Econ 522 Economics of Law Dan Quint Fall 2010 Lecture 9.

Econ 522Economics of Law

Dan Quint

Fall 2010

Lecture 9

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Monday – continued applications of property law Different types of public ownership Fugitive property – first possession vs. tied ownership Temporary vs. permanent damages Limitations/exceptions to property rights:

Adverse possession Restraints on alienation Private necessity

Today: finish property law, begin contract law HW 2 due next Monday (at start of lecture) Midterm next Wednesday, in Bascom 272

Plan

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Property: “a bundle of rights”

Can you unbundle them? Separate them, sell some and keep others

Usually, no Prohibition on perpetuities I can’t separate the right to own/live on my land from the right to sell it or

turn it into a golf course

But in some instances, yes…

Another limitation on property rights: “Unbundling”

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Land ownership consisted of three separable pieces (“estates”)

Surface estate

Support estate

Mineral estate

Pennsylvania and coal

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Free unbundling of property rights generally not allowed under common or civil law

Unbundling

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Free unbundling of property rights generally not allowed under common or civil law

Efficiency: allow unbundling when it increases the value of the property? But if re-bundling the rights is costly, maybe not Unbundling uncertainty about rights harder to trade

Unbundling

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The government can take your property “Eminent domain”

And the government can tell you what you can or can’t do with it Regulation

Two other limitations on property rights

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Takings

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One role of government: provide public goods When public goods are privately provided undersupply Defense, roads and infrastructure, public parks, art, science… To do this, government needs land

(which might already belong to someone else)

In most countries, government has right of eminent domain Right to seize private property when the owner doesn’t want to sell This type of seizure also called a taking

Takings

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U.S. Constitution, Fifth Amendment: “…nor shall private property be taken for public use, without just compensation.”

Government can only seize private property for public use

And only with just compensation Consistently interpreted to mean fair market value – what the owner

would likely have been able to sell the property for

Takings

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Why allow takings?

Takings

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Why allow takings?

Why these limitations? why require compensation?

Takings

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Why allow takings?

Why these limitations? why require compensation?

Takings

$3 MM $1 MM$9 MM

$10 MM

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Why allow takings?

Why these limitations? why require compensation? why only for public use?

Takings

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Why allow takings?

Why these limitations? why require compensation? why only for public use?

The government should only take private property (with compensation) to provide a public good when transaction costs preclude purchasing the necessary property through voluntary negotiations

Takings

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1981: GM was threatening to close Detroit plant Would cost city 6,000 jobs, millions in tax revenue

City used eminent domain to condemn entire neighborhood 1,000 homeowners and 100 businesses forced to sell land then used for upgraded plant for GM city claimed employment and tax revenues were public goods,

which justified use of eminent domain

Mich Sup Ct: “Alleviating unemployment and revitalizing the economic base of the community” valid public purposes; “the benefit to a private interest is merely incidental” Overturned in 2004 ruling (Wayne v Hathcock) Similar case, Kelo v. City of New London (2005 US Sup Ct)

Poletown Neighborhood Council v Detroit

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1981: GM was threatening to close Detroit plant Would cost city 6,000 jobs, millions in tax revenue

City used eminent domain to condemn entire neighborhood 1,000 homeowners and 100 businesses forced to sell land then used for upgraded plant for GM city claimed employment and tax revenues were public goods,

which justified use of eminent domain

Mich Sup Ct: “Alleviating unemployment and revitalizing the economic base of the community” valid public purposes; “the benefit to a private interest is merely incidental” Overturned in 2004 ruling (Wayne v Hathcock) Similar case, Kelo v. City of New London (2005 US Sup Ct)

Poletown Neighborhood Council v Detroit

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Regulation

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Regulation

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1800s: PA Coal purchased mineral and support estates, Mahon owned surface

1921: Kohler Act prohibited “mining of anthracite coal in such a way as to cause the subsidence of, among other things, any structure used as a human habitation.”

PA Coal sued government, claiming the regulation was same as seizing their land (without compensation)

“…While property may be regulated to a certain extent, if regulation goes too far it will be recognized as a taking.”

Regulation: Pennsylvania Coal v. Mahon

surface estate

support estate

mineral estate

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surface estate

support estate

mineral estate

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surface estate

support estate

mineral estate

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surface estate

support estate

mineral estate

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Support compensation for regulatory takings Shifting burden of regulation from owners of affected property to all

taxpayers Equivalent to selling everyone insurance against harmful regulation If such insurance were available, people would buy it But it’s not available, so government should provide it

Blume and Rubinfeld, “Compensation for Takings: An Economic Analysis”

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Zoning laws Distinguish industrial areas from residential areas

More on regulation

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Nollan v California Coastal Commission (US Sup Ct, 1987) Nollans owned coastal property Asked for permit to expand building, which would diminish view Commission: donate a public walking path, and you get permit Supreme Court: such a deal only legal if there is clear connection –

a nexus – between the harm being done and the remedy

More on regulation

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Nollan v California Coastal Commission (US Sup Ct, 1987) Nollans owned coastal property Asked for permit to expand building, which would diminish view Commission: donate a public walking path, and you get permit Supreme Court: such a deal only legal if there is clear connection –

a nexus – between the harm being done and the remedy

More on regulation

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What are benefits and costs of… having property rights at all? expanding property rights to cover more things? introducing an exception/limitation to property rights?

When will benefits outweigh the costs?

Property law: the big-picture question

End of material on first midterm

Up next: contract law

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Some transactions don’t occur all at once I’m flying to Boston for Thanksgiving… …or I hire someone to paint my house…

Why do we need contracts?

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Some transactions don’t occur all at once I’m flying to Boston for Thanksgiving… …or I hire someone to paint my house… …or you can get $10 for a purple poker chip, but don’t have any

cash on you right now to buy it from someone with a lower number

A contract is a promise…

…which enables trade when transactions aren’t concluded immediately

Why do we need contracts?

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Subgame perfect equilibrium: I’ll keep all the money; so you don’t trust me Inefficient outcome (100 < 200) And we’re both worse off

Example: the agency (trust) game

Player 1 (you)

Trust me Don’t

Player 2 (me)

Share profits Keep all the money

(150, 50) (0, 200)

(100, 0)

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(One solution: reputation)

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Now we get cooperation (and efficiency) Purpose of contract law: to allow trade in situations where

this requires credible promises

Another solution: legally binding promises

Player 1 (you)

Trust me Don’t

Player 2 (me)

Share profits Keep all the money

(150, 50) (125, 25)

(100, 0)

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“The rich uncle of a struggling college student learns at the graduation party that his nephew graduated with honors. Swept away by good feeling, the uncle promises the nephew a trip around the world. Later the uncle reneges on his promise. The student sues his uncle, asking the court to compel the uncle to pay for a trip around the world.”

“One neighbor offers to sell a used car to another for $1000. The buyer gives the money to the seller, and the seller gives the car keys to the buyer. To her great surprise, the buyer discovers that the keys fit the rusting Chevrolet in the back yard, not the shiny Cadillac in the driveway. The seller is equally surprised to learn that the buyer expected the Cadillac. The buyer asks the court to order the seller to turn over the Cadillac.”

“A farmer, in response to a magazine ad for “a sure means to kill grasshoppers,” mails $25 and receives in the mail two wooden blocks with the instructions, “Place grasshopper on Block A and smash with Block B.” The buyer asks the court to require the seller to return the $25 and pay $500 in punitive damages.”

So… what types of promises should be enforced by the law?

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The Bargain Theoryof Contracts

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Developed in the late 1800s/early 1900s

A promise should be enforced if it was given as part of a bargain, otherwise it should not

Bargains were taken to have three elements Offer Acceptance Consideration

The bargain theory of contracts

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Promisor: person who gives a promise

Promisee: person who receives it

In a bargain, both sides must give up something reciprocal inducement

Consideration is what the promisee gives to the promisor, in exchange for the promise

Under the bargain theory, a contract becomes enforceable once consideration is given

What is consideration?

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Promisor: person who gives a promise

Promisee: person who receives it

In a bargain, both sides must give up something reciprocal inducement

Consideration is what the promisee gives to the promisor, in exchange for the promise

Under the bargain theory, a contract becomes enforceable once consideration is given

What is consideration?

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Hamer v Sidway (NY Appeals Ct, 1891)

Uncle offered nephew $5,000 to give up drinking and smoking until his 21st birthday, then refused to pay

“The promisee [previously] used tobacco, occasionally drank liquor, and he had a legal right to do so. That right he abandoned for a period of years upon the strength of the promise… We need not speculate on the effort which may have been required to give up the use of these stimulants. It is sufficient that he restricted his lawful freedom of action within certain prescribed limits upon the faith of his uncle’s agreement, and now, having fully performed the conditions imposed, it is of no moment whether such performance actually proved a benefit to the promisor, and the court will not inquire into it.”

The bargain theory does not distinguish between fair and unfair bargains

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Expectation damages

the amount of benefit the promisee could reasonably expect from performance of the promise

meant to make the promisee as well of as he would have been, had the promise been fulfilled

Under the bargain theory, what is the remedy?

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Problems with the bargain theory

Not that accurate a description of what modern courts actually do

Not always efficient

Does not enforce certain promises that both promisor and promisee might have wanted to be enforceable

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Problems with the bargain theory

Not that accurate a description of what modern courts actually do

Not always efficient

Does not enforce certain promises that both promisor and promisee might have wanted to be enforceable

Does enforce certain promises that maybe should not be enforced

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What does efficiency say about what promises should be enforced?

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What promises should be enforced?

In general, efficiency requires enforcing a promise if both the promisor and the promisee wanted it to be enforceable when it was made different from wanting it to actually be enforced

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The first purpose of contract law is to enable people to cooperate by converting games with noncooperative solutions into games with cooperative solutions or, enable people to convert games with inefficient equilibria into

games with efficient equilibria

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The first purpose of contract law is to enable people to cooperate by converting games with noncooperative solutions into games with cooperative solutions or, enable people to convert games with inefficient equilibria into

games with efficient equilibria

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So now we know…

What promises should be enforceable? For efficiency: enforce those which both promisor and promisee

wanted to be enforceable when they were made

One purpose of contract law Enable cooperation by changing a game to have a cooperative

solution

Contract law can serve a number of other purposes as well

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Information

Private/asymmetric information can hinder trade Car example (George Akerloff, “The Market for Lemons”)

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Information


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Information


Contract law could help You could offer me a legally binding warranty Or, contract law could impose on you an obligation to tell me what you

know about the condition of the car Forcing you to share information is efficient, since it makes us more likely

to trade

The second purpose of contract law is to encourage the efficient disclosure of information within the contractual relationship.

Econ 522 Economics of Law Dan Quint Fall 2010 Lecture 9.

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Transcript of Econ 522 Economics of Law Dan Quint Fall 2010 Lecture 9.