93 Pages Posted: 28 Mar 2010 Last revised: 10 Aug 2010
Date Written: March 23, 2010
This is a survey of some theories of property rights, prepared for the Handbook of Organizational Economics, Princeton University Press, edited by R. Gibbons and J. Roberts. A central feature of property rights is that they influence economic efficiency not (only) directly, but (also) through their effect on subsequent decisions made by agents, either unilaterally or in negotiation with each other. We examine models in which property rights affect incentives for agents' non-contractible unilateral actions (such as the static "Tragedy of the Commons," "adaptation" models, and hold-up models) as well as models in which property rights affect the efficiency of bargaining (such as private-information "partnership dissolution" models and bilateral contracting with externalities models).
For incentive theories, we relate optimal property rights allocations to the nature of externalities arising from agents' actions. First, we show that when there exist property rights that eliminate harmful externalities at a first-best outcome, these property rights ensure the first best. When harmful externalities cannot be eliminated, second-best property rights are chosen with the view of reducing distortions in agents' actions. We examine how the sign of externalities determines the nature of distortions and the resulting second-best property rights allocations. This analysis applies not just to static incentive models but also to hold-up models, in which a prominent role is played by bargaining externalities (through agents sharing renegotiation surplus) in addition to possible direct externalities (from cooperative investments). The analysis unifies a number of theories of incentive contracts and property rights, including Hart and Moore's (1990) theory, and highlights the role of various assumptions in the specific results. We also discuss the possibility of using mechanism design or renegotiation design for improving upon simple property rights.
Next, we discuss how the efficiency of bargaining under private information is affected by property rights ("status quo allocation"). We describe a general class of situations in which efficient bargaining is impossible (which includes Myerson and Satterthwaite's famous setting), and also demonstrate property rights that permit efficient bargaining in a wide class of situations. Finally, we consider the role of property rights on the efficiency of bilateral bargaining with externalities.
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