Think about the oldest and most familiar principles of American law, property and proportional liability, in a new and surprising way, and learn to apply economic reasoning to an especially important and interesting aspect of life.
Liability
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Del curso dictado por Wesleyan University
Property and Liability: An Introduction to Law and Economics
240 calificaciones
De la lección
Externality
Exchange involves both benefit and cost – traders take rights from others, imposing costs on them but creating benefit for themselves, but they must compensate the others for their costs by paying for the rights they've taken. External costs are imposed when one person takes another's rights without paying for them, which leads to the taker taking more rights than efficient allocation would allow and leaves the victim uncompensated for the costs of losing the rights. The law's response to this inefficiency and injustice is liability, forcing those who take rights without payment to compensate those whose rights they have taken for the costs they have borne. Thinking about how the law determines these liability prices, and how people might respond to them, reveals the underlying economic logic of liability.
Conoce a los instructores
Richard AdelsteinProfessor
Department of Economics
Hi everybody, welcome back. Last time, I argued that the transactions
between the owners of good health, our steel plants neighbors and the steel
plant itself over the transfer of that good help from the neighbors to the steel
plant to be used to produce steel, that those transactions will typically not
take place because they're blocked by a combination of transactions costs.
Primarily the transactions costs created by involuntariness.
The technical ability of the steel plant to simply take the, the property right to
good health. And to use it to produce steel without
bargaining with the, with the owners of the good health themselves.
In this lecture, I'd like to talk about solutions to this particular problem, to
the problem of the failure of markets in good health to exist.
And thus, will persistence of externality relationships between the steel plant and
the owners of the good health, the, the plant's neighbors.
I'll talk about four such solutions, two of them in this lecture and two of them
in the next lecture. These four are what I'll call absolute
deterrents, tort liability, a tax, which I'll call the Pigovian tax and finally,
social norms. Let's talk about each of these in turn.
Absolute deterrence means that there won't be any crud at all.
We could attempt to deter the production of crud absolutely by simply passing a
law that says that no crud may be tossed in the in the air, end of story.
But of course if we do that and ban the production of crud, under our hypothesis,
we'll also ban the production of steel. Because as we've assumed steel can't be
made without the production of some irreducible amount of crud.
If the crud is banned, then no cost to good health are imposed it all.
That is the property right to good health stays with the plants neighbors because
the plant doesn't use it to make steel because no steel is being made.
Thus, the cost to to good health, or put another way, the taking of the property
right to good health, which is initially placed in the plant's neighbors, are
deterred absolutely. At least ideally.
If the law works well, no steel will be produced, and no crud would be produced
as well. This may well be the efficient outcome if
the neighbors are the higher valuing owners of the right to good health.
So indeed, if transactions between the neighbors and the steel plant were easy,
and the steel plant was not the highest valuing owner of the rights to good
health. That is, if the sum of the costs that the
owners of good health would have to contribute to the production of steel is
greater than the value of that good health to the steel plant for the
production of steel, then the efficient outcome is that the property rights
remain in the hands of the plant's neighbors, that the steel plant not have
them and that therefore, steel will not be made.
But, it may be the other way around. It may be that the production of steel
does produce enough value to cover all the costs of production, including the
cost of good health. And if that is the case, than banning
crud is inefficient. That is to say, it stops the production
of steel such that the steel would be more valuable than all of the resources
that had to be contributed in order to produce that steel including the
contribution of the good health. Without exchanges, it's very very hard to
know who the highest valuing owner of a property right might be.
So, if we simply ban the crud altogether, we take a chance by presuming that
relationship to lie in one direction or another.
If we ban the crud that is, we might argue or interpret that as a statement
and a presumption if you will, that the plant is the lower valuing owner of the
property rights in question. And thus that the property rights for
efficiency sake ought to stay with the the owners that is with the plant's
neighbors. But of course that presupposition may be
wrong. It may well be that free transactions
would have transferred the property rights from the original owners to the
plant. And without free exchange, it is very
difficult to know. A second possible solution to the market
failure problem is torque liability. This means bringing the law and the
courts into the solution of the externality problem that we've been
describing. In a tort liability solution, we allow
the neighbors, the owners of the property the right to good health, to sue the
steel plant for the plant's uncompensated taking of their rights.
And if a jury founds, finds first that the neighbors are the original owners of
the property right and that the steel plant is unlawfully taken that property
right from them without consent or compensation, then the jury fixes an
amount of compensation to be paid by the steel plant for the deprivation of the
property rights that the plant's neighbors have suffered.
So, tort liability means a tort. What's a tort?
A tort is an unlawful act that does not rise to the level of a crime and for
which compensation is due from the person who has committed the tort, called the
tortfeasor, to the victim or the bearer of the costs of the tort.
Torts are unlawful acts, which means that the law can take action against the
people who take them. Torts are, in themselves, not crimes.
Crimes typically include torts, but torts typically don't include crimes.
Later in the course, we'll spend a good deal of time distinguishing between tort
and crime. But for now, all we need to know is that
torts are unlawful takings of property rights by individuals for which
compensation in the form of damages are due.
And in a tort suit the job of the jury, as I've said, first is to decide whether
the plaintiff's property right was in fact taken by the defendant unlawfully.
And if so, what amount the defendant must pay the plaintiff in compensation for the
value of the loss. Talking about tort liability in this way,
introduces a crucial concept that we'll be using many times later on in the
course. And that's the notion of liability.
So I'd like to take a digression and talk for a little bit about the problem of
property and liability. And in doing so, I will draw on the
groundbreaking work of two legal scholars, Guido Calabresi, a professor of
law at Yale law school and later a judge, like Judge Posner in the Federal Appeals
Court. In Judge Calabresi's case for the second
federal circuit and in an article that Judge Calabresi wrote in 1972 with his
co-author A. Douglas Melamed who is shown on the
right. In this article Calabresi and Melamed
define and distinguish between property rules and liability rules as ways of
governing legal regimes, as it were, for the distribution and allocation of
particular kinds of property rights. So let me talk just a little bit about
what Calabresi and Melamed have to say about the concepts of property and
liability. The first thing that Calabresi and
Melamed do, is to expand the notion of property rights, as we've been talking
about them, into a slightly larger category, which they identify as
entitlements. For Calabresi and Melamed, an entitlement
is a legally backed right, held by an individual either to be able to impose
specific costs without compensation on other people.
Or contrarily, to be free of such uncompensated cost imposition.
In our steel plant example, we've assumed that the plant's neighbors have an
entitlement to their good health. And if the plant takes that entitlement
to their good health by tossing crud into the air and forcing the neighbors to
breathe that crud to the detriment of their good health, then that entitlement
has been taken from the original owners by the steel plant.
Alternatively, in principle, the steel plant may have been given a cognate
entitlement to impose the cost on the health of its neighbors by throwing crud
into the air and to do so without having to pay any compensation to the plants
neighbors or to win their consent to the detriment of good health.
So generally speaking, any particular entitlement could be expressed into
alternative ways. It could be an entitlement on the part of
some individual to be able to impose costs upon others in a certain way
without their consent and without having to pay them compensation.
Or a cognate entitlement could be placed in the victims, as it were, of that
relationship and then, they would have an entitlement to be free of the specific
kinds of costs that are being imposed without their consent and or without
they're being paid compensation for it. Entitlements, Calabresi and Melamed
argue, may be protected in two different ways.
By this they mean, that the law can throw its weight behind the claims of
entitlement owners and, and protect their ability to enjoy their entitlements, in
two different ways. One of them is to protect entitlement by
property rule, which means that the, the entitlement can only be transferred from
its original owner to another owner if, if the original owner agrees to the
transfer. So in a property rule situation, no
entitlements are forcibly or involuntarily extracted from anybody.
All entitlements that are successfully protected by property rule, all these
entitlements can only be moved from one person to another with the consent of the
original owner. Which means that the original owner gets
to set the price at which the entitlement would be transferred.
If I have a property right to my watch, and it is protected by the property rule,
I don't have to give the watch to anybody if I don't want to, and nobody may take
the watch without my consent. But I may sell the watch, and agree to
transfer it to another person if I'm paid what seems to me, by my own likes, to be
adequate compensation for what I've lost. Or, entitlements may be protected, by
what Calabresi and Melamed call a liability rule.
In this case, as in our steel plant example, the entitlement is initially
taken from its previous owner without that owner's consent or compensation.
But at some later moment in time, the one who has taken that entitlement unlawfully
is then required by the law to pay the owner compensation for the loss.
And that compensation is determined not by the person who has lost the
entitlement, but by a third party. In the case of tort suits, typically that
third party is an impartial jury. Thus, liability judgements complete a
transaction whose two parts have been broken in time.
So we can think about the steel plant and its dealings with the owners of good
health as a two sided transaction in which when we raise the curtain on the
problem, only one part of the transaction has been undertaken and the second part
of the transaction has not yet been completed.
The two parts of the transaction are this.
First, the cost imposer initiates the transaction by taking the owner's
entitlement without that person's consent.
In our example, the first half of the transaction would occur when the steel
plant starts to produce steel. It tosses the crud in the air, people
breath the crud and they begin to suffer deleterious effects to their good health
and the costs that are intended to that. That's the first part of the transaction.
And in this part of the transaction, the cost imposer has reached over to the
neighbor, to the original entitlement owner and seize that entitlement from the
original owner without paying the owner compensation or without gaining the
consent of that particular individual. Where property rules are sufficient to
protect entitlements, that is where people don't steal, and where people
don't have the ability to simply seize property rights from other people without
their consent. In such circumstances, property
entitlements may be transferred only by free exchange or by a gift.
And when they're transferred by free exchange, as I've noted before, they're
transferred at prices that sellers are free to accept or refuse.
So that indeed sellers can set their own price.
And if they choose not to sell at any given price, then the entitlement will
stay with them. This means that the sellers of
entitlements can include what might be called, subjective values, in the price
that they demand for the entitlements that they sell.
Again, consider my watch. Suppose I'm selling a property
entitlement to my watch, and suppose the market value of the watch is $50.
That means that I could purchase an identical watch to the one that I have
simply by going to the store and paying $50 for it.
Now, suppose somebody unlawfully takes my watch.
Perhaps as a part of an accident, my watch is destroyed and it's determined
that the accident was the fault of someone else.
So, in terms of tort liability, that's someone else will be said to have
unlawfully taken my entitlement to my wrist watch.
We might say that the appropriate amount of compensation for me is just the amount
that I need to purchase another wrist watch that would exactly replace the one
that I had. And by hypothesis I've said, I could go
to the jeweler and buy another wrist watch for $50.
But suppose this wrist watch was given to me by my favorite aunt Sally, whom I love
dearly, and therefore I place a great deal of sentimental value on this watch.
In this case, my watch is not the same as the one that I could replace it with for
$50. Because that replacement watch didn't
come from my aunt Sally. My watch, the one that I did get from
aunt Sally, has sentimental value to me. Suppose that sentimental value is $100,
then I might be willing to sell the watch for $200.
Because then I received $200, I've suffered the loss of the $50 watch that I
could replace and I've suffered the loss of the $100 worth of sentimental value
because I no longer have the watch given to me by my aunt Sally.
But that cost, 50 plus 100, is 150, which is smaller than the 200.
Alternatively, if I were only offered $50 or $60 for the watch, even though I could
get another watch for $50, I'd refuse the bargain because of the subjective $100
value that I attached to the watch. When property rules are sufficient to
protect entitlements, I'm free to include these subjective values in the price that
I demand in exchange for my consent to surrender my entitlement.
But where markets fail, as they did in the case of the steel plant, and
entitlements are taken without consent as the steel plant by hypothesis takes the
right to good health, the entitlement to good health of its neighbors.
Then the taker, in this case the steel plant, extinguishes the entitlement.
Once those people breath the smoke, they no longer have their good health, and
their entitlement to good health has been taken from them, and effectively
destroyed by the steel plants action of tossing the crud into the river.
So, where these markets fail, and entitlements are taken without consent,
takers extinguish the entitlement. But then, subsequently, in the second
half of the transaction, completed in the tort suit, they must pay compensatory
liability prices. That is they must pay damages determined
by the jury and in partial third party, and these prices are typically determined
objectively. That is to say, the owner of the
entitlement doesn't get to say what the price is.
The third party gets to say what the price is and that's the price that the
taker of the entitlement must pay and it is the sum that the loser of the
entitlement must accept even if that sum is smaller than the amount that the owner
of the entitlement would have held out for if there had been a free exchange.
And so in my case, a jury in the case of my watch, might decide to give me only
the $50, that compensates me for the market value of my watch, without paying
me the subjective value that corresponds to the fact that the watch was given to
me, by my favorite aunt Sally. So let's get back to the problem.
Tort liability, and talk about some of the characteristics of solving the
externality relationship with a tort suit.
Again, in the tort suit, the neighbors sue the plant for uncompensated costs, a
jury fixes compensation, and that compensation is typically the market
value, sometimes with an extra added, added bit.
Which is generally referred to as pain and suffering which may represent a
jury's attempt to compensate some of the sentimental or similar subjective value
that comes along with particular losses. How does this work?
Well, if for example in our steel plant example, one of the neighbors were to
come to court and say, I'm going to sue the steel plant because the steel plant
has unlawfully taken my entitlement to my good health.
The court, the suit is joined, the, the plaintiff, the good, the owner of the
good health brings attorneys, the defense, the steel plant brings attorneys
and the two issues are litigated. The first issue, of course, is, did the
steel plant unlawfully take an entitlement that was previously owned by
the plant's neighbor. And if so, then the jury decides what the
adequate compensation to be paid by the steel plant to the neighbor for the
deprivation of that entitlement will be. How are these values determined?
Well, people come to court and they asked about them, they testify.
They're asked questions about what kinds of costs they've suffered, how badly
they, their good health has been effected, what it is that they're no
longer able to do as a result of the imposition on their good health and so
on. All of this testimony is taken under
oath. We presume people are telling the truth.
And if the whole system of fact finding in the trial works reasonably well, then
the tort suit, the tort trial provides reasonable approximations about the costs
imposed and it does so in a discriminating way.
That is to say, if there are two different plant neighbors who, who mount
two different law suits against the same steel plant for the taking of their two
distinct entitlements to good health. As we've said, one individual may suffer
a different cost for the loss of his good health than his neighbor suffers for the
loss of her good health. And therefore the appropriate damages to
be awarded at the end of a successful tort suit will be different in the two
cases. But because individual tort suits give
every plaintiff a chance to testify about precisely what costs were in fact born by
this plaintiff at the hands of this defendant.
If we assume that that testimony is likely to be close to true, and that the
jury is good at separating truth from falsity in the testimony, then the tort
suit might provide a close approximation of the actual costs that were suffered by
the plants neighbors, as they lost their entitlement to their good health to the,
to the steel plant. Unfortunately, it's very expensive to
operate a tort system and therefore to operate a tort suit costs a lot of money.
So in order to complete the transaction that was begun by the initial tort, by
the initial taking of the entitlement by the steel plant, somebody will have to
bear a very large cost to mount the trial.
To pay for the courtroom, to employ the lawyers and the judges, to pay for the
time of the jury, etc. But ideally, if the tort system is
working perfectly it mimics free exchange by requiring tortfeasors, the people who
have imposed the costs, to bear the full costs of the torts that they have
committed. That is to compensate directly for the
full value of the entitlements that have been taken by them by their tortious
activity. Notice once again that such a system will
not typically discourage all torts. There will still be torts, there will
still be involuntary cost imposition and there will still be liability payments.
But if the liability payments are matched to the costs that have been born, as a
result of the loss of entitlement by the plant's neighbors, then the tortfeasor,
in this case the steel plant, will only impose those costs which are efficient.
That is, it will only take the entitlements that are more valuable to it
for producing steel than they are to their original owners for any other
purpose. And if that is the case, then the firm
will pollute the air, force the crud on the neighbors, take their good health,
pay the damages that compensate for the value of the good health and still feel
themselves better off at the end of the day.
And if that happens, then the tort is efficient.
It pays for itself by producing enough value for the person who is committed to
tort, the tort to enable that person to pay the full cost that the tort has
imposed and still have a little bit left over.
Let me conclude this portion of the lecture, this portion of our discussion
of the solutions by talking about a variant on tort suits, which are class
action suits. These are a way to economize on the very
high costs of litigating a very large number of individual suits by entitlement
owners. All of whose entitlements have been
seized in the same way by the same cost imposer.
So in our steel plant example, we have a very good candidate for a class action.
We have thousands of the plants neighbors and if each of them were to sue the steel
plant individually, an enormous amount of cost would be incurred so that the same
first legal judgement could be rendered over and over and over again in the case
of each neighbor. That is, it would be determined in the
case of each neighbor over and over again, that by doing exactly the same act
in the case of each neighbor, the steel plant has taken the entitlement of
neighbor one, it has unlawfully taken the entitlement of neighbor two, of neighbor
three, of neighbor four and so on over the thousands and thousands of neighbors.
So, one problem with the individual tort suits is that they are, in a sense all
litigating the same question which is whether the, the steel plant, by doing
this one act have simultaneously taken the entitlements of a very large number
of its neighbors. The only thing that would differ in the
individual tort suits are the amount of judgement that would be imposed on the
steel plant in each case to meet the actual damages that were done by the tort
to the plant's neighbors. In the class action suit, all of these
individual claims are amalgamated into a single claim, presumed in the name of the
class, against the steel firm. One trial is undertaken, and in this one
trial, the legal issue, did the steel plant unlawfully take these entitlements
in this one trial, that issue is determined with respect to every member
of the class. So, class action suits operate when an
entrepreneurial attorney creates the plants.
That is, in our case a plaintiff might go to an attorney and say, look, the steel
plant has taken my entitlement to good health unlawfully I'd like to sue and
indeed I have thousands of neighbors who are in exactly the same situation.
Then that attorney, if he or she is entrepreneurial minded, might seek to
create a class, that is a legal entity that includes all of the plants
neighbors, all of whom claim that they're entitlements to good health have been
taken in exactly the same and in this case at exactly the same time by the
single act of steel plane that is their common claim.
If the suit is successful, then the class wins collected damages that are equal to
the estimated sum up all of these individual cost.
So if each neighbor suffers $1,000 worth of cost and there are 5,000 neighbors,
then there's whatever it is, 50,000 or 500,000 total damages to be to be paid by
the firm, by the steel plant, to pay for the costs of all of the entitlements that
it has taken. But of course, where the individual tort
suits which if they were operating perfectly in principle will generate
payments and total by the steel firm equal to the sum of all of those
individual damages. The steel plant would pay a different
amount of damages to each individual plaintiff because the value of their
claims will all be different because the value of their good health entitlement
will all be different. But in a class action, an estimate must
be made of the sum of the value of all of those entitlements.
And that sum, of course, can be estimated well, or it can be estimated poorly.
But then, when the damages are paid, the damages must be distributed across the
class by the entrepreneur attorney. And of course, the easiest way to divide
the damages, is to divide them equally. It's very difficult to determine whether
individuals ought to be paid a different amount from the large collective's
damages. That would simply reproduce the problems
of the individual tort trials. So one way in which the class action suit
economizes is to amalgamate all the claims into one.
But a second way in which it economizes is, as it were to cheat on the
distribution of the damages and to divide the damages in such a way that may or may
not actually represent for every individual plaintiff the actual amount of
the value of the entitlement that that plaintiff has lost.
So the class action suit as an alternative to tort suits offers lower
transactions cost than the tort suits much lower because we've reduced the
number of law suites to 50,000 say to 1. But in this one lawsuit, there's a much
coarser, much less individuated estimation of the cost that are imposed
by the taking of each individual entitlement.
And there's a much less discriminating distribution of the liability payment
among the various cross bearers, each of whom as we've seen may bear a very
different cost as a result of the taking of the entitlement.
Next time, I'll consider two other solutions to the market failure problem.
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