The Rise of Rule Four Institutions: Voluntary Standards, Certification and Labeling Systems

Abstract

Voluntary standards, certification and labeling mechanisms are one of many forms of private governance institutions that have been developed in recent years to permit communities to govern without government. These institutions enhance efficiency by internalizing externalized social costs and meeting consumer preferences associated with risk. This article advances the existing literature in three ways. First, the article observes that, as a descriptive matter, voluntary standards, certification and labeling systems are “Rule 4” institutions, systems; they permit parties to pursue a Coasian solution to externalities by facilitating the exchange of entitlements. Drawing from Calabresi and Melamed’s seminal article, “Property Rules, Liability Rules and Inalienability Rules: One View of the Cathedral,” the article explains how voluntary standards, certification and labeling systems, by lowering their steep transaction and information costs, permit consumers to trade entitlements. Second, the article observes that these systems are developed primarily in response to government void and government failure, and that this belies the central premise of the Coase theorem - that the main obstacle to internalizing externalities through private sector solutions is the lack of properly defined property rights. These systems permit the exchange of entitlements, not by allocating or defining property rights, but by addressing knowledge problems and collective action problems, suggesting that these are the true impediments to reaching Pareto efficient allocations of resources through Coasian exchanges. Third, the article argues that where governments have adopted voluntary standards certification and labeling systems to counteract their own allocation of entitlements, an overhaul of existing law to change the original allocation may be in order.

Keywords: private governance institutions, regulatory standards setting institutions, non-state market driven systems, eco-labels, Rule 4, Coase, Calabresi, Toxic Substances Control Act, National Organic Program

JEL Classification: K32, K33, L15, L30