Economics Is Hard

In an old post on Freakonomics that discusses the Coase Theorem, Steven Levitt, the great economist, writes:

The basic idea of the Coase Theorem is that no matter who is assigned property rights, as long as transaction costs are not too high, the efficient outcome will be achieved.

That’s wrong, as far as I know. Well, at least, Deirdre McCloskey, who seem to know her stuff better than most, writes in her little gem Economical Writing:

“[T]he Coase Theorem” [that is] “the proposition that property rigths matter to allocation in the case of high transaction costs” (which, incidentally, is the correct statement of the theorem, widely misunderstood in economics) [p. 60, 2nd edition].

The quote is taken out of context, which is a discussion of the use of Capitalization, but that’s beside the point. Now, I looked the theorem up in the book I learned it from back in the days (‘Environmental Economics – In Theory and Practice’ by Hanley, Shogren, and White, 1997), and it was wrongly stated there as well:

The so-called Coase theorem posits that disputing parties will work out a private agreement that is Pareto efficient [that is, no-one can be made better off without making someone else worse off], regardless of the party to whom unilateral property rights to the non-market asset are assigned initially [p. 25].

Both Levitt and my text book are right, of course; property rights do not matter to efficiency when transaction costs are ignored. They are always present, however, and that’s were Coase put his emphasis, I think; when transaction costs are substantial, property rights matter. I should look up Coase’s original formulation and find out for myself, I know. I’m lazy, though, maybe some other time. I did google it, however, and every single explanation I found among the top hits got it the wrong way.

Economics is hard. Or confusing, maybe.


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2 Responses to “Economics Is Hard”

  1. Economics Is Hard « Kvams Says:

    […] Economics Is Hard « Kvams […]

  2. Coase « Kvams Says:

    […] economics. Many economists are, however, confused about it, it seems. (See for example Economics Is Hard) Tim Haab at Environmental Economics has tried to clear things up: The Coase-Theorem: The […]

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