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Concept
Government failure
Summary
Government failure, in the context of public economics, is an economic inefficiency caused by a government intervention, if the inefficiency would not exist in a true free market. The costs of the government intervention are greater than the benefits provided. It can be viewed in contrast to a market failure, which is an economic inefficiency that results from the free market itself, and can potentially be corrected through government regulation. However, Government failure often arises from an attempt to solve market failure. The idea of government failure is associated with the policy argument that, even if particular markets may not meet the standard conditions of perfect competition required to ensure social optimality, government intervention may make matters worse rather than better.
As with a market failure, government failure is not a failure to bring a particular or favored solution into existence but is rather a problem that prevents an efficient outcome. The problem to be solved does not need to be market failure; governments may act to create inefficiencies even when an efficient market solution is possible.
Government failure (by definition) does not occur when government action creates winners and losers, making some people better off and others worse off than they would be without governmental regulation. It occurs only when governmental action creates an inefficient outcome, where efficiency would otherwise exist. A defining feature of government failure is where it would be possible for everyone to be better off (Pareto improvement) under a different regulatory environment.
Examples of government failure include regulatory capture and regulatory arbitrage. Government failure may arise because of unanticipated consequences of a government intervention, or because an inefficient outcome is more politically feasible than a Pareto improvement to it. Government failure can be on both the demand side and the supply side. Demand-side failures include preference-revelation problems and the illogic of voting and collective behaviour.
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