Wednesday, December 29, 2010

Ronald Coase Explains the Market

Nobel Prize winning economist Ronald Coase turns 100 years old today. I first came across his work when learning about the seemingly magic ability of the Coase theorem to work out disputes when property rights are well defined. He's more famous for his article The Nature of the Firm. In it he discusses a question so important so few bother to ask it: Why do people form companies in the first place? Why not simply trade individually through the market?

The question and the answer gets at the main economic debate over just how much organization and central planning is required for the maximum production. It seems obvious to organize in businesses, but businesses like governments are forms of bureaucracy. The bigger the business, the bigger the bureaucracy. Just imagine how much inefficiency there much be in major corporations like GE and AT&T. Yet so many industries have almost all large companies (banking, gasoline, cars, etc). Try right now to think of examples of small businesses you frequent.

The benefits of big business can also apply to government. Think of the government as a business that provides products (property rights, defense, health and retirement insurance). On the question of size of government, like most issues, the answer is on the margin. Rarely do we want all or none of something. Instead we want some portion of it. Government works the same way. We don't want a small government, we want a good government. That good government isn't small or large, it's just right. Here's how I think about it:
Imagine anarchy to the left, communism to the right, and the United States somewhere in the middle. That may actually be what the legacy of the US will be. Maybe our greatest export isn't computers, medicine, or weapons, but good government. The question is, are we currently to the right or the left of the peak of the curve?

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