Mark D. White
The Wall Street Journal today features a paean to A.C. Pigou and good old-fashioned utilitarian economics, written by John Cassidy, author of How Markets Fail: The Logic of Economic Calamities. To Cassidy's (or the editors') credit, statements from other economists (such as Milton Friedman and Ludwig von Mises) are included for counterpoint, and Cassidy even mentions some pre-Coasean insight from Pigou:
The mere existence of negative spillovers doesn't necessarily justify government intervention, Mr. Pigou conceded. In some cases, the parties concerned might be able to come to a voluntary agreement about how to compensate innocent bystanders. A landlord, for instance, may reduce the rents for tenants who have to live over a noisy bar.
The landlord doen't do this out of the kindness of his heart, of course; more likely he has to lower the rent to attract tenants to a less attractive apartment.
A better example would be the tenant confronting the bar owner directly for compensation; as Coase showed, if the two parties can bargain relatively costlessly, and one can be shown to have a right to control the noise in the situation, they will come to an agreement that will resolve the conflict efficiently, using information only they have (especially their subjective disutilities from various solutions), rather than relying on the incomplete information (and possibly skewed incentives) of government officials.
The role of the courts here is not a hindrance, as many have assumed, but rather highlights an ignored aspect of externalities that stands in contradiction to entire utilitarian/Pigouvian economics tradition: harm is only of social (and governmental) concern if it is wrongful, i.e. if it violates a legal right. It can be argued that all actions (except the most private ones) create externalities of some sort, but nonetheless only the wrongfully caused ones are of legitimate concern to society and to the government. Hence the requirement of the Coase Theorem that rights be clearly assigned; the legal right in a situation must be ascertained, either by statutes, common law, or judicial decision, and then (and only then) the wronged party can either demand compensation or consent to a deal with the party found to be at fault. After all, that's what tort law is for (according to most legal scholars, with subtle differences): providing a mechanism for harmed parties to shift their burden to parties that caused it (depending, in most cases, on fault).
But given their refusal to recognize rights (or wrongs), economists in the utilitarian/Pigouvian tradition cannot see this, and they simply add up benefits and harms. This is particularly pernicious when they counsel not the elimination of externalities, but the optimization of them: eliminate only the inefficient externalities, and leave the rest alone. If they acknowledged that some externalities are wrongful, they could not in good conscience (or at least without regret) recommend any less than elimination (recall the ridicule attending to 2004 presidential candidate John Kerry's statement that he would reduce terrorism to a "manageable level"). That's why normal people are so incredulous when you tell them it isn't efficient to eliminate pollution, because most people (for better or for worse) regard pollution as a moral wrong, not to be optimized but to be eliminated. (Imagine if some brilliant young economist were to recommend the "efficient level of torture.")
Rather than turn back to this Pigovian mindset (not that I think we ever left it), why can't we start looking at the roles of right and wrong in the economy (however one chooses to define them), rather than simply adding up benefits and harms? We may see that not all the benefits are "right," not all the harms are "wrong," and all the benefit in the world might not be worth a little wrongful harm.
UPDATE (Dec 4): The Wall Street Journal printed my letter to the editor along the same lines today.
UPDATE (Dec 7): Another economist jumps on the Pigouvian bandwagon.