Behavioral Public Choice: the Behavioral Paradox of Government Policy

What are the economic justifications for government intervention in the economy? In a market economy, prices coordinate the activities of buyers and sellers and convey information about the strength of consumer demand for a good and the costs of supplying it. Because trade is voluntary, buyers and sellers only make exchanges when both parties benefit. Under ideal market conditions, this process leads to an efficient allocation of goods without government intervention. However, economics has long recognized instances in which markets can fail to lead to an efficient outcome. The long-standing view is that either market power or the nonexistence of markets causes market failures. Market power is present when some individuals or firms are price makers (for example, monopolists) rather than participants in a perfectly competitive environment. Such situations typically lead to the production of a less than efficient quantity of goods. The problem of market power is the purview of industrial organization economics and antitrust policy.1 The nonexistence of markets, or the failure of a robust market to arise, can occur for a number of reasons, such as asymmetric information (when one party in a transaction has information that is not available to another) and public goods (when a good is nonrival and nonexcludable in consumption and thus likely to be un-