ECON 1450 – Professor Berkowitz
Lectures on Chapter 1
• Positive Analysis
•
•
•
•
Focus on Common Law Systems
Importance of Judges for Making Law
Posner’s view of “Common Law” Judge
Are Judges Political? Many state judges are electedN
• Normative Analysis
• Are laws efficient?
• Efficiency can be measured with consumer and
producer surplus
Efficiency
• Pareto Efficiency
•
•
•
•
Efficient allocations on a PPF
Pareto superior allocations
Non-comparable allocations
Pareto efficiency not always helpful in comparing
changes in allocations because of new legal rules
Kaldor Hicks Efficiency
• Relax non-comparability restriction
• Compensation criterion – reform made
without compensation to losers
• Typically, there are winners and losers most
times that judges make new laws
• Posner’s common law judge make laws that
generate more well-being; and, they can do
this because they are shielded from politics
Coase Theorem
• Suppose there is a free market
• Suppose economy is at a point A that is not on
the production possibility frontier
• This happens because of a market failure, for
example, pollution, monopoly power, free
riding of public goods, etc
How to Deal with Market Failures
•
•
•
•
•
Coase Theorem Has Massive Policy Implication
Government Policies Before Coase
Pollution – tax polluters
Monopoly – break them up or regulate them
Public goods – set up tax system for financing
them
Policy implications of Coase Theorem
• Government should set up a good legal system
that can assign property rights and enforce
contracts
• If a good legal system is in place, then private
parties maybe able to negotiate and move the
economy from an inefficient below the PPF to
a Pareto efficient point
Farmer and Rancher Example from
Coase (1960)
Herd size
Total damage
Marginal damage
Marginal benefit
1
1
1
3.50
2
3
2
3.50
3
6
3
3.50
4
10
4
3.50
A Coaseian Solution
• Property rights over the land are not specified;
• Rancher has a herd of 4 and makes $14; and
farmer has losses of $4
• Social surplus is $14 - $10 = $4
• Socially efficient herd size is 3, with a social
surplus of $10.5 - $6 = $4.5
• Thus, a herd size of 4 is “Kaldor-Hicks
inefficient”
Coaseian Bargain
• Herd size of 3 is Pareto efficient
• Start with herd size of 4, then
• Assign rights over land to rancher -> then a deal
can be struck, for example, the farmer pays the
rancher $3.75 to reduce her herd size to 3 ->
rancher’s profits increase from $14 to 3x$3.50 +
$3.75 = $14.25 & farmer’s losses decrease from
$10 to $6 + $3.75 = $9.75
• Role of government – assign property rights and
enforce contracts!
More solutions
• Suppose property rights are assigned to the
farmer
• Farmer might tell the rancher to remove her
herd, and so both parties start with profits of
zero;
• Rancher can work out a bargain, for example, and
offer the farmer $6 to cover losses for a herd size
of 3. Then the farmer makes $10.50 - $6 = $4.50
and the rancher breaks even (note a bargain with
herd size of 4, 2 or 1 will never be struck)
Pre-Coaseian solution
• Government can problem directly – i.e. it taxes
the rancher at $4 a steer (the true marginal cost
at the “socially efficient” herd level);
• In practice the government is often too busy to
know how to do this and too busy to enforce this
• Coaseian solution works when property rights are
enforced, contracts are enforced and transaction
costs are low!
Coase and Judges
• Implication of Coase Theorem
• If transaction costs are low, property rights are
enforced and contracts are enforced, then
from the standpoint of efficiency it does not
matter who receives the property rights
• Implication -> Judges can pursue distributional
objectives without sacrificing efficiency
Bargaining costs
• If bargaining costs between parties is high
(high transaction costs), private agreements
are difficulty
• So, with large transaction costs, law matters
for efficiency
Court system in USA
• Federal system – Posnerian common law
judge is relevant – trial judges, appellate
judges and supreme court judges have tenure
and are shielded to some extent from politics
• State system – in certain states with elections,
Posnerian common law judges are rare – see
material online from NYU Law School Brennan
Center
Reality Check
• Niblett, Shleifer and Posner (2010) – JLS – do
common law judges make efficient state
rulings?? Conduct an empirical study of
American state courts
• Brennan Center – Check Caperton case and
the impact of judicial elections
• When are judges Posnerian and the Coase
theorem applies?