A missing market is a situation in microeconomics where a competitive

market Market is a term used to describe concepts such as: *Market (economics), system in which parties engage in transactions according to supply and demand *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an ...

allowing the

exchange Exchange may refer to: Physics *Gas exchange is the movement of oxygen and carbon dioxide molecules from a region of higher concentration to a region of lower concentration. Places United States * Exchange, Indiana, an unincorporated community * ...

of a commodity would be

Pareto-efficient Pareto efficiency or Pareto optimality is a situation where no action or allocation is available that makes one individual better off without making another worse off. The concept is named after Vilfredo Pareto (1848–1923), Italian civil engin ...

, but no such market exists.

Examples

A variety of factors can lead to missing markets: A classic example of a missing market is the case of an externality like pollution, where decision makers are not responsible for some of the consequences of their actions. When a factory discharges polluted water into a river, that pollution can hurt people who fish in or get their drinking water from the river downstream, but the factory owner may have no incentive to consider those consequences. Coordination failure can also prevent market formation. Again considering the pollution example, downstream residents might seek to be paid by the factory owner who pollute their water, but because of the

free rider problem In the social sciences, the free-rider problem is a type of market failure that occurs when those who benefit from resources, public goods (such as public roads or public library), or services of a communal nature do not pay for them or under-p ...

it may be difficult to coordinate. Another barrier to pollution markets could be technology. If the river has several factories along its banks, it may be difficult or impossible to monitor which factory is responsible for downstream pollution. High

transaction costs In economics and related disciplines, a transaction cost is a cost in making any economic trade when participating in a market. Oliver E. Williamson defines transaction costs as the costs of running an economic system of companies, and unlike pro ...

might also deter market formation. It may be the case that both sides could benefit from an exchange of goods, but that setting up such an exchange is prohibitively expensive. Markets can also be missing if there is a failure of trust or information. In non

zero-sum Zero-sum game is a mathematical representation in game theory and economic theory of a situation which involves two sides, where the result is an advantage for one side and an equivalent loss for the other. In other words, player one's gain is e ...

interactions, it is possible that the Nash Equilibrium for individuals acting independently will be sub-optimal, in that both parties could benefit from cooperating, but on their own will choose not to. An example could be a shortage in footwear, where one person would like to open a factory to make shoes, and the other would like to produce socks, but because they are complementary commodities, neither has incentive to start producing unless he knows that the other will do the same (see also:

prisoner's dilemma The Prisoner's Dilemma is an example of a game analyzed in game theory. It is also a thought experiment that challenges two completely rational agents to a dilemma: cooperate with their partner for mutual reward, or betray their partner ("def ...

). The same applies to alternative automotive fuels: few filling station owners will be interested in offering the fuel until alternate-fuel cars are on the road, but people will not buy alternate-fuel cars until filling stations exist to service them.

Solutions

In many cases of missing markets, it may be possible for the government or another actor to create circumstances that make market exchange possible. In the case of pollution, one popular solution is for the government to assign

property rights The right to property, or the right to own property (cf. ownership) is often classified as a human right for natural persons regarding their possessions. A general recognition of a right to private property is found more rarely and is typically h ...

in order to allow Coase Bargaining. In cases of information failure,

futures markets A futures exchange or futures market is a central financial exchange where people can trade standardized futures contracts defined by the exchange. Futures contracts are derivatives contracts to buy or sell specific quantities of a commodity or ...

can help to signal willingness to cooperate. An ownership solution is for one party to integrate into both activities, thereby internalizing the benefits, or to use the surplus generated on one side of the market to subsidize transactions on the other (see two sided markets).

References

*Equilibrium Market Formation Causes: Missing Markets, by Walter P. Helle

Welfare economics Environmental economics Market (economics) {{microeconomics-stub