Picking up where we last left off, I had identified another possible source of Ronald Coase’s counter-intuitive reciprocal-harm model at the end of my previous post: what economists and historians of economic thought call the “LSE tradition in cost theory,” an approach to economics that was developed by Lionel Robbins and F. A. Hayek at the London School of Economics in the 1930s. What is this LSE tradition, and how did it influence Coase’s own thinking?

In brief, both Robbins and Hayek had rejected the classical British view that cost is an objective or measurable physical quantity, such as labor hours or material units. Instead, they adopted a psychological, forward-looking “opportunity cost” approach to economics. Under this “opportunity cost” approach to economics, the true cost of any choice is not a historical tally of resources spent, but the subjective value of the next best alternative foregone at the moment of decision. (For further information, see the late Jim Buchanan’s overview “Introduction: L.S.E. Cost Theory in Retrospect,” in L.S.E. Essays on Costs. (Buchanan & Thirlby 1981, Ch. 1) This work is available here via the Online Library of Liberty (OLL) for free.)

On this view, one can thus trace a direct relationship between Robbins and Hayek’s opportunity cost approach to economics and Ronald Coase’s reciprocal model of harm: by applying the Robbins-Hayek-LSE view that cost is the value of the next best alternative foregone, Coase shows how preventing harm to one party always inflicts an opportunity cost on another! But is this what Coase learned during his student years at the London School of Economics, and if so, who did he learn it from, for as we shall see in my next post, we have no record of Coase ever attending any of Robbins or Hayek’s LSE lectures? (To be continued …)