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IAI Actuarial Core Principles · Business Economics · Relationship between the government and the individual firm

According to the Coase theorem, under which condition can private bargaining between a polluter and affected parties reach an efficient outcome regardless of who initially holds the property right?

The condition is that transaction costs are low and property rights are clearly defined and enforceable. Then the parties can bargain to the efficient outcome whoever initially holds the right, though the distribution of income differs.

  1. ATransaction costs are low and property rights are clearly defined and enforceableCorrect
  2. BThe government sets a uniform tax on all polluters
  3. CThe number of affected parties is very large
  4. DThe polluter has monopoly power
  5. Information about damages is private to the polluter only

Explanation

Coase showed that with well-defined, enforceable rights and negligible transaction costs, parties bargain to the efficient result whichever party holds the right. Large numbers of parties and asymmetric information raise transaction costs, which defeats the result.

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