The Coase Theorem and the Environment

Print Friendly, PDF & Email

About 25 years ago, when I worked for a national bank in Europe, I had an interesting meeting. Three tall, redheaded representatives of the Icelandic fresh cod (as opposed to dried or salt-cod) fisheries cooperative were looking for a loan to expand packaging operations in France. To justify the loan, we had to learn about their business. How to get collateral from things that can swim away, for example.

The Icelanders confidently and proudly addressed every question. I learned a lot, much of it surprising. For example, I learned that the cooperative itself was not a corporation or association, but an entity created by special act of the Icelandic legislature (the Thing, or more precisely the Althing or General Assembly). I also learned that property rights were the key to the fisheries’ reliability.

For many years, I forgot about this meeting, then a friend of mine posted this link to a social media website. The story identifies a trend: young adults not buying cars. His comment on the story was, “We are renters on this planet, not owners.” That was meant as a conservationist statement to encourage good ecological stewardship of planetary resources.

If acting like a renter does not make for good ecological stewardship of planetary resources, what does?

I thought to myself that if exhortation would make us greener, the hot air coming out of Al Gore and many others would have restored the planet to Eden at least a decade ago. What I said online was, “Renters always trash the place. In economics, one version of this is called the tragedy of the commons. Ownership and property rights promote good management of natural resources. We drive on public roads, burn subsidized fuel, get fat on subsidized farm commodities.” But all of this made me remember the Icelandic fishermen and a certain Mr. Coase.

If acting like a renter does not make for good ecological stewardship of planetary resources, what does? Part of the answer is in the Coase theorem. (Here tip your hat to Ronald Coase, who died in 2013.) It suggests that clear and tradable ownership rights help people bargain to allocate resources efficiently.

The Wikipedia entry on the theorem offers alternative versions of it:

  • Version 1: A clear delineation of private property rights is an essential prelude to market transactions.
  • Version 2: As long as private property rights are well defined under zero transaction cost, exchange will eliminate divergence and lead to efficient use of resources or highest valued use of resources.
  • Version 3: The allocation of resources is invariant to the assignment of private property rights under zero transaction cost and zero income effect.

I think of it as the opposite of the tragedy of the commons. Overfishing is a big example of the tragedy. In most parts of the ocean, fish stocks are not owned but regulated (or not). People trolling through the waters are not owners. Instead they have some usage rights, like renters in an apartment, and they have rules to obey that are analogous to the clauses of a rental contract. But like a lot of renters, they don’t always obey the rules. They trash the place, as they would not if they owned it.

In fact, it’s even worse than that, because there is competition to trash the place. As an edible species of fish gets rarer, the price goes up and competitors vie to take as much as they can before the stock is depleted. They might know it’s a disaster in the making, but that does not change the incentives. If they moderate their catch, the depletion occurs anyway. There’s no owner to get the long-term benefits of fishing sustainably.

Property rights created by governments are attractive alternatives. Iceland, for example, for more than 25 years has been regulating its fisheries in a way that partly approximates ownership. Basically, license holders get quota rights that they can trade. In (Coasian) theory, the rights end up in the hands of the fishers who get the most value from the quota. I believe that the results have been good. In June of this year, Iceland Magazine reported that the country’s cod population was at historic highs and quotas would increase.

They might know it’s a disaster in the making, but that does not change the incentives. If they moderate their catch, the depletion occurs anyway.

My examples and observations here make for an extremely superficial treatment of ideas and phenomena that have been debated, studied, and written about for more than half a century. I intend them only as an initial antidote to the implications of vapid slogans like “We are renters on this planet.”

Leave a Reply

Your email address will not be published.