As a follow-up to my previous post, below is an extended excerpt consisting of six paragraphs from my new paper “Coase’s pastoral parable” (footnotes omitted):

In academic circles, one of the most famous legal narratives of all time is Ronald Coase’s cattle trespass story, or what one scholar has dubbed “the Parable of the Farmer and the Rancher.” In summary, Coase presents his farmer-rancher parable in his 1960 paper “The Problem of Social Cost” as follows: “Let us suppose that a farmer and a cattle-rancher are operating on neighboring properties. Let us further suppose that, without any fencing between the properties, an increase in the size of the cattle-rancher’s herd increases the total damage to the farmer’s crops.” In other words, although the rancher’s business is socially useful, his cattle-ranching activities may harm his neighboring farmer because stray cattle may often invade the farmer’s land and destroy the farmer’s crops. Coase also notes that this harm increases with the size of the rancher’s herd, and he illustrates the link between the magnitude of the externality and the size of the rancher’s herd with a simple arithmetical table (see below):

Next, Coase imagines a hypothetical bargain between the rancher and the farmer, and he further conjectures that the outcome of this bargain will not only be efficient in an economic sense; it will also produce the same economic outcomes regardless of “the initial delimitation of [legal] rights,” i.e. regardless whether the rancher is legally liable or not for the damage caused by his stray cattle. These conjectures were subsequently christened “the Coase theorem” and have been contested (and defended) in the literature–a literature to voluminous to cite here. But regardless of the merits of these claims, Coase’s bucolic parable of the farmer and the rancher also invites us to develop a “counter-counter narrative.” Instead of imagining a hypothetical bargain between the farmer and the rancher, what if therancher and the farmer were the same person? Put another way, what if the ranch and the farm were owned by the same firm? Either way, wouldn’t this imaginary individual or the firm allocate theirresources–either the number of steer or the amount of land dedicated to crops, or both–so as to maximize the value of its production?

But above and beyond these conjectures, the most under-appreciated aspect of the farmer-rancher parable is the reciprocal nature of the cattle trespass problem. For Coase, cattle trespass is a reciprocal problem, both from ex ante perspective and ex post. Ex ante, both the rancher and the farmer could have taken preventative measures to reduce the risk of cattle trespass. Of course, one might argue that it should the rancher who should take the necessary precautions to prevent his cattle from damaging the farmer’s crops–after all, it’s his cattle, but the same logic applies to the farmer side of this pastoral equation. That is, one could also argue that it is the farmer who should take the necessary steps to protect his crops–after all, it’s his crops.

Likewise, ex post, one of the two parties will have to incur a cost regardless of which legal rule is eventually chosen. Here, for example, one could imagine two possible legal rules to deal with the problem of stray cattle: fence-in or fence-out. If we adopt a fence-out rule, the farmer will have to pay the cost of installing a fence or take some other costly measure to protect his crops against stray cattle (e.g. grow cattle-resistant crops). If, however, we choose a fence-in rule, it is the rancher who will have to pay for the fence. Thus whichever legal rule we apply to this pastoral problem–fence-in or fence-out–one of the parties will have to incur a cost.

To sum up: In Coase’s cattle trespass story, the problem is not whether the rancher is responsible for any damage caused by his stray cattle. Instead, the problem is: Who should pay for the costs of installing the fence? 

The most remarkable aspect of this story, however, is Coase’s picture of reciprocal harms. Most stories have a protagonist and an antagonist–a hero and a villain–or are populated with character types–cops and robbers, cowboys and Indians, saints and sinners, angels and demons, good guys and bad guys, etc. Coase’s alternate legal universe, by contrast, rejects such clear-cut black-and-white dichotomies. In “Coase-land” everyone is a little bit of both!