Wednesday, March 11, 2015

Why "Uncompensated" Externalities?

If you've not done so lately, please turn your attention to the sidebar. Condition (4): no uncompensated externalities [emphasis added]. Why "uncompensated?" Why not just "externalities?" Why is it I get all a-fluster reading this here IGM forum (question (A))?
Question A: Declining to be vaccinated against contagious diseases such as measles imposes costs on other people, which is a negative externality.
Why is it that in the responses, I am puzzled by respondents' failure to note the omission? Could it be that the sort of detailed parsing of externalities that is commonplace in the New Institutional Economics tradition is absent elsewhere? If so, please indulge me a quick tour of how I like to think about externalities. Here's my general typology:

  1. Compensated externalities. Adam injures, annoys, pesters, or tramples Brad. Adam makes it up to Brad through word, deed, or cash. Brad is satisfied.
  2. Uncompensated externalities. Chuck sullies, soils, or sabotages Denny's. Chuck does not fix his ruin, clean his mess, or repair his damage. Denny's is not satisfied.
  3. Uncompensatable externalities. Erick devastates, vexes, or bugs Frank. Erick cannot, because of (i.a.) difficulties of organization, identification, liquidity, or mortality, make like the Puck and restore amends. Frank is not only unsatisfied, but has little hope of redress via tort action.
(1) is the cartoon version of the Coase Theorem: everyone can play nice because we all have nicely-defined property rights, clear and unambiguous participants, and obvious harms. Because of this, there's no need to pester the sovereign over injuries. Reasonable, rational adults can settle disputes without state arbitration. 

(2) is a problem, but it's a problem that can be fixed. Indeed, this is exactly why we have a civil law system and why people like Judges Judy, Wapner, and Joe Brown have such entertaining television programs. Some people crap on the floor at Arby's and don't clean up after themselves. I'm sorry to say that this is a simple fact of life. Some people are jerks. Alternatively, they're just normal and they are unaware that their actions offend their neighbors. Also alternatively, disputes can arise when new neighbors move into an existing arrangement. A lone chicken farm bothers no one, but when new condo owners move in downwind, they might find that the summer miasma they didn't notice when they moved in last March is now horrifically oppressive. Whose fault is that, the poultry farmer's or the new residents'? Anyway, this is where the meat of the actual Coase Theorem is. Identifying institutional frictions that prevent quick, reliable conflict resolution, analyzing organizational structure with an eye to how participants optimize to reduce transaction costs... this is where a lot of the industrial organization literature in the NIE tradition lies. 

(3) is also a problem, and in the limit, represents some of the nastiest, thorniest public policy problems. To pick a totally non-controversial issue, a fetus cannot bargain with its mother to avoid being aborted, hence abortion imposes uncompensatable costs on unwilling participants. Or if you prefer, burning fossil fuels traps heat in the environment that future generations will have to deal with. Or if neither of those examples please you, every statute prohibiting commerce between consenting adults imposes an unavoidable cost on citizens who wish to indulge such commerce, no matter how carnally offensive to the tender imaginations of busybody prudes.

The IGM question makes no distinction between these, which I find troubling because the policy implications are very different depending on whether it's (1), (2), or (3). Amish communities, for example, solve the measles issue via de facto quarantine. Pennsylvania Dutch country isn't a disease vector the way the cosmopolitan Bay Area is. As far as externalities go, they self-compensate. For everyone else, the analytical and policy trick is how to get from the status quo arrangement of (3) to the much more tractable puzzle of (2) and eventually to (1). This is sort of what the second IGM question gets at, even though it's leading enough that any respectable attorney in a procedural drama would leap to her feat and bellow "OBJECTION YOUR HONOR. LEADING THE WITNESS" at the top of her lungs.

Careful analysis of the vaccine issue should include a detailed assessment of both ex ante measures to improve compliance and ex post remedies for opting out. Vague survey questions like this mislead casual readers, particularly when they're likely to be interpreted without nuance by journalists who haven't been exposed to more thorough concepts in the property rights literature. More accurate questions posed to panelists by Chicago Booth would provide a greater service to the public. If done properly, perhaps they might even improve general public economic literacy.


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Do you have suggestions on where we could find more examples of this phenomenon?