Market distortion occurs when government actions disrupt the normal flow of market forces, resulting in market failure. Examples include import/export duties, quotas, fixed prices, and subsidies. Market distortion can lead to price increases, underground markets, and price controls.
Market distortion is a term used to describe a situation where there is some kind of disturbance in the market that is a consequence of factors other than the normal effects of perfect competition. Generally, these distortions are the product of some government actions that serve the purpose of interrupting the normal flow of market forces. Market distortion can be created by the government for a specific reason; however, this market distortion can result in a situation where there is market failure in the affected economy. Some of the examples of tools used in creating market distortion include imposing duties and taxes on imports and exports, creating quotas or export quotas, creating fixed prices and using subsidies.
An example of market distortion can be seen in a situation where a country’s government raises import tariffs on certain products with various effects. The result of this market distortion can be a sharp increase in the price of imported products, something that will be passed on to consumers. Another way in which this policy could affect the market could be in the form of an increase in underground markets, as importers and consumers seek cheaper alternatives, even if those alternatives are derived from illegal activities such as smuggling goods into the country. For example, if the government raised customs duties on imported chicken, this policy could lead importers to look for other ways to smuggle chicken into the country. The same can happen when there are import quotas limiting the quantity of a specific item that can be imported into the country during a given period.
Another factor that can lead to market distortion is using price controls to create artificial conditions in the market. In this case, the purpose of price controls would be to set a price for declared products, something equivalent to interfering with the normal processes of demand and supply that occur naturally, creating a distortion in the market. For example, the government could set a maximum price for the sale of petroleum products by distributors, which means that it has set a ceiling for the price of that product, which distributors cannot exceed.
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