Occurs when government intervention leads to a net welfare loss compared to the free market solution.
Types of government failure:
1) Distortion of price signals
2) Unintended consequences
3) Excessive administrative costs
4) Information gaps
Distortion of price signals (govt failure):
In a free market economy, the price mechanism works to allocate resources. Govt intervention can distort price signals which may result in resources not being allocated in an efficient way.
Unintended consequences (govt failure):
E.g. the EU's Common Agricultural Policy is a scheme that subsidises EU farmers. These subsidies pushed world prices so low that it meant that producers in developing countries could no longer compete.
Excessive administrative costs (govt failure):
Some govt policies are very expensive to administer. If these costs exceed the benefits of the policy then this is govt failure.
Information gaps (govt failure):
Govts do not possess complete/full info and therefore may make policy mistakes.
