In the words of economics, market failure is a situation in which the good and services in a free market are distributed inefficiently. In other words, it can also be defined as a state of inconsistency where quantity supplied and the quantity demanded are unmatched. Furthermore, the individual motives for thoughtful behaviour do not point to rational outcomes for the society.
There are several reasons in which market fails to deliver an optimal output to the society as a whole which leads to market failure. The causes for market failure are described briefly as below:
Public goods are those products or services that can be consumed by anyone in the society. It is both non-excludable and non-rival in a sense that the consumption of available resources does not limit the amount for others to consume it. It causes market failure because it does not comply with pareto efficiency condition where marginal social benefit (MSB) is equal to marginal social cost (MSC).
Monopoly is a market condition where there is only one supplier and has the power to abuse price of the products or services by restricting the amount of output for making abnormal profits. Market inefficiency, and shortage of goods and services leads to market failure.
There are some of the commodity markets, where instability in prices is implicit throughout the time depending upon the shifts in demand or supply- or in both. This makes producers hard to decide what amount of goods to produce in which market. This sometimes leads to market failure.
There are various times when values and benefits are not reflected in the market prices of goods but the party other than producer and consumer are affected and bound to pay for it which is termed as externalities. This causes market failure because when making economic decision producer and consumer ignore the effects of society or third party and only take into an account of their own interest. This leads markets to reach in the point of disequilibrium where private cost and social cost vary from each other and causes market to fail. There are two types of externalities causing market to fail they are positive externality and negative externality in both production and consumption.
Negative externality can be known as the occurrence of the state, where the other parties except producer and consumer in the course of economic transaction are suffered or affected. Also, the burden of cost incurred while making a decision by individual or institution is not solely payable by them.
3597215133241000Hence, when the price stability does not precisely reflect the benefits and true cost of a product or service and there is alteration between the private outlay and social outlay there exist, negative externality which leads to market failure. For example an industry producing chemicals pollutes the water by which other individuals get directly affected by it.
Figure 1: Negative externality in Production
In the figure above negative externality of pollution as a part of production and consumption process is interpreted. It shows the output produced by the firm Qm is greater than Qopt where marginal social cost (MSC) is equal to the marginal social benefit (MSB). When the firm reduce its output to Qopt from Qm cost, say price increases from Pm to Popt which means that the total marginal social cost (MSC) surmount the total marginal private cost (MPC) of the production process.
Figure 1.1: Negative externality in Consumption
In the figure above negative externality of pollution as a part of consumption process is interpreted. When marginal private benefit (MPB) is equal to the marginal social benefit (MSB) the free market equilibrium occur at output Q* and price P*. However, socially efficient is at price P1 and output Q1 when we add external costs.
Industry creating negative externality in my home country:
There are several industries that create negative externality in my home country such as tobacco industry, cement industry, textile dyeing industry and many more. Among all of them, I am going to explain further about tobacco industry constituting to negative externality.
Several industries and companies like Nepal Cigarette Industry, Janakpur Cigarette Industry, Surya Tobacco Company etc. are located in several regions of Nepal harming and polluting environmental surroundings and individuals as well. Also it has affected the health of many men, women and children, the other impacts of this industry that has affected society in numerous ways like child labour, economy and in many more ways. Growing tobacco requires the use of pesticides in large quantity. Generally, companies often recommend the application of pesticides in 16 separate ways from planting the seeds in greenhouse to relocating the young plants in the field. The use of these fertilizers and pesticides, harm farmers who are unaware of the health effects and proper safety protocol of using pesticides. These pesticides end up in the soil, water ways, including the food chain. Because of the involvement of child labour it poses an even greater threat. Moreover, the use of wood in curing the tobacco often leads to deforestation causing the climate to change and pollute the surroundings of the environment. Large-scale tobacco companies in the past few years have encouraged the production of tobacco globally, which means, they own or lease facilities for manufacturing tobaccos in at least 50 countries and import from 12 more countries the leaf of tobacco. Along with the government contribution this encouragement, have led tobacco market to oversupply. This glut, directly affect the prices to lower and thus adversely result disastrous to small-scale tobacco producers.
The ways government addresses negative externality caused by Tobacco Industry:
Nepal is the 98th largest country of cigarette consumption annually per capita (511.6) in the whole world. In developing countries like Nepal, tobacco interest groups, academia, Ministries of Health, and advocates who are against the tobacco believe strongly that there should be reduction of tobacco consumption. The only most cost-effective approach appliance in order to accomplish the goal is the tobacco taxes. Despite the fact that tobacco industry and its consumption adversely affects the health and environment around, policies made to address this problem results in conflicts among the policy makers in a sense that policy made can be ineffective. The government uses different tools for the guidance to support their policy while keeping in mind the perspective of politicians, public health advocates, and consumers.
Government plays vital role in reducing the risk and harms of tobacco production and consumption. They make major changes to the wellbeing and community health through the responsibilities and roles performed by them. Government is encouraged to make several strategic approach and significant contributions toward reducing the tobacco related harms, social, financial and health costs of tobacco within the workplaces and in the community. Different strategies and approach that the government undertakes are such as:
Imposing certain types of tax:
Tax such as excise duty, value added tax, sales tax, emissions tax and more are imposed on the tobacco industry so as to reduce certain impacts that harms community and wellbeing.
Act as a service provider:
Through this government can make people aware about the health matters and can implement initiatives and community education to foster social norms with the vision to motivate smokers to quit smoking and resisting starters.
Tobacco control interventions:
Government take several interventions in order to restrict and reduce the impact of tobaccos by promoting healthy livings.
Programs held by mass media in tobacco control:
Various campaigns are held through mass media for prevention of smoking initiation. The media channels commonly include dangers of second hand smoke, health consequences, manipulation of tobacco industry and the deterioration of acceptability of smoking socially in their themes to raise awareness through television, radio, newspaper, and billboards.
Comprising of members:
Members from relevant government ministries like NGOs, WHO, and civil society in order to prevent the harm caused by tobacco and its consumption.
Economic Theory of Tobacco Industry in Nepal: