Shopping for Law in a Coasean Market
In the twentieth century, two Nobel-Prize winning economists wrote two seemingly unrelated characterizations of the processes constraining human behavior. One, Ronald Coase, wrote a short article entitled The Nature of the Firm, in which he reduced all managerial decision-making to a choice between making the factors of production, or buying them. This article, and the "make or buy" decision for which it has come to be known, has proven to be among the most seminal in the history of financial economics and organizational behavior.
The second economist, Friedrich Hayek, wrote what he thought to be a comprehensive treatment of the approach that ought to be taken to the generation of rules constraining human interaction. This voluminous work, Law, Legislation and Liberty, characterized the creation of legal rules as the product of either spontaneous or planned orders. Hayek argued that spontaneous orders like the common law were more efficient mechanisms for governing human behavior than planned or made orders like legislation. This thesis received a lukewarm reception generally, and in legal circles, virtually no reception at all.
This Article demonstrates that Coase and Hayek were actually making the same observation, albeit in different contexts. Hayek's conception of rule-making is, in fact, a specific application of Coase's "make or buy" decision. Common law adjudication, as a retrospective, recurrent, and cumulative spontaneous order, has the ability to make use of more and better information about human interaction than legislation, as a prospective made order, can ever hope to access. Although rules generated through adjudication have been met with mistrust, it is the process that distinguishes informed from under-informed rule-making. The efficient rule generation processes of adjudication may be employed by courts, agencies, or legislatures. Likewise, the less efficient mechanisms of legislation can characterize rule generation by any legal institution, including courts. Properly understood, Hayek and Coase together demonstrate that if courts can be restrained from engaging in legislation, the rules they generate are more likely to promote social welfare than can be accomplished through central planning.