Ronald Coase, 1910-2013

by Walter Olson on September 3, 2013

The immensely influential scholar and winner of the 1991 Nobel Prize for Economics was 102 years of age and a productive scholar to the end. An excellent short introduction to Coase’s work is found in the Concise Encyclopedia of Economics, edited by David Henderson.

Coase’s famous, seminal article The Problem of Social Cost, while the most widely cited in the law and economics canon, is also persistently misunderstood and misrepresented by both friends and foes, as Robert Ellickson shows devastatingly in this essay (h/t Jonathan Adler). Many, even most popular attempts to formulate the “Coase Theorem” veer far from what Coase intended and sometimes into the reverse, above all when they idealize the power of negotiation to overcome the problems of externalities in a highly fictional world that assumes away transactions costs.

As Coase himself pointed out: “The world of zero transactions costs has often been described as a Coasian world. Nothing could be further from the truth. It is the world of modern economic theory, one which I was hoping to persuade economists to leave.” Precisely because across a wide range of circumstances the transactions costs of negotiation are too high to permit reallocations of rights between parties, some initial assignments of liability or property rights do impair real output compared with others.

The University of Chicago’s well-meaning notice, I fear, is among those that misstate the Coase Theorem. “Coase believed the incentives of private parties to resolve disputes in their own best interests, even if there needs to be adjudication by courts, should result in an efficient, mutually beneficial solution that is always preferable to government intervention.” (No, that’s not at all what he wrote, even if one succeeds in disentangling the court adjudication from the “government intervention.”) Likewise Bloomberg: “Holding the [polluting] company liable and ordering it to pay money to an affected property holder is less likely to yield an optimal result than having the parties negotiate, he wrote.” (No, that’s not it at all either. At most, his theory implies that the optimal liability rule is fact-contingent and should not invariably be assumed to be the one that makes the smokestack owner pay)

I also have a notion that Coase’s other greatest paper, “The Nature of the Firm” made a huge difference in the real business world in ways that have not been fully reckoned. In that era and on until some time after World War Two, it was widely imagined that the telos of a firm was just to grow and grow without limit, which meant one saw elaborate attempts at vertical integration such as Henry Ford trying to grow rubber trees for tire supply, and antitrust authorities could imagine themselves the only obstacle to the eventual agglomeration of the whole economy into a small number of firms. By the time Coase’s insights had been absorbed, executives had come to see the logic of outsourcing, no one expected the hundred largest firms to account for a higher share of employment or sales or profits each year than last, and antitrust mania went into remission, at least temporarily.

More from Stephen Bainbridge, Lynne Kiesling, Don Boudreaux, David Henderson (a Coase contra Friedman anecdote), Kevin Bryan, David Friedman, Coase interview with Tom Hazlett excerpt via Geoffrey Manne, and Jonathan Adler with much more on what Coase actually thought about the correction of putative externalities. Don’t miss Richard Epstein’s reminiscences, either. [and cross-posted with some additional links at Cato at Liberty]

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1 DensityDuck 09.03.13 at 5:39 pm

“across a wide range of circumstances the transactions costs of negotiation are too high to permit reallocations of rights between parties”

Which is, as a side note, why people so often feel that copyright is a horrible awful terrible thing that should be abolished. For many rightsholders, the cost of negotiating rights far exceeds any revenue that might be gained from the sale; that is, BMI is not going to sign a deal with some YouTube guy so that he can put one of their songs over a video of his cat, because it costs them more to spend the time it takes to delete his email unread than he would ever consider paying them.

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