Remember Coase on Your Next Flight

Published: 
Wednesday, November 6, 2013
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Ronald Coase, who won the Nobel Prize in Economics for his study of transaction costs and how they influence everything from the size of private companies to society’s rules of legal liability, died in September at the age of 102. The outpouring of remembrances by scholars and students is testament to Coase’s enormous contributions to the fields of law and economics.

But Coase’s insights transcended academia by explaining, usually with refreshing simplicity, the complex machinations of the real world—an exceptional case in which few economists find much pleasure.

As Matt Ridley notes, Coase reminded us that economics is the study of how people actually behave, not how they should behave. Nonetheless, Coase’s teachings did influence private actions and public policy. Rare is the economist whose work doesn’t part rest on the shoulders of the Coase giant.

His proposal for auctioning off rights to the electromagnetic spectrum beat out the resource-wasting approach of government licensing. His theory of the firm influenced organizational structures. And his inquiry into social costs reshaped how policy makers, judges, and property owners think about resource conflicts.

Yesterday’s Bozeman Daily Chronicle featured an example of Coase’s practical relevance. A farm owner near the Bozeman airport filed suit claiming a change in flight plans interfered with her enjoyment of the property, upset her cows, and caused her emotional distress.

In a pre-Coasean world, we might conclude that, because the social costs of the airport’s operations exceeded the private costs, the airport has created something that academic economists used to call an “externality” that must be corrected by government intervention such as a tax, regulation, or court decree.

But Coase showed us that this thinking is destined to crash. Whether the airspace should be used for planes, or kept open for farmers and their cows, depends on the relative values of the two conflicting uses. And he stressed that the ability of the two parties to negotiate a mutually beneficial agreement heavily depended on myriad factors that can often prevent the best solution.

He suggested that government intervention is only necessary when the costs of negotiating are so high that the two parties cannot agree to use the resource efficiently, and he persuaded us that courts are quite good at mimicking the outcomes that costless markets would create; the common law is a powerful social invention.

In this case, the farmer and the airport were able to reach an agreement. As part of a settlement agreement ending the litigation, the airport will buy the land outright from the farmer and the nuisance and resource conflict vanishes.  The airport director explained said the purchase will protect the land from development “that is not compatible with the airport.”

This outcome puts the disputed resource, the airspace, in the hands of the party who valued it most. It also avoids a regulation that would cost the airport more than it paid directly to the farmer. And it leads to lower ticket prices than would be possible under an inefficient regulatory solution.

So, the next time you fly in or out of Bozeman, Montana, remember Ronald Coase and his wisdom about markets as problem solvers and thank him for the discount.

For more on Coase's work, see "Q&A with Steve Medema on the Coase Theorem and Environmental Economics."

Reed Watson is the executive director at PERC. He is also the Director of PERC's Enviropreneur Institute, an educational program and launchpad for environmental entrepreneurs. Watson’s research focuses on the implementation of market-based solutions to natural resource conflicts. With Terry Anderson and Brandon Scarborough, he coauthored Tapping...
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