Ronald Harry Coase (1910-2013)

In 1991, Ronald Harry Coase was awarded the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, for his introduction of transaction costs and property rights to explain the functioning of the economic system.

Two articles were cited: “The nature of the firm” (Coase 1937) - seminal for recent theories of the firm - and “The problem of social cost” (1960) - seminal for the Law and Economics movement. These articles are sometimes contrasted, illustrating Coase’s political evolution from Socialism to membership of the Mont Pelerin Society: the 1937 article, focusing on the costs of the market, can be read as defending economic planning, while the latter, from which originated the “Coase theorem”, is typically interpreted as defending a market solution to externalities. Despite their divergences, both articles illustrate the main features of Coase’s approach to economics. First, they develop a comparative institutional method, that is, they compare the production value yielded by alternative arrangements net of the costs of their operation. Second, they are based on empirical material and call for realism in the analysis, leading to the introduction of transaction costs as an explanation of the firm, and the economic role of the law, respectively.

These articles were the source of a renewed interest in institutions among economists, and paved the way for the different trends of institutional economics. Coase, however, contributed to other fields of economic theory (Medema 1994; Menard and Bertrand 2016): he is cited as being the originator of the concept of rational expectations; his reflection on accounting (Coase 1938) is considered a crucial step in the development of the notion of subjective opportunity cost; he was one of the first to propose a multi-part tariff for firms with decreasing average costs in “The marginal cost controversy” (1946); and he claimed as early as 1972 that a monopoly selling durable goods would set a perfectly competitive price and output, what is known today as the “Coase conjecture”.

The Firm and the Producer’s Decision

Coase was born on 29 December 1910 in a London suburb and was the only child of a rather humble family (Coase 1995; Wang 2014). His career as an economist results, in his own words, from “a series of accidents” (Coase 1988b: 5) that led him to graduate in 1932 with a commerce degree from the London School of Economics (LSE), where he came back to teach two years later. There he was influenced by Arnold Plant, who introduced him to economic reasoning and the benefits of a competitive system. Also influential were Lionel Robbins and Friedrich Hayek, and his fellow student Ronald Fowler.

It was during his studies at the LSE that Coase began wondering why an alternative coordination mode - hierarchy - existed, if the pricing system was functioning as perfectly as claimed by economists. Thanks to a scholarship he spent the last year of his LSE degree travelling around the United States and looking for answers to his questions about lateral and vertical integration. As early as 1932 he ended up with the famous answer: the pricing system is costly to operate. “The nature of the firm” was not published until 1937 because during the same period he and Fowler were using some statistics on the cycle of the pork price, usually explained by the cobweb theorem, to show that producers’ expectations were not static (Coase and Fowler 1935). Moreover his work within Plant’s research group resulted in a series of articles calling for the inclusion of economic concepts in accounting, specifically the notion of subjective opportunity cost (Coase 1938). The subjectivity of the producers’ decisions under uncertainty explains some of his criticisms of imperfect competition theory from this period too (see Bertrand 2015a).

At first “The nature of the firm” went unnoticed, but thanks to the instant success of “The problem of social cost” (1960) and, then, of Oliver Williamson’s use of Coase’s insights, it has become the obligatory standard reference for any theory of the firm.

Law, Government and the Market

As early as 1935, while in charge of a course on public utilities, Coase began a series of empirical studies on the management of water, gas, electricity, postal office and broadcasting services in Great Britain. Leaving the LSE for the USA in 1951, he extended his empirical studies to US radio and television institutions. In an article on the Federal Communications Commission (1959), he criticized the then dominant Pigovian theory of externalities, an argument that was developed in “The problem of social cost”. This article is often reduced to the “Coase theorem” (a name actually given by Stigler 1966: 113), which claims that if transaction costs are zero and property rights are defined, exchanges of rights will lead to an optimal allocation of resources that is independent of the initial distribution of these rights. Coase’s argument, however, went further: when transaction costs are introduced, the initial distribution of rights may influence the result and other solutions than the market, such as the firm or public regulation, are to be considered. This is why Coase vehemently criticized the economists’ focus on his eponymous theorem, which was only a first step in his reasoning (Bertrand 2010).

Coase eventually arrived at the Law School of the University of Chicago in 1964, where he stayed until his retirement in 1981. His colleagues there were Harold Demsetz, Frank Knight, George Stigler and Milton Friedman. He became the editor of the Journal of Law and Economics (first with Aaron Director), in which he favoured the publication of articles dealing with the influence of law on the economic system and consisting of empirical studies on the actual effects of public regulation - studies that made him doubtful about the actual benefits of regulation (Campbell and Klaes 2005). Among his own empirical studies criticizing public intervention in case of so-called market failures, one became well known: “The lighthouse in economics” (1974) suggested that English lighthouses were privately and efficiently provided between the seventeenth and the nineteenth centuries.

During the 1970s and 1980s, he wrote some articles in methodology and the history of economic thought, particularly on Adam Smith and Alfred Marshall (they are collected in Coase 1994). Just before his death on 2 September 2013, with the aid of Ning Wang, he published a book on China’s transition to capitalism (Coase and Wang 2012) and launched a new journal, Man and the Economy.

A Plea for Realism in Economics

The diversity of the themes studied by Coase does not hide the unity of his method. His early call for realism permeates all of his works and in “How should economists choose?” (1982), he explicitly opposed it to Friedman’s instrumentalist manifesto (see Maki 1998). This realism explains his criticism of standard microeconomics, of its abstract assumption of rational utility maximizers and its design of policies by comparison to an ideal world devoid of institutions: a “blackboard economics” in which “we have consumers without humanity, firms without organization, and even exchange without markets” (Coase 1988a: 3). Opposing Robbins’s formalist definition of economics, and more influenced by Smith, Marshall and Plant, Coase gives his preference to theories that explain the working of the actual economic system and to policies designed by comparing alternative institutional arrangements (see Coase 1992). This accounts for the importance in his work of empirical studies, even if they are guided by political and theoretical presuppositions (Pratten 2001; Bertrand 2015b).

Elodie Bertrand

Ronald Harry Coase (1910-2013)

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