Market Failures and Institutions

Coen Teulings and Martijn Huysmans ()
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Coen Teulings: Utrecht University
Martijn Huysmans: Utrecht University

Chapter 2 in The Microeconomics of Market Failures and Institutions, 2025, pp 31-59 from Springer

Abstract: Abstract This chapter discusses our main theoretical framework. It starts with a discussion of the Coase theorem, according to which voluntary transactions lead to a Kaldor-Hicks efficient outcome. However, real-life markets fail regularly due to externalities, which stem from markets that are missing due to transaction costs. We show that these four concepts—market failures, externalities, missing markets and transaction cost—are just four different angles to analyse the same problem. Institutions emerge as solutions to these market failures, including private law for commitment over time and public law for commitment to the community. Institutions evolve over time to reduce market failures, tending to Pareto efficiency. Institutions are understood as the “rules of the game”, which must be self-enforcing. Playing according to these rules decreases transaction costs and improves societal outcomes.

Date: 2025
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DOI: 10.1007/978-3-031-74987-2_2

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