Pigou vs Coase, as refereed by Demsetz

This is a good summary of the Pigou vs. Coase debate on externalities. I have one comment: That the author should have brought Hayek into the picture. After all, the piece was published in 1996. What follows is a kind of executive summary.

Demsetz sees the debate on externality as one between two ideals: An ideal state (with perfect information) and an ideal market (also with perfect information and zero transaction cost). Taken to the limit, both models do not generally produce identical solutions. It is well known that the initial distribution of wealth and income affects market outcomes. Change that distribution and the economy rests somewhere else. With Pigovian state intervention, one also needs to factor in the initial distribution of wealth and income as a determinant of political process. Still, it is reasonable to imagine that both models arrive at the same end-point if they started with the same initial conditions.

Demsetz then concludes, based only on theoretical considerations, that the choice between the two models is one determined by preferences for freedom and the final (and/or initial) distribution of incomes and wealth.

Once we depart from the ideal to actual governments and markets, the choice between the two solutions would then have to take into account how much information there is (available) in the competing models, and how well they would reduce transaction cost. Here, Hayek would pronounce in favor of Coase, if only because Hayek believes that the market is more capable of ‘discovering’ such phenomena as efficient technologies and consumer preferences. Transaction cost can be seen as another form of externality, so we start to run the risk of arriving at a proverbial slippery slope.

Nonetheless, Demsetz is essentially right. Transaction cost is not at the kernel of Coase; and neither did Pigou ignore transaction cost. What was being debated was who should have the property rights to the externality, a question that economists usually avoid but one that Coase faced head on.

12 Articles Every Aspiring Economist Should Read | Steven Horwitz

Here are 12 important articles to help you understand sound economics, ideally before you head off to grad school in economics.

Note: Coase, Hayek, McCloskey, Alchian, Buchanan, Friedman, Lucas

Source: 12 Articles Every Aspiring Economist Should Read | Steven Horwitz

Why we should believe in Climate Change

Climate change as religion

Religion is about God, and also about heaven or hell.  The definition could be stretched to one where religion’s concerns apply to “long after we’re gone” and when we’re not quite sure what will happen then.  Here’s where Al Gore and his merry band of alarmists come in with their Inconvenient Truth that the world is warming.  With the supposed dire consequences in the very long run, we’d better do something about it.  That something is reducing carbon emissions that produce the greenhouse effect, as any grade school science teacher will tell your kid.  The science is that the greenhouse prevents the heat from the sun from escaping earth.  And while what follows does not dispute this scientific finding, I see the debate as a matter of religion broadly defined.  Those who would like to reduce carbon emissions believe in Climate Change as a religion, and those on the other side believe that the effects of global warming, if it exists, are not quite for certain.

Continue reading “Why we should believe in Climate Change”

The economic problem and “the economy” – econote

THE ECONOMIC PROBLEM

In most textbooks, the economic problem is the question of how humans decide the questions of what or how much to produce and consume, who will produce and consume, and how income and wealth are to be distributed. The solution to the economic problem is effectively any one or combination of the ways of organizing an economy, and it is useful to know that there are three such ways: the “free” market, central planning or dictatorship (also known as socialism or communism), or government regulation (which has elements of the first two ways). When put in this way, we can also define economics as the study of how to solve the economic problem.

BUT WHAT IS AN ECONOMY?

If an “economy” is something to be organized, what exactly is it? Mankiw states that an economy is “just a group of people interacting with one another as they go about their lives.” Is this a good definition? It is certainly one in the spirit of Coase’s definition of economics as the study of human choice. Note, however, the dictionary meaning of “economy” as a “system of economic activity in a country or region.” If that is what an economy is, what exactly is “a system of economic activity”? In my view, that “system” is the “social institution” that we use to determine the production and distribution of economic goods and services. The system, as noted above, is any one of the following three: a market, a dictatorship, or a combination of both.