Why do governments intervene in private markets? Why do governments regulate? Imagine no property rights, criminal law, tort law, contract law Imagine only property rights, criminal law, tort law, contract law Security  Criminal/tort law, Encourage investment Contract law Encourage innovation Property rights / IP Encourage gains from trade

Terminology: Pareto optimality (vs. alternatives)

Market Failure I: Misuse of Economic Power Control of monopoly power Unfair competition law History

Market failure II: Natural Monopoly Economies of scale Network effects Bottleneck industries Response? Public ownership vs. Price / service regulation What does price / service regulation mean?

Market Failure III: information asymmetries Economic theory  in order to have efficient markets, all participants need reliable information E.g., Securities, consumer products

Market Failure IV: Providing/maintaining Public Goods What are public goods? What distinguishes public goods from other goods?

Market Failure IV: Providing/maintaining Public Goods What are public goods? What distinguishes public goods from other goods? Free to use Nonrival consumption Tragedy of the commons

PRISONER'S DILEMMA Whether to testify against his partner in crime (“defect”), or to “cooperate” with his fellow prisoner by remaining silent. Prisoner A CooperateDefect Prisoner B Cooperate | -2, -2-10, -0 Defect | -0, -10-6, -6

PRISONER'S DILEMMA Cardinally valued outcomes: 4=best; 1=worst COLUMN CooperateDefect ROW Cooperate | 3, 31, 4 Defect | 4, 12, 2

Playing the PD game: No communication between players First game: 10 rounds Second game: unknown duration, 5-15 rounds Is the PD a good metaphor for public goods management, or other types of market failure, in your view?

Rule against communication Repeat play issue Civil society vs. state of nature: Contract law “Leviathan Solution” vs. property rights (Coase Theorem)

History of Regulation Rise of economic power  public ownership / regulatory commissions / competition law. These arose simultaneously in U.S. and elsewhere. Populism  Progressive Era Latin American left-populism New Deal  securities laws Post-WWII consumerism / environmentalism (60s and 70s) – U.S., Canada, Europe

Cumulative # of laws Era of the robber barons Progressive Era New Deal Accumulation of Regulatory Statutes 1960s-70s

Dangers of Regulatory Accumulation? Translating popular preferences into policy outcomes Ossification Moral hazard Wednesday: Property rights and political risk; federalism