Toward a Coasean Approach to Coastal Property Damage

by | Sep 28, 2018 | Regulation

In our evaluation of the conflict between industrial greenhouse gas emitters and coastal property owners—as in all others—economics serves as a complement to considerations of justice. And the Coasean approach affords us a valuable one.

As North and South Carolinians begin the long process of recovery in the wake of Hurricane Florence many people are asking how much of the property damage caused by the storm we can attribute to anthropogenic global warming.

This line of inquiry is worth considering for its theoretical implications on our approach to public policy vis-à-vis climate. Of all the potential ramifications a warming world would entail, rising sea levels are perhaps the most straightforward and salient. More carbon dioxide in the atmosphere begets more heat retention. That heat adds to the water content of the oceans through the melting of land-based ice and causes the thermal expansion of the oceans’ water content. This addition and expansion naturally encroaches upon hitherto dry land.

The Washington Post’s Chris Mooney and Brady Dennis are two of the many journalists who took up this issue as Florence bore down on the Atlantic Coast. Mooney and Dennis conclude that “we have our own species to thank for at least some fraction of the dangerous storm surge for which the Carolinas are bracing. All storm surges, everything else being equal, can reach farther inland today than they could have before humans started heating up the atmosphere.”

The mainstream position in the physical sciences, as represented by the Intergovernmental Panel on Climate Change, informs us that at least some fraction of storm surge from today’s hurricanes can be attributed to the human burning of carbon-based fuel sources, but Mooney and Dennis fail to make a critical distinction. In analyzing alleged damages from emissions we must disambiguate the concept of land as such from the concept of property.

It isn’t the Carolinas (as Mooney and Dennis casually write) which stand to suffer the costs of the storm, but specifically it is property-holding Carolinians. The distinction is crucial, as it focuses our attention not on vague notions of environmental damage, but on concrete property damage, enabling us to consider this as a conflict among parties—economic actors whose emissions have contributed to rising waters and property-holders for whom said rising waters would cause loss.

II. Property Rights

By framing the issue of sea level rise in this way—as a property conflict in need of resolution—we can clarify our thinking and contemplate the best arrangement going forward. Carbon dioxide and other greenhouse gases are essentially incidental byproducts of economic activity. In most cases it is intuitive that an actor should be held liable for dumping a byproduct of its activity onto the property of another without consent. The dumping of greenhouse gases, however, is more complicated, because it is dumped into the atmospheric commons. An element of this conundrum that cannot be overstated is the property rights lacuna in the air. If we were able to grant property rights to a party in the air, this problem would be much more tractable.

Nevertheless, a property rights perspective can help us to determine what course of action the problem necessitates. Rights are problem-solving conceptual tools that enable the market to function to humanity’s benefit by providing certainty.

The question at hand is whether the causal chain begun by greenhouse gas emissions results in a violation of the property rights of, say, landowners in Wilmington, North Carolina, that demands redress or whether it falls short of that threshold.

When evaluating nuisances the common law tradition suggests we look for evidence of quantifiable harm or significant risk to one’s person or property. The case for sea level rise as a nuisance is plausible on these grounds, but fraught with uncertainty. Indeed, in the common law, we find the presence of a multitude of legalized nuisances. Transient inconvenience (a truck rumbling past that wakes you early in the morning, for instance) is widely accepted as an inevitability of human life and one cannot turn to the state for every perceived effect of another’s actions.

It is conceivable, however, that greenhouse gas emissions would be miscategorized as potential nuisances and should, rather, be considered as a form of trespass. Trespass is physical entry accomplished by a tangible mass that directly interferes with property. Though greenhouse gases are not tangible mass, water is. So while industrial carbon dioxide emission itself could not be considered trespass, the process it initiates might. A determination of a trespass does not have the quantitative evidentiary requirement that does nuisance.

The answer to the question of whether emissions constitute either a nuisance or a trespass does not present itself readily. Further complicating matters is the notion of the homestead easement, by which an actor claims a de facto right by establishing behavior before the threatened land is taken up as property. It should also be noted that it is not insignificant that nearly all, if not literally 100 percent, of coastal Carolinians are themselves emitters through their use of electricity, transportation and heating fuel, and other carbon-intensive goods and services. It is in the context of this legal quagmire that we might find the work of Ronald Coase useful.

III. Enter Ronald Coase

Lest we unthinkingly succumb to the intuitive, conventional wisdom that an owner of Carolinian coastal real estate has an insuperable legal claim on any incurred cost and that the state must necessarily constrain emitters to protect property holders, we ought consider the work of contrarian 20th century economist Ronald Coase.

Coase famously stymied conventional, Pigouvian-intervention wisdom in 1960 at a now-legendary gathering of Chicago school economists. At the gathering, and with his subsequent paper, The Problem of Social Cost, Coase challenged the received doctrine on the economics of externalities, which stated that the most beneficial outcomes are facilitated by taxing actors such as the emitters relevant in our current discussion, winning many of the attending economists over to his side. Coase introduced his project with the following passage:

“The conclusions to which this kind of analysis seems to have led most economists is that it would be desirable to make the owner of the factory liable for the damage caused to those injured by the smoke, or alternatively, to place a tax on the factory owner varying with the amount of smoke produced and equivalent in money terms to the damage it would cause, or finally, to exclude the factory from residential districts (and presumably from other areas in which the emission of smoke would have harmful effects on others). It is my contention that the suggested courses of action are inappropriate, in that they lead to results which are not necessarily, or even usually, desirable (The Problem of Social Cost, p. 1-2).”

The key insight Coase delivered with The Problem of Social Cost is that disputes such as the one we are considering involve not just the actions of one party (the emitters), but two (the emitters and the property owners). He labeled this the reciprocal nature of the problem.

In nearly all cases, Coase points out, decisions by both parties contribute to the emergence of conflicting claims. In the threatened coastal property case at hand, yes, the emitters burn carbon-based fuels and initiate marginal encroachment of water onto land, but it also must be acknowledged that the landholders have chosen to take up vulnerable land in the form of coastal real estate. Just as this conflict would not have emerged if emitters were not emitting, this conflict would not have emerged if people had refrained from establishing property in these coastal areas.

In the Coasean framework, it is too simplistic to view the greenhouse gas emitters as encroaching on the rights of the coastal real estate owners. After all, if the people running coal-fired power plants are barred from running their businesses, then they, too, are having their property rights restricted in a way that injures them. Rather than declaring one side the victim and one side the aggressor from the outset, Coase offers a framework in which various parties simply have conflicting goals for the use of scarce property.

Giving credit where it is due, Andrew Kemp, a Tufts University sea level rise expert whom the Post’s Mooney and Dennis interviewed for their article acknowledged this Coasean point, describing (in the words of Mooney and Dennis) “that 100 years ago, not only would the seas have been lower, but there also would have been a lot less property in harm’s way.”

What Coase demonstrates with aplomb is that our economic analysis of conflicts like this one need take into account more than the obvious:

“If we are to discuss the problem in terms of causation, both parties cause the damage. If we are to attain an optimum allocation of resources, it is therefore desirable that both parties should take the harmful effect (the nuisance) into account in deciding on their course of action (The Problem of Social Cost, p. 13).”

IV. Coasean Bargaining for Coastal Property Damage

With the two-party paradigm comes a new approach to resolving this sort of conflict. This insight opens the door for what we now call the Coase theorem, which conveys, in my words, that in the context of assigned and enforced property rights, bargaining between parties heretofore in conflict will, absent transaction costs, engender a solution in which no party is made worse off, and that the ultimate, production-maximizing result is independent from the liability determination.

Put another way, regardless of to whom the property right is granted, parties will negotiate to reach the outcome that is most cost-efficient.

So what can the Coase theorem tell us about our sea level rise example?

Let us consider the following scenarios:

          A) Courts rule that emitters are liable for sea rise damages.

In this scenario emitters can be expected to choose between a range of options in order to comply with the legal ruling. Emitters will opt to pay for the least costly means of compliance. This could entail emissions abatement, emissions capture, sea rise adaptation (like new dikes), geo-engineering, or paying property holders a sufficient sum to render them indifferent—or something else entirely. What matters is that the ruling be clear and that it allow the liable party to choose a least costly path forward.

          B) Courts rule that emitters are not liable for sea rise damages.

This is the circumstance that is most interesting. In this case, according to Coase, even though property holders will be liable for their own losses, we would expect (absent transaction costs) the same least costly solution to emerge. If emissions capture is the most attractive option for emitters when ruled liable, the same can be expected if emitters are not held liable and property holders can be expected to pay for the requisite hardware themselves. If emitters when ruled liable find that buying out property holders is most affordable, we can likewise expect property abandonment if property holders are determined to be responsible for their losses. The economic solution to the conflict essentially hinges on whether the marginal benefit to emitters exceeds the marginal cost to coastal real estate holders, or vice versa.

In short, in a world of low transaction costs, as long as the state clearly delimits property rights and liability, parties can bargain with each other to find a satisfactory solution and the only difference in terms of resource allocation that will result from the ruling is who will pay the bill.

“It is necessary,” writes Coase, “to know whether the damaging business is liable or not for damage caused since without the establishment of this initial delimitation of rights there can be no market transactions to transfer and recombine them. But the ultimate result (which maximises the value of production) is independent of the legal position if the pricing system is assumed to work without cost (The Problem of Social Cost, p. 8).” 

V. A Caveat: Transaction Cost

If market transactions were costless, the above approach would be enough to resolve disputes, but, alas, transactions are not costless.

“(A)s we have seen,” Coase writes, “the situation is quite different when market transactions are so costly as to make it difficult to change the arrangement of rights established by the law. In such cases, the courts directly influence economic activity. It would therefore seem desirable that the courts should understand the economic consequences of their decisions and should, insofar as this is possible without creating too much uncertainty about the legal position itself, take these consequences into account when making their decisions (The Problem of Social Cost, p. 19).”

The threatened coastal property example is one such case. Property owners have no clear target for their ire, given the billions of emissions sources around the globe, making bargaining implausible. As Coase explains, negotiations will not be fruitful if it is not possible to discover with which party one should deal. Thus, transactions that would otherwise be carried out evade us.

David Friedman succinctly communicates this point in his Coase explainer:

“If there were externalities but no transaction costs there would be no problem, since the parties would always bargain to the efficient solution. When we observe externality problems (or other forms of market failure) in the real world, we should ask not merely where the problem comes from but what the transaction costs are that prevent it from being bargained out of existence.”

So while the Coase theorem tells us to allocate rights, the Coase imperative tells us to minimize transaction costs. This imperative has provided the intellectual core of many an anti-regulation, anti-tax argument in the decades since Coase wrote his seminal paper.

The presence of transaction costs makes a rights allocation significant in a way that it otherwise would not be, rendering the judgment of the courts all the more critical. This is where economic analysis can play a seminal role in guiding decision-making. Sometimes allocating property right and liability in the counter-intuitive manner—e.g., in the sea level rise case, denying landowners a claim against emitters—leads to the better solution. In dealing with the classic railroad-farmer conflict in Section VIII of The Problem of Social Cost Coase demonstrates as much:

“A change from a regime in which the railway is not liable for damage to one in which it is liable is likely therefore to lead to an increase in the amount of cultivation on lands adjoining the railway,” he concludes. “It will also, of course, lead to an increase in the amount of crop destruction due to railway-caused fires.”

In the sea level rise case, similar incentive dynamics are at work—to the extent that coastal property is insulated from costs, it will abound. Note that in the absence of transaction costs, this potential problem doesn’t arise. If the courts or a legislature give coastal real estate owners the right to compensation from emitters in the event of flooding, if it is cheaper—all things considered—to reduce the amount of development on the coast, then emitters will make side payments to achieve this outcome. Thus the people who elect to build on the coast will take the full opportunity cost of their action into consideration, because they are forfeiting the potential side payment.

The Coasean assessment that transaction costs would seem to preclude bargaining between emitters and property owners will suggest to some readers that Coase would in this case resort to the Pigovian tax solution, but this does not appear to be so. Instead, Coase doubles down on his criticism of Pigovian school, describing a glaring tax deficiency:

“Modern economists tend to think exclusively in terms of taxes and in a very precise way. The tax should be equal to the damage done and should therefore vary with the amount of the harmful effect. As it is not proposed that the proceeds of the tax should be paid to those suffering the damage, this solution is not the same as that which would force a business to pay compensation to those damaged by its actions, although economists generally do not seem to have noticed this and tend to treat the two solutions as being identical (The Problem of Social Cost, p. 41).”

It is the Coasean position that all solutions—market transaction, regulation, taxation, et al.—have costs and that the state should take those costs into account when evaluating conflicts, with an eye toward its own weaknesses. There is no reason, Coase thinks, to weigh the scales toward one or another approach without careful evaluation of the particulars of a property conflict. At times, this will result in the conclusion that best thing the state can do is leave the party producing the harmful effect free from liability.

For those who doubt even the possibility that this is the correct outcome, consider: Pushed to its logical limit, the “punish the emitters” mentality would mean that a single coastal real estate owner could have the legal ability to bar every person on earth from so much a lighting a campfire. Surely that can’t be a “market solution” or exhibit “full respect for property rights.” Yet if the reader agrees that such an outcome is absurd, then we realize the proper assignment of property rights when it comes to, say, driving an automobile or even running a coal-fired power plant, is not a simple matter of studying the chemistry of the greenhouse effect.

VI. The Fundamental Issue: Conflict Resolution or Resource Allocation 

Once more, the fundamental question before us is what role the state can play in harmonizing conflicting property interests. The conventional approach is for the state to regulate economic activity; the typical “textbook” economic approach is to apply a tax; the Coasean approach is to compare the total social product yielded by these different arrangements and to arrange property rights in accordance with a maximization of production.

This is a valuable exercise, but total social product alone is unstable ground upon which to build policy. The very notion of total social product is itself dubious on account of the subjectivity of cost, as explained by Carl Menger and the economists that followed in the Austrian tradition—some of whom have been quite critical of the Coasean approach to law and economics. Rather, an ethical perspective must be at the foundation of our public policy approach. Coase himself would, of course, agree that his economic insight can only provide us with so much. As he explained, channeling Frank H. Knight, “problems of welfare economics must ultimately dissolve into a study of aesthetics and morals.”

The approach to conflict resolution that I think proves most durable is one that holds justly-acquired property as an inviolable right. Such a principle does not itself resolve conflict, but provides us a lodestar to guide our evaluation of the various methods of resolution before us—regulation, taxation, tort claims, et al.

Ronald Coase provides us with a thought-provoking exercise for considering conflict resolution that should have a measure of currency in the public discussion of coastal property damage. Coase teaches us that legal judgments will not determine an allocation of resources, but only liability; that the price system determines resource allocation; that transaction costs makes bargaining on the question of sea level rise implausible; but also that state-centric responses to the conflict, like regulation and taxation, have weaknesses of their own.

The strongest argument against the Coasean approach is the trenchant critique that it favors well-established economic powers. Absolving emitters of liability, on this view, is akin to granting them a rent. Given the long history of businesses abusing the power of the state to entrench their own interests, this point is well taken. Conservatives and libertarians ought be wary of their own inclination toward an unqualified, pro-business sentiment that can cloud sound judgment. A property-rights focused perspective is oriented in favor neither or one party nor another, but toward the upholding of principle.

Ultimately, in our evaluation of the conflict between industrial greenhouse gas emitters and coastal property owners—as in all others—economics serves as a complement to considerations of justice. And the Coasean approach affords us a valuable one.

Jordan McGillis serves as the Deputy Director of Policy for the Institute for Energy Research.

The views expressed above represent those of the author and do not necessarily represent the views of the editors and publishers of Capitalism Magazine. Capitalism Magazine sometimes publishes articles we disagree with because we think the article provides information, or a contrasting point of view, that may be of value to our readers.

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