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Law and Economics
University of Kansas School of Law
Kramer, Douglas

Fundamental Concepts of Economics –

Law of Demand –

Sunk costs do not affect a rational actor’s decisions on P & Q

If a seller demands an unattainable price, he is better off using the good or selling it for a loss.

Opportunity Cost –

Sellers seek to maximize the difference between costs and sales revenues.
Minimum price that a self-interested seller will sell for à the cost of the inputs (resources) used in production
Money is merely one type of finite resource

Resources gravitate toward highest value use in a free market.
Efficiency –

Kaldor-Hicks Efficiency
Pareto Efficiency

Detailed Explanations

Marginal Cost –

Generally –

The cost of increasing production by one unit

Production decisions –

For instance, given certain plausible assumptions, a profit-maximizing firm will increase production up to the point where marginal revenue equals marginal cost.
Equilibrium – point at which marginal revenue = marginal cost

Economic Rent –

Total Revenue – Total Opportunity Costs
The difference between what a FACTOR OF PRODUCTION is paid and how much it would need to be paid to remain in its current use.
IE –

A soccer star may be paid $50,000 a week to play for his team when he would be willing to turn out for only $10,000, so his economic rent is $40,000 a week.

In PERFECT COMPETITION, there are no economic rents, as new FIRMS enter a market and compete until PRICES fall and all rent is eliminated.
Reducing rent does not change production decisions, so economic rent can be taxed without any adverse impact on the real economy, assuming that it really is rent.
Owners of land/resource owners obtain rents

Under competition, rents are earned only by the owners of resources that cannot be augmented rapidly and at low cost to meet an increased demand for the goods they are used to produce
Costs That Create Economic Rent –

(1) Transaction costs, (2) costs to entry, (3) information costs, etc – create barriers to entry that allow companies to make economic rent.

Coase Theorem


An initial assignment of property rights will not affect the ultimate use or disposition of goods, if transactions are costless.

Rationale –

Want to minimize the costs of getting something of value from A to B.
This is best achieved by minimizing the costs a
The closer transaction costs are 0, the easier the property will move toward its highest value use.
Transaction costs are a social waste because the alter the wealth of parties but do not create any additional wealth – BS – anything that people willingly pay for confers them some benefit.
Those that place a higher value on land are likely to put it to more productive use b/c they will need to recoup their costs.

Types of Transaction Costs

tracing costs –

costs of identifying the copyright holder

Negotiation costs – negotiating a license
Allocative Costs –

To the extent that a © is a public good, any price for its use m

then collected by opportunists – and likely the same people advocating avoiding the transaction cost.

IE – economic development eminent domain. Argue that it is necessary to clear a blighted area below the “total economic cost” because the “full cost” cannot be determined. However, the same people making the argument capture a share of the surplus wealth stripped from the property owners.

Definition seems to exclude only those activities considered “necessary evils”

Settlement “Bilateral Monopoly” Problem –

Possible solution: Allow a 3P to buy settlement rights


Might lead to increase in litigation b/c the market for lawsuits will be comodized or perhaps even securitized.
Undermine confidence in the judicial system
Cut against what people believe is just, fair, and equitable

Benefits –

This might solve the problems with (1) Ps divergent settlement interests and (2) the bilateral monopoly
Removes dispositionist/situationalist advantages – Large corporation would no longer have the same incentive to wait it out for the injured P to settle for pennies on the dollar.