Taxonomy of legal failures

Below is an excerpt from my work-in-progress “Outer Space Auctions“; I have lightly edited this extended excerpt for clarity and have placed the footnotes and scholarly citations below the fold:

It is tempting to see space congestion as a form of market failure or as what economists call an “externality”. In reality, however, the tragedy of the outer space commons–the increase in space congestion and the risks posed by orbital debris–is the result of legal failure: the longstanding treatment of outer space as a commons and the resulting lack of well-defined property rights in outer space. Broadly speaking, there are three types of legal failure or regulatory impediments to trade: (i) uncertainty about the legality of a transaction or activity, (ii) the prohibition of a purely voluntary transactions or activities, and (iii) lack of property rights. Why do I label these three types of legal barriers to trade as “legal failures”? Simply put, because these legal impediments prevent mutually beneficial and voluntary agreements from taking place.[1] Below is a brief survey of each type of legal failure:

First off is legal uncertainty: when the law itself is either uncertain or unclear about what transactions or activities are legal.[2] A textbook example of this type of legal failure (i.e. legal uncertainty) is the longstanding uncertainty regarding the legality of the purchase and sale of blood.[3] From a purely economic perspective, legal uncertainty is suboptimal because it makes the outcomes of legal cases difficult to predict and prevents would-be buyers and sellers from planning their transactions in the shadow of the law or settling their disputes peacefully out of court.

Next is prohibition: when the law criminalizes, prohibits, or otherwise impedes trade altogether in a given good or service. Textbook examples of this type of legal failure (i.e. prohibition) include draconian drug laws that make it illegal to buy or sell certain drugs and laws prohibiting adult prostitution.[4]

The last type of legal failure is the lack of well-defined property rights: when the law fails to define or enforce property rights in a contested resource. Textbook examples of this type of legal failure (i.e. lack of property rights) include common-pool resources such as ocean fisheries, public roads, and waterways.[5] Many economists, however, often confuse this legal failure with so-called “market failures,” or situations where markets on their own are unable to produce efficient outcomes.[6] Air pollution, traffic congestion, and now orbital debris are often listed as textbook examples of market failures. But in reality these bad outcomes are often the result of the law’s failure to define property rights in resources such as air, roads, or orbits. By failing to define such rights, a market for clean air or for uncongested roads or for safe space orbits is unable to exist in the first place. Simply put, without property rights, mutually beneficial and voluntary agreements won’t be able to occur in the first instance.

This third type of legal failure is the one most relevant to the subject matter of this paper: the increase in space congestion and orbital space debris. Simply put, because international space law defines outer space as a commons, the tragedy of the outer space commons we are now witnessing should come as no surprise.

[1] Of course, as the economist Ronald Coase specified, where the costs of contracting exceed the gains from trade, there will be no trade, even when markets are fully legal or property rights fully defined and enforced. See Coase 1937.

[2] For an in-depth economic analysis of the problem of uncertainty in law, see, e.g., Giuseppe Dari-Mattiacci and Bruno Deffains, “Uncertainty of Law and the Legal Process,” Journal of Institutional and Theoretical Economics 163, no. 4 (2007): 627-656.

[3] See, e.g., Guerra-Pujol 2016, Ch. 12 (surveying the legal uncertainty in the United States regarding the purchase and sale of blood).

[4] See, e.g., Posner & Silbaugh 1996, Ch. 12 (surveying laws in the United States dealing with prostitution).

[5] For the standard economic treatment of public goods and common resources, see, e.g., Mankiw 2015, Ch. 11, especially pp. 223-226.

[6] Or, stated formally, a market failure occurs when a “market on its own fails to produce an efficient allocation of resources.” See Mankiw 2015, p. 12.

About F. E. Guerra-Pujol

When I’m not blogging, I am a business law professor at the University of Central Florida.
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