Criticisms of market outcomes often rest upon a notion of ‘market failure,’ meaning that the market has failed to align incentives and knowledge to produce an optimal outcome. Rejoinders to classic market failure arguments have taken several forms: that there are institutional or contracting solutions to various forms of market failures, that optimality is not a reasonable goal for real world economic activity, or that government may fail as well. Similarly, Wittman (The myth of democratic failure, University of Chicago Press, Chicago, 1995) and others have argued that concepts of government failure are equally problematic as the ordinary forces of political competition may render politicians sufficiently accountable to achieve realistically defined standards of efficiency. Even thinkers like Buchanan imagine that constitutional design may allow politics to fend off its tendency to become a zero-sum game. Both concepts are problematic in a world of entangled political economy in which market and government activity are interconnected. We argue that it is time to abandon both ‘market failure’ and ‘government failure,’ and instead focus on problems of institutional mismatch, when the rules governing interaction are ill-suited to the problems that agents confront.
This is a preview of subscription content,to check access.
Access this article
Arrow (1951) and Downs (1957) published their work before Bator (1958) and Samuelson (1954), while Black (1958), and ultimately Buchanan and Tullock (1962) as well as Olson (1965) appeared shortly afterwards. See also Medema (2009, Chaptert 4) on the Italian Tradition of Public Finance in economics.
Hall et al. (2018) find that most (upper level) undergraduate public economics textbooks cover rent-seeking in varying degrees of detail. On the other hand, rent-seeking receives zero coverage in graduate-level public economics textbooks. Receives zero coverage in graduate level public economics textbooks. Llyalk actually matters, arguing that standard models assu.
A simpler and ubiquitous method of property delineation is the practice of fencing. To see a discussion of land enclosure via fencing in the American west with the introduction of low-cost barbed wire fencing, see Anderson and Hill (1975).
This is the main reason we have not explicitly addressed monopoly as a form of market failure. Antitrust policy and regulation of natural monopolies are obviously institutional solutions to purported problems. It is worth noting, however, that monopoly has probably become less of a concern in the academic literature on market failure, owing to insights about contestability (Demsetz 1982), and that it is unclear whether anti-trust policy is a an effective solution to concentrations of market power that do exist (Shughart and McChesney 2010; Young and Shughart 2010). Moreover, whether monopoly generates inefficiency also depends on controversial behavioral assumptions, such as whether monopolists act as Cournot or Bertrand competitors.
Pasour (1987, p. 123) argues against the claim that rent-seeking is a government failure, pointing to the fact “that rent-seeking waste can only be identified by substituting the observer's own standard of value.”
Similarly, Salter and Young (2017) compare governance institutions in England and France. Their research highlights the importance of assembly representation in the development of the rule of law in the former as well as differences in their effect on economic institutions in both countries.
Spreadsheet available here (link).
Despite the advantages we enumerate in the proceeding section, then, mismatch talk does not allow us to evade the problem of the second best (Lipsey and Lancaster 1956). Rather, it transfers that problem from the domain of interacting policies to the domain of interacting institutions.
Governance likewise may be about more than determining rules, so that the two concepts would be overlapping rather than proper subsets. Governance failure could include the misallocation of resources within an institutional framework and not only the inept design of an institutional framework.
This is also an advantage for an “efficiency always” perspective. Leeson (2018) “bites the bullet”, arguing that since institutions are the result of maximizing behavior, they must be efficient. Our argument is orthogonal to his. Even he allows a role for economists to “improve the world” by shifting relative prices through costly action and lowering others’ search costs for better institutions. In his approach, such actions change what is efficient rather than closing the gap between what is efficient and what simply is. He also distinguishes sharply between efficiency and wealth generation. Though we have used the language of inefficiency throughout because it is standard, mismatch talk works both for analyzing the non-efficiency properties of institutions (such as how much wealth they generate), or as a talk strategy for Leeson’s “inside the model” economists who shift was is efficient.
Akerlof, G. A. (1970). The market for “lemons”: Quality uncertainty and the market mechanism. The Quarterly Journal of Economics, 84(3), 488–500.
Alchian, A. A., & Demsetz, H. (1973). The property rights paradigm. The Journal of Economic History, 33(1), 16–27.
Anderson, T. L., & Hill, P. J. (1975). The evolution of property rights: A study of the American west. Journal of Law and Economics, 18, 163–179.
Anderson, T. L., & Hill, P. J. (1980). The birth of a transfer society. Stanford, CA: Hoover Institution Press.
Arrow, K. J. (1951). Social choice and individual values. Hoboken, NJ: Wiley.
Ausubel, L. M. (1991). The failure of competition in the credit card market. American Economic Review, 81(1), 50–81.
Bailey, J. (2013). Who pays for obesity? evidence from health insurance benefit mandates. Economics Letters, 121(2), 287–289.
Bartels, L. M. (1996). Uninformed votes: Information effects in presidential elections. American Journal of Political Science, 40(1), 194.
Bator, F. M. (1958). The anatomy of market failure. The Quarterly Journal of Economics, 72(3), 351.
Baysinger, B., Ekelund, R. B. J., & Tollison, R. D. (1980). Mercantilism as a rent-seekign society. In J. M. Buchanan, R. D. Tollison, & G. Tullock (Eds.), Toward a theory of the rent seeking society (pp. 235–268). College Station: Texas A&M University Press.
Becker, G. S. (1983). A theory of competition among pressure groups for political influence. The Quarterly Journal of Economics, 98(3), 371.
Benson, B. L. (1989). The spontaneous evolution of commercial law. Southern Economic Journal, 5513311(3), 644–661.
Benson, B. L. (1991). An evolutionary contractarian view of primitive law: The institutions and incentives arising under customary Indian law. The Review of Austrian Economics, 5(1), 41–65.
Benson, B. L. (2010). It takes two invisible hands to make a market: Lex Mercatoria (Law Merchant) always emerges to facilitate emerging market activity. Studies in Emergent Order, 3, 100–128.
Benson, B. L. (2011). The enterprise of law: Justice without the state (2nd ed.). Oakland: Independent Institute.
Bertrand, E. (2006). The Coasean analysis of lighthouse financing: Myths and realities. Cambridge Journal of Economics, 30(3), 389–402.
Besley, T. (2006). Principled agents: The political economy of good government. Oxford: Oxford University Press.
Black, D. (1958). The theory of committees and elections. Cambridge: Cambridge University Press.
Boettke, P. J., & Coyne, C. J. (2009). Context matters: Institutions and entrepreneurship. Foundations and Trends in Entrepreneurship, 5(3), 133–209.
Boettke, P. J., Coyne, C. J., & Leeson, P. T. (2008). Institutional stickiness and the new development economics. American Journal of Economics and Sociology, 67(2), 331–358.
Boettke, P. J., Coyne, C. J., & Leeson, P. T. (2011). Quasimarket failure. Public Choice, 149(1–2), 209–224.
Bond, E. W. (1982). A direct test of the “lemons” model: The market for used pickup trucks. American Economic Review, 72(4), 836–840.
Booth, J. R., & Smith, R. I. (1986). Capital raising, underwriting and the certification hypothesis. Journal of Financial Economics, 15(1–2), 261–281.
Brennan, G., & Buchanan, J. M. (1980). The power to tax: Analytic foundations of a fiscal constitution. Cambridge: Cambridge University Press.
Brennan, G., & Buchanan, J. M. (1985). The reason of rules: Constitutional political economy. The collected works of James M. Buchanan (Vol. 10). Indianapolis: Liberty Fund.
Buchanan, J. M. (1959). Positive economics, welfare economics, and political economy. The Journal of Law and Economics, 2, 124–138.
Buchanan, J. M. (1962). The relevance of pareto optimality. Journal of Conflict Resolution, 6(4), 341–354.
Buchanan, J. M. (1979). Politics without romance: A sketch of positive public choice theory and its normative implications. IHS Journal, Zeitschrift des Instituts für Höhere Studien. Vienna, Austria: Institute for Advanced Studies, B1–B11.
Buchanan, J. M. (1980). Rent seeking and profit seeking. In J. M. Buchanan, R. D. Tollison, & G. Tullock (Eds.), Toward a theory of the rent seeking society (pp. 3–15). College Station: Texas A&M University Press.
Buchanan, J. M. (1997). Who cares whether the commons are privatized? Post-socialist political economy: Selected essays (pp. 160–167). Cheltenham: Edward Elgar Publishing.
Buchanan, J. M. (2000). The limits of liberty: Between anarchy and leviathan (Liberty Fu). Indianapolis: Liberty Fund Inc.
Buchanan, J. M. (2008). Same players, different game: How better rules make better politics. Constitutional Political Economy, 19(3), 171–179.
Buchanan, J. M., & Congleton, R. D. (2003). Politics by principle, not interest: Toward nondiscriminatory democracy. The collected works of James M. Buchanan (Vol. 11). Indianapolis: Liberty Fund.
Buchanan, J. M., & Tullock, G. (1962). The calculus of consent: Logical foundations of constitutional democracy. Ann Arbor: University of Michigan Press.
Caballero, R. J. (2010). Macroeconomics after the crisis: Time to deal with the pretense-of-knowledge syndrome. Journal of Economic Perspectives, 24(4), 85–102.
Campbell, C. D. (1994). New Hampshire’s tax-base limits: An example of the leviathan model. Public Choice, 78(2), 129–144.
Candela, R. A., & Geloso, V. J. (2018). The lightship in economics. Public Choice, 176(3–4), 479–506.
Caplan, B., & Miller, S. C. (2010). Intelligence makes people think like economists: Evidence from the general social survey. Intelligence, 38(6), 636–647.
Cebula, R. J. (1990). A brief empirical note on the tiebout hypothesis and state income tax policies. Public Choice, 67(1), 87–89.
Cheung, S. N. S. (1973). The fable of the bees: An economic investigation. The Journal of Law and Economics, 16(1), 11–33.
Chezum, B., & Wimmer, B. (1997). Roses or lemons: Adverse selection in the market for thoroughbred yearlings. Review of Economics and Statistics, 79(3), 521–526.
Chezum, B., & Wimmer, B. S. (2000). Evidence of adverse selection from thoroughbred wagering. Southern Economic Journal, 66(3), 700–714.
Chiappori, P., & Salanie, B. (2000). Testing for asymmetric information in insurance markets. Journal of Political Economy, 108(1), 56–78.
Coase, R. H. (1960). The problem of social cost. The Journal of Law and Economics, 3(1), 1–69.
Coase, R. H. (1974). The lighthouse in economics. The Journal of Law and Economics, 17(2), 357–376.
Coase, R. H. (1992). The institutional structure of production. The American Economic Review, 82(4), 713–719.
Coase, R. H. (2013). The federal communications commission. The Journal of Law and Economics, 56(4), 879–915.
Demsetz, H. (1966). Some aspects of property rights. The Journal of Law and Economics, 9, 61–70.
Demsetz, H. (1969). Information and efficiency: Another viewpoint. The Journal of Law and Economics, 12(1), 1–22.
Demsetz, H. (1974). Toward a theory of property rights. Classic papers in natural resource economics (pp. 163–177). London: Palgrave Macmillan.
Demsetz, H. (1982). Barriers to entry. American Economic Review, 72(1), 47–57.
Downs, A. (1957). And economic theory of democracy. New York: Harper & Row.
Ellickson, R. C. (1991). Order without the law: How neighbors settle disputes. Cambridge: Harvard University Press.
Fike, R., & Gwartney, J. (2015). Public choice, market failure, and government failure in principles textbooks. The Journal of Economic Education, 46(2), 207–218.
Friedman, D. (1994). A positive account of property rights. Social Philosophy and Policy, 11(2), 1–16.
Genesove, D. (1993). Adverse selection in the wholesale used car market. Journal of Political Economy, 101(4), 644–665.
Gibbons, R., & Katz, L. T. (1991). Layoffs and lemons. Journal of Labor Economics, 9, 351–380.
Grossman, G. M., & Helpman, E. (1990). Trade, innovation, and growth. American Economic Review, 80(2), 86–91.
Hall, J., Matti, J., & Ferreira Neto, A. B. (2018). Rent-seeking in the classroom and textbooks: Where are we after 50 years? Public Choice. https://doi.org/10.1007/s11127-018-0563-z.
Hayek, F. A. (1948). The economic conditions of interstate federalism. In individualism and economic order. Chicago: University of Chicago Press.
Hayek, F. A. (1973). Law, legislation and liberty. Rules and order (Vol. 1). Chicago: University of Chicago Press.
Helmberger, H., & Helmberger, P. (1994). Economic effects of U.S. dairy programs. Journal of Agricultural and Resource Economics, 19(2), 225–238.
Hillman, A. L., & Ursprung, H. W. (2000). Political culture and economic decline. European Journal of Political Economy, 16(2), 189–213.
Holt, C., & Sherman, R. (1990). Advertising and product quality in posted-offer experiments. Economic Inquiry, 28(1), 39–56.
Hume, D. (1777). Of the first principles of government. In E. F. Miller (Ed.), Essays: Moral, political, and literary (pp. 32–36). Indianapolis: Liberty Fund.
Ippolito, R. A., & Masson, R. T. (1978). The social cost of government regulation of milk. The Journal of Law and Economics, 21(1), 33–65.
Johnson, R. N. (1985). Retail price controls in the dairy industry: A political coalition argument. The Journal of Law and Economics, 28(1), 55–75.
Jones, P., & Hudson, J. (1998). The role of political parties: An analysis based on transaction costs. Public Choice, 94(1/2), 175–189.
Keech, W. R., & Munger, M. C. (2015). The anatomy of government failure. Public Choice, 164(1–2), 1–42.
Kirzner, I. M. (1998). Coordination as a criterion for economic “goodness”. Constitutional Political Economy, 9(4), 289–301.
Klein, D. B. (1990). The voluntary provision of public goods? The turnpike companies of early America. Economic Inquiry, 28(4), 788–812.
Klick, J., & Stratmann, T. (2007). Diabetes treatments and moral hazard. The Journal of Law and Economics, 50(3), 519–538.
Knight, F. H. (1924). Some fallacies in the interpretation of social cost. The Quarterly Journal of Economics, 38(4), 582.
Krueger, A. O. (1974). The political economy of the rent-seeking society. The American Economic Review, 64, 291–303.
Lachmann, L. (1977). Capital, expectations and the market process. Kansas City: Sheed Andrews & McMeel Inc.
Leeson, P. T. (2013). Gypsy law. Public Choice, 155(3–4), 273–292.
Leeson, P. T. (2014). “God damn”: The law and economics of monastic malediction. Journal of Law Economics and Organization, 30(1), 193–216.
Leeson, P. T. (2018). Logic is a harsh mistress: Welfare claims for believers in economics.
Leeson, P. T., & Harris, C. (2018). Wealth-destroying private property rights. World Development, 107, 1–9.
Liebowitz, S. J., & Margolis, S. E. (2002). Beta, Macintosh and other fabulous tales. In T. Cowen & E. Crampton (Eds.), Market failure or success: The new debate (pp. 195–207). Northampton, MA: Edward Elgar Publishing.
Lipsey, R. G., & Lancaster, K. (1956). The general theory of second best. The Review of Economic Studies, 24(1), 11.
Lopez, R. A., & Pagoulatos, E. (1994). Rent seeking and the welfare cost of trade barriers. Public Choice, 79(1–2), 149–160.
Mankiw, G. (2015). Principles of economics (8th ed.). Mason, OH: Cengage Learning.
Mann, B., & Holdych, T. J. (1996). When lemons are better than lemonade: The case against mandatory used car warranties. Yale Law & Policy Review, 15, 1–48.
Markovits, R. S. (1993). A constructive critique of the traditional definition and use of the concept of the effect of a choice on allocative (economic) efficiency: Why the Kaldor-Hicks test, the Coase theorem, and virtually all law-and-economics welfare arguments are wrong. University of Illinois Law Review, 1993(3), 485–534.
McChesney, F. S. (1986). Government prohibitions on volunteer fire fighting in nineteenth-century America: A property rights perspective. The Journal of Legal Studies, 15(1), 69–92.
McCloskey, D. N. (2016). Max u versus humanomics: A critique of neo-institutionalism. Journal of Institutional Economics, 12(1), 1–27.
McCormick, R. E., & Tollison, R. D. (1981). Politicians, legislation, and the economy. Boston: Martinus Nijhoff.
Meade, J. E. (1952). External economies and diseconomies in a competitive situation. The Economic Journal, 62(245), 54.
Medema, S. G. (2009). The hesitant hand: Taming self-interest in the history of economic ideas. Princeton, NJ: Princeton University Press.
Mocan, N. H. (2001). Can consumers detect lemons? Information asymmetry in the market for child care. NBER working paper.
Murphy, L., & Nagel, T. (2002). The myth of ownership: Taxes and justice. New York: Oxford University Press.
Murphy, K. M., Shleifer, A., & Vishny, R. W. (1993). Why is rent-seeking so costly to growth? American Economic Review, 83(2), 409–414.
Nelson, M. A. (1986). An empirical analysis of state and local tax structure in the context of the leviathan model of government. Public Choice, 49(3), 283–294.
North, D. C. (1990). Institutions, institutional change, and economic performance. Cambridge: Cambridge University Press.
Olson, M. J. (1965). The logic of collective action: Public goods and the theory of groups. Cambridge, MA: Harvard University Press.
Orbell, J. M., & Uno, T. (1972). A theory of neighborhood problem solving: Political action vs. residential mobility. American Political Science Review, 66(2), 471–489.
Ostrom, E. (1990). Governing the commons: The evolution of institutional forms of collective action. Cambridge, MA: Cambridge University Press.
Ostrom, E. (2010). Beyond markets and states: Polycentric governance of complex economic systems. American Economic Review, 100(3), 641–672.
Ostrom, E., Gardner, R., & Walker, J. (1994). Fishers’ institutional responses to common-pool resource dilemmas. Rules, games, & common-pool resources (pp. 247–265). Ann Arbor: University of Michigan Press.
Ostrom, E., & Kiser, L. L. (2000). The three worlds of action: A metatheoretical synthesis of institutional approaches. In M. D. McGinnis (Ed.), Polycentric games and institutions: Readings from the workshop in political theory and policy analysis. Michigan: University of Michigan Press.
Ostrom, E., & Parks, R. B. (1987). Neither gargantua nor the land of lilliputs: Conjectures on mixed systems of metropolitan organization. In M. D. McGinnis (Ed.), Polycentricity and local public economies: Readings from the workshop in political theory and policy analysis (pp. 285–305). Ann Arbor: University of Michigan Press.
Ostrom, E., & Walker, J. (1997). Neither markets nor states: Linking transformation processes in collective action arenas. In D. C. Mueller (Ed.), Perspectives on public choice: A handbook (pp. 35–72). Cambridge: Cambridge University Press.
Pasour, E. C. (1987). Rent seeking: Some conceptual problems and implications. The Review of Austrian Economics, 1(1), 123–143.
Pigou, A. C. (1912). Wealth and welfare. London: Macmillan and Company.
Pigou, A. C. (1920). The economics of welfare (4th ed.). London: Macmillan.
Puelz, R., & Snow, A. (1994). Evidence on adverse selection: Equilibrium signaling and cross-subsidization in the insurance market. Journal of Political Economy, 102(2), 236–257.
Rothbard, M. (2009). Myth of efficiency. Economic Policy, 4, 200–206.
Salter, A. W., & Young, A. T. (2017). Medieval representative assemblies: Collective action and antecedents of limited government. Constitutional Political Economy, 29, 171–192.
Samuelson, P. A. (1948). Economics: An introductory analysis. New York: McGraw-Hill Education.
Samuelson, P. A. (1954). The pure theory of public expenditure. The Review of Economics and Statistics, 36(4), 387.
Satz, D. (2010). Why some things should not be for sale: The moral limits of markets. New York: Oxford University Press.
Schmith Conway, K., & Houtenville, A. J. (1998). Do the elderly “vote with their feet?”. Public Choice, 97(4), 663–685.
Shughart, W. F., II, & McChesney, F. S. (2010). Public choice theory and anti-trust policy. Public Choice, 142(3/4), 385–406.
Smith, V. L. (1989). Theory, experiment and economics. Journal of Economic Perspectives, 3(1), 151–169.
Smith, V. L. (1994). Economics in the laboratory. Journal of Economic Perspectives, 8(1), 113–131.
Smith, V. L., Williams, A. W., Bratton, W. K., & Vannoni, M. G. (1982). Competitive market institutions: Double auctions vs sealed bid-offer auctions. The American Economic Review, 72(1), 58–77.
Stringham, E. P. (2001). Kaldor-Hicks efficiency and the problem of central planning. Quarterly Journal of Austrian Economics, 4(2), 41–50.
Tiebout, C. M. (1956). A pure theory of local expenditures. The Journal of Political Economy, 64(5), 416–424.
Tullock, G. (1959). Problems of majority voting. Journal of Political Economy, 67(6), 571.
Tullock, G. (1967). The welfare costs of tariffs, monopolies, and theft. Economic Inquiry, 5(3), 224–232.
Tullock, G. (1975). The transitional gains trap. The Bell Journal of Economics, 6(2), 671.
Tullock, G. (2005a). Bureaucracy. (C. K. Rowley, Ed.). Indianapolis: Liberty Fund.
Tullock, G. (2005b). Rent seeking. In C. K. Rowly (Ed.), The Rent-Seeking Society (pp. 11–82). Indianapolis: Liberty Fund.
Van Vleck, V. N. L. (1997). Delivering coal by road and rail in Britain: The efficiency of the “silly little bobtailed” coal wagons. The Journal of Economic History, 57(1), 139–160.
van Zandt, D. E. (1993). The lessons of the lighthouse: “Government” or “private” provision of goods. The Journal of Legal Studies, 22(1), 47–72.
Wagner, R. E. (2012). Deficits, debt, and democracy: Wrestling with tragedy on the fiscal commons. Cheltenham: Edward Elgar Publishing.
Wagner, R. E. (2016). Politics as a peculiar business: Insights from a theory of entangled political economy. Cheltenham: Edward Elgar Publishing Limited.
Weingast, B. R. (1995). The economic role of political institutions: Market-preserving federalism and economic development. Journal of Law Economics and Organization, 11(1), 1–31.
Wimmer, B. S., & Chezum, B. (2003). An empirical examination of quality certification in a “lemons market”. Economic Inquiry, 41(2), 279–291.
Wittman, D. (1989). Why democracies produce efficient results. Journal of Political Economy, 97(6), 1395–1424.
Wittman, D. (1995). The myth of democratic failure. Chicago: University of Chicago Press.
Young, A. T., & Shughart, W. F., II. (2010). The consequences of the US DOJ’s antitrust activities: A macroeconomic perspective. Public Choice, 142(3/4), 409–422.
Electronic supplementary material
Below is the link to the electronic supplementary material.
About this article
Cite this article
Furton, G., Martin, A. Beyond market failure and government failure. Public Choice 178, 197–216 (2019). https://doi.org/10.1007/s11127-018-0623-4