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Economic Efficiency in Law and Economics

Richard O. Zerbe Jr.

In this path-breaking book, Richard Zerbe introduces a new way to think about the concept of economic efficiency that is both consistent with its historical derivation and more useful than concepts currently used. He establishes an expanded version of Kaldor–Hicks efficiency as an axiomatic system that performs the following tasks: the new approach obviates certain technical and ethical criticisms that have been made of economic efficiency; it answers critics of efficiency; it allows an expanded range for efficiency analysis; it establishes the conditions under which economists can reasonably say that some state of the world is inefficient. He then applies the new analysis to a number of hard and fascinating cases, including the economics of duelling, cannibalism and rape. He develops a new theory of common law efficiency and indicates the circumstances under which the common law will be inefficient.
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Chapter 4: The Nature of Inefficiency

Richard O. Zerbe Jr.


4. The nature of inefficiency 4.1 THE DEFINITION OF INEFFICIENCY I will say that economic inefficiency occurs when there is some hypothetical new rule that would pass a KHZ efficiency test, not counting the costs of changing the rule, but counting other transactions costs.1 By not counting the costs of changing a rule, the economic analyst is saved the difficult job of estimating the political costs associated with rule change. I call this efficiency or economic efficiency. With this definition a paradox arises in so far as an economist may then label some rule inefficient, when the costs of enacting the rule are sufficiently great that society would lose were the rule to be enacted. If, however, to define efficiency to include the costs rule change then every society is always completely efficient as a tautology. I will call this sort of efficiency tautological efficiency. Inefficiency incurs then because transactions costs are higher than they need to be, or because property rights do not correspond to psychological rights. By this definition, inefficiency lies solely within institutions with rule-making authority. That is, given rational, wealth-maximizing behavior on the part of individuals, inefficiency arises only from inefficient rules, which arise from institutions. Here, I view the role of institutions as setting rules of property and liability, by which I mean rules of transactions. That is, inefficiency occurs only when an efficient...

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