Transcript G601 History of Thought, policy , 27 September 2006 Coase TheoremFriedman, Harberger- Stigler Eric Rasmusen, [email protected].

G601 History of Thought, policy , 27 September 2006
Coase TheoremFriedman, Harberger- Stigler
Eric Rasmusen, [email protected]
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Readings
Classics: Public Policy
George J. Stigler (1971) "The Theory of Economic
Regulation" The Bell Journal of Economics and
Management Science, 2(1): 3-21 (Spring 1971)
David Friedman, Law's Order, chapters 4 and 5,
pages 36-62, on the Coase Theorem and Calabresi
and Melamed. (See
http://www.daviddfriedman.com/laws_order. )
Arnold C. Harberger (1954) "Monopoly and
Resource Allocation," The American Economic
Review, Papers and Proceedings of the Sixty-sixth
Annual Meeting of the American Economic
Association, 44(2): 77-87 (May 1954)
This seems a miscellany of articles. Ihey are all law-adneconomics, though. Three big ideas:
1. Antitrust Law
2. Regulation-political Economy
3. Coase Theorem—transaction costs
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Handouts
• Your problem sets
• problem set answers
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Big Ideas in Law-andEconomics
1. Harberger Triangles:
losses from market-power
allocative distortions are
small, empirically.
2. Regulation is by Regulators: it serves the
interests of individuals, not of a social
planner.
3. The Coase Theorem and Rights: If
bargaining costs are low, people will
bargain to an efficient outcome, but
otherwise the initial allocation of rights
matters to efficiency.
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Arnold C. Harberger
(1954) "Monopoly and
Resource Allocation," The
American Economic
Review, Papers and
Proceedings of the Sixtysixth Annual Meeting of
the American Economic
Association, 44(2): 77-87
(May 1954)
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Harberger’s Method
1. Get return on capital in mfgr.
industries, and sales (q)
2. Calculate deviations from average
profit as a percentage of sales. Call this
r.
3. Assume the elasticity of demand, k, for
each industry equals 1.
3. Calculate .5 r^2qk for each industry.
4. Add them up.
5. Multiply 2.2 since we just looked at a
fraction of manuf. industries.
5. The result: about .1% of national
income.
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Harberger’s
Refinements
1. What if there are increasing costs in
industries?
2. Equity capital is measured to include
the value of patents, which capitalizes
monopoly profits. So it is greater than the
amount of real capital supplied, and
monopoly profits might look too low.
3. Sample selection bias. These industries
have an average profit of 10.4%, while for
manufaturign as a whole it was 8%.
4. Aggregation. This smooths out
differences in profit rates across products.
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Some Big Problems
1. Why include the low-profit industries?
2. Why use return on capital instead of
return on equity? Bondholders do not get
monopoly profit.
3. What if all industries are monopolized,
and profit rates are all equal? His method
would show zero loss.
4. What about labor monopolies? (unions,
restrictive entry of the kind Stigler
discusses)
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Another Approach
Suppose ALL of the return to equity is
monopoly profit. What is the welfare loss?
US Mfgr corporations had profit of 245
billion dollars in 1998. Sales were 4,591
billion. So the profit rate on sales was .053.
And the triangle loss was .5 (.053)(.053)
(4591) = 6.5 billion dollars. GDP was 8790
billion dollars, so the loss is .07% of GDP.
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Refinement: Fewer
monopoly industries
Suppose ALL of the return to equity is
monopoly profit. What is the welfare loss?
US Mfgr corporations had profit of 245
billion dollars in 1998. Sales were 4,591
billion. So the profit rate on sales was .053.
Suppose a quarter of firms are
monopolies, with profits of 20%, and 3/4
are not, with profits of 0% of sales. Then
the triangle loss is .5 (.20)(.20) (.25) (4591)
= 23.0 billion dollars.
What if prices were double what they
should be, in every industry? Then the
approximation involved gets bad, but we
can compute . 5(1) (1) 4591 = 2296, and
the loss is 26% of GDP.
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Big Ideas in Law-andEconomics
1. Harberger Triangles: losses from marketpower allocative distortions are small,
empirically.
2. Regulation is by Regulators: it
serves the interests of individuals,
not of a social planner.
3. The Coase Theorem and Rights: If
bargaining costs are low, people will
bargain to an efficient outcome, but
otherwise the initial allocation of rights
matters to efficiency.
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George J. Stigler (1971)
"The Theory of Economic
Regulation" The Bell
Journal of Economics and
Management Science,
2(1): 3-21 (Spring 1971)
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Stigler: What does
Government Supply?
Answer: The power to coerce. Violence.
1. Direct subsidy (US airlines before 1968,
universities)
2. Entry restrictions (US airlines before 1975,
tariffs)
3. Suppression of substitute goods (margarine,
plastic pipes)
4. Price-fixing (interest rate regulation,
advertising restrictions)
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Big Ideas in Law-andEconomics
1. Harberger Triangles: losses from market-power
allocative distortions are small, empirically.
2. Regulation is by Regulators: it serves the interests of
individuals, not of a social planner.
3. The Coase Theorem and Rights: If
bargaining costs are low, people
will bargain to an efficient
outcome, but otherwise the initial
allocation of rights matters to
efficiency.
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Coase, Ronald.The
Problem of Social Cost, 3
Journal of Law and
Economics 1-44 (1960)
Calabresi, Guido and
Melamed, A. Douglas
(1972), Property Rules,
Liability Rules and
Inalienability: One View
of the Cathedral , 85
Harvard Law Review,
1089-1128.
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Coase Theorem
Example
A steel mill’s pollution reduces resort profit
by $200,000 unless $100,000 is paid to
control pollution.
There is a real externality of $200,000. The
Pigouvian tax would be to charge the steel
mill $200,000 if it pollutes. It would then
choose to control the pollution instead.
Coase insight: Suppose the resort could
switch to timber, earning $50,000 less.
Then the Pigouvian tax is inefficient.
Or, just let the steel mill and the resort
negotiate with each other. If the “property
right”– who has the legal right to decide
pollution– is clear, the outcome will be
efficient.
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The Coase Theorem
“If transaction costs are zero, then any
initial allocation of property rights leads to
an efficient outcome. “ (Friedman’s
statement)
What is interesting is to figure out the
implications of transaction costs. A function
of law is to minimize transaction costs.
http://www.daviddfriedman.com/laws_order/
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Property and Liability
Rules
If you are protected by a property rule, you
can go to court and get an injunction to stop
someone from doing X. (court of common law). Good
if transactions are cheap.
Examples: Patent infringement,
someone building a house on your land,
someone stealing your car.
If you are protected by a liability rule, you
can go to court and get damages from
someone who has done X. (court of equity) Good if
courts are cheap.
Examples: tort suits for personal injury,
damages for breach of contract
Calabresi, Guido & Melamed, Douglas, "Property
Rules, Liability Rules and Inalienability: One View
of the Cathedral", 85 Harvard Law Review 1089 23
(1972).
The Train Sparks Example
A railroad chooses whether to install a spark
arrester at cost $1000 or not. 100 farmers each
choose whether to plant clover or wheat. Clover
does not burn, but yields $800 less in revenue.
Wheat burns, for a loss of $400.
Possible Rules (who decides? who pays?):
1. Railroad property right. The railroad can throw
sparks if it so desires.
2. Farmer property right. Any one farmer can
stop the railroad from throwing sparks.
3. Farmer liability right. The railroad can throw
sparks if it pays the farmers for any damage that
results.
4. Railroad liability right. Any one farmer can
stop the railroad from throwing sparks, but he
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must pay the railroad’s cost of installing a spark
arrester.
Train Sparks II
A railroad chooses whether to install a spark arrester at cost
$1000 or not. 100 farmers each choose whether to plant
clover or wheat. Clover does not burn, but yields $800 less in
revenue. Wheat burns, for a loss of $400.
Possible Rules (no contracts enforced)
1. Railroad property right. Farmers plant wheat
and it burns. $400 cost.
2. Farmer property right. RR installs spark
arrester. $1,000 cost.
3. Farmer liability right. Farmers plant wheat and it
burns. $400 cost. The RR pays $400 to the farmer.
4. Railroad liability right. Farmers plant wheat
and it burns. $400 cost. (The farmers could
insist on the spark arrester, but they’d have to
pay the $1,000.)
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Course Website
A link to the course website
http://www.rasmusen.org/g601/0.g601.htm
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