Inertia Wins!

It isn’t often that one sees Nobel-winning economist Ronald Coase’s name and pig farts in the same sentence. Thanks to a recent court decision in Germany, this is one of those times.

There is a farmer in Osnabrück, Germany who owns 1,500 pigs. They might be clean creatures in the wild, but farm pigs can be smelly. This man’s pigs are especially malodorous, possibly because he feeds them raw onions. It got so bad for his downwind neighbors that they went to the city council.

Authorities ordered him to stop feeding onions to his pigs, and fined him €2,500. After his day in court, a judge sided with the farmer and against his neighbors, and rescinded the fine.

Enter Coase. He believed that disputing parties should be treated as equals. There doesn’t necessarily have to be one winner and one loser. They can both be made better off.

Coase also had the insight that the neighbors would be willing to pay some price for, ahem, improved air quality. And the farmer would be willing to pay some price to keep feeding onions to his pigs; maybe he believes that yields better-tasting ham or has some other benefit.

Knowing all that, the parties can reach a mutually agreeable solution by sitting down and bargaining with each other. What actually happened in this case was that the judge took the farmer’s side. There was a winner and a loser. If the farmer and his neighbors had been allowed to engage in Coaseian bargaining, both sides could have won.

If the neighbors paid the farmer not to use onions, the farmer would lose the benefits of onion-fed pigs, but would be compensated for that loss. So he wouldn’t be any worse off, and might even be better off, depending on the price. And the neighbors would be better off, too.

If the farmer paid his neighbors to endure the bad air, they’d still be holding their noses, but now they would do it willingly. And the farmer could still enjoy the economic benefits of his onion-fed pigs.

Either case would give a fairer outcome than the court decision.

Whichever option they decide on at the Coaseian bargaining table, both parties would walk away happy. That’s why, when it’s feasible – when transaction costs are low, in economics jargon  – Coaseian bargaining is superior to top-down regulations or judicial decisions. Finding the missing market and letting the parties make an exchange in it can make everyone better off. Why have a winner and a loser when there can be two winners?

In the meantime, I’m glad I don’t live in Osnabrück.