Wednesday, November 18, 2009

A Criticism of Coase

It was good timing that the day after we got to hear Coase's "The Problem of Social Cost," and two days after Judge Richard Posner was a guest on Econtalk, Pete Boettke draws attention to James Buchanan and his disbelief in the process of cost-benefit analysis in Law and Economics, especially when it comes to distribution of rights.

Buchanan's argument is made in a great 2005 article called "Cost, Choice and Catallaxy" (I hope the link works; otherwise you can just Google scholar it and it's on Google books). Before I present his argument, here's a nugget to chew on: "To cover costs and to maximize profits are essentially two ways of expressing the same phenomenon." (This is apparently from one of Coase's early articles.)

Buchanan and Coase agree on a whole lot; both think the reduction of transaction costs is valuable and neither believe in a zero-transaction cost world. Their disagreement comes from Coase being an 'objectivist' and Buchanan a 'subjectivist.' To Buchanan: "Coase is... an objectivist in the sense that, to him, 'efficiency' in resource use has an existential reality independent of the market exchange process." Basically, there exists efficiency outside of the subjective actors participating in exchange. On the other hand, Buchanan stipulates that we know trade results in a more efficient allocation of resources because we know that all voluntary trade is mutually beneficial - but we cannot say anything about transactions that do not take place. "Coase is able to place a positive value on the open trading process because it generates efficient results; I am able to place a positive value on the open trading process because only through such a process can we be assured that parties secure mutuality of gain." In the farmer-rancher example, we know that the outcome is efficient with the rancher paying the farmer for his damaged crop only because this transaction takes place. We cannot know how much the farmer values the non-addition of another steer if they don't trade; maybe the farmer would be willing to accept a payment to allow the steer, but he doesn't trust the rancher. This is a case where transaction costs can be lowered. Maybe he values his crop more than the added value of the steer. If the transaction costs cannot be lowered, no court can know if enforcing an agreement with these stipulations would be 'efficient.'

Or, in Buchanan's words "...the subjectivist cannot go beyond these limits [of mutual gains to trade] and discuss the prospective assignment of rights with a view towards minimizing transaction costs, even if possessed of an authority to do so." Or, "agreement remains the only test for efficiency."

There's a lot more in the essay; he doesn't just poke at Coase, he has a section where he posits a possible solution. And, of course, he agrees with Coase that we should kick poor old dead Pigou a few times for good measure. I think the most important aspect of this paper is that by using economic efficiency as a measuring stick for the law we're asking judges to be central planners, using information that they cannot possibly know to design efficient outcomes. We know how that usually turns out.

Thoughts? I came away from class yesterday thinking that cost-benefit analysis was a useful tool for the judiciary (though not to the monstrous level that Posner takes it) but I am now not so sure.

1 comment:

  1. I'm no Platonist, but I see an urge to maximize efficiency as an appropriate role for a decision-making agent, be it a Coaseian bargainer or a judge on the bench. Clearly, the more central planning we have, the less efficient we get, but by the time a case ends up before the court, both parties have signaled their cost curves and the judiciary will be the next best alternative.