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Any feature of the economy that results in prices failing to reflect marginal social valuations. In a competitive economy with no market failure, prices ensure that for any pair of products the marginal rate of substitution of all consumers is equated to the marginal rate of transformation of all producers. Through this process prices reflect social valuations and guide choices to ensure an efficient allocation. When distortions are present this will not be the case. Distortions can be caused by externalities, taxes, or monopoly. The theory of second best attempts to tackle the problem of what to do when some distortions can be reduced, but others cannot be removed.

Subjects: Economics — Media Studies.

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