What are market failures?

A question from Yahoo! Answers:

Explain market failures?
this is from macroeconomics
1 How people respond to incentives.
2 How government sometimes can improve market outcomes.

First off, market failure has more to do with MICROeconomics…

To understand market failure, you need to remember that it usually comes in one of three flavors.

  1. Public goods. Some goods (for example, radio broadcasts) can be provided either to everyone or no one. The transmitter is either on (and then anyone with a receiver can listen to a broadcast) or off (and then there’s nothing to listen to). The problem with public goods is free-riding; if people can consume them for free, they probably will. Private sector usually responds to the public good dilemma by producing it in advertising-supported mode (the cost of production is paid by advertisers, rather than end users). Government may respond to it by providing the good directly (i.e., production is done by government employees) and financing its production out of tax revenues.
  2. Uncertainty of property rights. When something seems not to belong to anyone (i.e., when property rights are uncertain or are not enforced), people are inclined to take advantage of it. One example of such behavior is poaching in international waters. Governments respond to this problem by setting fishing quotas through multilateral agreements and enforcing those quotas.
  3. Insufficient information. When there is not enough information about a product (or the information is only available in highly technical presentation), consumers are unable to judge the value of the product. In the extreme cases, a product may be even dangerous to some users (say, cookies containing peanut butter are dangerous to people with allergies). Absent objective information, consumers make purchasing decisions based on price and brand. Governments sometimes respond to this problem by requiring that certain information be disclosed in a particular way. Examples range from nutritional value disclosures on food products to presenting performance of mutual funds.

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