Education in economics is mostly centered on demand, supply, and interaction between individuals, firms, and governments. All these agents have cost considerations in determining whether or not to be involved in a social exchange interaction. Ronald Coase is a distinguished professor of economics from the University of Chicago. He received the Alfred Nobel Prize in the field of economics in 1991. What brought him to prominence was his simplification and analysis of transaction costs, their nature, compensation, and compromise that may be brought about in markets where actions of some business firms may impose externalities on consumers, other firms as well as bystanders. The essence of business firms’ existence, as well as the functioning of the economy, was also highlighted in his explanation of the nature of the firm. It is also of utmost importance that he was one of the first economists to introduce the definition of property rights as important in the participation of some individuals and firms in social exchange interactions.
In his autobiography, he spoke of his father as a methodical man who recorded his date of birth to be December 29th, 1910. Ronald Coase was delivered by the hands of completely literate parents who left school at the age of 12. When he was taken to a phrenologist by his father at the age of 11, the phrenologist said quite a few things about his character. One of the things he said was that he had so much intelligence, and he knows it, though he might be inclined to underrate his very own abilities. Recommended pursuits for Coase were scientific and commercial banking, accountancy with poultry-rearing, and horticulture as hobbies. Methodical trait inheritance will soon be noticed in Coase as he grew in age, wisdom, and knowledge (Coase, Autobiography, Nobelprize.org)
To continue, Coase attended the school for physical defectives because he suffered from a weakness in his legs from a very little age. At 12, with a scholarship, he advanced to the Kilburn Grammar School where he received a solid high school education (Coase, Autobiography, Nobelprize.org).
A life changing excitation in the field of economics came about for Ronald Coase from one of his professors of commerce, Arnold Plant, who introduced him to Adam Smith’s invisible hand concept. Ronald Coase then became very much aware of the way competitive systems within the society could be administered by utility valuation. This prompted his interest in Industrial Law and he decided to study for a bachelor’s degree in economics in his third year (Coase, Autobiography, Nobelprize.org).
Thanks to Arnold Plant, the University of London awarded Ronald Coase a valued Sir Ernest Cassel Traveling Scholarship. Thenceforth, Coase embarked on the journey on his road to becoming an economist. While visiting factories and businesses in the United States, Coase studied the structure of American industries. His aim was to discover why industries were organized in the different ways they were. By the summer of 1932, he had started working on a theory to answer his questions and had introduced the concept of transaction cost to better suit his perception. The transaction cost idea later became the basis for his article, The Nature of the Firm which he then published in 1937 (Coase, Autobiography, Nobelprize.org).
Ronald Coase had migrated to the United States in 1951. He established his interest in broadcasting by making a study of the regulatory broadcasting industry in the US, the Federal Communications Commission (FCC). In another article in 1960, The Problem of Social Cost, Ronald Coase gave a detailed explanation of his views in a more precise manner. It can be conjectured here that one of the most cited articles in the field of economics, The Nature of the Firm, was an instant success. By the power vested in the Royal Swedish Academy of Sciences, Professor Ronald Coase was honored with the Nobel Prize in economics in 1991 and this article was the consideration for the award.
Furthermore, Coase moved to the University of Chicago in 1964 where he became an editor of the Journal of Law and Economics until the year 1982. Also, he maintains a somewhat permanent position as a research advisor to the prestigious New Institutional School’s Ronald Coase Institute which was named after him for his significant contributions and to also honor him as one of the founding fathers of the New Institutional School of economic thought.
In earlier times, from 1932 until 1934, he served in Dundee School of Economics and Commerce. He then served at the University of Liverpool from the following year before he went on to London School of Economics until 1951. Other places he served were University of Buffalo and University of Virginia before becoming editor of the Journal of Law and Economics from 1964 until 1982 and later on, the founding president of the International Society for New Institutional Economics from 1996 until 1997.
Honorary doctorate degrees have been awarded to Ronald Coase from several universities, some of which are Yale University and the University of Paris. And, Coase became the winner of The Economist Innovation Award in 2003.
In order to place Ronald Coase in an appropriate school of economic thought that he belongs, it is imperative to consider his approach to the solution of economic problems, most especially in the way he subsumes individuals (as players in the economy) into the society consisting of government and institutions. Because he used neoclassical economics to explain social concepts of cost with external parameters, it may be wise to have him placed in the New Institutional School. In fact, he was one of the founders of this school of economic thought. It is Coase’s belief that institutions have been formed to reduce uncertainties in social exchange relations. So, he sought to explain political, economic and social institutions in terms of Neoclassical economic theory by considering optimal choices in situations where players seek to maximize payoffs, each having strategies subject to costs, and pareto optimum choices could be preferred by the individual.
Rules, laws, corporate practices and traditions have been incorporated into the Coase theorem as an extension. One of Coase’s very important contributions to the field of economics was in rewriting the theory of externalities with a strict analysis of situations where an individual or firm’s actions impose costs on bystanders. Several economic contributions have been made by Ronald Coase in areas of cost analyses and the choices that come about from social costs (North 1993).
In his work, Problems of Social Cost, one of his contributions was in the revision of externalities – whenever the activities of one individual affect the satisfaction of others by a cost imposition or benefit. He believed that inefficient social outcomes are seen in economies where externalities exist and are not neutralized by the imposition of Pigouvian taxes. If committers of negative externalities were charged an amount equal to the damage done as a result of the externality they impose, then inefficiencies can be minimized or eliminated entirely. Although it is usually the problem that there is an enormous difficulty in the measurement of the amount of damages imposed by pollution, and other qualitative parameters that may be determinants of the quantitative value of damages, the problem can still be solved by using Pigouvian taxes to absorb the negative effects of such externalities caused. A somewhat non economic solution to this problem also lies in the award of pollution rights to firms by government institution and ministries so that the incentive to produce may not be lost by firms that enrich the society by their goods but necessarily cause pollution by their activities (Coase 1960).
In addition, the Coase theorem established a platform for limiting the regulation of industrial activities by governments with a consideration of opportunity costs to the society. According to him, governments should be minimizing transactional costs and reducing intervention so that outcomes can be Pareto efficient.
Coase’s Problems of Social Cost was more concerned with actions of firms which cause harm on others. He gave an example of a factory whose activities produce smokes with effects that may be considered harmful on its neighbors. He started his analysis by an examination of a situation where a damage causing business firm should have to pay for all damages that might have been caused to the bystander, and the operation of a pricing system with zero cost (Coase 1960).
By sighting an example of straying cattles which destroy crops grown on neighboring farm, Coase supposed that the cattle rearer and the farmer operate from properties nearby. He supposed further that there is no demarcation between these properties so that an increase in the population of the grazing cattles will, by intuition, imply an increase in the volume of the damages to crops. This argument was simplified in the article with the help of a mathematical reasoning (Coase 1960).
A few conditions were considered in an attempt to clarify the understanding the paper was trying to establish. First, Coase considered a pricing system with no liability for damage. Here, the pricing system is assumed to work at zero cost and the damage causing business firm is not liable to anyone for any of the damages caused. Coase then showed that the property rights will be indistinguishable from the situation where the damage causing business firm was responsible for the resulting damages of its activities. It may be important to understand whether or not the damage causing business firm is liable for the damages caused. This is because there can be no easily achievable social exchange interaction without the establishment of property rights to mark the extent to which the cattles can graze or over graze (Coase 1960).
Second, the cost of social exchange interactions in market was taken into consideration. At this juncture, Coase had continued his analysis to the extent that he assumed zero costs involved in the fulfillment of social exchange relations in markets. No doubt, this assumption had no conformation with reality because certain costs are borne in almost any social exchange relation between any two entities. Transaction costs can not be zero. Sometimes, as a matter of fact, the cost of carrying out some operations is costly enough to the extent that social exchange interactions that would be carried out in instances where the pricing system worked with zero cost are prevented from occurring (Coase 1960).
Third, Coase considered property rights and expressed that if only market transactions were at zero cost, what will matter is a definition of the rights of players in a market and an easy estimation of social exchange outcomes. However, as he analyzed, the situations were different whenever social exchange relations in markets became costly. In these instances, law courts can have a direct influence on the nature of these social exchange relations. For these courts to make socially optimum and non biased decisions, it is imperative that they understand the consequences that can be brought about by their decisions (Coase 1960).
Next was the consideration of Pigou’s treatment in his welfare economics concept. Pigou had dealt with divergences between social and private gains which came about in the course of rendering a service by one person to another, both of which render dissimilar services. Pigou aimed to ascertain how much favorable production may come about from the free will under the legal system (Coase 1960).
Lastly, Coase blamed economists for failing to get to the correct approach to attain conclusions on precise diagnosis of harmful effects in social exchange relations that affect firm’s choices of whether or not to be involved in a social exchange interaction. According to him, if a change of approach was implemented, there could be an amelioration of these problems so that measures aimed at removing deficiencies are desirably necessary.
Apart from the postulation that if property rights are well defined and transaction costs are negligible, individuals and business firms will attain Pareto optimum outcome levels in terms of the payoffs realized from social exchange relations, Coase contributed one other significant article to literature in the field of economics. In the article titled The Nature of the Firm, Coase posed two very crucial questions. The first question tackled why there are organizations of the type represented by business firms while the second question attempted to answer the question of why each firm has a certain size.
It was in this article that Coase introduced the concept of transaction costs and its importance. He believed that if transaction costs were negligible or simply zero, firms would not be in existence and business will be in the form of simple social exchanges between individuals. This very practicable formulation by Professor Ronald Coase gave rise to the characterization of firms by contract relations and thenceforth, it became clear why firms are comprised of specific and sometimes proprietary contract structure (Coase 1937).
Distinguished Professor Ronald Coase has helped consolidate our understanding of micro economics, game theory and industrial organization by explaining the institutional structure that exist within the economy. His postulations will live with us for so many years to come and will serve (as it has been serving) its importance as a reference for social exchange interactions.
To reiterate, Ronald Coase’s two most important works in 1937 and 1960 have found wide application throughout the field of economics. Other fields like law, sociology and political science have, as a matter of fact, borrowed into the ideas presented by his works. He is one of the people responsible for the launching of the New Institutional Economics as a school of thought in economics. In his 1937 work on the nature of the firm, he had argued that firms are subsumed in the economy and an important reason why they exist is in the appropriation of profits in social exchanges. His 1960’s ultimate work presented the famous Coase Theorem where he argued that transaction costs to negotiation and participation in social exchanges present a great risk to efficiency of resource allocation, most especially in instances where property rights are not well defined. His solution recipe was that transaction costs should be minimized and property rights should be well defined. Then, participants in social exchange relations will negotiate to attain Pareto optimum outcomes.
In conclusion, it is evident that, from Coase’s skepticism towards conventional wisdom, and his refusal to take social exchange interactions for granted, we now have a much better understanding of the guiding principles of our economy’s institutional structures and we can now explain the nature of the interactions between individuals and business firms in terms of transaction costs and property rights. Students in the New Institutional School of economics should especially be grateful for his works as one of the founding fathers of this school of economic thought. Most standard neoclassical economic models failed to acknowledge that institutions are important in economics. Coase had started this new school of economic thought by studying the institutional and economic activities as they are related to the human. It is no wonder he won the Alfred Nobel Prize in Economic Sciences.
Works Cited
Coase, Ronald H. Autobiography. Nobelprize.org. Web.
Coase, Ronald H. The Nature of the Firm. Economica, 4, pp. 386-405. 1937. Print.
Coase, Ronald H. The Problem of Social Cost. Journal of Law and Economics, October 1960, pp. 1-44. 1960. Print.
North, Douglass C. “New Institutional Economics and Development.” 1993 working paper. 1993. Print.