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Market Imperfection

Market Imperfection

04/20/2021
Market Imperfection
Edubomb Edubomb

Market imperfection

Market imperfection is a defect in the market structure and mechanism. When market mechanisms or structures become self-profit oriented and forget social welfare then imperfection in the market rises.  Another important thing is that when there is an unequal distribution of resources in the market then it also causes imperfection in the market. In general, imperfection is a defect in the market which causes the market failure. In an imperfect market like monopoly, oligopoly and duopoly there is proper distribution of resources in the economy. In such a market, prices always greater than the actual marginal cost and marginal revenue, which seem to be self-orientation of the firms.

There are different factors responsible for the market imperfection. Actually, the market is composed of the firm, factors of input (Labor), Consumer, etc. Any defect in such sector can cause imperfection in the market which is discussed below

Imperfection in the consumer behavior

If there is Imperfection in the consumer behavior or response then it can cause a market imperfection. If the product and services in the market are not enough for consumer welfare and satisfaction then it can cause market imperfection and ultimately market failure. Sometimes if consumers are misinformed about the product and service available in the market then it can cause a market imperfection. Hence such market imperfection due to consumer behavior is responsible for the market failure.

Imperfection in the factor behavior

If the wage is not flexible in the market so that it can help to increase the labor welfare then such imperfection can cause market imperfection. Low wage rate, as well as barriers for the new labor in the market, can cause imperfection in the labor market. Sometimes existence of the labor union can cause to increase in the higher wage rate without actual demand and sometimes such labor union can cause to create a shortage in the labor market. Such behaviors of the labor or labor union slow the efficiency of the market mechanism. Similarly, such labor union can create the barriers for a new entrant in the labor market which create imperfection in the market and finally market fail to operate efficiently.

Imperfection affecting firm behaviors

In the market, firm behaviors play a great role in operating the market efficiently. When firms in the market act as monopolists or oligopolists then resources in the market are distributed unequally which can cause defects in the market mechanism. Existence of the imperfect competition in the market can cause imperfection in the market. In an imperfect market, resources are not shared equally. A monopolist is self-interest-oriented which make difficult to attain the Pareto optimality. When there is monopoly power in the market then it can rise price intentionally and restrict the output which creates imperfection in the market. Actually, when there is a monopoly in the market then it will reduce the consumer surplus. The following figure shows the imperfection in the market due to the existence of the monopoly power in the market

In the above figure, initially, the monopolist is equilibrium at point Em and producing Qm level of output at price Pm and corresponding consumer surplus is PmAB. But if there is a competitive firm then it will be equilibrium at point EC and produce QC level of the output at price Pc. At this output, there is PcCABPC consumer surplus. Here monopolist price Pm is higher and restricted output to only Qm level. Also, the monopolist has reduced the consumer surplus from PcCABPC to PmAB. Hence, in this way imperfect firm can exploit the consumer surplus raising the price and restricting output. Such firm behaviors can cause market failure.

How the imperfection of the market causes the market failure?

 

In the above figure, private marginal cost PMC and marginal revenue curve MR are intersecting at equilibrium point E1.at this equilibrium point, there is Q1 quantity of the output and P1 level of the price. Now let’s discuss social loss when a firm does not pay the full cost of production. Let this cost is assumed as the tax levies due to the generation of the smoke in the air during the production process. Let this tax amount be equal to E2C.  when tax is imposed then it causes to increase in the cost for the firm. Hence cost increases from PMC to SMC where SMC is social marginal cost. Now the firm is in equilibrium at point E2 producing Q2 level of output at higher price P2. Due to rise in price and restriction on the output firm has reduced the consumer surplus. In the above figure shaded area E2CBA is a net loss to society due to the existence of the imperfection in the market.

 

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