When Markets and Governments Fail

If you are cheated it is the governments fault

Published in El Pais, 23 March 2019.

Do you know if you are paying the right price for the product you buy? You might be if it is an easy to judge foodstuff, but for most of the products, most of us simply do not have the knowledge to tell. When you go to a doctor, you assume that he has the knowledge for a correct analysis. If your car breaks down and you bring it to a garage you assume that the mechanic is right when he tells the battery is bad. If your lawyer writes a memorial with all the legal terminology you trust him that knows what he is doing. In all the previously mentioned situations normal mortals, like you and me, have no way to check the quality of the work they are paying.

This phenomenon is called a market failure. In this case, one aspect is the information asymmetry. It means that one party has more information about the product than the other party; thus, it has an advantage setting the price. Information asymmetry is more common than you think. For example: a seller of a second-hand car probably has some information that he or she doesn’t want to tell fearing for a lower settlement. In other words, the price people paid for a product or service is much higher than they would have had if they would have known all the information.

To solve any market failure, we need the government. The government needs to make sure that the most oblivious party is protected by the law. Certification of professionals, warranties, return policies or even certain quality standards like done for biologically produced products. But what if the government is suffering of government failures?. In these cases, there are no laws, or there are laws poorly enforced. Consequently, any problem must be dealt with in a lawsuit. A lawsuit is an expensive and lengthy solution that is accessible to people who have economic and time possibility. The rest of the people would have to accept the loss and hope next time they are not cheated.

The economic burdens due to these asymmetries of information are often underestimated and are often not related to government failures. Markets are not perfect and cannot function properly without controls and help from the government. Recently, economists are really focusing on the relation between these two failures. So next time you feel your lack of knowledge got you a pig in the poke, it might be a market failure, but it is the government to blame.

About Arnold Hagens 126 Articles
Arnold Hagens is Economist with strong interest in technology, marketing and coaching

2 Comments

  1. With all due respect to Mr. Hagens, the examples that he submits above are not true cases of “market failure”. These are more accurately cases of “caveat emptor” or in one instance, direct fraud. Additionally, the government was never meant to protect people from their own ignorance, nor could it ever hope to assume such a role with any degree of efficiency. That is why we have reputations and why such reputations are protected by defamation laws regarding liable and slander. It is because reputations are reputed to have value that we choose more reputable businesses or people with whom to associate, and which serves to minimize risk between parties.
    When you go to a professional of any kind, you typically choose one that has the proper credentials or certifications pertinent to their profession and you pay a premium for their service. If those credentials do not prove to be representative of the individual’s purported skills or talents, then the reputation of that individual suffers, and they will not survive in the marketplace for long thanks to the myriad of options available to the public for either negative or positive feedback through social media or directly through institutional associations.
    Further, the government does serve to protect the public at large through the imposition of regulations and standards necessary for the protection of the commons, but I would not consider it to be a “government failure” if an individual is merely taken advantage of by any unscrupulous business owner or charlatan. While it is the responsibility of government to protect people from each other, it is not the responsibility of government to protect people from themselves. The moment we outsource that responsibility to any third party, especially our own government, we shirk the personal responsibility that accompanies those rights and privileges that are guaranteed by our Constitution to which we own our freedom from tyranny and oppression.

    • Mr Peabody, I completely agree with your underlying thought. To a certain extent people need to take their own responsibility for their economic activities. However, there are two dimensions that create failures that the market doesn’t solve, and governments need to intervene. First is that the products become too sophisticated that a buyer cannot reasonably check and thus will never know if it was sold as told. The second one is that economic development differs per person/country and those are an easy prey for certain sellers who can take advantage. Specially in those countries where social media is not used yet to rank the services of person or company. The latter point would only disappear with the increase of economic development.
      Markets are not perfect and need fixing all the time, but I also certainly don’t want that governments intervene in something that is working fine or if person can fix without too significant costs. Still if the market failure impose severe costs to the people and regulation is needed, but the governments ignores it, I stand by my point that it is a governance failure.

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