How do missing markets contribute to market failure?

Missing markets contribute to market failure by creating inefficiencies and inequalities due to the absence of a platform for exchange.

In more detail, a market is said to be 'missing' when there is a potential for mutually beneficial exchange, but no such exchange occurs due to various reasons. This absence of a market can lead to market failure, a situation where the allocation of goods and services is not efficient.

One of the main ways missing markets contribute to market failure is through the creation of externalities. Externalities are costs or benefits that affect a party who did not choose to incur that cost or benefit. For example, in the absence of a market for carbon emissions, firms may emit more carbon than is socially optimal, leading to negative externalities such as pollution and climate change. This is a form of market failure as the social cost of production is not reflected in the market price.

Missing markets can also lead to information asymmetry, another cause of market failure. Information asymmetry occurs when one party in a transaction has more or better information than the other. This can lead to adverse selection and moral hazard, both of which can result in market failure. For instance, in the absence of a market for used cars, sellers may know more about the quality of the cars than buyers, leading to a situation where only low-quality cars are sold.

Furthermore, missing markets can contribute to income inequality, another form of market failure. In the absence of a market for certain skills or talents, individuals with those skills or talents may not be able to earn a fair income. This can lead to income inequality, as those individuals are not rewarded for their skills or talents in the same way as others.

In conclusion, missing markets can contribute to market failure in several ways. They can create externalities, lead to information asymmetry, and contribute to income inequality. Therefore, the presence of a market is crucial for the efficient allocation of resources and the prevention of market failure.