Market distortion

In neoclassical economics, a market distortion is any event in which a market reaches a market clearing price for an item that is substantially different from the price that a market would achieve while operating under conditions of perfect competition and state enforcement of legal contracts and the ownership of private property.

In this context, "perfect competition" means:

• all participants have complete information,
• there are no entry or exit barriers to the market,
• there are no transaction costs or subsidies affecting the market,
• all firms have constant returns to scale, and
• all market participants are independent rational actors.

Many different kinds of events, actions, policies, or beliefs can bring about a market distortion. For example:

• almost all types of taxes and subsidies, but especially excise or ad valorem taxes/subsidies,
• asymmetric information or uncertainty among market participants,
• any policy or action that restricts information critical to the market,
• monopoly, oligopoly, or monopsony powers of market participants,
• criminal coercion or subversion of legal contracts,
• illiquidity of the market (lack of buyers, sellers, product, or money),
• collusion among market participants,
• mass non-rational behavior by market participants,
• price supports or subsidies,
• failure of government to provide a stable currency,
• failure of government to enforce the Rule of Law,
• failure of government to protect property rights,
• failure of government to regulate non-competitive market behavior,
• stifling or corrupt government regulation.
• nonconvex consumer preference sets
• market externalities
• natural factors that impede competition between firms, such as occurs in land markets