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.
