The Dreamcast failed because it was in the shadow of the PlayStation 2. Developers feared that their games wouldn't sell on Dreamcast because people would be waiting for PS2, and people didn't want to buy the Dreamcast unless good games were guaranteed. You can see how the vicious cycle is in effect. The original PlayStation's dominance guaranteed a market for the PS2, that people would buy it based on name alone. Sony's exaggerated claims of performance (in purely theoretical, ideal conditions, so they weren't necessarily false advertising), of course helped this along. Names and expectations aside, it's quite possible that the Dreamcast, with its year-long lead over the PS2 to market, would have won the battle. You can be certain that developers wouldn't have been in a rush to develop for PS2, with its convoluted and unfriendly architecture - the same problem, in fact, that sunk the Sega Saturn.

Another reason for the failure of the Dreamcast was the fear of Sega dropping support...which it inevitably did. As proven in the past with the 32X, the Sega CD, the Sega Game Gear, and the Sega Saturn, Sega just could not compete with Nintendo, and later, Sony. Despite having the most superior system on the market at the time(and I will stand by that), Sega just did not feel that it could keep up with Sony and Nintendo. And the announcement that Microsoft was making the leap of faith from Computer to Console market scared them as well. Third Party Developers did not give much support to Sega for that reason...many of the Dreamcast's best games were developed by Sega themselves. With Sega's penchant for suddenly dropping their game systems off the face of the earth, third party developers were reluctant to get involved with them, because they knew it would be a failure. Alot of the third party games that made it to the Dreamcast were ports from other systems, done so purely for the sake of advancing the developer's own finances, not for support of Sega. A little known fact is that many electronics stores throughout the US absolutely REFUSED to carry the Dreamcast when it launched...I used to work for an Electronics/Appliance retailer that, when Sega launched Dreamcast, refused to carry the Dreamcast. They lost no money in the deal, as Playstations and even Nintendo 64s continued to sell at a satisfactory rate for the company, and there was no demand for the Dreamcast. Although Dreamcast sold relatively well, it didn't sell enough. For the most part, consumers and retailers alike were familiar with Sega's terrible support for their own systems, and when Sega pulled the plug on Dreamcast, barely a year after it's release, it was a shock to few, and expected of by many. I regrettably admit that I purchased Dreamcast on launch day, and it was one of the worst purchases I ever made. Despite the fact that Dreamcast was a very powerful system, it was Sega's lackluster support that killed it. Their reputation of abandoning their systems is what did them in, and they folded on the console market and began developing games for other companies. In the end, I say good riddance...Sega was the textbook definition of a quitter. They see that the other companies are hurting them in the market, and instead of striving to outdo the competition, they just threw their arms up and called it quits. They did it with the Sega Master System, the 32X, the Sega CD, the Saturn, and the Dreamcast...their entire history of consoles lost from being abandoned. A sad end to a great company, but an ending they deservd nonetheless. They just did not know how to support their systems, and they were afraid to step up and challenge the competition.

Most of the information in the previous 2 answers is true, but it is not the core reason. The following isn't my own work, it is copied from an FAQ on www.megagames.com. If you don't understand it, you need to do some researching, but I'll explain a couple of things at the end "The Sega Dreamcast was released in the USA on Sep 9 1999, the Utopia Boot CD was created by Wildlight of Utopia and was released on Jun 22 2000. It ushered in the age of Dreamcast piracy, with Utopia releasing Dead or Alive 2 and Soul Calibur in the next two days, then Kalisto released Evolution on the 26th and continued to flood the DC scene with games, mastering the art of the self boot and DiscJuggler with their release of Dynamite Cop on Aug 19 2000, until Sept 02 2000, when they called it quits, claiming Sega had offered them stock options to stop releasing DC games (note that their other console groups like the PSX remained and remain in full swing.) Only 2 days afterwards, Echelon released Flag to Flag CART Racing, and quickly filled in the gap left by Kalisto, releasing most of the major games in the scene and going forth with new tools like the Echelon Selfboot Kit. Kalisto came out of hiding on Nov 09 2000 to release the highly anticipated 4-CD Shenmue. Eurasia, Hooligans, Paradox, Paradiso, Drastic, NBC, Accession, CCS, MiniMe, Stone Arts, Infinity, Lightforce, Aphex, R18, Genius, Krema, Ecko, and last but not least, Klone, to name a few, have all provided many quality US and import releases where Echelon may not have had access to the games or interest in releasing them. The scene was wild and rampant until December when Kalisto and Echelon were expected to release at least one game daily. In January, new releases started coming few and far between, since most of the games that could have been ripped had already been ripped. In mid-February 2001, Sega announced the end of Dreamcast unit production would take place on 31Mar01 citing the loss of hundreds of millions of dollars, and many third party companies scrapped their DC games in development even if they were near completion for more viable platforms, such as the Playstation 2, Nintendo GameCube and Microsoft X-Box. In late March, Sega announced that they were planning on developing Sega games for other platforms, namely the Microsoft X-Box which was a no-brainer since the Dreamcast's inclusion of MS' WinCE. Mar 31 2001 came with a whimper, and the Dreamcast scene continues slowing as the number of slated games decreases..." As most of you know, the Dreamcast uses a unique type of disk called the GD-ROM. Although CD-ROM drives can't read it, you can connect the Dreamcast to your PC and copy the game like that. Since the GD-ROM holds more than a CD-ROM, games had to be cut down to fit on a CD, but this could be done easily (i.e. removing audio). The Utopia Boot CD is a CD to let you play pirate games on your Dreamcast. Self-boot, is the ability to just put a pirate game in th Dreamcast and play it. The Dreamcast allowed you to play games on CDs as well as GDs (although the laser wasn't designed for it, and repeated use of CDs can strain the laser). which opened it up to easy piracy.