Talk:Coase theorem

From Wikipedia, the free encyclopedia

 This article is within the scope of the Economics WikiProject, an effort to create, expand, organize, and improve economics-related articles..
Start rated as start-Class on the assessment scale
Mid rated as mid-importance on the importance scale

Contents

[edit] Poor Introduction

First off, unless "Coase theorem" exists in other contexts, the introduction need not state "In law and economics..." Second, the Coase theorem does not describe something ("describes the economic efficiency..."). It hypothesizes something..namely that private bargaining will lead to efficient outcomes regardless of initial allocation of property rights. Third, "Coasian" is incorrect. "Coasean" is more likely the correct spelling.

[edit] Editorial ideas needed: True point is falsely characterized as criticism but in fact is an important clarification, how should we present?

The criticism section currently says that the Coase theorem is often criticized on basis that transaction costs are seldom negligible. The editorial challenge here is that, well, yes - it is very true transaction costs are often high as Coase himself reminds us in his 1960 paper (start of section V [1]), and this article should definitely make this point prominently since the popular understanding of the Coase theorem (as even promulgated by some MBA programs that shall go unnamed) completely misses this very very key point. Yet this isn't a criticism, per se - because the 'theorem' (as described by Coase in a 1997 interview anyhow [2]) is just a statement about those situations in which transaction costs happen to be negligible, and (afaik) nobody denies that such situations do sometimes exist. So we should keep this point, even emphasize it - yet not characterize it as a criticism. How best to do that... thoughts? Bmord (talk) 04:54, 13 January 2008 (UTC)

[edit] Poorly Constructed/Explained Example

The hypothetical provided under "Application in United States Contract and Tort Law" is, at best, poorly explained. Since the Coase "theorem" states that (assuming the absence of transaction costs) any initial rights allocation will lead to the same outcome, it would seem to make sense to organize the hypothetical along these lines:

  1. Cost of Wall = $50, Property Damage = $100
    1. initial rights allocation 1: no right to recover
    2. initial rights allocation 2: right to recovery
  2. Cost of Wall = $100, Property Damage = $50
    1. initial rights allocation 1: no right to recover
    2. initial rights allocation 2: right to recovery

And thus, to demonstrate from a simple hypothetical that the outcomes in A1 and A2 will be the same, and likewise, outcomes in B1 and B2 will be the same.

In addition, I think the author of the hypo got it wrong. He said:

  1. If a cause of action exists (i.e. #2 could sue #1 for damages and win) and the property damage equals $100 while the cost of building a wall to stop the run-off equals $50, the wall will exist. Owner #2 will either go to court to get the wall built or pay Owner #1 some amount between $51 and $99 to build the wall without court intervention.

I think it's obvious to any lay person that Owner 2 won't pay Owner 1 to build the wall if Owner 2's property rights allow him to recover the damage to his property. In general this is a poorly-worded hypothetical. I suggest replacing it with the following (this is just a brief sketch):

  1. Assume the run-off damage to Owner 2's property amounts to $100 and the cost of building a wall to stop the run-off is $50
    1. If a cause of action exists (i.e. it is clear that Owner 2 could sue Owner 1 for damages and win), Owner 1 will voluntarily choose to build the wall and save himself $50.
    2. If a cause of action does not exist, Owner 2 will have a strong incentive to pay any amount less than $100 to Owner 1 in order that Owner 1 prevent the run-off. (Assume that Owner 2 cannot simply build the same wall on his property to prevent the run-off). Owner 1 will gladly accept any amount over $50 (the cost of building the wall) from Owner 2. So Owner 2 is likely to pay Owner 1 some amount between $51 and $99 to have Owner 1 build the wall. Thus, the wall will again be built.
  2. Now assume the run-off damage to Owner 2's property amounts to $50 and the cost of building a wall to stop the run-off costs $100
    1. If a cause of action exists, Owner 1 will not build the wall, since it costs more than merely compensating Owner 2 for the property damage.
    2. If a cause of action does not exist, Owner 1 will only build the wall if Owner 2 is willing to pay him more than $100, which Owner 2 not be willing to do (since he can repair damage to his property a cost of only $50). Thus the wall will again not be built.

[edit] Earlier comments

I removed "(although no definite mathematical version of it has ever been stated or proved)" because that's mistaken. I added a link to a proof of a version just as a nice example on the web, but this is hardly the only example. Jimbo Wales 23:58, 21 Nov 2004 (UTC)

[edit] Nobel prize

I corrected the mention of Coase winning a Nobel prize to the Bank of Sweden Prize in Economic Sciences. There is no such thing as a "Nobel prize in Economics". While the Bank of Sweden prize is awarded "in memory of Alfred Nobel", it is entirely unconnected with the Nobel Foundation, and the use of Nobel's name has been opposed by the foundation since the creation of the Bank of Sweden prize. Corvus 18:11, 27 Feb 2005 (UTC)

[edit] Images

I created some images. You can find them in the german version of this text. You may want to translate them. Stern 01:04, 3 Mar 2005 (UTC)

[edit] Clarification regarding criticism

The part about "Other major theoretical arguments ..." is alternately unclear and false. That different actors have different valuations of property does not undermine the Coase theorem -- it's the whole point. It's also, in fact, the whole point of trade -- if everyone had the same value of everything, we would all be islands. The rest of the sentence is an argument against the "Strong form Invariance Hypothesis," which is valid but irrelevant. When the theorem says that initial allocation of property rights "does not matter," it doesn't mean "does not affect the outcome." If means "will lead to some outcome that will be efficient. Income & wealth effects may change who has the highest willingness to pay, but it doesn't change the fact that post hoc, it goes to the highest valued use.

Also, the "three factors inhibiting efficient allocation" are duplicative -- #1 and #3 are types of transactions costs.

I, too, was about to write about the fact that #1 and #3 are transaction costs. I'll go and correct it now. --Tmh 13:03, 12 July 2006 (UTC)
In effect, this chapter:
Other major theoretical arguments against the theorem propose that in some situations different actors may have irreconcilable different valuations of property because of unique ability to use and that in some asymmetrical exchanges one party may be unable to procure sufficient capital because of the risk-aversion of financial institutions.
Simply tries to refute Coase's theorem with a normative distributive argument, which is pretty much the oldest, most simple misunderstanding. Naturally with Coase's theorem, as with any other economic transaction, we have a wealth effect. If you can't afford a car, you won't buy a car. If you can't afford to buy your neighbours to shut up during the night, you won't buy silence. The fact that property rights allocations have a distributive effect as well as the allocative effect doesn't change the fact. We can, of course, continue the discussion on the point of whether it's smart to misallocate property rights to inefficient uses for distributive purposes, but I think it's a bit far-fetched to place this discussion on a page discussion Coase theorem. --Tmh 13:24, 12 July 2006 (UTC)
One more thing: I am inclined to remove the "a critical view" link, since it doesn't provide any positive, commonly accepted criticism of the theorem. Instead it seems to wander around on normative criticism of policy advice it supposes is implied by coasean externality analysis. Of course, no such policy advice is implied; the theorem is a positive scientific theorem, not a hodgepodge that mixes the normative and the positive in a textbook example of a moralistic fallacy. --Tmh 14:39, 12 July 2006 (UTC)

[edit] sigh

the broad conclusion of the coase theorem is that free market actors are more efficient than central planners (this is why it is controversial at third rate schools that claim to teach "economics" but in reality are just shills for modern day centralists and despots [eg. paul krugman])

judging from the poor explanation in this article and the focus on criticism i assume the author(s) learned about the theorem at a third or second rate econ school

--- honestly, i don't think that was what coase was driving at per se. He was responding to pigou's ealier assertion that the presence of an externality provided an automatic prima facie case for government. He argued that in the absence of transaction costs and with properly defined property rights, the free market will reconcile private with social costs. Since that is the case, one should not assume automatically that the government intervention (via taxes) is the best course of action as opposed to changing legal liability or simply leaving the situation alone. Governments fail as well as markets.

His insight is that when considering what to do with externalities, one must consider transaction costs. Government intervention is not automatically ruled out.

I would like to comment on your statement 'udging from the poor explanation in this article and the focus on criticism i assume the author(s) learned about the theorem at a third or second rate econ school'. That was rather uncharitable. For one, I found that the author did a decent if not perfect job at contributing.

Also, the Criticism section is not necessarily an attempt to refute the theorem per se. Rather, it should be seen as attempting a neutral point of view. People are free to come to their own conclusions. Just as you have come to yours.

Benuel 10:11, 15 May 2007 (UTC)

[edit] Is there an actual theorem? Expert advice needed.

The term "Coase Theorem" is very common. However, I am not aware of any proof of a proposition resembling the version stated in the article (which is a common formulation in my experience). Coase does not even attempt to offer a proof of any theorem in "The Problem of Social Cost," and as far as I know nobody has proven any proposition corresponding to the statement in the article. If I'm right, the article should make it clear that the Coase Theorem is not an actual mathematical theorem. If not (that is, if it has been proven), then the article should state who proved it and link to the paper if it's available. Can somebody who knows more about mathematical economics enlighten us? Elliotreed 22:17, 17 January 2007 (UTC)

The Coase theorem is not a theorem in the formal mathematical sense that is described in links you have offered. A search for the exact phrase on google scholar returns more than 5000 hits. A search through JSTOR at my university (51 economics journals) returns 752 hits. Including 41 law journals increase the hits to 1283. Searching across all disciplines returns more than 1900 hits. While I can not say whether someone has proved or disproved any of the propositions in Coase's article, there seem to be lots of scholars using the idea, some of whom I imagine are seeking to prove or disprove the validity of the article's salient points.
I would not want to see a disclaimer placed in the article. My concern rests on the fear that a lay person would interpret the disclaimer in a way that would diminish the importance of the ideas discussed. Unlike a description of critics positions on the importance of the CT, which might diminish the relevance of the CT in the eyes of a lay person, the source of that diminishment at least internal to the discipline
Along similar lines one might advance the issue of terms like the "Law of Supply and Demand". In what sense is an economist's use of the term "Law" similar or different than the concept of "Law" as used in natural sciences, or legal philosophy, etc. (see for example Law (disambiguation)) Each discipline will from time to time adopt terminology that is similar to other disciplines, and over time their use and meaning to members of each discipline will grow farther apart. This, it seems to me, is the natural course of things and so I would suggest not making the addition. If there is sufficient need for clarification, or harm caused by those that are seeking mathematical theorems, then perhaps a disambiguation page could be set up?
I am an economist, though not a mathematical economist. Your question, in my mind, is not one answered best by a mathematical economist, but perhaps by a person familar with the history of science or philosphy of science. Cheers, Joel Kincaid 16:17, 23 January 2007 (UTC)
I have to strongly disagree, here. Our job is not to shade the truth so as not to confuse weak minds. Coase gave a verbal argument, not a theorem. There are various theorems that have been labelled Coase's theorem since then. Whether or not they exactly capture the idea is up for debate.
By the way, I have never seen a textbook give a lighthouse as an example of a public good. I'm sure that they did before Coase's article (Coase specifically sites Samuelson, I think), but the practice has seemed to have died out. A clearer example of a public good would of course be Wikipedia. -- Walt Pohl 02:45, 29 January 2007 (UTC)
The wikipedia article on coase theorem mentions that the word coase theorem was first articulated by George Stigler, another economist. Indeed, this is what Coase admitted to in his Nobel Prize speech. A theorem would merely be a mathematical formalisation of the ideas in Coase's earlier article. Coase was not a mathematical economist and made his ideas known in prose. I would hazard a guess that few economists today would have difficulty putting his ideas in mathematics. The question of whether there really is a coase theorem is irrelevant, especially since the term has passed into the lingua franca of professional economists.

If you are truly concerned about not confusing people who are not familiar with economics, perhaps just clarify somewhere that Coase did not formulate his ideas in mathematical terms but his insights have come to be known as Coase Theorem. It is likely that other economists do factor his insight into mathematical models. Benuel 10:15, 15 May 2007 (UTC)


[edit] Property Rights

In my opinion the introduction is missing to mention that the existence (and effective enforcement) of property rights is a second necessary condition besides "no relevant transaction costs" for the Coase theorem to hold. In many cases the problem isn't principally (or only) the level of transaction costs, but the missing transparence concerning the rights of those involved. I don't want to include that myself since I'm neither a native speaker nor a real expert. de:Waifar 84.178.90.252 14:16, 29 September 2007 (UTC)

It could be argued that the security of property rights is implied by "trade ... is possible". —Tamfang 18:54, 6 October 2007 (UTC)

[edit] Adding a dicussion of the role of coase in legal analysis

Although the first sentence of the article mentions that the theorem is within the field of "law and economics," there seems to be a significant lack of discussion on the legal implications of coase. Law and economics also means something different to law scholars than it does to economists, judging by the confused conversations I've had with a close friend who's getting his Ph.D in economics right now. I'm aware that this article is subheaded under Economics, so I wanted to ask if it would be appropriate to include a chapter on how coase is discussed in legal studies (especially tort law). I'm a law student, if that helps clarify my ability to pontificate on this subject :) Thanks for any direction on this matter, ~Elisa —Preceding unsigned comment added by 69.221.71.126 (talk) 03:15, 11 October 2007 (UTC)

I'm going to tentatively retitled the empty Application section as "Applications in contract and tort law in the united states" and add in a few paragraphs of legal discussion. this can, of course, be moved or edited at everyone's discretion :) -Elisa —Preceding unsigned comment added by 69.221.71.126 (talk) 03:22, 11 October 2007 (UTC)
Hello Elisa, thanks for adding your example. I think it's a very good explanation of the Coase theorem, though it always comes in different forms. What is your source for this example? I have two questions, here's the example again below:

For example, two property owners own land on a mountain-side. Property Owner #1's land is upstream from Owner #2 and there is significant, damaging run-off from Owner #1's land to Owner #2's land. Four scenarios are considered:

# If a cause of action exists (i.e. #2 could sue #1 for damages and win) and the property damage equals $100 while the cost of building a wall to stop the run-off equals $50, the wall will probably exist. Owner #1 will build the wall, or pay Owner #2 between $1 and $50 to tolerate the run-off.

# If a cause of action exists and the damage equals $50 while the cost of a wall is $100, the wall will not exist. Owner #2 may sue, win the case and the court will order Owner #1 to pay #2 $50. This is cheaper than actually building the wall. Courts rarely order persons to do or not do actions: they prefer monetary awards.

# If a cause of action does not exist, and the damage equals $100 while the cost of the wall equals $50, the wall will exist. Even though #2 cannot win the lawsuit, he or she will still pay #1 some amount between $51 and $99 to build the wall.

# If a cause of action does not exist, and the damage equals $50 while the wall will cost $100, the wall will not exist. #2 cannot win the lawsuit and the economic realities of trying to get the wall built are prohibitive.

The Coase theorem considers all four of these outcomes logical because the economic incentives will be stronger than legal incentives. Pure or traditional legal analysis will expect that the wall will exist in both scenarios where #2 has a cause of action and that the wall will never exist if #2 has no cause of action.

(1) Is the damage of $50 damage forever, or damage per day/month/etc? If it's run-off from a river, presumably it's continuing, in which case it must be per day/month/etc. If it's meant to be forever, does that really make sense, because surely the damage would have to be infinite!?
(2) Scenario 3 seems to work on the assumption that the person downstream can't build a wall on his land. Assuming that, why could the person upstream not demand more than $99? Could the upstream person not ask for $1million if it was within the capacity of the person downstream to afford it and the person downstream had no cheaper option? Isn't the limit to what will be paid not the cost of the damage, but the maximum amount of money that can be bargained out of the person without the legal right, before it's cost-effective to look for other alternatives?
I'd be really interested to see if you can explain - message me on my talk page! Wikidea 20:22, 4 December 2007 (UTC)