Overacheivers can be so depressing- Coase and Social Cost

Ronald Coase died at 102. I remember reading him in my first year class in college economics (which I admit to loving at the time – it was so logical, but then I didn’t take biology or geology till 2nd year).

From the NYTimes (my emphasis) :

By his own description, Professor Coase was an “accidental” economist who spent most of his career teaching at the University of Chicago Law School and not its economics department. Yet he is best known for two papers that are counted among the most influential in the modern history of the science [note: I don’t really think economics qualifies as a science].

In one, “The Nature of the Firm,” which was largely developed while he was still an undergraduate and published in 1937, Professor Coase revolutionized economists’ understanding of why people create companies and what determines their size and scope.

His other big breakthrough concerned how to get people and companies to behave “reasonably”, that is, not harm others. In the paper “The Problem of Social Cost”  he argued for means other than government regulation to resolve conflict in society. These theories have been used a lot by people purporting to be libertarians, usually big companies who want their way.

Coase proposed looking at the harms and benefits flowing in both directions with an example of a farmer and rancher with adjoining properties and no fence. It will cost someone to put the fence up. Right now the rancher pays the farmer for damaged crops. If rancher increases his herd, he will increase the damage, and what he has to pay the farmer. Coase goes through the various options of the cost & benefit of increasing the farmer’s crops, the ongoing cost of the fence, the additional benefit of more cattle to the rancher, etc. His calculations depend on the fact that the cattle rancher is responsible and liable for damage to the farmer. He argues the farmer & rancher can do better on their own than with the government stepping in. Coase was not a heavy equation type economist, but one who tried to argue from empirical data (a forerunner in some sense of the Freakonomics meme).

In my view, part of the problem with some of the large corporations today is that they are not assessing the costs of their actions on others (externalities) in the ways that Coase’s ideas postulated.  It is hard to read this article (written in the 60’s) not just for the language, but also because some of the ideas seem inherently wrong (such as “factors of production are though of as rights”). But approaching this article with an open has the potential to help us better understand why the world is, as it sometimes seems, such a mess.

Here are the last two para of his paper:

If factors of production are thought of as rights, it becomes easier to understand that the right to do something which has a harmful effect (such as the creation of smoke, noise, smells, etc.) is also a factor of production. Just as we may use a piece of land in such a way as to prevent someone else from crossing it, or parking his car, or building his house upon it, so we may use it in such a way as to deny him a view or quiet or unpolluted air. The cost of exercising a right (of using a factor of production) is always the loss which is suffered elsewhere in consequence of the exercise of that right-the inability to cross land, to park a car, to build a house, to enjoy a view, to have peace and quiet or to breathe clean air.

 It would clearly be desirable if the only actions performed were those in which what was gained was worth more than what was lost. But in choosing between social arrangements within the context of which individual decisions are made, we have to bear in mind that a change in the existing system which will lead to an improvement in some decisions may well lead to a worsening of others. Furthermore we have to take into account the costs involved in operating the various social arrangements (whether it be the working of a market or of a government department), as well as the costs involvedi n moving to a new system. In devising and choosing between social arrangements we should have regard for the total effect. This, above all, is the change in approach which I am advocating.

 What is often missing today is an assessment of that total effect.

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