Ronald Coase-RIP

Posted on September 4, 2013 by

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It is a sad but joyous day to report the passing of another economic giant.  Ronald Coase was a seminal figure in economics, a Nobel Laureate who truly changed the way all of us think about the world.  It is sad with the loss of any great figure, and yet Professor Coase was not quite 103 years old; I rejoice that we had his insights for so long.  Further, Mr. Coase was engaged professionally until his death; you can listen to him on Econtalk just last year.  Most great economists are known for voluminous writings in journals, or perhaps a big fat book–their magnum opus.  Mr. Coase wrote very little, and I confess to having only read two of his works, now almost 20 years ago.  But those two works changed the way the economic profession viewed the world, by identifying one factor the explained much of the inexplicable in economics–the presence of what we now call transaction costs.  In his first article on “The Nature of the Firm,” Coase showed how transaction costs (the costs associated with arranging a trade) determined whether a firm would bring a function in house or contract it out.  Coase answered the question of why firms even exist.  They exist when the transaction costs associated with doing repeated business with a contractor exceed the costs associated with bringing employees into a firm.  In his second major article, The Problem of Social Cost, Mr. Coase famously showed that in a world of zero transaction costs, it makes no difference as to the original assignment of property rights; the optimal allocation will come about due to the gains from trade.  In his work, if a train emits sparks which causes a fire to burn up a farmer’s property, it doesn’t matter if the train has the property right to emit sparks or the farmer has the right for no sparks to come into his field.  With zero transaction costs, if the economic value of the farmer’s product is greater than the value of the train’s operation, the train will stop.  If the train has the right to emit the sparks, it will still stop because the farmer will buy out the right given the larger social value associated with the crops.  If the value of the train’s operation is higher, the railroad will buy the right to emit sparks even if they don’t originally have the property right.  His novel work shattered the prevailing view that government regulation was necessary to achieve a socially optimal allocation of resources.

Now contrary to Coase’s critics, his article does NOT conclude therefore that the assignment of property rights doesn’t matter.  Rather Coase suggests that because of the presence of transaction costs, the assignment of property rights really does matter, since the socially optimal outcome won’t necessarily occur.

Only two major works…but what works they were.  The economics profession greatly profited from the life of Ronald Coase.  May his legacy last long.  Ronald Coase, RIP.

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