The market will generate a good environmental outcome if all the property rights are allocated, providing transaction costs are zero.
Listener: 28 August, 2004.

Keywords: Environment & Resources;

As George Soros remarked, policy regimes are like marriage: whichever one you’re in, you wonder if another might be better. Thus it is with the Resource Management Act. We seem to have forgotten the shambolic arrangements that the Act swept away. But the RMA can be improved.

Its underlying economic theory – the Coase theorem – is intriguingly beautiful, but the limitations of its application are revealing. I shan’t prove the theorem, which of course only applies under certain assumptions. For this column’s purposes, it says that the market will generate a good environmental outcome if all the property rights – who can use, transform or transfer each resource – are allocated, providing transaction costs are zero. The notion of allocating property rights and letting the market take over is the spirit of the RMA, developed in the late 1980s during the high point of our fascination with the market, albeit with the purpose of sustainable management and regard for the life-supporting capacity of the environment.

But applying the principles of the theorem is like belling the cat. What are the relevant property rights and who gets them? It was a stroke of genius to give property rights to future generations via the Act’s sustainability provisions. But all the rest is murkier, and we have ended up with a tribunal system that is involved in identifying and allocating the rights and, at a remove, seeing the rights are enforced, a task that many environmentalists think is done very badly.

The catch is that a tribunal system introduces transaction costs, and we move outside the scope of the theorem. Many of the demands for reforms are to reduce those transaction costs. Business grumbles over the time and costs to make big decisions, although locals sometimes feel that they are cut out, especially as about 95 percent of resource consent applications are not publically notified.

The government has already given more resources to the Environmental Court so it hears appeals more quickly, and the backlog has been reduced from about 3000 cases to 1500 cases, including those in mediation. Local authorities have improved their performance. But the central government has failed to use the Act to provide national policy statements and standards on such things as energy and water.

Lurking behind this allocation of the property rights is the fact they can be fiddled to give valuable ones to some and not others. I won’t accuse the reform advocates of wanting to do this, but speeding up a decision can cut some people out – especially the fragmentally organised, who are typically the communities involved. On the other hand, the tribunal process generates pseudo-property rights when those without significant entitlements can cause sufficient delays in the process to have developers pay them to speed up decisions. The two issues are not unrelated, because cutting out illegitimate, but extortionate, claims may also cut out legitimate ones.

The central role of the transaction costs in the RMA process leads one to meditate on their importance in the economy generally, in contrast to the almost insignificant role they play in most economic analysis. This is all the more astonishing because economists – like lawyers and accountants – are part of the transaction costs on an economy. Yet, economic development, with its increasing complexity of the production process and the increasing sophistication of consumer demands, involves transaction activities growing faster than transformation activities.

Tim Hazledine of Auckland University calculates that 25.7 percent of all employed workers were in transaction activities in 1956, with the remainder in production activities. By 1998, the proportion had risen to 39.8 percent. Only an eighth of the transactors are in the public service: their numbers have been growing slightly more slowly than those in the private sector.

The economists’ task is to try to incorporate transaction costs more formally into economic theory, instead of pretending they don’t exist. In the interim, it seems a good idea to keep transaction costs as low as possible. Which is what should be done with the RMA process, without undermining the primary principles of the Act or the interests of the communities involved.