Coase’s Theorem: A Pathway to a Controlled Economy

To my thesis advisor, Professor Ralph Brubaker of the University of Illinois Urbana-Champaign. This piece of work was my first exposure to the realities of high-level American academic life, an experience I will never forget.

Author’s Note

“Oh, my dear woman, gentle as a fairy,

I trust not in hysteria, only in May.

And who quarrels with those false poets’ claims?

Sir, I have no desire for their eternal fame.

Or why should I read the fool’s long tomes?

I solve the world’s matters all alone.”

—    Galaktion Tabidze [1925]

Not long ago, I started working on this paper as part of my plan to participate in the 17^th Cornell Law School Inter-University Graduate Conference 2025, organized by the Doctor of the Science of Law Association (JSDA), a highly prestigious world-class academic body. Upon beginning the project, I was a JSD student at the University of Illinois Urbana-Champaign, and my thesis advisor was Professor Ralph Brubaker, who, among American bankruptcy academic circles, is well-known and widely respected. Much to my disappointment, the conference organized by Cornell University that year was not on bankruptcy, but on International Public Law and Philosophy of Law, and the two are seemingly unrelated. Subsequently, in the next semester, I was graciously allowed to take Advanced Theories of Contract and Property, jointly taught by Prof. Michael Moore of the University of Illinois Urbana-Champaign, College of Law, and Prof. Leo Katz of the University of Pennsylvania Law School, something that had always been on my bucket-list. Knowing that my choice of the subject came with great reluctance, I still felt compelled to take a more relevant subject for my bankruptcy thesis purposes – Bankruptcy Procedure read in the class by Professor Brubaker, a must-attend class for future bankruptcy academics. Unquestionably, the choice was even harder considering the high esteem in which I held the general bankruptcy course, also read in the class by Professor Brubaker just the previous semester, which provided me with foundational knowledge. Luckily, considering that Prof. Moore is truly one of the world’s most prominent authorities on the intersection of law and philosophy, and widely regarded as the leading theoretician of criminal law, my choice turned out to be a rewarding experience. Legal insights offered by Prof. Moore proved invaluable, tremendously helping me come to grips with the twists and turns of the Coasean world, without which I would have been completely unable to develop this paper’s core rationale.

Tbilisi, Georgia

17/07/2025

I.           Introduction

“Socialist central planning introduced into England now by peaceful parliamentary process — if it could be so introduced — would, there is every reason to believe, make an enormously better showing than its Russian exemplar. … If, then, it were in the writer’s power to direct his country’s destiny, he would accept, for the time being, the general structure of capitalism; but he would modify it gradually.”

—   Arthur C. Pigou[1]

Ronald Coase was a prominent British economist of the 20^th century, well known for his contributions to the economic theory of the firm.[2] For lawyers, however, Coase is primarily recognized for his 1960 paper The Problem of Social Cost.[3] The publication has since become the most cited law review article in modern American legal tradition.[4] Coase himself claimed in his 1991 Nobel Prize autobiographical sketch that “it is probably the most widely cited article in the whole of modern economic literature.”[5] Despite this success, the paper is widely misunderstood. Coase himself complained that “[m]y point of view has not in general commanded assent, nor has my argument, for the most part, been understood.”[6] One commentator even went so far as to argue that “[s]omething like a dozen people in the world understand that the ‘Coase’ theorem is not the Coase theorem. … One of this select group is Ronald H. Coase himself, so I suspect we blessed few are right.”[7] Many are called but few are chosen.

The Problem of Social Cost is well known for the Coase Theorem, which states that “in the absence of transaction costs, it does not matter what the law is, since people can always negotiate without cost to acquire, subdivide, and combine rights whenever this would increase the value of production.”[8] It is designed for an ideal world, without any explicit suggestion “what general conclusions about economic policy, if any, [Coase] expects us to draw from it.”[9] Legal literature is of little help either, as Coase’s treatment “is usually … fragmentary, often involving little more than a reference … plus some explanatory comment, [as if to suggest] that detailed examination would be inappropriate.”[10] Coase himself recognized this when he wrote that “the discussion has largely been devoted to sections III and IV of the article and even here has concentrated on the so-called ‘Coase Theorem,’ neglecting other aspects of the analysis.”[11] From my own experience, I can confirm that this is exactly how Coase’s paper is taught in modern American universities, including at the doctoral level — the highest stage of academic education. Even in these advanced settings, discussions sometimes descend into absurd and impractical hypotheticals — such as whether a person should be legally permitted to walk the streets carrying a spinning blade, like a devil’s wheel, and if someone is injured by it, who ought to be held responsible.

This turned out to be a fatal mistake, as following Coase blindly and reducing his analysis to a formulaic representation effectively removed eight other chapters from consideration.[12] Perhaps this is why Coase is usually portrayed as an anti-government, free-market libertarian, when in fact he worked for governments his entire life. A close reading of the text of The Problem of Social Cost reveals that Coase advocated for a state-run economic system, in which all factors of production belong to the government, private ownership is eradicated, the country is run like a firm, and the economy is centrally planned.[13]

II.      Adam Smith

“It is very difficult to know where one’s ideas come from.”

—   Ronald H. Coase[14]

Coase’s arguments can be traced back to the time of Adam Smith. According to Coase, “during the two centuries since the publication of The Wealth of Nations, the main activity of economists has been to fill the gaps in Adam Smith’s system, to correct his errors, and to make his analysis vastly more exact.”[15] However, Coase ultimately rejects Adam Smith’s free-market system and proposes his own state-run model. Coase distanced himself from idealized economic models, and explained that such a model “is the world of modern economic theory, one which I was hoping to persuade economists to leave.”[16] 

In departing from Smith’s system, Coase’s analysis differs from the classical model in two major ways, namely in the Coasean model: (1) the free-market economy is replaced with a state-run planned economy; and (2) private property is replaced with state-granted rights to perform specific activities. Both institutions are the backbones of the classical economic system.

II.1.  Free-Market Economy

In his Nobel Prize lecture, Coase clarified that “a principal theme of The Wealth of Nations was that government regulation or centralized planning was not necessary for an economic system to function in an orderly way.”[17] The main advantage of markets, Coase argued, is that “the national dividend, in given circumstances of demand and supply, tends ‘naturally’ to a maximum.”[18] The system Coase offers, however, is the exact opposite of what this description implies. Coase believes, as Pigou does, that this ‘natural’ movement of resources to their maximization occurs because of institutions that run the economy.[19]

Adam Smith formulated the concept of the “invisible hand” in the context of restraints on imports. Although he mentioned the principle in an earlier publication as well. In The Wealth of Nations, Smith argued:

[Individual] generally … neither intends to promote the public interest, nor knows how much he is promoting it. By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention.[20]

In his earlier work, The Theory of Moral Sentiments, published in 1759, Smith argued that the rich, driven by self-interest and luxury, unintentionally distribute resources to the poor through labor and consumption, which also advances societal welfare as if guided by an “invisible hand”:

The rich only select from the heap what is most precious and agreeable. They consume little more than the poor, and in spite of their natural selfishness and rapacity, though they mean only their own conveniency, though the sole end which they propose from the labours of all the thousands whom they employ be the gratification of their own vain and insatiable desires, they divide with the poor the produce of all their improvements. They are led by an invisible hand to make nearly the same distribution of the necessaries of life, which would have been made, had the earth been divided into equal portions among all its inhabitants, and thus, without intending it, without knowing it, advance the interest of the society, and afford means to the multiplication of the species.[21]

The extent to which Adam Smith supports a free market economy likely requires a more detailed textual analysis of his works, which lies beyond the scope of this paper.

II.2.  Private Property System

For Smith, this arrangement was both more democratic and more efficient, as he viewed government intervention with skepticism.

Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it. I have never known much good done by those who affected to trade for the public good. It is an affectation, indeed, not very common among merchants, and very few words need be employed in dissuading them from it. What is the species of domestic industry which his capital can employ, and of which the produce is likely to be of the greatest value, every individual, it is evident, can, in his local situation, judge much better than any statesman or lawgiver can do for him. The statesman, who should attempt to direct private people in what manner they ought to employ their capitals, would not only load himself with a most unnecessary attention, but assume an authority which could safely be trusted, not only to no single person, but to no council or senate whatever, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it.[22]

Unlike Coase, in Smith’s system, the factors of production are owned privately by individuals. Property rights are regarded as a foundational element of organized human life, comparable to the institution of the family. As Smith writes:

The most sacred laws of justice, therefore — those whose violation seems to call loudest for vengeance and punishment — are the laws which guard the life and person of our neighbor; the next are those which guard his property and possessions; and last of all come those which guard what are called his personal rights, or what is due to him from the promises of others.[23]

Property thus was traditionally distinguished from more limited personal rights to perform certain activities. Blackstone explains:

rights may be subdivided into those which concern and are annexed to the persons of men, and are termed jura personarum, the rights of persons; or into such as a man may acquire over external objects, which are entitled jura rerum, the rights of things.[24]

This distinction was blurred by Coase. Yet, he writes that “[t]he traditional approach has tended to obscure the nature of the choice that has to be made,” blaming Pigou for doing exactly what he himself does.[25] This cited statement appears to address nuisance disputes between neighbors. In this context, it suggests that when interference with a neighbor’s property occurs, the judge should not focus on whether interference exists, but rather on whether the neighbor, as the owner, has the right to prevent the emission. In effect, this implies that ownership no longer automatically includes the absolute power to exclude all intrusions from one’s property — what was once considered an “island of conscious power.” The traditional understanding, that exceptions like servitude or the right of way are carved out from this otherwise absolute rule, was based on the idea that such minimal, almost surgically precise interferences are necessary to adapt to certain environmental limitations that make organized living almost impossible, is no longer valid. For example, the right of way was usually granted when necessary to have access to public networks, roads, or resources like utilities. Even in these cases, speculative actions were excluded, so an owner who previously destroyed a road himself would no longer be able to burden a neighbor’s land with a right of way.[26] 

According to the new system, it seems that new rights can constantly be created with respect to the same land or other property, and as a result, the entire system of private property rights has been obscured and, ultimately, eroded.[27]

III.  Arthur Pigou

Many of the British Empire’s ups and downs were influenced by Adam Smith’s The Wealth of Nations, which was published in 1776. The belief in the free-market economy has withstood the test of time. However, history has shown that markets are not always the best solution to economic problems, as they fail too. Citing and agreeing with Pigou, Coase states that “even in the most advanced states there are failures and imperfections ... there are many obstacles that prevent a community’s resources from being distributed ... in the most efficient way.”[28] According to Pigou, the main objective of welfare economics is to respond to market failures. He explains:

The study of these constitutes our present problem … its purpose is essentially practical. It seeks to bring into clearer light some of the ways in which it now is, or eventually may become, feasible for governments to control the play of economic forces in such wise as to promote the economic welfare, and through that, the total welfare, of their citizens as a whole.[29] 

Contrary to Coase’s claims, Pigou did not advocate for government intervention in all cases, especially where contractual improvements are possible. However, whether through government action or private negotiation, the overarching goal remains “to discover whether any improvements could be made in the existing arrangements which determine the use of resources.”[30] 

Two aspects of Pigou’s analysis are especially relevant for Coase: (1) welfare economics, which is a much broader concept than what Coase’s economic analysis encompasses, and (2) externalities, which, in Coase’s framework, no longer constitute a deficiency per se.

III.1.                 Welfare Economics

For Pigou, welfare is a broader concept that encompasses all aspects of human life, not just economic considerations measurable by the price mechanism. He writes:

If I am asked “What is good?” my answer is that good is good, and that is the end of the matter. Or, if I am asked “How is good to be defined?” my answer is that it cannot be defined, and that is all I have to say about it. Welfare means the same thing as good. It, too, cannot be defined, in the sense of being analyzed. At the same time, we can say, and indeed, it is the chief task of ethics to say, whether, and in what way, particular things belong to welfare.[31]

Therefore, general welfare is not synonymous with ‘economic welfare’ and is more concerned with states of consciousness. It focuses solely on an individual’s internal mental or emotional experiences rather than external material things or physical conditions. Material things or conditions refer to external factors such as wealth, possessions, physical health, social status, or environmental conditions, that can be measured or quantified.[32] Pigou explains:

Of welfare in general, economic welfare is one part. It is welfare arising in connection with the earning and spending of the national dividend, or, in other words, of those parts of the community’s net income that enter easily into relation with the measuring rod of money. Economic welfare, however, does not contain all welfare arising in this connection. Various good and bad qualities indirectly associated with income-getting and income-spending are excluded from it. It does not include the whole psychic return, which emerges when the objective services constituting the national dividend have passed through the factory of the body; includes only the psychic return of satisfaction. Thus, economic welfare is, as it were, a part of a part of welfare theory.[33]

Coase discusses only the economic side of this problem, however he explicitly (but by no means clearly) underscores the necessity of developing the remaining part of the welfare analysis:

In this article, the analysis has been confined, as is usual in this part of economics, to comparisons of the value of production, as measured by the market. But it is, of course, desirable that the choice between different social arrangements for the solution of economic problems should be carried out in broader terms than this and that the total effect of these arrangements in all spheres of life should be taken into account. As Frank H. Knight has so often emphasized, problems of welfare economics must ultimately dissolve into a study of aesthetics and morals.[34]

Pigou points out the difficulties involved in demarcating the line between welfare considerations measurable by the price mechanism and the more aesthetic aspects of life, which cannot be easily quantified. Although Pigou states that “the range of our inquiry becomes restricted to that part of social welfare that can be brought directly or indirectly into relation with the measuring-rod of money,” he also emphasizes that it is “not, indeed, possible to separate it in any rigid way from other parts.”[35] Here, Pigou refers to Edwin Cannan, who argued:

The exact phrase used does not really matter very much, since we must face, and face boldly, the fact that there is no precise line between economic and non-economic satisfactions, and therefore the province of economics cannot be marked out by a row of posts or a fence like a political territory or a landed property. We can proceed from the undoubtedly economic at one end of the scale to the undoubtedly non-economic at the other end without finding anywhere a fence to climb or a ditch to cross.[36]

The difficulty in drawing a clear line between the two does not, of course, justify adopting a flawed calculation method that ignores half the relevant factors. Blurring this distinction can be dangerous, as focusing on only one part of the equation without considering the overall impact is ultimately counterproductive. Such an approach is what fuels major divisions within a peaceful society. For this reason, Coase is not only guilty of implicitly endorsing socialism but also of neglecting to clearly stress the need to develop the second part of the analysis. The academic community as a whole can be seen as complicit in this oversight.

III.2.                 Externalities

Pigou’s response to market failures, as Coase claims, was dominant during the first part of the 20^th century.[37] Pigou viewed this problem from the perspective of externalities. This is how Pigou explains the concept:

The source of the general divergences between the values of marginal social and marginal private net product that occur under simple competition is the fact that, in some occupations, part of the product of a unit of resources consists of something which, instead of coming in the first instance to the person who invests the unit, comes instead, in the first instance (i.e., prior to sale if sale takes place), as a positive or negative item, to other people.[38] These other people may fall into any one of three principal groups: (1) the owners of durable instruments of production, of which the investor is a tenant; (2) persons who are not producers of the commodity in which the investor is investing; (3) persons who are producers of this commodity.[39]

Pigou’s externalities represent divergences between the private product and the social product.[40] They are often categorized as positive or negative, depending on whether the unaccounted effect is a service or a disservice.[41] Both positive and negative externalities can lead to market failures by encouraging the overproduction of harmful goods and the underproduction of beneficial ones. Since “[a]lmost certainly … externalities (or ‘social costs’) are perceived as the greatest market failure problems,” even a small deviation on a large scale can lead to a massive misalignment.[42] 

Coase accuses Pigou of advocating for a government intervention, while parties’ transaction can be more effective. Interestingly though, Coase does not address Pigou’s first type of divergence, where contractual improvement is possible. Instead, he focuses only on the second class of divergences, where

one person A, in the course of rendering some service, for which payment is made, to a second person B, incidentally also renders services or disservices to other persons (not producers of like services), of such a sort that payment cannot be exacted from the benefited parties or compensation enforced on behalf of the injured parties.[43]

Pigou only treats externalities as inherent flaws to be corrected in the second type of divergence, where “no contract is possible (the second class)”  or “the contract is unsatisfactory (the first class).”[44] In practical terms, this means “it would be desirable to make the owner of the factory liable for the damage..., to place a tax on the factory owner..., or... exclude the factory from residential districts,”[45] as private bargaining is not possible.

By working with the concept of externalities, Pigou essentially operates within the framework of Adam Smith’s classical system. In contrast, Coase rejects a sole focus on externalities and instead proposes a complete reorganization of resource allocation in the economy, with an aim of reducing divergences to their minimal possible level. Pigou acknowledges related concerns when he notes that “[o]ver and above these, there are many obstacles that prevent a community’s resources from being distributed among different uses or occupations in the most effective way.”[46] However, he stops short of proposing a full systemic overhaul. Instead, his approach centers on identifying divergences and attempting to correct them, whether through private arrangements or government intervention. Coase, on the other hand, considers private ownership to be the primary obstacle and reason for the divergences. However, Pigou does have a separate study about Socialism versus Capitalism, which he published in 1948.[47]

IV.   Ronald Coase

“The fundamental aim of socialism is not the abolition of private property but the extension of democracy.”

—   Abba Lerner[48]

Now a renowned libertarian and a champion of the free market economy, young Coase started out as a socialist.[49] In 1929, he joined the London School of Economics (LSE), where his mentor was Arnold Plant. Plant introduced Coase to key concepts, such as opportunity cost, markets, property rights, and price mechanics. Coase would later recall that as a result of these interactions his “socialist sympathies gradually fell away.”[50] 

Under Plant’s mentorship, Coase visited the United States to investigate a very specific problem: the existence and size of firms in the economy.[51] During his visit, Coase met with top echelon American company executives and gathered invaluable insights that laid the foundation for his seminal article The Nature of the Firm, published in 1937.[52] In it, Coase first developed the concept of transaction costs and explained the existence and size of a firm from the perspective of a market failure.[53] 

After returning from the US, Ronald Coase taught at the Dundee School of Economics and Commerce (1932–1934), the University of Liverpool (1934–1935), and the LSE (1935–1951). Coase was deeply influenced by LSE’s intellectual environment, especially by figures like Lionel Robbins, Friedrich Hayek, and John Hicks. During his years at the LSE, Coase developed a strong interest in public utilities, which led him to conduct historical studies of entities such as the British Post Office and broadcasting systems.[54]

Coase was generally admired by American economists. Milton Freedman for example “considered Coase’s … book on the British Broadcasting Company (1950), ‘something of a classic.’”[55] He and Aaron Director both personally lobbied Coase’s move to the US and then Chicago University.[56] In 1951, Ronald Coase immigrated to the United States and initially served as a professor of economics at the University of Buffalo until 1958.[57] From 1958 to 1964, he was a professor in the Department of Economics at the University of Virginia, where he played a pivotal role in establishing the Thomas Jefferson Center for Studies in Political Economy. This center later became home to many prominent economists and influential economic theories.[58] In 1964, Coase moved to the University of Chicago, where he served as editor of the Journal of Law and Economics until his resignation in 1982.[59] In 1991, the same year the Soviet Union collapsed, Coase was awarded the Nobel Prize in Economic Sciences “for his discovery and clarification of the significance of transaction costs and property rights for the institutional structure and functioning of the economy.”[60] Coase remained professor at Chicago until his death at the age of 102 in 2013.

Coase’s contribution to economic thinking is monumental, but what he achieved in the field of law is equally remarkable. Coase expanded his views on American judges, effectively transforming them into “an extension of the market mechanism.”^[61] During his time in US, Coase published two particularly famous papers: The Federal Communications Commission (1959) and The Problem of Social Cost (1960).^[62] In the first paper, Coase demonstrated how radio and television frequency waves could be treated as property rights and allocated using a price mechanism, while still allowing the government to retain ultimate control over their allocation.^[63] In his 1960 paper, Coase used a similar argument to advocate for a socialist state as a solution to major economic problems.^[64] With his 1960 paper, Coase established an entirely new field of study, now commonly referred to as law and economics.^[65] In his role as editor of Journal of Law and Economics Coase oversaw an economic revolution in numerous areas of American law, including contracts, torts, and property.

Coase’s 1960 paper became the most cited paper not only in economics, but also in law. The title comes from the works of Fred Shapiro, who, in 1985, published a study aiming to compile “a list of the most-cited law review articles of the last forty years.”[66] Initially, Shapiro excluded Coase’s paper from the list, as it was not considered a purely legal paper; however, it “without question would have qualified for the tabulation of most-cited articles if Journal of Law and Economics were indexed by Shepard’s.“[67] But things changed in 1996 when Shapiro published a second, updated version of the paper. This time, Coase’s 1960 article was included in the list as “the runaway citation champion” that “has amassed almost twice as many citations as any other law-related article.”[68] In 2012, Fred Shapiro published a third edition of his paper on the most-cited American law review articles. Coase’s paper continued to hold the top position.[69]

Before discussing The Problem of Social Cost, it is helpful to briefly review three of Coase’s earlier papers, which address the nature of the firm,[70] pricing under conditions of large-scale divergence,[71] and the concept of property (allocation of frequency waves through price-mechanism).[72] The analytical framework Coase developed in these papers laid the foundation for the arguments he would later advance in The Problem of Social Cost. Generally, Coase advocated for these views throughout his entire academic career, which lasted over 70 years.[73]

IV.1.1937: The Nature of the Firm

Firms in the British Empire had long played a crucial role in driving economic growth and innovation, expanding global trade, and supporting empire-building.[74] Much like their counterparts in modern-day America. However, the 1930s highlighted their significance even more. In the United States, the Great Depression began with the Wall Street Crash of 1929 and quickly escalated into a global economic crisis.[75] In his first inaugural address on March 4, 1933, President Roosevelt stated:

In our progress toward a resumption of work, we require two safeguards against a return of the evils of the old order: there must be a strict supervision of all banking and credits and investments; there must be an end to speculation with other people’s money; and there must be provision for an adequate but sound currency.”[76] 

The federal government responded with anti-Depression policies, including the New Deal programs.[77] This period also coincided with Stalin consolidating his power within the Communist Party, eliminating or exiling political rivals, and preparing for the war he anticipated.[78] It was during this time that Coase visited the U.S. to study the American corporate world. It is perhaps a subject for a separate study how a 21- or 22-year-old British student managed to secure such high-level meetings with top-tier American executives. From my own experience, I can confirm that even today, arranging a meeting with anyone holding a significant position in the United States — whether academic, commercial, or otherwise — almost always requires an intermediary to facilitate the introduction.

The problem with firms was that if, as Adam Smith’s system suggests, the economy runs without centralized planning — what Sir Arthur Salter described as an economy that “works itself” — then the existence of firms cannot be easily explained. This is because firms operate as highly hierarchical and centralized mechanisms. Within firms, the market mechanism is replaced by what Coase calls an “entrepreneur-coordinator.”[79] For example, Coase points out that when an employee changes departments within a firm, it is not “because of a change in relative prices, but because he is ordered to do so.”[80] More broadly, if the classical definition of an economy excludes the need for central administration or planning, the existence of firms cannot be accounted for within that framework.

Coase’s analysis is crucial for understanding The Problem of Social Cost. Namely, what is the precise reason why the classical economic definition fails to account for the existence of firms? Coase argues that this failure stems from the fact that economic models “suffered in the past from a failure to state clearly their assumptions.”[81] Coase explains that  claim that the economy “works itself” holds true only when “the direction of resources is dependent directly on the price mechanism.”[82] When the price mechanism is not the sole determinant of resource allocation — as is the case within firms, which Coase referred to them as “islands of conscious power” — the classical definition of the decentralized nature of an economic system breaks down.

Coase argues that firms arise due to market failures. Specifically, there are transactions that markets cannot efficiently perform, and firms serve as mechanisms to carry out these transactions when the cost of performing them through the market is higher. For instance, long-term contracts, which require planning and coordination, are often more efficiently managed within a firm. Coase further explains that the growth and size of a firm depend on the number of transactions it can efficiently handle internally. It is in this context that Coase first articulated the concept of “transaction costs” — the costs associated with using the market mechanism — a foundational idea for understanding the existence and boundaries of firms.

In order to explain why firms exist and what activities they undertake, I found it necessary to introduce a concept which I termed in that article “the cost of using the price mechanism,” “the cost of carrying out a transaction by means of an exchange on the open market,” or simply “marketing costs.” To express the same idea in my article on “The Problem of Social Cost,” I used the phrase “the costs of market transactions.” These have come to be known in the economic literature as “transaction costs.” I have described what I had in mind in the following terms: “In order to carry out a market transaction it is necessary to discover who it is that one wishes to deal with, to inform people that one wishes to deal and on what terms, to conduct negotiations leading up to a bargain, to draw up the contract, to undertake the inspection needed to make sure that the terms of the contract are being observed, and so on.” Dahlman crystallized the concept of transaction costs by describing them as “search and information costs, bargaining and decision costs, policing and enforcement costs.”[83]

IV.2.1946: The Marginal Cost Controversy

1960 publication was not Coase’s first attempt at addressing the divergence between private and social product. Earlier example is his 1946 publication The Marginal Cost Controversy. Coase investigated divergence in large-scale production and proposed internalizing it by allocating the costs directly to customers, rather than through government taxation. The main argument is that government intervention entails costs and may not be as effective as directly incorporating the costs into pricing.[84]

During WWII, the issue of pricing under conditions of decreasing average costs was especially critical for public utilities, defense industries, and government-managed services such as postal and telecommunications.[85] During WWII, Coase worked as a statistician at the Forestry Commission (1940–41) and the Central Statistical Office of the War Cabinet (1941–46).[86] These sectors faced significant challenges in balancing efficient marginal cost pricing with financial sustainability, as Coase himself notes “public utility industries provide some of the most striking instances of products supplied under conditions of decreasing average costs.”[87] 

Among other prominent scholars, Harold Hotelling and Abba Lerner advocated for marginal cost pricing as a solution. Marginal cost pricing is an economic approach where goods or services are priced equal to the additional cost of producing one more unit, which aims to reflect the true cost of resource usage. The concept is highly appealing because if customers are charged more than the marginal cost, they may reduce their demand, which will lead to an inefficient allocation of resources. Under marginal cost pricing, customers decide how much of a product they require, which further suggests they should only pay the additional cost associated with producing each extra unit. In large-scale production, where average costs decline as output increases, marginal costs are typically lower than average costs. As a result, businesses often struggle to set prices that both reflect marginal costs and cover total production expenses.

To address this, the Hotelling-Lerner solution proposed that the government intervene to subsidize the resulting deficiency, funding it through taxation. The problem of designing an optimal pricing system under conditions of decreasing average costs was typically discussed in two ways: charging customers the marginal cost or charging them the average cost. The first approach led to financial losses, while the second resulted in inefficiency. However, the prevalence of this solution was so widely accepted among high-level economic circles that one commentator even claimed “statement of the principles that should govern the price and output policy of a state-controlled enterprise, though possibly a little oversimplified, is not, I think, open to serious objection.”^[88] Coase described this strategy as “a recipe for waste on a grand scale.”^[89] 

The central problem, as identified by Coase, was the “divergence between average and marginal costs.”[90] Coase proposed a clever solution by combining the two through a system of multi-part pricing. He suggested that the key was to make customers pay for the full value of the product, including both production and delivery costs. By separating production costs from carriage costs, Coase advocated charging customers separately for each. This system, which he termed Multi-Part Pricing, could potentially extend beyond just two components. Ultimately, Coase’s method allowed for all customers to be charged the same marginal cost for production while additional charges for transportation is calculated based on each customer’s location. This approach enabled Coase to avoid the three major issues associated with the Hotelling-Lerner solution: (1) the misallocation of factors of production between different uses, (2) the redistribution of income, and (3) the harmful effects of additional taxation.[91]

It is the efficiency and precision of the price mechanism that makes it more appealing than relying on government investigations into individual preferences at specific locations. Coase essentially argues that using the price mechanism to gauge customer preferences through market tests not only improves demand forecasting but also provides critical insights into whether the establishment of an industry was a sound decision in the first place. He thinks that understanding whether consumers are willing to pay the full cost of a product offers essential feedback for evaluating the wisdom of past investments and informing future decisions.[92] In this view, evaluating industry creation becomes more of a backward-looking historical inquiry than a forward-looking mathematical or economic exercise. This approach is also central to The Problem of Social Cost and, especially, initial allocation of factors of production.[93]

IV.3.1959: Federal Communications Commission

Coase first articulated his theory of property in his 1959 paper, The Federal Communications Commission.[94] This paper was meant to develop what would later be known as the Coase Theorem, but as Coase indicates in footnote 1 of The Problem of Social Cost he was asked to write again:

This article, although concerned with a technical problem of economic analysis, arose out of the study of the Political Economy of Broadcasting which I am now conducting. The argument of the present article was implicit in a previous article dealing with the problem of allocating radio and television frequencies (The Federal Communications Commission, 2 J. Law & Econ. [1959]) but comments which I have received seemed to suggest that it would be desirable to deal with the question in a more explicit way and without reference to the original problem for the solution of which the analysis was developed.[95]

Coase was well-positioned to investigate this matter, as it was not his first foray into the field of communications. He had already conducted fundamental studies on British communications industries years before publishing The Federal Communications Commission in 1959.[96] The questions Coase addressed were highly complex. The goal was to regulate the communications industry in a way that introduced market-based solutions — primarily the price mechanism — without sacrificing the government’s vital interests. These interests included ensuring control over who ultimately wielded power in broadcasting and what messages were delivered to the public through various programs.

It wasn’t until the dissolution of the Soviet Union that the United States implemented market-based solutions for allocating broadcasting rights. In 1994, the FCC shifted from administrative and adversarial proceedings to open public auctions.[97] Since its establishment in 1934, the FCC had relied on comparative hearings and, starting in 1981, lotteries to allocate frequencies.[98] However, in its 1997 report to Congress, the FCC acknowledged the inefficiencies of these approaches: “The history of comparative hearings and lotteries highlights their flaws in efficiently and fairly awarding rights to use the radio spectrum. Both approaches, especially the lotteries, failed to ensure that licenses would quickly go to the most efficient firms.”[99] On July 26, 1994, The New York Times reported: “The Federal Communications Commission held the nation’s first auction for the right to use the public airwaves today, and the opening multimillion-dollar bids — five times higher than what analysts had expected — drew gasps from the audience and astounded perhaps everyone but the bidders themselves.”[100]

The government’s ability to change tactics was not solely due to reduced foreign threats. Coase laid the foundation for such regulation by demonstrating that, despite the apparent openness of the price mechanism, the subsequent trajectory of resource allocation could be managed and predicted. Communication regulation in the United States began around 1900 with the use of radio frequencies for maritime communication. Initially, the primary users of radio communication were ships, which relied on this technology to send signals to other vessels and communicate with the shore. The unregulated nature of the industry allowed all willing parties to occupy frequencies, leading to interference that disrupted critical maritime communication. Among others, the Department of the Navy explicitly called for regulations to “bring some sort of order out of the turbulent condition of radio communication.”[101]

Coase details the regulatory history in the United States since the enactment of the first law in 1912. In 1912, Congress passed the Radio Act, which required radio operators to obtain licenses issued by the Secretary of Commerce. A major figure in overseeing communication regulation was Herbert Hoover, who later became the 31^st President of the United States and also served as Secretary of Commerce from 1921 to 1928. The 1920s saw a rapid expansion of broadcasting, and interference from hundreds of new stations exposed the Act’s shortcomings. In response, the Radio Act of 1927 established the Federal Radio Commission (FRC) to manage frequencies and regulate broadcasting in the public interest. In 1934, the FRC’s responsibilities, along with the regulation of telephone and telegraph services, were consolidated into the newly formed Federal Communications Commission (FCC), which centralized communication regulation in the United States.[102] The FCC exercised discretion in granting broadcasting licenses, to allocate prime-time wavelengths efficiently and prevent their misuse. However, this discretion led to legal challenges, including constitutional issues. The Supreme Court struck down certain laws restricting licensing discretion, which undermined the government’s ability to govern communications effectively.[103]

It was within this context that in his 1959 paper, Coase proposed a market-based solution to the problem of wavelength allocation. Rather than relying on an arbitrary licensing system to control the allocation of frequencies and ensure their most valuable use, he advocated selling them through open auctions. Coase argued that if the allocation of wavelengths were determined by the price mechanism, ownership would naturally gravitate toward the most valuable uses. Despite encountering numerous challenges, Coase addressed them with remarkable clarity and ingenuity.

First, there was a fear that using a price mechanism to allocate broadcasting rights would result in those rights being awarded to the wealthiest individuals, which might not always ensure their most valuable use. However, Coase demonstrated that this concern is no different from what occurs in any other market involving sales. Prices are determined by customer preferences, including those of wealthier individuals. If the wealthy used their financial advantage to purchase everything they could afford, leaving nothing for others, prices would rise the next day, discouraging excessive purchasing and allowing others to re-enter the market. As Coase explained: “The same system which enables a man with $1 million to obtain $1 million’s worth of resources enables a man with $1,000 to obtain $1,000’s worth of resources.”[104]

Additionally, Coase demonstrated that the scarcity of wavelengths as a resource does not preclude the price mechanism from effectively governing their allocation. In National Broadcasting Co. v. United States, Justice Felix Frankfurter, writing for the Court, justified government regulation of radio communications by stating that “the radio spectrum simply is not enough to accommodate everybody.”[105] Coase, however, argued that scarcity is a fundamental characteristic of every resource traded in a market. He cited Rembrandt’s paintings as an example: although limited in number, they are “commonly disposed of by auction.”[106] This principle, Coase contended, applies universally to the supply of nearly all factors of production, and technology, including radio frequencies, should not be an exception.

Most importantly, Coase demonstrated that the initial allocation of frequencies is irrelevant in determining the ultimate beneficiaries of those resources. This is because the initial allocation — often determined through an auction — only identifies the initial owner of the wavelength.[107] The ultimate user of the wavelength, however, is not a legal question but an economic one. Coase showed that, like any resource allocated via a price mechanism, frequency wavelengths would naturally gravitate toward their most valuable use. To illustrate this, Coase used the example of a cave. Upon discovery, a cave may legally belong to its discoverer or, depending on the law, to the owner of the land where its entrance is located. However, this does not mean that caves, in general, belong permanently or even on average to their discoverers. Ownership eventually transfers to those who value them most. As Coase explained: “This proposition, which seems difficult to dispute when it relates to the right to use a cave, could also be applied to the right to emit electrical radiations.”[108]

The cornerstone of Coase’s groundbreaking framework is the concept of property rights. In The Federal Communications Commission, he emphasized:

Professor Siepmann seems to ascribe the confusion which existed before government regulation to a failure of private enterprise and the competitive system. But the real cause of the trouble was that no property rights were created in these scarce frequencies. We know from our ordinary experience that land can be allocated to land users without the need for government regulation by using the price mechanism. But if no property rights were created in land, so that everyone could use a tract of land, it is clear that there would be considerable confusion and that the price mechanism could not work because there would not be any property rights that could be acquired. If one person could use a piece of land for growing a crop, and then another person could come along and build a house on the land used for the crop, and then another could come along, tear down the house, and use the space as a parking lot, it would no doubt be accurate to describe the resulting situation as chaos. But it would be wrong to blame this on private enterprise and the competitive system. A private-enterprise system cannot function properly unless property rights are created in resources, and, when this is done, someone wishing to use a resource has to pay the owner to obtain it. Chaos disappears, and so does the government, except that a legal system to define property rights and to arbitrate disputes is, of course, necessary. But there is certainly no need for the kind of regulation which we now find in the American radio and television industry.

One crucial aspect of Coase’s analysis is that, while he argues for private ownership of property rights, these rights are not truly “properties”; rather, they are government-held licenses, such as the right to use a specific radio or television frequency wavelength.[109] Coase reiterated these arguments “at greater length in The Problem of Social Cost.”[110] The “boundaries” of Coasean “property” are determined by the price mechanism, because sticks that are assembled into the bundle of right determine “boundaries”, and extent to which this right entitles its owner. Each stick in the bundle has value, and can move to a different bundle if such transfer increases total production value. This is how using price mechanism “leads to the employment of factors in places where the value of the product yielded is greatest and does so at less cost than alternative systems.”[111] However, the drawback of Coasean system is that initial creation of a right is not subject to the price mechanism.[112] 

IV.4.1960: The Problem of Social Cost

Unlike Adam Smith and Arthur Pigou, whose analyses begin with the assumption of a free-market economy, Ronald Coase operates within a state-run framework in which all factors of production are owned by the government. Thus, the system is devoid of private property ownership. Although Coase presents himself as a free-market libertarian, his agenda is, in fact, more radical than Pigouvian government intervention. Coase seeks to dismantle the very system established by Adam Smith, including the free-market economy, private ownership, and, perhaps, all the institutional structures that stem from them.[113]

Coase diverts readers’ attention right after the very first sentence, in which he declares harmful business actions to be the subject of the paper. He does not immediately explain that he defines property as the right to perform certain actions, thereby making harmful business actions a form of property interference. If he had declared this right from the beginning, instead of at the end, the reader would have continued analyzing the text and each chapter by comparing and translating Coase’s analysis into the property framework. Instead, he critiques Pigou and shifts the discussion toward tort analysis.

This structure compels readers to read Coase’s paper, first through the lens of torts and externalities, and then revisit it again, with property rights and a free-market economy in focus. Interpreting Coase’s paper in this way requires applying his analysis to the broader problem of social cost, as the title suggests, rather than merely to the specific tort cases he discusses.

IV.4.1.            The Coase Theorem

“LIGHTHOUSE, n. A tall building on the seashore in which the government maintains a lamp and the friend of a politician.”

—   Ambrose Bierce[114]

Formulation of the theorem is credited to George Stigler.[115] The Coase Theorem operates only within a Coasean world — one without private property and characterized by centralized economic planning. It does not apply within the existing institutional framework. However, when considered within this new Coasean economic context, the theorem in its conventional form becomes trivially insignificant, while other aspects of Coase’s analysis come to the forefront.

The Problem of Social Cost opens with the statement that “[t]his paper is concerned with those actions of business firms which have harmful effects on others.”[116] Coase then argues that the economic analysis of such actions had followed the treatment of Pigou, which he criticizes as “not necessarily, or even usually, desirable.”[117] Coase presents his analysis as a criticism of Arthur Pigou, which is what enables him to divert attention and conceal his central thesis.[118] Coase’s criticism of Pigou is deliberately harsh, to obscure the fact that he is, in essence, targeting the broader tradition of Adam Smith rather than Pigou specifically. If for no other reason, Coase’s harshness toward Pigou feels like a tasteless choice of words — particularly given that Pigou died in 1959, the same year Coase’s FCC paper was published and just a year before The Problem of Social Cost appeared.[119] Here’s what Coase says about Pigou. In the paper, Coase asserts that “[i]t is difficult to resist the conclusion, extraordinary though this may be in an economist of Pigou’s stature, that the main source of this obscurity is that Pigou had not thought his position through.”[120] In a later 1988 publication, Coase remarked that Pigou’s analysis “seems to have been based on the reading of a few books or articles.”[121] There he cites Austin Robinson, who’s impression of Pigou was that he was “seeking always realistic illustrations for quotations in his own work,” as if to suggest that Pigou lacked the ability to construct more general theoretical analyses that accounted for the broader significance of those illustrations.[122] Coase even dedicated a separate paper to The Appointment of Pigou as Marshall’s Successor,[123] where he described the selection process at the end of Marshall’s career as a search for “a young lecturer on economics, who has time and strength to do drill work for men of medium ability.”[124] Coase further reveals that when Pigou arrived at Cambridge, “he would hardly be ripe for lecturing.”[125] Coase may even be implying that some of Pigou’s early published work may in fact have originated with Herbert H. Foxwell.[126] In the end, Coase painted himself as a libertarian skeptic of government intervention, and contrasted himself with Pigou, whom he portrayed as a proponent of government solutions.

However, Coase neither criticizes Pigou’s substantive analysis, nor himself offers any solution to the problem of externalities.[127] Coase concludes the first chapter of The Problem of Social Cost by stating that “[i]t is my contention that [Pigou’s] suggested courses of action are inappropriate, in that they lead to results which are not necessarily, or even usually, desirable.”[128] From this, we would expect Coase to propose a transactional improvement to existing institutional arrangements that does not require government intervention.[129] Instead, Coase addresses Pigou’s second category of divergences — situations in which no contract is possible or where contractual solutions would be unsatisfactory. In such cases, Coase cannot demonstrate contractual improvements, as “it would cost too much to put the matter right.”[130]

A close reading of Coase’s text reveals that his criticism is not of Pigou’s calculations, but of his diagnosis of the problem. Coase even acknowledges that Pigou’s “analysis as such is correct”[131] and agrees with Pigou’s framework that “if self-interest does promote economic welfare, it is because human institutions have been devised to make it so.”[132] Coase’s core objection is that Pigou misunderstood the question at hand: “Pigou does not seem to have noticed that his analysis is dealing with an entirely different question”.[133] 

In the final section of the paper, Coase does not propose a clear libertarian alternative to Pigou. Rather paradoxically, he entertains scenarios involving the absence of private property, the lack of a free-market economy, and centralized government planning.

IV.4.2.            Coase’s Theorem

When in the first sentence of the paper Coase announced that it concerns harmful business activities, we must immediately assume that harmful business activities are harmful usage of property, and thus whenever Coase discusses torts, he discusses property. This also fits the larger narrative, that Coase uses price mechanism, to allocate factors of production efficiently. His property concept was used to solve the allocation problem of radio and television frequency waves. In The Problem of Social Cost Coase used the same argument to solve larger societal problem.

Because Coase considers Pigou’s analysis to be correct, he admits “the failure of economists to reach correct conclusions about the treatment of harmful effects cannot be ascribed simply to a few slips in analysis.”[134] Coase suggests that “[w]hat is needed is a change of approach.”[135] The change he refers to is a shift from Adam Smith’s free-market system, not just an improvement on Pigou’s solution. What we get after the change of approach is a Coasean world.

In the last chapter of the paper, Coase lists three reasons why a satisfactory theory of optimal resource allocation in the economic system has not been developed: (1) the discussion focused on externalities, which loses sight of the “total effect” of economic arrangements, (2) the economy is considered as a free market that is then compared to an ideal world, and (3) factors of production are considered as physical property, while they should be understood as rights.

IV.4.2.1.     Bundle of Rights

The most controversial aspect of Coase’s paper is the third one: its call for the eradication of private property, effectively advocating a government takeover of all factors of production. Coase does not directly claim that all factors of production belong to the government, but this appears to be an inevitable conclusion that follows from his concept of property.

He identifies a third reason for the failure to develop an adequate theory to address harmful effects: “a faulty concept of a factor of production.”[136] As a corrective, he proposes that “if factors of production are thought of as rights, it becomes easier to understand that the right to do something which has a harmful effect (such as the creation of smoke, noise, smells, etc.) is also a factor of production.”[137] Coase asserted that ownership is nothing more than a bundle of rights as early as in his FCC paper. In The Problem of Social Cost, he explains that “[w]e may speak of a person owning land and using it as a factor of production, but what the land-owner in fact possesses is the right to carry out a circumscribed list of actions.”[138] Coase thus calls for a redefinition of property rights.[139]  The closest Coase came to acknowledging this was in the following statement from his 1988 publication:

In such a world the institutions which make up the economic system have neither substance nor purpose. Cheung has even argued that, if transaction costs are zero, “the assumption of private property rights can be dropped without in the least negating the Coase Theorem,” and he is no doubt right.[140]

A right, of course, is non-physical in nature. This is why Coase criticizes the traditional view that a factor of production is “usually thought of as a physical entity which the businessman acquires and uses (an acre of land, a ton of fertiliser) instead of as a right to perform certain (physical) actions.”[141] This immaterial nature of right essentially means that they, not physical objects, carry value, and adjustment of property rights is same as adjustment of their value. Accordingly, the owner no longer possesses the property itself, but merely a right to perform specific activities. This reconceptualization effectively removes the notion of private ownership from the economy, leaving the government as the ultimate arbiter — and, by implication, the ultimate owner — of all factors of production.

IV.4.2.2.     Government as a Super-Firm

Once ownership over all factors of production has been established, the question becomes how these factors should be effectively organized and allocated. Coase declares that “[t]he government is, in a sense, a super-firm (but of a very special kind) since it is able to influence the use of factors of production by administrative decision.”[142] Administrative decision for the country means its enforcement powers.

The government is able, if it wishes, to avoid the market altogether, which a firm can never do. The firm has to make market agreements with the owners of the factors of production that it uses. Just as the government can conscript or seize property, so it can decree that factors of production should only be used in such-and-such a way. Such authoritarian methods save a lot of trouble (for those doing the organising). Furthermore, the government has at its disposal the police and the other law enforcement agencies to make sure that its regulations are carried out.[143]

That this police power can be used to rearrange the factors of production was illustrated in an aviation case Smith v. New England Aircraft Co., 270 Mass. 511, 523 (1930), in which the court announced that

It is the proper function of the legislative department of government in the exercise of the police power to consider the problems and risks that arise from the use of new inventions and endeavor to adjust private rights and harmonize conflicting interests by comprehensive statutes for the public welfare. … There are … analogies where the invasion of the airspace over underlying land by noise, smoke, vibration, dust and disagreeable odors, having been authorized by the legislative department of government and not being in effect a condemnation of the property although in some measure depreciating its market value, must be borne by the landowner without compensation or remedy. Legislative sanction makes that lawful which otherwise might be a nuisance. Examples of this are damages to adjacent land arising from smoke, vibration and noise in the operation of a railroad … ; the noise of ringing factory bells ... ; the abatement of nuisances ... ; the erection of steam engines and furnaces ... ; unpleasant odors connected with sewers, oil refining and storage of naphtha ...[144]

However, administrative decision is not always the best option. It works in firms because the firm faces competitive pressure from the market. Coase states that “firm is subject to checks in its operations because of the competition of other firms, which might administer the same activities at lower cost and also because there is always the alternative of market transactions as against organisation within the firm if the administrative costs become too great.”[145] The government lacks this luxury, which necessitates the use of a mix of social arrangements, depending on which proves more effective.

This aspect of Coase’s analysis is discussed in Chapter VI. The Cost of Market Transactions Taken Into Account. Coase admits that discussion around The Coase Theorem takes place in an ideal world of Adam Smith. However, when transaction costs are introduced, “[i]t is clear that an alternative form of economic organisation which could achieve the same result at less cost than would be incurred by using the market would enable the value of production to be raised.”[146] The solution that could replace the market is what Coase discusses in 1937 paper The Nature of Firm:

As I explained many years ago, the firm represents such an alternative to organising production through market transactions. Within the firm individual bargains between the various cooperating factors of production are eliminated and for a market transaction is substituted an administrative decision. The rearrangement of production then takes place without the need for bargains between the owners of the factors of production. A landowner who has control of a large tract of land may devote his land to various uses taking into account the effect that the interrelations of the various activities will have on the net return of the land, thus rendering unnecessary bargains between those undertaking the various activities. Owners of a large building or of several adjoining properties in a given area may act in much the same way. In effect, using our earlier terminology, the firm would acquire the legal rights of all the parties and the rearrangement of activities would not follow on a rearrangement of rights by contract, but as a result of an administrative decision as to how the rights should be used.

This allows government to conduct efficient planning at the large scale. It is only when neither firm, nor markets can solve the problem of resource allocation, that Coase discusses law, and administrative decision-making.

But the firm is not the only possible answer to this problem. The administrative costs of organising transactions within the firm may also be high, and particularly so when many diverse activities are brought within the control of a single organisation. In the standard case of a smoke nuisance, which may affect a vast number of people engaged in a wide variety of activities, the administrative costs might well be so high as to make any attempt to deal with the problem within the confines of a single firm impossible. An alternative solution is direct Government regulation. Instead of instituting a legal system of rights which can be modified by transactions on the market, the government may impose regulations which state what people must or must not do and which have to be obeyed. Thus, the government (by statute or perhaps more likely through an administrative agency) may, to deal with the problem of smoke nuisance, decree that certain methods of production should or should not be used (e.g. that smoke preventing devices should be installed or that coal or oil should not be burned) or may confine certain types of business to certain districts (zoning regulations).[147]

This cannot be done by purely mathematical analysis, and government must analyze actually existing situation closely.

A better approach would seem to be to start our analysis with a situation approximating that which actually exists, to examine the effects of a proposed policy change and to attempt to decide whether the new situation would be, in total, better or worse than the original one. In this way, conclusions for policy would have some relevance to the actual situation.[148]

This resembles the solution Coase offered us in 1946 Marginal Cost Controversy, in which he argued that instead of establishing a new industry based on mathematical calculation (sort of “forward-looking” approach), it is better to investigate history, study industry, consumer behavior, preferences and then make decision whether or not expand into new territory.

Markets, firms, and law allow the government to determine the allocation of resources at any point in the economy. Markets have a natural tendency to maximize value. Therefore, if there are no transaction costs, the final destination of the factors of production is known. Transaction costs, when introduced, can slow down this process and perhaps even reverse it. Finally, law is always an option for the government, and it allows for the initial allocation of property rights in any part of the economy. Therefore, using Coase’s Theorem, the government determines the initial allocation of the factors of production, their final destination, and can control the speed at which this movement takes place by adjusting the parameters of transaction costs. The Coasean model can be graphically illustrated to show the interrelationship between the three primary modes of resource allocation — Markets, Firms, and Government Administrative Action — and the conditions under which each is preferable, based on factors such as resource allocation efficiency and transaction costs.

Finally, “[i]f one is not an economist, [and thus is] inclined to say that Coase had a cute point, but why the excitement?” how can that reaction be clarified in a simple and straightforward way? Stigler responded with the example of “the ‘reserve’ clause in professional baseball, [which] for a long time gave the right to control a player’s services — so long as he remained in baseball — to the team with which the player first signed.”[149] 

V.        Leo Herzel

“So incompetent have the generality of historians been for the province they have undertaken, that it is almost a question, whether, if the dead of past ages could revive, they would be able to reconnoitre the events of their own times, as transmitted to them through ignorance and misrepresentation.”

—   Horace Walpole[150]

The Illinois State Bar Association website proudly claims that “Mr. Herzel was an expert in securities law and is known for his theories on economics and communications that influenced three Nobel Prize-winning economists.”[151] This is high praise for a securities law expert, coming from the Illinois State Bar Association. Indeed, in his 1959 paper Federal Communications Commission, Ronald Coase mentions a student named Leo Herzel, who, as Coase claims, first introduced the idea of using the price mechanism to allocate frequencies. This idea was presented in an article published in 1951 in the Chicago Law Review.[152] In the article, Herzel investigated the history of frequency regulation in the United States since the enactment of the first law in 1912 and suggested that “FCC could lease channels for a stated period to the highest bidder.”[153] Unfortunately, Mr. Herzel subsequently abandoned his pursuit of the subject and wrote his dissertation on an alternative topic.[154]

Mr. Herzel’s publication was met with opposition from “Professor Dallas W. Smythe of the Institute of Communications Research at the University of Illinois and formerly chief economist of the Federal Communications Commission.”[155] Later, Herzel recalled, “[a]fter my article was published, at the suggestion of a friend in the University of Illinois economics department, I went to Urbana and debated Dallas Smythe.”[156] At the time, the typical reaction to his idea was that it was “undemocratic, un-American, and impractical.”[157] Indeed Mr. Herzel tried to justify his suggestions based on socialist doctrines: “A similar scheme has been used as the basis for recent theoretical developments in economics which use the price mechanism for the solution of the problem of how to allocate resources rationally in a socialist economy.”[158] However, by the time Coase published his paper in 1959, receptiveness to the idea had apparently grown considerably.

Mr. Herzel claims he did not know Coase and “did not meet him until the early 1980s,” and “the first time [he] talked to Coase about [the] article was when [they] had lunch together, probably in 1994, after [Coase] had been awarded the Nobel Prize in Economics.”[159] Nevertheless, their sources of interest in the subject were strikingly similar. This is how Mr. Herzel recalled his interest in the topic:

I came to my interest in market solutions to economic problems through an adolescent attraction to socialism. Not surprisingly, this attraction was my personal remnant of the Great Depression. When I began to really read the writings of socialists, I quickly learned that they had almost nothing useful to say about how a socialist economy would operate. Karl Marx, for example, concentrated his efforts on critiques of capitalism. I also learned that some conventional economists believed that an efficient use of economic resources in a socialist economy would be impossible because of the lack of market prices. On the other hand, some mathematically inclined economists believed they had demonstrated that in theory an effective pricing system would be possible. Still other economists believed, probably correctly, that the great dispute about the allocation of resources under socialism was mainly theoretical because in practice the key beneficial characteristics of the capitalist engine, such as innovation, probably could not be transferred to a socialist economy. Almost all of these disputants were European, although those who were still alive, such as F. A. Hayek, Michal Kalecki, Oskar R. Lange, and J. A. Schumpeter, were living in Britain or the United States because of Hitler and World War II. The amazing productivity and prosperity of the U.S. economy in World War II, combined with John Maynard Keynes’s quite extraordinary intellectual influence, sharply reduced my interest in socialism. World War II demonstrated that under some circumstances capitalism really could work, and Keynes and Keynesian disciples were arguing persuasively that, with some tinkering by economists, this success could become permanent. I was quite dazzled by Keynes’s suggested tinkering in his short 1940 book How to Pay for the War. It was in this frame of mind that in 1944 or 1945 I came upon A. P. Lerner’s book, The Economics of Control. Lerner’s goal in the book was to provide a blueprint for an efficient socialist economy using a market price system and Keynesian fiscal policies.[160]

While a discussion of Lerner’s The Economics of Control is beyond the scope of this paper, it is interesting to note that Russian communists had an indirect connection to London economists. The book The Nature of the Firm: Origins, Evolution, and Development, published in 1991 by Oliver E. Williamson and Sidney G. Winter, recounts an “interesting … anecdote that Coase relates concerning Abba Lerner’s visit “to Mexico to see Trotsky to persuade him that all would be well in a communist state if only it reproduced the results of a competitive system and prices were set equal to marginal cost.” Such was the state of economic thinking in the 1930s.”[161]

END

[1] Arthur C. Pigou, Socialism Versus Capitalism (1948) 136.

[2] Ronald H. Coase, The Nature of the Firm, 4 Economica 386 (1937); Richard A. Posner, Nobel Laureate: Ronald Coase and Methodology, 7 J. Econ. Persp. 195, 197 (1993).

[3] Ronald H. Coase, The Problem of Social Cost, 3 J.L. & Econ. 1 (1960).

[4] Fred Shapiro, The Most-Cited Law Review Articles, 73 Calif. L. Rev. 1540, 1540 (1985).

[5] https://www.nobelprize.org/prizes/economic-sciences/1991/coase/biographical/. When Alfred Nobel composed his renowned will in 1895, he did not include economics among the categories for the prizes he intended to endow. The original Nobel Prizes were designated for the natural sciences — Physics, Chemistry, and Physiology or Medicine — as well as two humanitarian fields: Literature and Peace. The Nobel Prize in Economics was not introduced until 1968. Officially titled the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, it was established by Sweden’s central bank. Although it is not one of the original Nobel Prizes, the award’s rigorous selection process has made it the most prestigious honor in the field of economics. This is reflected in the fact that the overwhelming majority of laureates have been leading scholars from prestigious American universities. Avner Offer, Gabriel Söderberg, The Nobel Factor: The Prize In Economics, Social Democracy, And The Market Turn (2016) 68 [“When founded in 1968, the Nobel Prize in economics was a delayed artefact of the quest to understand and control financial and business cycles in the twentieth century.”].

[6] Ronald H. Coase, The Firm, the Market and the Law (1988) 1.

[7] Deirdre McCloskey, Other Things Equal: The So-Called Coase Theorem, 24 E. Econ. J. 367, 368 (1998). However, in this case Professor Block replied: “A few comments about this. First, it is exceedingly unlikely that only a “corporal’s guard” of economists understand this distinction. … Second, if there is any corporal’s guard floating around, it is not the one cited by McCloskey. Rather, it consists of fewer than a half dozen economists who have rejected, in McCloskey’s terms, both the “Coase” theorem and the Coase theorem. I refer to those who have criticized both versions, but particularly the second one, without the quote marks, the one favored by McCloskey, as nothing less than a socialist attempt to undermine the institution of private property rights. That is because, in short, when the judge’s decision “does matter,” scholars in the Chicago tradition are calling for the judge to make himself into a socialist central planner.” Walter Block, Private Property Rights, Economic Freedom, and Professor Coase: A Critique of Friedman, McCloskey, Medema, and Zorn, 26 Harv. J. L. & Pub. Pol’y 923, 935-936 (2003).

[8] Coase, supra note 6, at 14.

[9] Coase, supra note 3, at 39.

[10] Id., at 39–40.

[11] Coase, supra note 6, at 15. One openly acknowledged utilization of Coase’s analysis is found in Elizabeth Hoffman & Matthew L. Spitzer, Willingness to Pay vs. Willingness to Accept: Legal and Economic Implications, 71 Wash. U. L. Q. 59, 63 (1993) [“Coase recognized that this result was not really his ‘Theorem,’ but a device for emphasizing the importance of transaction costs. Hence, those who attack Coase and his theorem are aiming at the wrong target. Nevertheless, because the term ‘Coase Theorem’ is widely accepted, this Article will utilize it. Professor Coase’s name will probably be linked to this prediction for many years.”].

[12] Ronald H. Coase, The Wealth of Nations, 15 Econ. Inquiry 309, 309 (1977) [Coase’s paper “is not like … a modern textbook with a few simple messages which, once absorbed, makes a rereading unnecessary.”]. Coase, supra note 3, at 39-40.

[13] Ronald H. Coase, Ning Wang, How China Became Capitalist (2012). Coase treats all factors of production as “rights,” which he defines as a right to perform certain activities — activities that are ultimately permitted or restricted by the government. Rather than clarifying Coase’s ambiguities, legal scholarship has often engaged in “little more than a vast mopping-up operation” to obscure, divert attention from, or cover up the underlying issues. Ronald H. Coase, Coase on Posner on Coase: Comment, 149 J. Inst. Theoret. Econ. 96, 96 (1993); Coase, supra note 12, at 312.

[14] Ronald H. Coase, Law and Economics and A. W. Brian Simpson, 25 J. Legal Stud. 103, 106 (1996). Here, Coase responds to Guido Calabresi’s cynical description of him with epithets like “young socialist named Ronald Coase” and “middle-aged libertarian” in Guido Calabresi, The Pointlessness of Pareto: Carrying Coase Further, 100 Yale L.J. 1211 (1991). In his 2016 book, Prof. Calabresi went as far as to claim that lawyers do economic analysis of law better than Coase. Guido Calabresi, The Future of Law and Economics: Essays in Reform and Recollection 11 (2016) [“Who, then, became the twentieth century’s major practitioners of Economic Analysis of Law and who of Law and Economics? The greatest example of the second was, of course, not a lawyer at all; it was Ronald Coase. … I will soon enough suggest why I think lawyer-economists are, on the whole, more suited to the job of doing Law and Economics than latter-day institutional economists.”]. A disciple is not above his teacher, nor a servant above his master.

[15] https://www.nobelprize.org/prizes/economic-sciences/1991/coase/lecture/.

[16] Coase, supra note 6, at 174.

[17] Supra note 15.

[18] Coase, supra note 3, at 29; Arthur C. Pigou, The Economics of Welfare (4^th ed. 1932) 104.

[19] Coase, supra note 3, at 29 [“Pigou goes on to say that if self-interest does promote economic welfare, it is because human institutions have been devised to make it so. (This part of Pigou’s argument, which he develops with the aid of a quotation from Cannan, seems to me to be essentially correct.)”].

[20] Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations (Edwin Cannan ed., 1937) 423.

[21] Adam Smith, The Theory of Moral Sentiments (2^nd ed. 1761) 273. It seems to me that, in this particular cited text, Smith argues that his system, driven by an invisible hand, is aimed at achieving the same result as would an equal distribution of the earth and its resources. The importance of wealth in consumer decision-making was emphasized by Coase in The Marginal Cost Controversy, where he identified it as the first problem to solve in order for the price mechanism to work smoothly. Ronald H. Coase, The Marginal Cost Controversy, 13 Economica 169 (1946). [“If it is decided to use a pricing system, there are two main problems that have to be solved. The first is how much money each individual consumer shall have-the problem of the optimum distribution of income and wealth. The second is, what is to be the system of prices in accordance with which goods and services are to be made available to consumers-the problem of the optimum system of prices. It is with the second of these problems that I am concerned in this article.”]. Another commentator, Stewart Schwab, argues in his 1989 publication that “[a] major argument against the invariance thesis relies on the wealth effects of legal entitlements. Whether parties trade initial legal entitlements depends, in Coase’s view, on whether the holder values an entitlement less highly than another user. But value depends on a person’s willingness and ability to pay for the entitlement, which in turn depends on a person’s wealth.” Stewart Schwab, Coase Defends Coase: Why Lawyers Listen and Economists Do Not, 87 Mich. L. Rev. 1171, 1178 (1989).

[22] Smith, supra note 20, at 423.

[23] Smith, supra note 21, at 143.

[24] William Blackstone, Commentaries on the Laws of England (Hardcastle Browne ed. 1897) 36.

[25] Coase, supra note 3, at 2.

[26] Lado Tchanturia, Commentary of Civil Code of Georgia (1999) 110-111; Lado Tchanturia, Commentary of Civil Code of Georgia (2018) 109; Supreme Court of Georgia, №9-378-05, 02/06/2005; Supreme Court of Georgia, №AS-218-909-03, 05/11/2003; Supreme Court of Georgia, №AS-815-763-2017, 11/01/2018.

[27] Giorgos Meramveliotakis, Reciprocity Principle and Private Property Rights in Land: Coasean World Is Neither Neoclassical Nor Capitalist (2023) 4 [“It is then at least intriguing that throughout his article, Coase never uses the term ‘property rights,’ nor does he make any explicit attempt to elucidate the meaning of the concept.”]. The author argues that “both the reciprocity principle and the bundle of use rights conception, when applied in the context of private property in land, particularly in cases of land trespass and invasion, undermine the centrality of exclusion rights to the institution of property, thus contradicting the very nature of rights over land property.” Giorgos Meramveliotakis, Reciprocity Principle and Private Property Rights in Land: Coasean World Is Neither Neoclassical Nor Capitalist (2023) 5. However, he stops short of calling Coase’s system socialist. See also Elodie Bertrand, Coase and Property Rights, in Encyclopedia of Law and Economics (Jürgen Backhaus ed., Springer 2015) [“Coase was more interested in how property rights are (or should be) allocated and exchanged than in the content or definition of these property rights. “The problem of social cost” uses the term “property right”, but in the examples on which the analysis is based, agents are “liable” or not, and the reciprocal situations of liability are not exactly symmetrical.”].

[28] Coase, supra note 3, at 29.  Pigou published Wealth and Welfare in 1912. The Economics of Welfare was published in 1920, and the 4^th edition that Coase references in his paper was published in 1932.

[29] Id.; Arthur C. Pigou, Welfare Economics (1920) 129-130.

[30] Coase, supra note 3, at 28.

[31] Arthur C. Pigou, Wealth and Welfare (1912) 3.

[32] Pigou reiterates in Wealth and Welfare, as well as in Welfare Economics that welfare includes state of consciousness only, and not material things or conditions. Id.; Pigou, supra note 29, at 10.

[33] Pigou, supra note 31, at 3–4; Edwin Cannan, Wealth: A Brief Explanation of the Causes of Economic Welfare (2^nd ed., 1918) 3–4.

[34] Coase, supra note 3, at 43.

[35] Pigou, supra note 29, at 11.

[36] Id.; Edwin Cannan, Wealth: A Brief Explanation of the Causes of Economic Welfare (1918) 17-18.

[37] Pigou, supra note 18, at 183.

[38] Pigou argues that social and private returns on investment may diverge due to variations in how resources such as labor, land, and capital are combined across different contexts. To facilitate comparison, he introduces the concept of a “unit” of investment — not as a fixed bundle of inputs, but as a cost-minimizing combination tailored to specific conditions. This abstraction enables the analysis of social and private returns without being constrained by the physical heterogeneity of individual investments. Id., at 172-173. Pigou’s concept of investment units resembles Coase’s bundle of rights in that both treat resources as variable combinations shaped by context, though Pigou emphasizes physical inputs while Coase emphasizes legal entitlements. Coase, supra note 3, at 44 [“We may speak of a person owning land and using it as a factor of production but what the land-owner in fact possesses is the right to carry out a circumscribed list of actions.”]. Coase’s analysis here is purely economic, as shown by his argument that the core essence of the property concept lies in the right to use, rather than in ownership of the physical object itself. He illustrates this by noting that “It is not even always possible for him to remove the land to another place, for instance, by quarrying it.” Id. By contrast, the owner of personal or movable goods can remove and transport them at will — a reflection of the ancient legal maxim mobilia sequuntur personam (movables follow the person).

[39] Pigou, supra note 18, at 174.

[40] Coase explains that “private product is the value of the additional product resulting from a particular activity of a business. The social product equals the private product minus the fall in the value of production elsewhere for which no compensation is paid by the business.” Coase, supra note 3, at 40.

[41] Id., at 29; Pigou, supra note 18, at 134 [“All such effects must be included — some of them positive, others negative elements — in reckoning the social product of the marginal increment of any volume of resources turned to any use or place.”].

[42] Fred S. McChesney, Coase, Demsetz, and the Unending Externality Debate, 26 Cato J. 179, 179 (2006). Regarding the ambiguity around the term “externality,” McChesney here indicates that “The term “externality” is used here with full recognition of economists’ imprecision as to what constitutes an “externality” in the first place. … Buchanan and Stubblebine specify a taxonomy by which an “externality” may be technological or pecuniary, marginal or inframarginal, Pareto-relevant or irrelevant.” Coase explains that the terms as used by Pigou, Samuelson and others represents shortened version of “external economies or diseconomies.” Coase, supra note 6, at 174.

[43] Coase, supra note 3, at 28; Pigou, supra note 18, at 183.

[44] Coase, supra note 3, at 38.

[45] Id., at 1.

[46] Pigou, supra note 18, at 129-130.

[47] Pigou, supra note 1. In Socialism Versus Capitalism, Pigou examines both systems without favoring one. He defines capitalism as based on private ownership and profit, while socialism relies on public or collective ownership and aims to meet common needs. Instead of judging them, he compares how each deals with issues like income distribution, motivation, efficiency, and unemployment. Capitalism can drive innovation but often leads to inequality and resource misallocation. Socialism may reduce inequality and avoid economic cycles, but it struggles with motivation and large-scale planning. Pigou concludes that the goal is not to choose one system completely, but to understand their trade-offs and explore combining their strengths for the public good. As demonstrated by the unfortunate realities of modern-day America, the absence of private motivation and entrepreneurial drive is the most devastating consequence of the Coasean revolution. It goes without saying that marketing CEOs in black turtlenecks and cheap Levi’s jeans, paired with fabricated stories about how the largest companies supposedly began in their founders’ grandmothers’ garages, cannot substitute for genuine human drive, which emerges from the complex analysis and processing of information carried out by billions of interconnected nerve endings throughout our bodies. True entrepreneurs, after all, cannot emerge from state-run, centrally planned economies.

[48] Abba Lerner, The Economics of Control (1944) 1.

[49] Coase, supra note 14, at 103–106; Calabresi, supra note 14, at 127.

[50] Coase, supra note 14, at 106.

[51] Coase, supra note 6, at 5–7; Calabresi, supra note 14, at 127.

[52] Coase, supra note 2.

[53] Id.; Steven G. Medema, Ronald H. Coase (1994) 3–4, 13–15.

[54] Medema, supra note 53, at 1-6.

[55] Steven G. Medema, Embracing at Arm’s Length: Ronald H. Coase’s Uneasy Relationship with the Chicago School, 72 Oxford Econ. Papers 1072, 1074 (2020).

[56] Id., at 1073.

[57] Medema, supra note 53, at 5-6.

[58] David M. Levy, Sandra J. Peart, Towards an Economics of Natural Equals: A Documentary History of the Early Virginia School (2020).

[59] William M. Landes, Dennis W. Carlton, Frank H. Easterbrook, On the Resignation of Ronald H. Coase, 26 J.L. & ECON. [iii] (1983).

[60] https://www.nobelprize.org/prizes/economic-sciences/1991/press-release/.

[61] Id.

[62] Ronald H. Coase, The Federal Communications Commission, 2 J.L. & Econ. 1 (1959).

[63] European Court of Human Rights, Rustavi 2 Broadcasting Company Ltd and Others v. Georgia, no. 16812/17, Judgment, 18 July 2019, final 9 December 2019.

[64] Coase, supra note 6, at 157.

[65] Landes, et al., supra note 59; Keith N. Hylton, Law and Economics Versus Economic Analysis of Law, 48 European Journal of Law and Economics 77 (2019). Prof. Calabresi, in his 2016 book, argues that his 1961 paper Guido Calabresi, Some Thoughts on Risk Distribution and the Law of Torts, 70 Yale L.J. 499 (1961), and Coase’s The Problem of Social Cost gave rise to a flourishing decade of law and economics. He calls Coase’s paper “greater,” but also claims that his “article did much that could be called Law and Economics.” However, he notes that he “did not spell out that causal symmetry as fully as Coase did,” and that “Coase’s explicit discussion of the internalization of externalities was missing from [his] piece.” Calabresi, supra note 14, at 181-182. This shortcoming may seem trivial when viewed from the perspective of torts and externalities, but it sounds gargantuan when considered from the perspective of property and social cost.

[66] Shapiro, supra note 4, at 1540.

[67] Id.

[68] Fred Shapiro, The Most-Cited Law Review Articles Revisited, 71 Chi.-Kent L. Rev. 751, 759 (1996).

[69] Fred Shapiro, Michelle Pearse, The Most-Cited Law Review Articles of All Time, 110 Mich. L. Rev. 1483 (2012). Shapiro’s work was not without its criticism, however.See, e.g., Richard A. Posner, William M. Landes, Heavily Cited Articles in Law, 71 Chi.-Kent L. Rev. 825 (1995). Among other things, Posner criticized Shapiro’s emphasis on law review articles rather than the authors themselves. Id., at 827. [“Someone who wrote two articles each of which had been cited two hundred times would not appear on Shapiro’s lists, even though he would almost certainly be a more considerable scholar than one who had written a single article in his entire career which had been cited two hundred and fifty times and therefore ranked 64^th on the list.”]. This criticism would perhaps be justified with respect to everyone except Coase, for without Coase, there would be no Posner as we know him within law and economics, and no field of law and economics at all. However, Posner did not necessarily claim that he had Coase in mind when writing these words. His criticism may instead be understood as a general structural argument against the methodology used by Shapiro.

[70] Coase, supra note 2.

[71] Coase, supra note 21.

[72] Coase, supra note 62.

[73] Ronald H. Coase, The Lighthouse in Economics, 17 Journal of Law and Economics 357 (1974).

[74] Philip Stern, The Company-State (2011) 3-15.

[75] Jason S. Smith, A Concise History of the New Deal (2014) 1-30; Robert S. McElvaine, The Depression and New Deal: A History in Documents (2000) 13-15.

[76] https://www.presidency.ucsb.edu/documents/inaugural-address-8.

[77] Milton Friedman, Anna Jacobson Schwartz, A Monetary History of the United States, 1867–1960 (1963) 420-492; Robert S. McElvaine, The Great Depression: America, 1929–1941 (1984); John Kenneth Galbraith, The Great Crash 1929 (1954).

[78] Alec Nove, The Soviet Economy Under Stalin (1970); Stephen Kotkin, Stalin: Volume 2: Waiting for Hitler, 1929–1941 (2017); Robert W. Davies, The First Five-Year Plan and the Geography of Soviet Industrialization (1990).

[79] Coase, supra note 2, at 388.

[80] Id., at 387.

[81] Id., at 386.

[82] Id., at 387.

[83] Coase, supra note 6, at 6. However, Pigou in his Welfare Economics also talks about “[t]he way in which the size of the national dividend will be affected by a reduction of the obstacles to the movement of productive resources that are set up by ignorance and costs of movement.” Pigou, supra note 18, at 144. This closely resembles Coase’s concept of transaction costs. In general, I find it very difficult to understand where economists — and especially political economists — get their ideas, as seemingly obvious similarities are often presented as groundbreaking insights. Therefore, there does not seem to be much point in going deeper into the rabbit hole of their theoretical justifications, which often obscure more than they explain.

[84] Brett M. Frischmann & Christiaan Hogendorn, The Marginal Cost Controversy, 29 J. ECON. PERSPS. 193 (2015).

[85] Coase, supra note 21, at 178.

[86] Medema, supra note 53, at 1-6.

[87] Coase, supra note 21, at 178.

[88] James E. Meade, John M. Fleming, Price and Output Policy of State Enterprise, 54 Econ. J. 321, 328 (1944); Coase, supra note 21, at 169; Marcus Fleming, Production and Price Policy in Public Enterprise, 17 Economica 1 (1950); Brett M. Frischmann, Christiaan Hogendorn, Retrospectives: The Marginal Cost Controversy, 29 J. Econ. Persp. 193 (2015).

[89] Coase, supra note 6, at 18.

[90] Coase, supra note 21, at 170.

[91] Coase, supra note 21, at 174.

[92] One major field of development that has been presented to legal audiences as a challenge to Coase is behavioral economics and the theories it offers to explain human decision-making. One such theory is the “endowment effect.” The endowment effect refers to the phenomenon in which individuals assign greater value to goods they own than to identical goods they do not own. In other words, “[t]he “endowment effect” arises because the price many people are willing to pay for a particular entitlement may be significantly less than the price they are willing to accept in order to give up the same entitlement.” Herbert Hovenkamp, Legal Policy and the Endowment Effect, 20 J. Legal Stud. 225, 225 (1991). The endowment effect is often interpreted as a challenge to Coase because it suggests that the Coase Theorem does not accurately predict the exchange of goods. For example, the most cited article on HeinOnline referencing Coase’s The Problem of Social Cost is Christine Jolls, Cass R. Sunstein & Richard Thaler, A Behavioral Approach to Law and Economics, 50 Stan. L. Rev. 1471 (1998) (cited by 1,449 articles and 4 cases). It begins with the assertion that “[o]bjections to the rational actor model in law and economics are almost as old as the field itself.” Here authors cite Mark Kelman, Consumption Theory, Production Theory, and Ideology in the Coase Theorem, 52 S. Cal. L. Rev. 669 (1979). However, Coase was never a proponent of the “rational actor model” or of utilitarianism, and his analysis in The Problem of Social Cost is unrelated to assumptions about rationality in decision-making. He argued: “There is no reason to suppose that most human beings are engaged in maximizing anything unless it be unhappiness, and even this with incomplete success.” Coase, supra note 6, at 4. In their paper, Jolls, Sunstein, and Thaler analyze an experiment partially organized by one of the authors, Richard Thaler, which purportedly evaluates the predictive accuracy of the Coase Theorem. The experiment involved 44 students, who participated in a simulated marketplace, where they were initially “endowed” with tokens to trade among each other. The authors report that the results of this initial trade aligned with Coase’s predictions — approximately a 50/50 distribution. However, when the tokens were replaced with Cornell coffee mugs, the results diverged significantly from Coasean predictions. The authors observed: “Markets were conducted and mugs bought and sold. Unlike the case of the tokens, the assignment of property rights had a pronounced effect on the final allocation of mugs. The students who were assigned mugs had a strong tendency to keep them. Whereas the Coase Theorem would have predicted that about half the mugs would trade (since transaction costs had been shown to be essentially zero in the token experiments, and mugs were randomly distributed), instead only fifteen percent of the mugs traded.” Jolls, Sunstein & Thaler, supra, at 1484. But the introduction of Cornell mugs, replacing tokens, is equivalent to introducing “social costs,” which altered the flow of resources, as Coase would predict. We can hypothesize that if the mugs carried different intangible value — for instance, if they came from a more prestigious university or were signed by a famous professor — the experimental results might differ. For example, if the mugs were stamped with the logo of the University of Illinois Urbana-Champaign, they might even have been stolen altogether. More importantly, Coase discussed the system in which the allocation of resources is presumably at its most efficient, beyond which no further improvement is possible. How people make decisions within this system is, of course, a subject worthy of detailed study — not to replace Coase, but rather to help fulfill the Coasean economic framework more effectively. For instance, Coase explains the movement of goods in the economy through the concept of transaction costs, which, if high enough, can halt the movement of goods or even reverse their flow. Thus, understanding the factors that affect transaction costs can be highly beneficial in influencing resource allocation without resorting to direct expropriation.

[93] When government dictates initial value-creation, and deference to this judgment becomes necessity. Thomas W. Merrill, The Story of Chevron: The Making of an Accidental Landmark, 66 ADMIN. L. REV. 253 (2014).

[94] Coase, supra note 62.

[95] Coase, supra note 3, at 1.

[96] Coase’s publications before 1959 include: Price and Output Policy of State Enterprise: A Comment, 55 Economic Journal 112 (1945); B.B.C. Enquiry? 176 Spectator 446–447 (1946); The Origin of the Monopoly of Broadcasting in Great Britain, 14 Economica 189–210 (1947); Wire Broadcasting in Great Britain, 15 Economica 194–220 (1948); The Nationalization of Electricity Supply in Great Britain, 26 Land Economics 1–16 (1950); The Development of the British Television Service, 30 Land Economics 207–222 (1954); and The Postal Monopoly in Great Britain: An Historical Survey, in Economic Essays in Commemoration of the Dundee School of Economics, 1931–1955 (1955).

[97] Jonathan Blake, FCC Licensing: From Comparative Hearings to Auctions, 47 Fed. Comm. L.J. 277 (1994).

[98] Thomas W. Hazlett, Assigning Property Rights to Radio Spectrum Users: Why Did FCC License Auctions Take 67 Years, 41 J.L. & Econ. 529, 530-532 (1998).

[99] FCC Report to Congress on Spectrum Auctions (1997) 7.

[100] Teresa Riordan, F.C.C.’s Auction Draws Rich Bids, New York Times, July 26, 1994 [http://www.nytimes.com/1994/07/26/business/fcc-s-auction-draws-rich-bids.html].

[101] Coase, supra note 62, at 2.

[102] Id.

[103] Id., at 1-12.

[104] Id., at 19.

[105] National Broadcasting Co. v. United States, 319 U.S. 190 (1943).

[106] Coase, supra note 62, at 20.

[107] Some commentators argue that the contestability of property rights, where parties incur rent-seeking costs to secure ownership, reduces the efficiency of Coasean bargaining. The presence of asymmetric bargaining costs further diminishes efficiency, as property-rights holders who invest more in securing rights may claim larger shares of the surplus, which will make efficient outcomes less likely. Lana Friesen, Ian A. MacKenzie, Mai Phuong Nguyen, Initially Contestable Property Rights and Coase: Evidence from the Lab, 120 J. ENV’T ECON. & MGMT. 102842 (2023).

[108] Coase, supra note 6, at 157.

[109] Kirsten Foss, Nicolai Foss, Coasian and Modern Property Rights Economics, 11 J. INST. ECON. 391 (2015)

[110] Coase, supra note 6, at 11.

[111] Coase, supra note 3, at 40.

[112] Id.

[113] One commentator even suggests that the substantive evaluation of Coase’s analysis goes beyond the lawyers’ agenda: “Perhaps some of the attraction of Coase’s ideas may be explained by ideology. This is a disturbing view of scholarship, but one to which lawyers in particular are accustomed. A lawyer or legal scholar has an agenda, often a normative one, and may use whatever tools are helpful in advancing that agenda. So, if Coase’s ideas further lawyers’ agendas, they may be attractive to lawyers for that reason alone. Undeniably, ideas are sometimes accepted or rejected because of their political content. But a general warning about political explanations may be appropriate at the outset. This explanation for an idea’s attraction is perhaps too powerful, precisely because both acceptance and rejection can be termed political.” Schwab, supra note 21, at 1194-1195. Whatever ‘agenda’ the author may be referring to in this text, it cannot be the ‘agenda’ of promoting rigorous academic inquiry in the never-ending search for truth, as there is no reason to assume that challenging the ideological foundations of Coase’s analysis is always necessarily at odds with that goal.

[114] Coase, supra note 6, at 213; Ambrose Bierce, Devil’s Dictionary (1935) 193.

[115] Coase, supra note 6, at 14; George J. Stigler, The Law and Economics of Public Policy: A Plea to the Scholars, 1 J. Legal Stud. 1, 11-12 (1972); George J. Stigler, Memoirs of an Unregulated Economist (1985) 76-77 [“I christened the proposition the ‘Coase Theorem’ and that is how it is known today. Scientific theories are hardly ever named after their first discoverers (more on this later), so this is a rare example of correct attribution of a priority.”]. In his autobiography, Stigler recalls that after the publication of the FCC paper in 1959, there was a meeting of around twenty economists from the University of Chicago, at the house of Aaron Director, the brother-in-law of Milton Friedman and the founder of the Journal of Law and Economics at the University of Chicago Law School, to discuss the Coase Theorem. Stigler recalls what their objection was about: “Ronald asked us also to believe a second proposition about this world without transaction costs: Whatever the assignment of legal liability for damages, or whatever the assignment of legal rights of ownership, the assignments would have no effect upon the way economic resources would be used! We strongly objected to this heresy.” Id., at 76. This is confirmed by Coase in The Problem of Social Cost, but somewhat differently. There, in footnote 1, Coase claims that after the FCC publication, colleagues from the University of Chicago “suggest[ed] that it would be desirable to deal with the question in a more explicit way and without reference to the original problem for the solution of which the analysis was developed.” Coase, supra note 3, at 1.

[116] Coase, supra note 3, at 1.

[117] Id., at 2.

[118] One of the sad facts about Coase is that his theorem “must have been largely the product of an oral tradition.” Id., at 39. There are many versions of the theorem, and its interpretation is often compared to “interpreting a work of modern art.” Steven G. Medema, The Coase Theorem at Sixty, 58 J. ECON. LITERATURE 1045, 1071 (2020). See also the ‘oversimplified’ and ‘positive’ Coase Theorem in Robert P. Merges, Richard R. Nelson, On the Complex Economics of Patent Scope, 90 COLUM. L. REV. 839, 876 (1990), Robert Cooter, Thomas Ulen, Law and Economics (1988) 105.

[119] Ian Kumekawa, The First Serious Optimist: A. C. Pigou and the Birth of Welfare Economics (2017) 208.

[120] Coase, supra note 3, at 39.

[121] Coase, supra note 6, at 22.

[122] Id., at 22-23. However, “[w]hen he died in 1959, Robinson described him in the Times as ‘the outstanding economist of his generation.’” Kumekawa, supra note 119, at 2.

[123] Ronald H. Coase, The Appointment of Pigou as Marshall’s Successor, 15 J. L. & Econ. 473 (1972).

[124] Id., at 474.

[125] Id., at 475.

[126] Id., at 477.

[127] Legal scholarship mainly concentrates on challenging Coase’s assumptions, through external and internal criticism, but none challenge his system as socialist. Robin Hahnel & Kristen A. Sheeran, Misinterpreting the Coase Theorem, 43 J. ECON. ISSUES 215 (2009).

[128] Coase, supra note 3, at 2.

[129] As Coase writes in his criticism of Pigou, “[s]ince Pigou’s conclusion is that improvements could be made, one might have expected him to continue by saying that he proposed to set out the changes required to bring them about.” Id., at 28. Coase himself makes a similar mistake.

[130] Id., at 39. Coase appears to misunderstand Pigou’s categorization of divergences, yet he accuses Pigou of conflating different types of divergences — as if implying that supposed confusion was deliberate. Id., at 34-35. He later writes that the idea of parties’ transacting to maximize value production may come from Edgeworth’s “contract curve.” The idea is “that two individuals engaged in exchanging goods would end on the “contract curve” because, if they did not, there would remain positions to which they could move by exchange which would make both of them better off.” Coase, supra note 6, at 160; Francis Y. Edgeworth, Mathematical Psychics: An Essay on the Application of Mathematics to the Moral Sciences (1881) 21-27. See also William S. Jevons, The Theory of Political Economy (2^nd ed. 1879) 103-110.

[131] Coase, supra note 3, at 34.

[132] Id., at 29.

[133] Id., at 34.

[134] Id., at 42.

[135] Id.

[136] Id., at 44.

[137] Id.

[138] Id.

[139] Supra note 60 [“In perhaps somewhat pretentious terminology, Coase may be said to have identified a new set of “elementary particles” in the economic system.”].

[140] Coase, supra note 6, at 14–15. Cheung discusses the question of transforming China into a capitalist state. Steven N. S. Cheung, Will China Go Capitalist? (1986) 37. In 2012, Coase also published the book on the topic of China. Coase, supra note 13.

[141] Coase, supra note 3, at 44.

[142] Id., at 17.

[143] Id.

[144] Id., at 26.

[145] Id., at 17.

[146] Id., at 16.

[147] Id., at 17.

[148] Id., at 43.

[149] Stigler, supra note 115, at 77-78.

[150] Horace Walpole, Historic Doubts on the Life and Reign of King Richard the Third (2^nd ed. 1768) III.

[151] Coase, supra note 62, at 15. https://www.isba.org/barnews/2011/08/11/leo-herzel-1923-2011.

[152] Leo Herzel, Public Interest and the Market in Color Television Regulation, 18 U. CHI. L. REV. 802 (1951).

[153] Id., at 811; Coase, supra note 62, at 15.

[154] Leo Herzel, My 1951 Color Television Article, 41 J.L. & ECON. S2, 525 (1998).

[155]  Coase, supra note 62, at 15; Dallas W. Smythe, Facing Facts about the Broadcast Business, 20 U. Chi. L. Rev. 96 (1952).

[156]  Herzel, supra note 154.

[157]  Id., at 524.

[158] Herzel, supra note 152, at 811.

[159] Herzel, supra note 154, at 526.

[160] Id., at 523-524.

[161] Oliver E. Williamson, Sidney G. Winter, The Nature of the Firm: Origins, Evolution, and Development (1991) 5.