by smoking cigarettes are not reflected in the market prices. However, the

government can apply tax and regulation policy to reduce air pollution.

Market Failures 5

Reference List

Goetz, R.-U., & Berga, D. (2006). Frontiers in water resource economics. New York, Springer

Science+Business Media.

Harrison, R. M. (2001). Pollution: causes, effects, and control. Cambridge, Royal Soc. of

Chemistry.

Knight, D. J. (2006). New EU regulation of chemicals: REACH. Shrewsbury, Rapra Technology.

Reitze, A. W. (2005). Stationary source air pollution law. Washington, D.C., Environmental

Law Institute.

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