Ronald Coase
Encyclopedia
Ronald Harry Coase (ˈkoʊs; born 29 December 1910) is a British
-born, American-based economist
and the Clifton R. Musser Professor Emeritus of Economics at the University of Chicago Law School
. After studying with the University of London External Programme
in 1927–29, Coase entered the London School of Economics
, where he took courses with Arnold Plant
. He received the Nobel Memorial Prize in Economics in 1991.
Coase is best known for two articles in particular: "The Nature of the Firm
" (1937), which introduces the concept of transaction cost
s to explain the nature and limits of firms
, and "The Problem of Social Cost
" (1960), which suggests that well-defined property rights
could overcome the problems of externalities (see Coase Theorem
). Coase is also often referred to as the "father" of reform in the policy for allocation of the electromagnetic spectrum
, based on his article "The Federal Communications Commission" (1959), where he criticizes spectrum licensing, suggesting property rights as a more efficient method of allocating spectrum to users. Additionally, Coase's transaction costs approach is currently influential in modern organizational economics, where it was reintroduced by Oliver E. Williamson
.
, a suburb of London, on 29 December 1910. His father was a telegraphist
for the post office, as was his mother before marriage. As a child, Coase had a weakness in his legs, for which he was required to wear leg-irons. Due to this problem, he attended the school for physical defects. At the age of 12, he was able to enter the Kilburn Grammar School on scholarship. At Kilburn, Coase completed the first year of his B.Comm degree and then passed on to the University of London
. Coase married Marion Ruth Hartung of Chicago, Illinois in Willesden, England, August 7, 1937.
Coase attended the London School of Economics
, where he received a bachelor of commerce degree in 1932. He started work at the University of Buffalo and became an American citizen after moving to the United States in the 1940s. In 1958, he moved to the University of Virginia
. Coase settled at the University of Chicago
in 1964 and became the editor of the Journal of Law and Economics. He received the Nobel Prize in Economics in 1991.
As his 100th birthday approached, Coase was working on a book concerning the rise of the economies of China and Vietnam. An interview with Coase was conducted by Wang Ning (co-author of the book How China Became Capitalist) December 28–29, 2010, in Chicago. In the interview, Coase explained the mission of the Coase China Society and his vision of economics and the part to be played by Chinese economists.
, instead of consisting exclusively of a multitude of independent, self-employed people who contract
with one another. Given that "production could be carried on without any organization [that is, firms] at all", Coase asks, why and under what conditions should we expect firms to emerge?
Since modern firms can only emerge when an entrepreneur
of some sort begins to hire people, Coase's analysis proceeds by considering the conditions under which it makes sense for an entrepreneur to seek hired help instead of contracting out for some particular task.
The traditional economic theory of the time suggested that, because the market is "efficient" (that is, those who are best at providing each good or service most cheaply are already doing so), it should always be cheaper to contract out than to hire.
Coase noted, however, that there are a number of transaction cost
s to using the market; the cost of obtaining a good or service via the market is actually more than just the price of the good. Other costs, including search and information costs, bargaining costs, keeping trade secret
s, and policing and enforcement costs, can all potentially add to the cost of procuring something with a firm. This suggests that firms will arise when they can arrange to produce what they need internally and somehow avoid these costs.
There is a natural limit to what can be produced internally, however. Coase notices a "decreasing returns to the entrepreneur function", including increasing overhead costs and increasing propensity for an overwhelmed manager to make mistakes in resource allocation. This is a countervailing cost to the use of the firm.
Coase argues that the size of a firm (as measured by how many contractual relations are "internal" to the firm and how many "external") is a result of finding an optimal balance between the competing tendencies of the costs outlined above. In general, making the firm larger will initially be advantageous, but the decreasing returns indicated above will eventually kick in, preventing the firm from growing indefinitely.
Other things being equal, therefore, a firm will tend to be larger:
The first two costs will increase with the spatial distribution of the transactions organized and the dissimilarity of the transactions. This explains why firms tend to either be in different geographic locations or to perform different functions. Additionally, technology changes that mitigate the cost of organizing transactions across space will cause firms to be larger—the advent of the telephone and cheap air travel, for example, would be expected to increase the size of firms.
Coase does not consider non-contractual relationships, as between friends or family.
, "The Problem of Social Cost" provided the key insight that it is unclear where the blame for externalities lies. The example he gave was of a rancher whose cattle stray onto the cropland of his neighbour. If the rancher is made to restrict his cattle, he is harmed just as the farmer is if the cattle remain unrestrained.
Coase argued that without transaction costs it is economically irrelevant who is assigned initial property rights; the rancher and farmer will work out an agreement about whether to restrict the cattle or not based on the economic efficiency of doing so. Property rights allocation will hence matter only in determining distribution, not efficiency.
With sufficient transaction costs however, initial property rights will have a non-trivial effect. From the point of view of economic efficiency, property rights should be assigned such that the owner of the rights wants to take the economically efficient action. To elaborate, if it is efficient not to restrict the cattle, the rancher should be given the rights (so that cattle can move about freely), whereas if it is efficient to restrict the cattle, the farmer should be given the rights over the movement of the cattle (so the cattle are restricted).
This seminal argument forms the basis of the famous Coase Theorem
as labeled by George Stigler
.
: an informal argument that durable-goods monopolists do not have market power because they are unable to commit to not lowering their prices in future periods.
United Kingdom
The United Kingdom of Great Britain and Northern IrelandIn the United Kingdom and Dependencies, other languages have been officially recognised as legitimate autochthonous languages under the European Charter for Regional or Minority Languages...
-born, American-based economist
Economist
An economist is a professional in the social science discipline of economics. The individual may also study, develop, and apply theories and concepts from economics and write about economic policy...
and the Clifton R. Musser Professor Emeritus of Economics at the University of Chicago Law School
University of Chicago Law School
The University of Chicago Law School was founded in 1902 as the graduate school of law at the University of Chicago and is among the most prestigious and selective law schools in the world. The U.S. News & World Report currently ranks it fifth among U.S...
. After studying with the University of London External Programme
University of London External Programme
The University of London International Programmes is a division of the University of London that manages external study programmes.Several colleges and institutes of the University of London offer degrees through the programme, including Birkbeck, Goldsmiths, Heythrop College, Institute of...
in 1927–29, Coase entered the London School of Economics
London School of Economics
The London School of Economics and Political Science is a public research university specialised in the social sciences located in London, United Kingdom, and a constituent college of the federal University of London...
, where he took courses with Arnold Plant
Arnold Plant
Sir Arnold Plant was a British economist.Plant was born in Hoxton, London, the son of a municipal librarian.After attending Strand School, he worked for a mechanical engineering organisation....
. He received the Nobel Memorial Prize in Economics in 1991.
Coase is best known for two articles in particular: "The Nature of the Firm
The Nature of the Firm
The Nature of the Firm 4 Economica 386–405, is an influential article by Ronald Coase. It offered an economic explanation of why individuals choose to form partnerships, companies and other business entities rather than trading bilaterally through contracts on a market.-Summary:Given that...
" (1937), which introduces the concept of transaction cost
Transaction cost
In economics and related disciplines, a transaction cost is a cost incurred in making an economic exchange . For example, most people, when buying or selling a stock, must pay a commission to their broker; that commission is a transaction cost of doing the stock deal...
s to explain the nature and limits of firms
Corporation
A corporation is created under the laws of a state as a separate legal entity that has privileges and liabilities that are distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business. Early corporations were established by charter...
, and "The Problem of Social Cost
The Problem of Social Cost
The Problem of Social Cost by Ronald Coase is an article dealing with economic problem of externalities. It draws from a number of English legal cases and statutes to illustrate Coase's belief that legal rules are only justified by reference to a cost benefit analysis, and that nuisances that are...
" (1960), which suggests that well-defined property rights
Property
Property is any physical or intangible entity that is owned by a person or jointly by a group of people or a legal entity like a corporation...
could overcome the problems of externalities (see Coase Theorem
Coase theorem
In law and economics, the Coase theorem , attributed to Ronald Coase, describes the economic efficiency of an economic allocation or outcome in the presence of externalities. The theorem states that if trade in an externality is possible and there are no transaction costs, bargaining will lead to...
). Coase is also often referred to as the "father" of reform in the policy for allocation of the electromagnetic spectrum
Broadcast license
A broadcast license or broadcast license is a specific type of spectrum license that grants the licensee the privilege to use a portion of the radio frequency spectrum in a given geographical area for broadcasting purposes. The licenses are generally straddled with additional restrictions that...
, based on his article "The Federal Communications Commission" (1959), where he criticizes spectrum licensing, suggesting property rights as a more efficient method of allocating spectrum to users. Additionally, Coase's transaction costs approach is currently influential in modern organizational economics, where it was reintroduced by Oliver E. Williamson
Oliver E. Williamson
Oliver Eaton Williamson is an American economist, professor at the University of California, Berkeley and recipient of the Nobel Memorial Prize in Economic Sciences....
.
Biography
Ronald Harry Coase was born in WillesdenWillesden
Willesden is an area in North West London which forms part of the London Borough of Brent. It is situated 5 miles north west of Charing Cross...
, a suburb of London, on 29 December 1910. His father was a telegraphist
Telegraphist
Telegraphist is an operator who uses the morse code in order to communicate by land or radio lines. Telegraphists were indispensable at sea in the early day of Wireless Telegraphy. During the Great War the Royal Navy enlisted many volunteers as Telegraphists. Telegraphists are also called Telegraph...
for the post office, as was his mother before marriage. As a child, Coase had a weakness in his legs, for which he was required to wear leg-irons. Due to this problem, he attended the school for physical defects. At the age of 12, he was able to enter the Kilburn Grammar School on scholarship. At Kilburn, Coase completed the first year of his B.Comm degree and then passed on to the University of London
University of London
-20th century:Shortly after 6 Burlington Gardens was vacated, the University went through a period of rapid expansion. Bedford College, Royal Holloway and the London School of Economics all joined in 1900, Regent's Park College, which had affiliated in 1841 became an official divinity school of the...
. Coase married Marion Ruth Hartung of Chicago, Illinois in Willesden, England, August 7, 1937.
Coase attended the London School of Economics
London School of Economics
The London School of Economics and Political Science is a public research university specialised in the social sciences located in London, United Kingdom, and a constituent college of the federal University of London...
, where he received a bachelor of commerce degree in 1932. He started work at the University of Buffalo and became an American citizen after moving to the United States in the 1940s. In 1958, he moved to the University of Virginia
University of Virginia
The University of Virginia is a public research university located in Charlottesville, Virginia, United States, founded by Thomas Jefferson...
. Coase settled at the University of Chicago
University of Chicago
The University of Chicago is a private research university in Chicago, Illinois, USA. It was founded by the American Baptist Education Society with a donation from oil magnate and philanthropist John D. Rockefeller and incorporated in 1890...
in 1964 and became the editor of the Journal of Law and Economics. He received the Nobel Prize in Economics in 1991.
As his 100th birthday approached, Coase was working on a book concerning the rise of the economies of China and Vietnam. An interview with Coase was conducted by Wang Ning (co-author of the book How China Became Capitalist) December 28–29, 2010, in Chicago. In the interview, Coase explained the mission of the Coase China Society and his vision of economics and the part to be played by Chinese economists.
The Nature of the Firm
The Nature of the Firm was a brief but highly influential essay in which Coase tries to explain why the economy is populated by a number of business firmsCorporation
A corporation is created under the laws of a state as a separate legal entity that has privileges and liabilities that are distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business. Early corporations were established by charter...
, instead of consisting exclusively of a multitude of independent, self-employed people who contract
Contract
A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...
with one another. Given that "production could be carried on without any organization [that is, firms] at all", Coase asks, why and under what conditions should we expect firms to emerge?
Since modern firms can only emerge when an entrepreneur
Entrepreneur
An entrepreneur is an owner or manager of a business enterprise who makes money through risk and initiative.The term was originally a loanword from French and was first defined by the Irish-French economist Richard Cantillon. Entrepreneur in English is a term applied to a person who is willing to...
of some sort begins to hire people, Coase's analysis proceeds by considering the conditions under which it makes sense for an entrepreneur to seek hired help instead of contracting out for some particular task.
The traditional economic theory of the time suggested that, because the market is "efficient" (that is, those who are best at providing each good or service most cheaply are already doing so), it should always be cheaper to contract out than to hire.
Coase noted, however, that there are a number of transaction cost
Transaction cost
In economics and related disciplines, a transaction cost is a cost incurred in making an economic exchange . For example, most people, when buying or selling a stock, must pay a commission to their broker; that commission is a transaction cost of doing the stock deal...
s to using the market; the cost of obtaining a good or service via the market is actually more than just the price of the good. Other costs, including search and information costs, bargaining costs, keeping trade secret
Trade secret
A trade secret is a formula, practice, process, design, instrument, pattern, or compilation of information which is not generally known or reasonably ascertainable, by which a business can obtain an economic advantage over competitors or customers...
s, and policing and enforcement costs, can all potentially add to the cost of procuring something with a firm. This suggests that firms will arise when they can arrange to produce what they need internally and somehow avoid these costs.
There is a natural limit to what can be produced internally, however. Coase notices a "decreasing returns to the entrepreneur function", including increasing overhead costs and increasing propensity for an overwhelmed manager to make mistakes in resource allocation. This is a countervailing cost to the use of the firm.
Coase argues that the size of a firm (as measured by how many contractual relations are "internal" to the firm and how many "external") is a result of finding an optimal balance between the competing tendencies of the costs outlined above. In general, making the firm larger will initially be advantageous, but the decreasing returns indicated above will eventually kick in, preventing the firm from growing indefinitely.
Other things being equal, therefore, a firm will tend to be larger:
- the lower the costs of organizing and the slower these costs rise with an increase in the number of transactions organized.
- the less likely the entrepreneur is to make mistakes and the smaller the increase in mistakes with an increase in the transactions organized.
- the greater the lowering (or the less the rise) in the supply price of factors of production to firms of larger size.
The first two costs will increase with the spatial distribution of the transactions organized and the dissimilarity of the transactions. This explains why firms tend to either be in different geographic locations or to perform different functions. Additionally, technology changes that mitigate the cost of organizing transactions across space will cause firms to be larger—the advent of the telephone and cheap air travel, for example, would be expected to increase the size of firms.
Coase does not consider non-contractual relationships, as between friends or family.
The Problem of Social Cost
Published in the Journal of Law and Economics in 1960, while Coase was a member of the Economics department at the University of VirginiaUniversity of Virginia
The University of Virginia is a public research university located in Charlottesville, Virginia, United States, founded by Thomas Jefferson...
, "The Problem of Social Cost" provided the key insight that it is unclear where the blame for externalities lies. The example he gave was of a rancher whose cattle stray onto the cropland of his neighbour. If the rancher is made to restrict his cattle, he is harmed just as the farmer is if the cattle remain unrestrained.
Coase argued that without transaction costs it is economically irrelevant who is assigned initial property rights; the rancher and farmer will work out an agreement about whether to restrict the cattle or not based on the economic efficiency of doing so. Property rights allocation will hence matter only in determining distribution, not efficiency.
With sufficient transaction costs however, initial property rights will have a non-trivial effect. From the point of view of economic efficiency, property rights should be assigned such that the owner of the rights wants to take the economically efficient action. To elaborate, if it is efficient not to restrict the cattle, the rancher should be given the rights (so that cattle can move about freely), whereas if it is efficient to restrict the cattle, the farmer should be given the rights over the movement of the cattle (so the cattle are restricted).
This seminal argument forms the basis of the famous Coase Theorem
Coase theorem
In law and economics, the Coase theorem , attributed to Ronald Coase, describes the economic efficiency of an economic allocation or outcome in the presence of externalities. The theorem states that if trade in an externality is possible and there are no transaction costs, bargaining will lead to...
as labeled by George Stigler
George Stigler
George Joseph Stigler was a U.S. economist. He won the Nobel Memorial Prize in Economic Sciences in 1982, and was a key leader of the Chicago School of Economics, along with his close friend Milton Friedman....
.
Coase Conjecture
Another important contribution of Coase is the Coase ConjectureCoase Conjecture
The Coase conjecture, developed first by Ronald Coase, is an argument in monopoly theory. The conjecture sets up a situation in which a monopolist sells a durable good to a market where resale is impossible and faces consumers who all have different valuations...
: an informal argument that durable-goods monopolists do not have market power because they are unable to commit to not lowering their prices in future periods.
Critics
Some scholars have looked at Coase's work through the lens of its relevance in time. In particular, scholar Patrick Ryan pointed out that "although Coase made one of the world’s leading economic arguments on transaction costs, there is evidence of a massive crack in the Coasian spectrum theory." Ryan points to later statements by Coase that indicate that his spectrum theories were couched in a time that did not have the technology to consider the impact of digital switching on spectrum efficiency.The Ronald Coase Institute
Coase is research advisor to the Ronald Coase Institute, an organization that promotes research on the institutions - the laws, rules, customs, and norms - that govern real economic systems, with particular support for young scholars from developing and transitional countries.Quotations
Coase coined the well known, but often misquoted adage "If you torture the data long enough, it will confess."Publications
.. (Nobel Prize lecture)See also
- Theory of the firmTheory of the firmThe theory of the firm consists of a number of economic theories that describe the nature of the firm, company, or corporation, including its existence, behavior, structure, and relationship to the market.-Overview:...
- Coase theoremCoase theoremIn law and economics, the Coase theorem , attributed to Ronald Coase, describes the economic efficiency of an economic allocation or outcome in the presence of externalities. The theorem states that if trade in an externality is possible and there are no transaction costs, bargaining will lead to...
- Merger
- Horizontal integrationHorizontal integrationIn microeconomics and strategic management, the term horizontal integration describes a type of ownership and control. It is a strategy used by a business or corporation that seeks to sell a type of product in numerous markets...
- Vertical integrationVertical integrationIn microeconomics and management, the term vertical integration describes a style of management control. Vertically integrated companies in a supply chain are united through a common owner. Usually each member of the supply chain produces a different product or service, and the products combine to...
- PartnershipPartnershipA partnership is an arrangement where parties agree to cooperate to advance their mutual interests.Since humans are social beings, partnerships between individuals, businesses, interest-based organizations, schools, governments, and varied combinations thereof, have always been and remain commonplace...
- List of think tanks
External links
- A video of Prof. Coase talking about law and economics
- Biography at the Nobel site
- Biography at EconLib
- Wireless Communications and Computing at a Crossroads, Journal on Telecommunications & High Technology Law, Vol. 3, No. 2, p. 239, 205 (describing some of Ronald Coase's theories as they apply to wireless communications and providing several footnotes for further research).
- Coase Institute
- "Looking for Results", interview in ReasonReason (magazine)Reason is a libertarian monthly magazine published by the Reason Foundation. The magazine has a circulation of around 60,000 and was named one of the 50 best magazines in 2003 and 2004 by the Chicago Tribune.- History :...
by Thomas W. Hazlett - 2003 Coase Centennial Speech delivered by Coase (500MB QuickTime file, recommend downloading video before watching)
- http://www.economist.com/node/17730360?story_id=17730360&CFID=157315775&CFTOKEN=39244204, article in The Economist magazine, December 18 thru 31st, 2010.