Markets usually do a decent job of allocating resources. Sometimes they do not. When a market produces too much of a harmful good, too little of a beneficial one, or fails to serve certain groups at all, economists call it market failure. The term is not a moral judgment. It is a technical description of a situation where the invisible hand drops the ball.

Four main sources of market failure appear in textbooks. Externalities, like pollution, impose costs on third parties. Public goods, like national defense, cannot be provided efficiently by private firms because free riders will not pay. Market power, like a monopoly, lets a single seller restrict output and raise prices. Information asymmetry, like a used-car seller who knows more than the buyer, can drive good products out of the market.

Market failure is the standard justification for government intervention. But intervention can fail too. Regulations can be captured by the industries they are meant to police. Subsidies can outlive their purpose. Taxes can distort behavior in unintended ways. The real question is not whether markets are perfect, but whether a specific government action makes things better or worse.

Common failures

• Externalities: pollution, congestion
• Public goods: defense, lighthouses
• Market power: monopolies and cartels
• Information asymmetry: insurance, used cars