William and Mary Announces 2014 Football Schedule

Good Precedent for 2014!

 

William and Mary has announced its 2014 football schedule.   As is customary in recent years, the Tribe will open with an FBS opponent, this year Virginia Tech.  (Tech leads this series 40-18-4.) Other home game highlights will include CAA rivals Villanova (for homecoming) and Delaware.  As always, the Tribe will end the regular season against Richmond, playing for what is now known as the "Capital Cup."  As previously explained on this blog, the W&M v. Richmond rivalry is the oldest in the South and the fourth most prolific college football rivalry judged by games played.  

 

The Tribe will also travel to Durham, New Hampshire and Harrisonburg, Virginia to play CAA opponents New Hampshire and James Madison, respectively.  This season the Tribe defeated JMU 17-7 (see the above photo) and New Hampshire 17-0.  Hopefully the 2014 Tribe will repeat such performances against both teams!  

 

Fans with a sharp eye will notice two new opponents on the schedule: The Stony Brook Seawolves and Elon Phoenix.  Both schools have just joined the CAA, and each will be playing full league schedules this coming year.   (See here for Elon's announcement and here for Stony Brook's.)    No doubt the Tribe will give each team a vigorous CAA "welcome!" 

Here is the schedule.  Home games are in bold, and all times are "to be announced."  I have also included the all-time series record for each rivalry.    For a complete list of the Tribe's all time records against various opponents, currently up-to-date through the 2012 season, go here.

August 30       Virginia Tech                                 Tech leads 40-18-4

September 6    Hampton                                      WM leads 3-1

September 13  Norfolk State                                WM leads 4-0

September 20  Lafayette                                      Series is tied 1-1

September 27  Stony Brook                                   0-0

October 11      New Hampshire                              WM leads 13-3

October 18     Villanova  (HC)                               WM leads 16-14-1

October 25    Delaware                                        Del. leads 22-16

November 1   James Madison                                JMU leads 20-15

November 8  Elon                                                  0-0

November 15 Towson                                            WM leads 7-3

November 22 Richmond                                        WM leads 61-57-5

Sixty four years ago today the German Navy scuttled the Graf Spee off the coast of Montevideo, Uruguay.  Though often dubbed a "pocket battleship" because of her 11 inch guns, the 16,000 ton Graf Spee, while larger than a heavy cruiser, was only one third the size of battleships such as the HMS Hood (47,000 tons) and German battleship Bismarck (50,000 tons).  After the outbreak of World War II, the ship sank several merchant vessels in the South Atlantic, and Great Britain responded by deploying nine different squadrons of ships in search of the raider.   On December 13, 1939, a British squadron consisting of one heavy cruiser (Exeter) and two light cruisers (Achilles and Ajax), intercepted the ship off the coast of Uruguay.  The German warship moved south toward the British squadron at full speed, and opened fire while still beyond the range of its adversaries.   The larger Exeter moved northwest, drawing a portion of Graf Spee's fire, while the two smaller cruisers moved to the northeast.  See Winston Churchill, The Second World War: Vol. I: The Gathering Storm, 521-22  (1948) (producing five diagrams detailing various phases of the battle).  Battered by several 11 inch shells, the Exeter withdrew, after scoring several hits of her own.   Damaged and still harried by the Ajax and Achilles, the Graf Spee made smoke and sought refuge in port of Montevideo. 

 

Once in port, the German vessel sought two weeks to make repairs.  However, British diplomats invoked the 1907 Hague Convention Concerning the Rights and Duties of Neutral Powers in Naval War, to which Uruguay was a signatory.  Article XII of the Convention required belligerent ships to depart from a neutral port within 24 hours of entry.  British diplomats initially invoked this article in an effort to force Uruguay immediately to expel the German raider.  However, the British Admiralty had dispatched the heavy cruiser Cumberland to join the Ajax and Achilles, and additional vessels were scheduled to arrive on December 19.  As a result, the British invoked Article XVI of the convention, which prohibited a belligerent ship from leaving a neutral port less than 24 hours after a ship from a different belligerent.  British and French merchant vessels began departing in 24 hour intervals, thereby delaying any possible departure by the German vessel.  Anticipating that the injured vessel would soon be hopelessly outnumbered and outgunned, a skeleton crew sailed the Graf Spee out to sea and scuttled her, as pictured above.

In Praise of Conventional Wisdom on Munich

Right

 

 

Wrong

In an essay entitled: "Why Neville Chamberlain Was Right," one Nick Baumann bucks conventional wisdom and praises the so-called Munich agreement, signed September 30, 1938.  Under this agreement, Great Britain, led by then-Prime Minister Neville Chamberlain, and France, led by Prime Minister Edouard Daladier, acquiesced in Hitler's illegal demand that Czechoslovakia cede the Sudetenland to Nazi Germany, thereby temporarily staving off a German invasion of the entire Czech nation.  In particular, Baumann contends that Chamberlain obtained the best deal he could, given that Britain was militarily weak and thus (according to a study by the British military) "could not possibly stop Germany from taking Czechoslovakia."  Baumman also contends that British public opinion would have opposed Britain's defense of Czechoslovakia and that other states within the British Empire, i.e., the Dominions, would have opposed such intervention as well.  Thus, Baumann concludes that: "Chamberlain's story is of a man who fought for peace as long as possible, and went to war only when it was the last possible option.  It's not such a bad epitaph."  (Chamberlain, of course, is pictured above, holding a copy of a September 30, 1938 joint declaration between the British Prime Minister and Hitler.  To hear Chamberlain's remarks upon returning from Germany after finalization of the Munich agreement, listen to this 1938 report from the BBC.  (Chamberlain's remarks begin at about 4:55.)).


This Blogger agrees that re-examination of conventional wisdom is always appropriate.  However, in my view, Baumann overlooks four considerations that weaken his case and support the conventional view that Chamberlain's policies, including those leading up to Munich, helped pave the way for a war that may well have been avoided.  In this case, conventional wisdom appears to be correct.

 

1. Baumann overlooks the origins of Britain's 1938 unpreparedness, namely, Chamberlain's own policies of appeasement and military weakness, policies also pursued by his predecessor, Stanley Baldwin.  From the early 1930s onward Winston Churchill (pictured above) and others consistently warned that Hitler was bent on aggressive expansion throughout Europe and urged Britain to rearm as quickly as possible to deter and, if necessary, oppose such conquest.     See William Manchester, Winston Spencer Churchill, The Last Lion: Alone 1932-1940 (1988).    Both Baldwin and Chamberlain (the latter of whom served as Baldwin's Chancellor of the Exchequer)  rejected these repeated calls, choosing instead more modest (but significant) increases in arms spending, increases that largely overlooked the need to modernize and expand Britain's army.  Both also assured the British public that appeasement, and not force, would contain Hitler.  Thus, both Chamberlain and Baldwin helped create the very weakness that Baumann invokes in support of the Munich accords.  Indeed, the supposed fact that Munich was the best deal Chamberlain could strike is itself a powerful indictment of the Baldwin-Chamberlain policy of rearmament in moderation.  Any epitaph that overlooks Chamberlain's role in creating the conditions that emboldened Hitler is woefully incomplete. 
 

2.    Baumann asks whether Britain herself could have prevented Hitler's annexation of the Sudetenland.  His answer, that Britain could not have prevented such an annexation, is obviously correct.  But the question is meaningless.  It is equally true that Britain could not have unilaterally prevented Hitler's conquest of Poland in September, 1939, and yet Baumann endorses Chamberlain's decision to go to war at that time. 

Indeed, so far as this blogger is aware, no contemporary or modern opponent of the Munich agreement believed that Britain could or should defend Czechoslovakia unilaterally.  On the contrary, Churchill and others contended that Britain should embrace a policy of what Churchill repeatedly called "collective security," building an alliance between Britain, France, Czechoslovakia and perhaps Russia to thwart Hitler's planned conquests.  Indeed, the Covenant of the League of Nations, adopted in 1924, expressly contemplated that member states would respond collectively to aggression.  (See Article 16)    Thus, the relevant question for those examining Chamberlain's decision is whether such an alliance, perhaps led and orchestrated by Great Britain, could have thwarted Hitler's designs on Czechoslovakia and the rest of Eastern Europe, averting general war and saving millions of lives.

The answer to this question seems to be "obviously yes."  To be sure, Britain's army was quite small at the time.  However, Czechoslovakia's army, the second most potent in Eastern Europe (behind Russia), was not.  Instead, the Czechs could field 35 divisions, well-equipped by the nation's modern munitions industry.  See Winston Churchill, The Second World War, Vol. I: The Gathering Storm,  301-302 (1948).   More importantly, France could field 100 divisions after full mobilization.  See Benjamin Martin, France in 1938, 164 (2005).  Moreover, the mountainous and heavily-wooded Sudetenland was far more defensible than Poland or, for that matter, France, and the Czechs had been fortifying this portion of their country with pillboxes and forts in anticipation of a German invasion since 1935.     

 

France had entered a mutual defense agreement with Czechoslovakia in the mid-1920s, and Prime Minister Daladier urged Britain to join France in resisting German aggression against Czechoslovakia.  See John Lukacs, The Last European War, 14 (1976).  Such aggression, of course, contravened Article 10 of the Covenant of the League of Nations.   Such an alliance between Britain, France and Czechoslovakia would have presented Hitler with an insurmountable strategic problem, even assuming that Russia would have remained neutral. (Russia, it should be noted, did not border on Czechoslovakia, with the result that the Russian Army would have to march through an unwilling Poland to defend the Czechs.  Though it should be noted that Article 16 of the Covenant of the League of Nations required member states to allow transit through their territories of troops co-operating with those of other countries to enforce the Covenant.)

Germany's generals were well aware of Czechoslovakia's ability to defend herself.   As a result, Hitler's invasion plan would have required Germany to deploy most of her then-untested army in the East, leaving only 13 divisions, 8 of them reserve units, to defend her western border with France. See Churchill, Gathering Storm, at 302 ("According to [German] Generals Halder and Jodl, there were but thirteen German divisions, of which only five were composed of front-line troops, left in the West at the time of the Munich arrangement."). 

Simply put, even in 1938, Britain and France had the military wherewithal to prevent Germany's invasion of Czechoslovakia and thus vindicate International Law by presenting Germany with the prospect of a two-front war that Germany could not have won at that time.  See Churchill, Gathering Storm, at  302.  See also id. at 304 (explaining that Germany's production of tanks necessary for the 1940 invasion of France did not take place until after 1938).    Indeed, fearing such an all-out war, several German generals had conspired to overthrow Hitler if he ordered an invasion of Czechoslovakia, as he was planning to do.  See Richard Overy with Andrew Wheatcroft, The Road to War, 62 (Rev. ed. 1999); Churchill, Gathering Storm, at 280-81.  Instead, Chamberlain's intervention and the resulting extra-legal Munich accords stripped Czechoslovakia of its most defensible terrain and paved the way for Germany's occupation of most of Czechoslovakia  six months later.  See Overy and Wheatcroft, Road to War, at 57 ("Examination of the Czech frontier defenses a few weeks [after Munich] showed Hitler that war with the Czechs would not have been easy after all.  Without the defenses the rump Czech state was now powerless."); id. (noting Hitler's statement that Munich's elimination of Czechoslovakia's Sudetenland defenses left Germany in a "marvelous position"). 

3.    Baumann ignores the economic and military value of Czechoslovakia to Hitler. The Skoda Works, in Pilsen, was at the time one of the largest munitions factories in the world.  Churchill reports that Czechoslovakia's annual output of arms nearly equaled that of Great Britain during this period.  See Churchill, Gathering Storm at 302.   After Nazi occupation of Czechoslovakia, these works would supply munitions that outfitted 19 German Divisions, 4 of them armored.  See Overy and Wheatcroft,  Road to War, at 63.  Czechoslovakia was also an important source of coal, iron, and machine tools.  Id.   Thus, by granting Hitler the Sudetenland and thereby paving the way for German conquest of the entire Czech nation, Chamberlain both deprived the anti-Hitler alliance of a powerful ally and strengthened Hitler's economic position at a time when German munitions output doubled that of Britain and France combined.   See Churchill, Gathering Storm at 301.

4.    Baumann ignores the large gap between Anglo-French and German munitions output in 1938 and 1939 as well as the gap between German and French manpower.  As just noted, Germany produced far more weapons in 1938 and 1939 than Britain and France combined.   Germany, with a population much greater than France, used much of this production to outfit its rapidly-expanding army, inexorably altering the balance of military power on its Western Front.  Thus, by delaying the start of the war, the Munich agreement allowed Germany to enhance its military might relative to that of England and France, thereby altering the balance of power in Germany's favor.   As Churchill would put it shortly after the war:

   "[T]he year's 'breathing space' said to be 'gained' by Munich left Britain and France in a much worse position compared with Hitler's Germany than they had been at the Munich Crisis."

 

 * * * * *

None of this is to say that resisting Hitler in 1938 would have been easy, at least as a political matter.  British public opinion  was slow to awake from its pacifist slumber, and France was was badly divided politically.    But effective democratic leadership require identification of the best course, not that which is most popular, as well as articulate advocacy that sways public opinion in the right direction.  Judged by this standard, Chamberlain did not measure up.

 

William Howard Taft's Prescient Endorsement of Standard Oil, 112 Years Young

Knew Something About The Sherman Act

A previous post on this blog celebrated the birthday of Standard Oil Co. v. United States, 221 U.S. 1 (1911).  As explained in that post, Standard Oil articulated the "Rule of Reason" that courts apply when determining whether an agreement between two or more firms is a "contract, combination or conspiracy in restraint of trade or commerce among the several states" and thus contrary to Section 1 of the Sherman Act.  Recognizing that all agreements restrain trade in some sense, the Standard Oil Court read Section 1 narrowly, so as not to offend liberty of contract.  Thus, the Court held that Section 1 bans only those restraints that produce "the consequences of monopoly," namely, prices above the competitive level, output below the competitive level, and/or quality below the competitive level. 

Standard Oil was controversial at the time, with Justice Harlan (in dissent) and various commentators claiming that the Court's Rule of Reason contravened two key Supreme Court precedents, including United States v. Joint Traffic Association, 171 U.S. 505 (1898), and United States v. Trans Missouri Freight Association, 166 U.S. 290 (1897).   Harlan and others also invoked Addyston Pipe and Steel Co. v. United States, 85 F. 271 (6th Cir. 1898), which the Supreme Court unanimously affirmed.  See 175 U.S. 211 (1899).  According to Harlan, for instance, the Sixth Circuit's Addyston Pipe decision had read Section 1, as interpreted by Trans-Missouri Freight, to ban every contract that restrained trade, without regard to reasonableness.  Harlan issued a similar dissent in American Tobacco v. United States, 221 U.S. 106, 180 (1911), which reiterated Standard Oil's Rule of Reason when interpreting and applying Section 2 of the Sherman Act.

 

Whether he knew it or not, Harlan's charge was potentially embarrassing for then-President William Howard Taft, who, as an appellate judge, had authored the Sixth Circuit's decision in Addyston Pipe and appointed Edmund White, then an Associate Justice, as Chief Justice upon the death of Melvin Fuller. 

 

112 years ago today, President Taft responded to this critique of Standard Oil, without mentioning Harlan by name, in his Third Annual message to Congress.  Some of Taft's remarks, found here on the website of the University of Virginia's Miller Center, are worth re-reading:

 

"In two early cases, where the statute was invoked to enjoin a transportation rate agreement between interstate railroad companies, it was held that it was no defense to show that the agreement as to rates complained of was reasonable at common law, because it was said that the statute was directed against all contracts and combinations in restraint of trade whether reasonable at common law or not. It was plain from the record, however, that the contracts complained of in those cases would not have been deemed reasonable at common law. In subsequent cases the court said that the statute should be given a reasonable construction and refused to include within its inhibition, certain contractual restraints of trade which it denominated as incidental or as indirect.

These cases of restraint of trade that the court excepted from the operation of the statute were instances which, at common law, would have been called reasonable. In the Standard Oil and Tobacco cases, therefore, the court merely adopted the tests of the common law, and in defining exceptions to the literal application of the statute, only substituted for the test of being incidental or indirect, that of being reasonable, and this, without varying in the slightest the actual scope and effect of the statute. In other words, all the cases under the statute which have now been decided would have been decided the same way if the court had originally accepted in its construction the rule at common law.

It has been said that the court, by introducing into the construction of the statute common-law distinctions, has emasculated it. This is obviously untrue. By its judgment every contract and combination in restraint of interstate trade made with the purpose or necessary effect of controlling prices by stifling competition, or of establishing in whole or in part a monopoly of such trade, is condemned by the statute. The most extreme critics can not instance a case that ought to be condemned under the statute which is not brought within its terms as thus construed.

The suggestion is also made that the Supreme Court by its decision in the last two cases has committed to the court the undefined and unlimited discretion to determine whether a case of restraint of trade is within the terms of the statute. This is wholly untrue. A reasonable restraint of trade at common law is well understood and is clearly defined. It does not rest in the discretion of the court. It must be limited to accomplish the purpose of a lawful main contract to which, in order that it shall be enforceable at all, it must be incidental. If it exceed the needs of that contract, it is void.

The test of reasonableness was never applied by the court at common law to contracts or combinations or conspiracies in restraint of trade whose purpose was or whose necessary effect would be to stifle competition, to control prices, or establish monopolies. The courts never assumed power to say that such contracts or combinations or conspiracies might be lawful if the parties to them were only moderate in the use of the power thus secured and did not exact from the public too great and exorbitant prices. It is true that many theorists, and others engaged in business violating the statute, have hoped that some such line could be drawn by courts; but no court of authority has ever attempted it. Certainly there is nothing in the decisions of the latest two cases from which such a dangerous theory of judicial discretion in enforcing this statute can derive the slightest sanction."

 

In short, Taft rejected claims that Chief Justice White's Standard Oil opinion departed from Supreme Court precedent and his own Addyston Pipe decision.   As Taft noted, subsequent decisions had imposed upon Section 1 a "reasonable construction," holding that the statute did not reach incidental or indirect restraints.   See United States v. Joint Traffic Association, 171 U.S. 505 (1898) and Hopkins v. United States, 171 U.S. 578 (1898).   In so doing, the Court avoided claims that the statute was so broad as to offend liberty of contract.  (See here).   Standard Oil, Taft said, simply employed a different verbal formulation, "The Rule of Reason," to describe the very same standard that courts, including Addyston Pipe, had been applying since the late 1890s.  If anything, Taft actually understated his case.  After all, decisions such as Joint Traffic and Hopkins had announced that indirect restraints, including mergers and the formation of partnerships, were beyond the scope of the Sherman Act altogether, regardless of their impact upon prices or output.  Standard Oil, by contrast, contemplated that at least some such transactions could be unreasonable, ironically expanding the scope of the Act to condemn welfare-reducing conduct previously beyond its reach. (See pp. 796-97 of this source).  Moreover, the decision suggested that some agreements were automatically unreasonable, if the "nature and character" of such conduct established that they necessarily produced the consequences of monopoly.  The resulting rule, then replicated, in substance, but not in form, the distinction between "naked" and "ancillary" restraints announced by then-judge Taft in Addyston Pipe.   Like the Rule of Reason itself, this distinction has stood the test of time.

How to Monitor Apple's Monitor

Suspicious of Monitors

 

Section 1 of the Sherman Act forbids "contracts in restraint of trade or commerce among the several states," while Section 2 forbids  "monopolization" and "attempts to monopolize."  The Act also requires the Department of Justice to enforce the Act, by seeking, where applicable, equitable and legal relief in U.S. District Courts against firms and individuals who have violated the Act's provisions.  It appears that the Department may have used this authority to impose, no doubt inadvertently, the very type of monopoly pricing the Sherman Act was designed to prevent.

This last July the United States prevailed in a civil suit that challenged Apple's alleged agreements with book publishers to maintain e-book prices above the levels that unbridled competition would produce.  Among other forms of relief, the United States sought and obtained from the U.S. District Court for the Southern District of New York the appointment of a so-called "External Compliance Monitor," in addition to a new "Internal Compliance Officer," both, of course, at Apple's expense.  The final judgment requiring these appointments did not provide for competitive bidding to set the fees of either monitor but instead simply provided that the monitors would charge a "reasonable" fee. 

In paper's filed the day before Thanksgiving, Apple informed the court that the External Monitor, charged with ensuring that Apple comply with the antitrust laws, is himself charging Apple $1,100 per hour, as well as an "administrative fee" of fifteen percent, for a total of $1265 per hour.  Apple claims that it has never paid such high legal fees.  (See here for a more detailed summary of Apple's objections.)

If Apple's assertions are correct, the government's insistence on such a monitor on the terms described above is supremely ironic.   After all, as explained in previous posts (see  here and here), the whole point of the Sherman Act and its Rule of Reason as articulated in Standard Oil v. United States, 221 U.S. 1 (1911) is to prevent contracts (Section 1) or other practices (Section 2) that produce or maintain monopoly or the consequences of monopoly, without any offsetting efficiency benefits.  These consequences, of course, include prices above those that a competitive market would produce.  By winning the appointment of an External Monitor, against Apple's will and without competitive bidding, the Department of Justice has created conditions conducive to the very sort of competitive harm the Sherman Act was designed to prevent.  To be sure, the monitor's fees cannot themselves violate the Sherman Act, which only regulates "trade or commerce among the several states."  Like the Commerce Clause itself, the Act assumes the existence of pre-existing commerce  that parties might restrain. (See also here and here).  The District Court's coercive (but apparently legal) requirement that Apple purchase legal services against its will does not seem to qualify as such commerce.  Moreover, the terms of the final judgment would authorize Apple to seek a judicial determination that the External Monitor's fee is unreasonable.    However, as William Howard Taft explained long ago in his most famous judicial decision, see Addyston Pipe and Steel Co. v. United States, 85 F. 271 (6th Cir. 1898) (Taft, J.),  judicial oversight of pricing decisions is a poor substitute for the determination of such prices by a competitive market, there competitive bidding by pipe producers.  Judges who take on this task, Taft said, "set sail on a sea of doubt," and rely upon their own "vague and varying opinions" regarding "how much, based on principles of political economy, men ought to be allowed to restrain competition."  See id. at 282-84.  See also National Society of Professional Engineers v. United States, 435 U.S. 679, 692-94 (1978) (describing competitive harm resulting from horizontal agreement not to engage in competitive bidding).

This Blogger has no doubt that the court-appointed External Monitor is a superb attorney who is highly-qualified to perform the duties described in the final judgment.  Moreover, there is no indication that, in setting his fee, the External Monitor has acted in anything other than complete good faith.   Nonetheless, as the Roman poet Juvenal (pictured above) asked, admittedly in a different context, "sed quis custodient ipsos custodes," viz. "who will monitor the monitors themselves?"  The best such monitor, as William Howard Taft explained, is competition.     

Happy Thanksgiving From William Howard Taft

Knew How to Give Thanks

 

Thanksgiving is upon us, and readers may enjoy this 1911 Thanksgiving proclamation by William Howard Taft.    Careful readers will notice that Taft issued the proclamation from Chicago and not Washington D.C., the source of his three other Thanksgiving Proclamations.  Just two days earlier, Taft had dedicated the training facility at Naval Station Great Lakes, located in North Chicago.  A photograph of cadets in review before President Taft can be found here, courtesy of the Indiana Historical Society.

 

Happy Thanksgiving!   

    By the President of the United States of America
A Proclamation  

The people of this land having by long sanction and practice set apart toward the close of each passing year a day on which to cease from their labors and assemble for the purpose of giving praise to Him who is the author of the blessings they have enjoyed, it is my duty as Chief Executive to designate at this time the day for the fulfillment of this devout purpose.

Our country has been signally favored in many ways. The round of the seasons has brought rich harvests. Our industries have thrived far beyond our domestic needs; the productions of our labor are daily finding enlarged markets abroad. We have been free from the curses of pestilence, of famine and of war. Our national councils have furthered the cause of peace in other lands, and the spirit of benevolence has brought us into closer touch with other peoples, to the strengthening of the bonds of fellowship and good will that link us to our comrades in the universal brotherhood of nations. Strong in the sense of our own rights and inspired by as strong a sense of the rights of others, we live in peace and harmony with the world. Rich in the priceless possessions and abundant resources wherewith the unstinted bounty of God has endowed us, we are unselfishly glad when other peoples pass onward to prosperity and peace. That the great privileges we enjoy may continue and that each coming year may see our country more firmly established in the regard and esteem of our fellow nations is the prayer that should arise in every thankful heart.

Wherefore I, William Howard Taft, President of the United States, designate Thursday, the 30th day of November next, as a day of thanksgiving and prayer, and I earnestly call upon my countrymen and upon all that dwell under the flag of our beloved country then to meet in their accustomed places of worship to join in offering prayer to Almighty God and devout thanks for the loving mercies He has given to us.

 In Witness Whereof, I have hereunto set my hand and caused the seal of the United States to be affixed. Done at the City of Chicago, this 30th day of October, in the year of our Lord one thousand nine hundred and eleven and of the independence of the United States the one hundred and thirty-sixth.

William and Mary's Board of Visitors Extends Taylor Reveley's Appointment

 

 

 Will Serve Until 2017 (At Least!) 

 

 

Applauding His Creator  

Late last week William and Mary's Board of Visitors unanimously extended W. Taylor Reveley III's appointment as President of the College of William and Mary in Virginia, through June, 2017.  The Board first appointed Reveley, pictured above, as President in September, 2008.  Several months earlier, Reveley, then Dean of the William and Mary Law School and John Stewart Bryan Professor of Law and Jurisprudence, had agreed to serve as Interim President, in February 2008.   The Board's announcement praised Reveley's leadership, particularly his focus on strategic planning, private fundraising, and developing a new and more sustainable financial model known as the William and Mary Promise that recognizes the College's status as a Public Ivy and Liberal Arts University.  This blogger thanks President Reveley for his past leadership and future service as the College's 27th President, following in the footsteps of Bishop James Madison and others. 

However, no one is more pleased at the Board's action than the William and Mary Griffin, pictured above.   It was Reveley after all who, when presented with five mascot options after a grueling search process, exclaimed "get me the Griffin," as recounted in this video.  The rest, as they say, is history.



Minotaur Rocket Carries 29 Satellites Into Orbit

Last week the United States Air Force launched a Minotaur rocket from the Virginia Spaceport, on Wallops Island on Virginia's Eastern Shore.  According to this story in Spacenews, the rocket carried 29 satellites, including twelve from universities and one from the Thomas Jefferson High School in Fairfax County, Virginia.  For a description of NASA's so-called CubeSat Launch Initiative Program, which enables universities and others to launch small satellites, go here.  For a description of the satellite designed and constructed by the students from Thomas Jefferson High school, go            here.

This blogger photographed the Minotaur shortly after liftoff as it sped toward the heavens,  more than 80 miles from my location near Jamestown, Virginia. 

Readers who wish to track the satellite designed and constructed by the students at Thomas Jefferson High School can do so here.

Fundamental Right or "Public Benefit?"

 

 

Wants to Pursue His Vocation

 

Sergio Garcia recently passed the California Bar Exam on the first try and wants to practice law.  There is one problem.  His parents brought him to this country illegally when he was a child, with the result that his presence in the United States is unlawful.  While the California State Bar wants to admit him to the Bar, and the California Attorney General agrees, the Obama Administration is trying to stand in the way.  In particular, the Administration contends that allowing an individual to practice law is a conferral of a "public benefit," akin to an outright grant of money such as student loans, food stamps, or farm subsidies.  (See here for the government's brief).  As a result, it says, federal law requires the California courts to deny Mr. Garcia's application, because states may not grant individuals illegally present in this country such benefits unless the legislature of the state has expressly authorized the conferral of such a benefit.  See 8 U.S.C. § 1621.  

 

The administration's position has some basis in the statute, which defines "public benefit" to include "grant[s]," "commercial licenses" and "professional licenses . . . provided by any state agency or appropriated funds of the state."  See 8 U.S.C.1621(c).  (However, the California Committee of Bar Examiners has authored a powerful response, contending that bar admission does not satisfy the statutory definition of "public benefit.")   Moreover, the characterization of the practice of law as a state-conferred benefit accurately reflects how many members of the Bar view the legal vocation.  No less an authority than the American Bar Association, for instance, asserts that the ability to practice law is a "privilege" that society "confers" on individuals, with the result that lawyers are thereby obligated to provide some members of society free legal services in return.  (See here).  Some academics concur.   See e.g. Deborah Rhode, Cultures of Commitment: Pro Bono for Lawyers and Law Students, 67 Fordham L. Rev. 2415, 2419  (1999) (contending that lawyers' "privileged status" thereby obligates them to provide free legal services to others).  The Supreme Court has generally bolstered this characterization, by refusing to protect vocational liberty against arbitrary abridgments.   Thus, under current law, states may exclude individuals from their chosen vocation so long as a court can identify a single, hypothetical purpose that such exclusion might serve, without regard to whether the law actually serves that purpose.   See Williamson v. Lee Optical, 348 U.S. 483 (1955); United States v. Carolene Products, 304 U.S. 144 (1938) (sustaining ban on interstate shipment of filled milk by invoking baseless and pretextual health rationale).    Indeed, the Supreme Court has in one case rejected an occupational liberty challenges without identifying any plausible purpose served by the restriction.  See Ferguson v. Skupra, 372 U.S. 726, 728-31 (1963).  See also Nebbia v. New York, 291 U.S. 502 (1934) (sustaining minimum price regulation of independent retailers without identifying any plausible object of the law).  Compare Baird v. Arizona State Bar, 401 U.S. 1 (1971) (state cannot exclude individuals from a vocation because of political associations protected by the First Amendment).   One federal court has even gone so far as to hold that states may infringe occupational liberty for the sole purpose of enriching incumbent producers at the expense of consumers and potential entrants.  See Powers v. Harris, 379 F.3d 1208 (10th Cir. 2004).  (But see here for a discussion of a more recent decision rejecting this approach.)   The only exception is for those rare cases in which such exclusion violates an independent constitutional provision.   See e.g. Baird v. Arizona State Bar, 401 U.S. 1 (1971) (state cannot exclude individuals from a vocation because of political associations protected by the First Amendment).  There as a time, of course, when the Supreme Court took a different view, protecting liberty of occupation from infringements that did not serve a valid purpose.  See e.g. Allgeyer v. Louisiana, 165 U.S. 578 (1897) (unanimous). 

Thus, the Obama Administration's claim that a professional or commercial license is properly deemed a "public benefit" that governments generously confer on their citizens has substantial basis in statutory and constitutional law.  While defensible, this argument is still troubling.  After all, no one would seriously contend that the right to worship (or not) as one pleases or the right to write a poem or a song is a "public benefit" that the State can confer or withhold at will, regardless whether the individual exercising the right is lawfully present in the U.S.A.  Still, Congress, other public officials and academics have asserted, with a straight face, that the right to pursue a chosen vocation is no right at all, but instead a form of largess the State may (or may not) shower on its citizens.   The contemporary rhetorical plausibility of this argument illustrates just how far the national and state governments have exceeded the proper scope of regulation in a truly free society.

As previously explained on this blog, however, government exists to facilitate the exercise of liberty, not to restrict it. As James Madison, the cousin of this Blog's namesake, explained in Federalist 10 and elsewhere, individuals leave the state of nature and form governments so as to enhance their liberty, what Madison called "the faculties of acquiring property." To be sure, entering society requires individuals to forfeit a portion of their liberties, thereby empowering the State to restrict some freedoms.  In particular, individuals who leave the state of nature and enter society give up their right to restrict the freedom of others, on the understanding that others who enter society have given up the same rights.  This social contract between such individuals both empowers the state to act but also places limits on the scope of state authority to regulate, tax and spend.  In particular, states may ban murder, battery, theft, fraud and other conduct that harms others and raise revenue via taxation to fund the police and courts necessary to enforce such restrictions.  However, states may not restrain harmless conduct, whether pursued unilaterally or in concert with others, including the pursuit of harmless occupations.  On the contrary, states should facilitate such conduct by protecting property rights, enforcing contracts and the like.  States that do purport to prohibit such conduct and impose taxes to support such regulation do so without any basis in the social contract from which they purport to derive their authority.  

Thus, as Madison put it, in his 1792 on Property:

 

"That is not a just government, nor is property secure under it, where arbitrary restrictions, exemptions, and monopolies deny to part of its citizens that free use of their faculties, and free choice of their occupations, which not only constitute their property in the general sense of the word; but are the means of acquiring property strictly so called."

Thus, refusal to ban consensual transactions that have no impact on third parties is not a conferral of a "public benefit" but instead reflects the State's respect for the limits of the authority granted by the social contract and enforcement of an institutional framework that facilitates the exercise of fundamental freedoms.

No doubt Mr. Garcia's continued presence in the U.S.A. itself raises difficult questions of immigration policy.  Some would argue that, because his parents brought him here as a child, he should remain indefinitely, so long as he obeys the law and remains a productive member of society.  Others would contend that he should return to the country of his birth and join those who are applying through normal channels for permission to enter the United States lawfully.  However one resolves this dispute, one thing should be clear:  Mr. Garcia is not asking for public largess but instead seeks to hold the State to the terms of the social contract that Madison described.  

On The Supposed Tuition Crisis

Looking For A Crisis That Does Not Exist?

President Obama, pictured above in an official White House photo, recently unveiled proposals designed to rein in what he called the rising cost of attending college.  Focusing in particular on public universities, the President and the White House claimed that rising tuition leaves graduating students with too much debt, the prospect of which, the President said, even deters some students from attending college in the first place.  Under the President's plan, the national government would develop a metric for ascertaining how much "value" each college provides its matriculants and reward schools  deemed to be "higher performing" and "providing the best value."  In particular, low income students at "higher performing" schools will receive larger Pell grants than those who attend other schools.  Proposed metrics for assessing quality include percentage of students who graduate and "access," measured by the proportion of students from low income families.

Many commentators are considering these proposals for subsidizing centrally-determined indicia of value "on the merits," with many expressing skepticism about whether, if implemented, such proposals will further the President's objectives.  There is, however, a threshold question, namely, what justifies additional federal involvement in higher education in the first place? 

Less than a decade ago, the Economist  opined that, despite occasional controversy, "it is easy to lose sight of the real story: that America has the best system of higher education in the world."   The Economist also opined that the "main reason" for America's preeminence in higher education "lies in its organization." The "first principle" of  this organization, the Economist said, is that "the federal government plays a limited part.  America does not have a central plan for its universities. . . . Instead universities have a wide range of patrons, from state governments to religious bodies, from fee paying students to generous philanthropists."  Thus, America's system of higher education, which reflects the results of competitive federalism and private philanthropy, is the envy of the world.  While the national government provides some financial support, such assistance often takes the form of Pell Grants and various incarnations of the G.I. Bill, both of which  are the economic equivalent of vouchers that empower students to choose among innumerable institutions competing for their patronage. 

There is no reason to doubt the Economist's assessment of the quality of the U.S. system.  Recently the London Times published its World University Rankings.  20 of the top 25  universities are American, as are 34 of the top 50.  A different system, the Academic Rankings of World Universities, places 19 American universities in the top 25 and 35 in the top 50.  Moreover, each year thousands of foreign students flock to America's universities, leaving home temporarily and often paying significantly higher tuition than they would pay for an undergraduate education in their home country.  Given the virtues of competitive federalism and the advantages of private markets over planning, it is no surprise that such a decentralized system produces so many high quality institutions of higher education.

Proponents of the President's proposal to introduce additional planning would no doubt claim that high quality is beside the point if high prices prevent promising young Americans from matriculating.  Indeed, attempting to buttress claims that Federal action is needed, the White House released figures purporting to demonstrate a rapid increase in tuition over the past three decades at the nation's public colleges and universities.  Moreover, the White House also claims that two thirds of students graduate with an average $26,000 in college debt.  The prospect of high debt, it is said, deters some students from attending college in the first place and prevents others who start college from finishing.  Thus, it is said, there is a crisis of affordability in higher education, thereby justifying federal intervention.

Closer examination, however, reveals that, like the reports of Mark Twain's death, reports of an affordability crisis are greatly exaggerated.  In particular, White House data purporting to demonstrate large increases in tuition focus only on the "sticker price" of college and completely ignore the impact of financial aid that so many universities provide.  For instance, some public universities, including the University of North Carolina, Michigan State, William and Mary, and seven colleges in the University of Texas system (including UT Austin), provide free tuition, fees and room and board to low income students.  (See here, here, here and here for a description of these programs).  The University of Washington and Texas Tech offer such students free tuition and fees (see here and here).  Forty percent of students at the University of California at Berkeley pay no tuition.  (See here).   Students who attend Rutgers can receive a need-based grant of over  $9,000 per year, in addition to an educational opportunity grant up to $1,400 per year.  (See here).

Some private universities offer similar programs for families with low and modest incomes.   At the University of Richmond, for instance, Virginia families with incomes of $60,000 or less receive free tuition, fees and room and board. (See here).  Stanford also pays the full cost for families earning less than $60,000, while families earning between $60,000 and $100,000 need only pay room and board.  (See here for the details of the Stanford program.)  Brown University and several other Ivy League institutions have similar programs (see here and here )  Ditto for various other smaller private schools.  (See here).

Financial aid is not confined to that fraction of families with low incomes;  many schools also provide significant discounts to middle class families.  Vanderbilt, for instance, meets the financial need of all families, whether middle class or low income, with grants.  (See here).  So does Davidson.  (See here).       At the University of Virginia, middle class students who demonstrate financial need pay a maximum of 25 percent of the cost of attendance, with grants picking up the rest of the tab.   (See here.)   Texas A & M provides free tuition to families with incomes up to $60,000.  (See here).  At William and Mary, an in-state student from a family of four with an income of $100,000 will receive an annual discount of about $13,000.  (See here).  At the University of California Berkeley, a resident student from a family earning $100,000 would receive a grant of over $8,000; a student from a family earning $80,000 would receive a grant around $10,000.  (See here).   Some states also provide merit-based financial aid.  In Georgia, for instance, students who graduate from high school with a B average receive free tuition and fees at any Georgia public university.  (See here).  These programs are not cheap; the University of Washington, for instance, awarded $344 million in grants to 60 percent of its undergraduates in 2011-12.  (See here).   While federal aid in the form of so-called Pell grants helps fund aid for low income students, colleges make up the difference themselves, often raising money from alumni to cover this gap.  (See here for an example)

To be sure, some students still pay the "sticker price" or a large fraction of the sticker price, and some of these students emerge from college with significant debt.  However, as previously explained on this blog, taking on such debt to pay full tuition can be a very good investment, particularly at the nation's public universities.  For instance, tuition and fees at the University of Virginia, ranked 23rd among national universities, stands at just under $12,500 per year.    (See here)   At the University of North Carolina, the figure is about $8400.   Thus, even those students who pay "full price" pay only a portion of the cost of their education.  At UVA, for instance, tuition and fees equaled 53 percent of the cost of educating an undergraduate in 2010.  (See here).

Given these programs and aid programs at numerous other schools, the "sticker price" is a meaningless indicator of the actual cost of a college education. Indeed, the actual price of attending some of the colleges listed above is lower for some students, even before adjusting for inflation, than it was three decades ago, when many such financial aid programs did not exist. In the University of California system, for instance, 65 percent of undergraduates receive grant aid, and the net combination of tuition and fees for California residents equals just 40 percent of the sticker price. (See here).   Before declaring a "crisis" and embarking on expanded supervision of our nation's colleges and universities, Congress and the President should generate reliable data about the actual prices and benefits of higher education.  Indeed, the national government seems well-positioned to gather and disseminate such data to prospective students and policy experts alike.

None of this is to say that America's college students "have it made."  Upon graduation, such students will face an unfriendly job market, the product of the slowest economic recovery since the Great Depression.  (See also here and here).  Instead of attempting to micromanage our nation's colleges, the national government should focus on its core responsibility of encouraging robust economic growth and resulting economic opportunity for all Americans, including those who attend college.

Obamacare Imploding Already?

Architect of Implosion?

A recent story on CNNMoney explains why various Americans are choosing to pay a penalty instead of purchasing the health insurance nominally required by the so-called "Affordable Care Act" ("ACA").  Basically the insurance mandated by the ACA is far too expensive for some compared to the actual benefits such individuals would expect to receive.  Most importantly, like the Massachusetts reform that inspired it, the statute requires health insurance companies to charge younger, healthy individuals premiums that far exceed their expected health expenses, thereby subsidizing coverage for other Americans with higher-than-average expenses.  (See this previous post for an explanation of the Massachusetts approach and its onerous impact on younger, healthier individuals.)   As a result, and as previously explained on this blog, many rational individuals will be better off if they decline to purchase the mandated insurance, pay the penalty, and thereby self-insure, that is, pay their health care expenses "out-of-pocket."

The story profiles one such individual, a 29 year old who works as a medical assistant while attending nursing school.  According to the story, the insurance mandated by the Act would cost this single individual between $2400 and $3600 per year, despite taxpayer subsidies provided by the ACA, while the penalty for failure to purchase such a plan is about $300 per year.  It is therefore no surprise that this individual has concluded that "it is more economical for me to pay $300 a year [in fines] than $200 to $300 a month for insurance I don't use."

These data are of course only anecdotal, although they are consistent with more systematic analyses of the law's impact.  (See e.g. here).   These data are not surprising in light of the economic incentives that the ACA's centrally-determined pricing structure creates.  Moreover, if these data are in fact representative, this would be both good news and bad news for proponents of the Affordable Care Act.  The "good news" is that such data would bolster the Supreme Court's July, 2012 determination that the so-called "individual mandate" is an exercise of Congress's taxing power and thus constitutional.  As many will recall, a majority of the Supreme Court (Chief Justice Roberts and Justices Scalia, Kennedy, Thomas and Alito) properly held that Congress lacks the authority under the Commerce Clause of the Constitution to compel individuals to purchase health insurance, because coercing individuals to purchase a product against their will is not, under the standard announced by Chief Justice John Marshall in Gibbons v. Ogden, 22 U.S. 1 (1824),  a "regulation" of commerce.  (See here and here).  At the same time, a different majority of the Court, in an opinion by Chief Justice Roberts, sustained the law as an exercise of the taxing power, construing the Act's "penalty" for failure to comply with the mandate as a mere "tax" on such a failure to purchase.  As previously explained on this blog, the holding that the penalty was in fact a tax rested upon a determination that the tax is low enough that individuals have a "meaningful choice" between purchasing the "mandated" insurance, on the one hand, or paying the penalty and self-insuring, on the other.  Thus, evidence that individuals are in fact choosing the penalty/self-insurance route helps confirm that, at least under the majority's test, the individual mandate is no mandate at all, but instead an option, albeit one distorted by the requirement that individuals without health insurance pay a modest tax if they lack health insurance.

 

Now for the bad news.  As explained in a previous post, the ACA's financial model, like that of its Massachusetts predecessor, depends upon enrolling millions of young, healthy citizens and then charging such individuals premia that far exceed their expected cost of health care during the term of the policy.  However, as Thom Lambert has explained in a recent paper in Regulation, the prospect of paying these high premia will induce many individuals to forgo such insurance, thereby changing the characteristics of the risk pool and increasing the per capita expected health care expenses of those who remain in the pool.    (See also here).  The result, of course, will be even higher premia, thereby inducing additional individuals to forgo coverage, altering further the risk profile of those remaining in the pool and once again increasing the premium necessary to meet the expect health care costs of those who remain in the pool.  Such a vicious cycle will, Lambert explains, will cause the Affordable Care Act to "implode."

To be sure, Congress could arrest this spiral by raising the penalty that individuals who decline insurance must pay and/or threatening such individuals with jail time, thereby transforming an option into a mandate.  However, such legislation would contradict the Court's recent holding that such a mandate exceeds the scope of Congress's power, thereby placing any such fix in immedate legal jeopardy.  In short, a Congress serious about real health reform should begin to examine alternative means of achieving  the Affordable Care Act's objectives by, for instance, altering regulatory policies that increase the price of health care.   (See here, here, and here, for previous entries on this blog proposing such reforms). 

How Tenure Reduces Tuition

A recent article in CNNFortune repeats claims that eliminating tenure for law school faculty (and presumably university faculty generally) will reduce schools' costs, thereby allowing schools to reduce or stabilize tuition.  In particular, the article states as follows: 

"But with signs mounting that the law school predicament is not a blip, administrators are looking to address their biggest fixed cost -- the full-time faculty. . . .  While salaries and secure employment are not inextricably linked, they are related. With tenure comes the security of consistent paychecks, regular raises, and no abrupt layoffs -- and most universities bestow tenure, or near-guaranteed employment, to guard against firing teachers for expressing controversial or unpopular views. But decades ago, the American Bar Association, which accredits law schools, took it a step further by tying accreditation with tenure protection for most full-time professors. But last month, amid complaints from graduates who cannot find sufficient work, the professional body decided to float two proposals that would sever this link. . . . [C]hanges to faculty tenure -- and compensation -- are inevitable as law school tuition costs barrel ahead."

 

This assertion echoes similar claims that eliminating tenure would reduce the cost of higher education in general and at law schools in particular.  (See here and here.)

However, and as previously explained on this blog, those who claim that the institution of tenure increases labor costs and thus tuition seem to have things backwards. Both common sense and basic economic theory predict that, other things being equal, eliminating tenure will actually increase costs, as schools increase faculty salaries to retain high quality faculty and thus maintain the quality of the education they provide.  Moreover, schools that failed to increase salaries after eliminating tenure would see faculty quality suffer and thus reduce the quality of the education they provide, without an correlative reduction in tuition. 

 

Presumably universities pay whatever total compensation they deem necessary to attract and retain desireable faculty.  Such compensation generally includes a mix of salary and non-salary compensation, the latter of which can include such benefits as health insurance, paid vacation, free parking, or free day care, to name just a few.  Tenure, of course, is a form of non-salary compensation, economically indistinguishable from the benefits just described.    Actual or prospective employees will interpret the elimination of tenure in the same way they would interpret the elimination of health insurance or free parking, that is, as a reduction in compensation.  As a result, schools that eliminated tenure would thus effectively cut faculty compensation and thus attract and retain less qualified faculty, thereby reducing the quality of the education provided.  Students at such schools would thus pay the same tuition for a lower quality product, the economic equivalent of higher tuition for the same product.

 

Of course, schools that eliminated tenure could maintain faculty quality by increasing salaries, thereby offsetting the elimination of a non-salary benefit.  Such salary increases, however, would increase schools' overall costs, and schools would presumably pass such costs on to students.  In these circumstances, then, eliminating tenure would increase and not decrease tuition. 

 

Some may still contend that the elimination of tenure will empower schools to fire incumbent faculty, hired long ago, thereby reducing labor costs. (Though of course universities would have to hire new faculty to perform the varies duties once performed by fired faculty.)    However, this contention does not withstand close scrutiny.  To be sure, like any other firm, a university can reduce its nominal costs by breaching its long term contracts.   For instance, a university that has borrowed $100 million to construct a new building could reduce its costs by repudiating that debt and thus attempting to avoid its obligation to pay annual debt service.  While such a tactic might reduce costs in the short run, it will have the opposite effect in the medium and long run, as firms pay damages for breach of contract to disappointed creditors and find it more expensive to borrow in the future, as future creditors demand an interest premium as compensation for the risk that the firm will default again.  In the same way, a school that breaches its contracts by firing tenured faculty will find itself liable for contract damages.  Such a school will also tarnish its reputation for trustworthiness, thereby making it far more difficult for the school to make credible promises to prospective faculty, staff and administrators, who will demand higher salaries to offset the risk that the university will breach such promises.

No doubt pundits will continue to debate what accounts for the cost of higher education.  (See here for one important contribution.)  It should be clear, however, that tenure reduces that cost.



 

 

Some Thoughts on the Legacy of Ronald Coase

 

Taught Us Why Firms Exist, And Much More

 

 

Earlier this week Ronald Coase passed away at 102.  Coase was the Clinton R. Musser Professor of Economics Emeritus at the University of Chicago Law School.   The University of Chicago has published an obituary here.

In 1991, Coase won the Nobel Prize in Economic Science.  The statement by the Royal Swedish Academy of Sciences that accompanied the award credited Coase with a "Breakthrough in Understanding the Institutional Structure of the Economy."   The Academy explained the "breakthrough" as follows:

"By means of a radical extension of economic micro theory, Ronald Coase succeeded in specifying principles for explaining the institutional structure of the economy, thereby also making new contributions to our understanding of the way the economy functions.  . . . .  Coase showed that traditional basic microeconomic theory was incomplete because it only included production and transport costs, whereas it neglected the costs of entering into and executing contracts and managing organizations. Such costs are commonly known as transaction costs and they account for a considerable share of the total use of resources in the economy. Thus, traditional theory had not embodied all of the restrictions which bind the allocations of economic agents. When transaction costs are taken into account, it turns out that the existence of firms, different corporate forms, variations in contract arrangements, the structure of the financial system and even fundamental features of the legal system can be given relatively simple explanations. By incorporating different types of transaction costs, Coase paved the way for a systematic analysis of institutions in the economic system and their significance." 

 

The core of Coase's contributions can be found in two articles:  The Problem of Social Cost, 3 J. Law and Economics 1 (1960) and The Nature of the Firm, 4 Economica (n.s.) 381 (1937).  Coase summarized and restated these contributions in his Nobel Lecture, The Institutional Structure of Production, 82 American Economic Review 713 (1992).

 In "The Nature of the Firm," Coase began by noting that a competitive, decentralized market economy "worked itself," without any central direction.  Despite this fact, much economic activity occurs within firms which, as Coase noted, involve a significant amount of planning.  For instance, owners do not make repeated daily or hourly bargains with employees about what tasks employees should perform, but instead simply direct them to perform this or that task.  Coase then posed the following question:

"Having regard to the fact that if production is regulated by price movements, production could be carried on without any organization [that is, without any firms] at all, well might we ask; Why is there any organization?"

When Coase posed this question in 1937, economists universally identified two, and only two, possible reasons for complete vertical integration in a decentralized market economy.  First, such integration could create technological efficiencies and thus reduce production costs.  The classic example of such technologically-induced integration was the combination of iron production and steel manufacture under single ownership.  See George J. Stigler, The Extent and Bases of Monopoly, 32 Amer. Econ. Rev. 1, 22 (1942) (referring to the "hot strip mill" as the "stock example" of "technological economies" that can result from vertical integration).  Such a combination, it was said, would avoid the cost of reheating iron ingot before transforming that ingot into steel.     Second, forward or backward integration could foreclose rivals from important  sources of inputs, thereby creating or fortifying the integrating party's market power.  See Stigler, Extent and Bases of Monopoly, 32 Amer. Econ. Rev. at 22. 

 

Coase offered a completely different explanation for vertical integration and thus the existence of firms.  According to Coase, reliance upon the decentralized market to conduct economic activity was not costless, contrary to what economists generally assumed in their static models.   See Coase, Nature of the Firm, 4 Economica at 390, n. 4 (noting that "static theory" assumes that all prices are known to everyone but that "this is clearly not true of the real world").  Instead, such reliance entailed various costs of arranging and consumating a transaction, what economists would later call "transaction costs."  See Coase, Nature of the Firm, 4 Economica at 390 ("The main reason why it is profitable to establish a firm would seem to be that there is a cost of using the price mechanism.")    According to Coase, such costs included the costs of discovering the prices of various inputs as well as the cost of negotiating with the input's owner over the terms of sale, including, for instance, wages and other terms governing contracts for labor.   By integrating vertically and thus performing an additional task itself, then, a firm could avoid such transaction costs it would otherwise incur.  When it came to individual labor, for instance, vertical integration replaced numerous discrete contracts for labor services with one overall contract, the employment contract, pursuant to which an individual employee agreed to follow the directions of the owner of the firm within certain limits, in return for a fixed wage.      


As Coase noted at the time, this explanation for vertical integration had nothing to do with market power or monopoly considerations. Nor did this explanation depend upon any reduction in technological production costs.  On the contrary, Coase's explanation completely undermined the "technological" account of vertical integration.  After all, absent transaction costs, independent economic actors can, by contract, create any technological combination of labor, capital and other inputs they collectively choose, without integrating vertically.   See Oliver E. Williamson, The Economic Institutions of Capitalism, 86-90 (1985) (explaining why technological considerations cannot explain vertical integration); Victor P. Goldberg, Production Functions and Transaction Costs, 397, in Issues in Contemporary Microeconomics & Welfare (George R. Feiwel, ed. 1985)  (explaining that technical economies cannot explain firm boundaries because, absent transaction costs, such economies can “be achieved equally well [by market contracting] if the factors of production are owned by independent individuals.”).  For instance, assume that making iron and steel in close proximity reduces production costs for the reasons explained above.  If so, then parties can, by contract, agree to locate their production facilities next door to each other, even "under the same roof," without vertical integration that combines such facilities under a single owner.   Thus, there must be some other motive, aside from a desire to operate in close proximity, that induces vertical integration in this setting.  Coase found that motive in transaction costs.  It is no understatement to say, as the Economist did yesterday, that Ronald Coase "explained why firms exist."  (See also e.g. here.)


Coase's argument about the rationale for complete integration also inspired others who were seeking explanations for partial contractual integration.  During the 1960s, for instance, Robert Bork relied upon The Nature of the Firm for the proposition that  "contract integration" and "ownership integration" were economically identical phenomena, both of which could reduce the costs of relying upon atomistic markets to distribute a manufacturer's product.   See Robert H. Bork, The Rule of Reason and the Per Se Concept: Price Fixing and Market Division, 75 Yale L. J. 383 (1966).   (Even before Bork, Lester Telser had argued that minimum resale price maintenance could encourage dealers to engage in optimal promotion of a manufacturer's product, by preventing dealers from free riding on the promotional expenditures of their fellow dealers.  See Lester G. Telser, Why Do Manufacturers Want Fair Trade?, 3 J. Law & Economics 86 (1960).  Unlike Bork, however, Telser did not cite Coase.)  For instance, Bork argued that vertically-imposed exclusive territories and exclusive territories ancillary to the formation of a joint venture could encourage promotional expenditures by dealers and joint venture partners by ensuring that each party could recapture the benefits of such expenditures.  

Subsequently other scholars, including Oliver Williamson and Benjamin Klein, would also identify transaction cost rationales for partial integration.   Such work also expanded the definition of "transaction costs" that could give rise to both partial and complete integration.  While Coase had focused on the cost of discerning prices and negotiating and memorializing agreements, costs analogous to technological production costs, these other scholars called attention to the problem of opportunism by trading partners, the risk of which constituted a cost of relying upon the market to conduct economic activity.  See generally Benjamin Klein, Transaction Cost Determinants of "Unfair" Contractual Arrangements, 70 American Economic Review 356 (1980); Benjamin Klein, Robert Crawford and Armen Alchian, Vertical Integration, Appropriable Rents and the Competitive Contracting Process, 21 J. L. & Econ. 297 (1978); Oliver E. Williamson, Markets and Hierarchies (1975).   See also Bork, Price Fixing and Market Division, 75 Yale L. J. at 382  (characterizing dealer free riding as "parasitical" conduct that "victimized" fellow venturers by "appropriating" to [the free rider] the contributions of other members of the group").   
 

Coase's 1960 work, the Problem of Social Cost, was equally revolutionary.   Before 1960, economists often asserted that market failure in the form of externalities could co-exist with perfect competition.  In 1957, for instance, future Nobel Laureate George Stigler opined that perfect competition would result in an optimal allocation of resources, unless there were positive or negative externalities which, according to Stigler, "the competitive individual ignores." See George J. Stigler, Perfect Competition, Historically Contemplated, 65 J. Pol. Econ. 1, 16-17 (1957).  More than two decades earlier, Arthur Cecil Pigou had similarly contended that externalities could persist in a world of "simple competition."  See  A.C. Pigou, The Economics of Welfare (1932).   Moreover, economists uniformly believed that some form of government intervention was necessary to correct such externalities.   Where "negative" externalities were concerned, such intervention could include so-called "Pigouvian taxes," or traditional "command and control" regulation. Where "positive externalities" were involved, such intervention could include state ownership, subsidies, and/or altering background rules so as to better specify and protect property rights.

The Problem of Social Cost debunked this universal consensus, altering how economists and others think about externalities and market failure.  In particular, Coase demonstrated that "market failure" is not an absolute or exogenous condition but instead depends upon the presence of transaction costs.  Indeed, Coase demonstrated that, in a world with no transaction costs, private parties --- what Stigler had called "the competitive individual" --- would internalize such externalities by bargaining, thereby eliminating any market failure.  (Coase also explained how some externalities do not result in market failure, given that the value of the activity producing the externality could exceed the resulting harm.  In such cases, internalizing the cost of harm via bargaining or otherwise will not alter the activity.)   This insight gave rise to what Stigler would later call the "Coase Theorem," i.e., that "under perfect competition, private and social costs will be equal."      See  George J. Stigler, The Theory of Price 133 (4th Edition 1966).

To be sure, as Coase himself recognized, transaction costs are never completely absent in the real world.  Still, such costs are often low enough that parties can negotiate to overcome a market failure that would otherwise result from an initial allocation and definition of legal entitlements.  Business format franchising provides a classic example of such bargaining.  Instead of creating and then owning franchise outlets itself, the franchisor grants licenses to independent operators, each of whom is thus entitled to operate under the franchisor's trademark.  Franchisors could stop there, allowing each franchisee to operate however he or she pleased.  In the real world, however, granting franchisees such absolute discretion in an unfettered market would result in market failure, as each individual franchisee made product design and quality decisions that would impact other members of the franchise system.  Not surprisingly, then, franchisors often include detailed provisions in contracts granting franchisees the right to operate under the franchise trademark, provisions designed to ensure optimal franchisee investments in quality.  See Paul Rubin, The Theory of the Firm and the Structure of the Franchise Contract, 21 J. Law & Economics 223 (1978).  As Coase would later explain, the legal system can facilitate such contracting by, for instance, making it easier to form contracts that overcome market failure.  See Ronald H. Coase, The Firm, the Market and the Law, 28 in Ronald H. Coase, The Firm, The Market and the Law (1988).

 

Taken together, Coase's work had obvious implications for numerous fields of legal study, including "common law" subjects such as Contract, Property and Tort, as well as statutory subjects such as Corporations and Antitrust.   For instance, Coase's assertion that the business firm is a particular type of contract inspired scholars to model corporations and other firms as a "nexus of contracts," the creation and maintenance of which the State could  facilitate by promulgating enabling corporate law consisting of mainly default rules that parties to the corporate contract could alter by satisfying formal requirements, such as shareholder vote.    See Frank H. Easterbrook and Daniel Fischel, The Economic Structure of Corporate Law (1991). 

 

Transaction cost economics also had a profound impact on antitrust law and policy.  During the 1950s and 1960s, courts articulating antitrust doctrine became increasingly hostile to various forms of complete and partial integration.  Such hostility followed naturally from the dominant economic account of the causes and consequences of such integration.  As noted earlier, economists believed that the only benefits of vertical integration were technological in nature. These supposed benefits naturally arose "within" the firm, as part of the process of production.  Thus, when economists, or, for that matter, antitrust courts or enforcement agencies, could not identify any efficiency purposes for such integration, they naturally inferred that the conduct was an anticompetitive effort  to obtain or protect market power.  Hostility toward partial contractual integration such as minimum and maximum resale price maintenance, tying, exclusive dealing, exclusive territories and exclusive supply contracts was particularly intense.  After all, such agreements reached beyond the firm, controlling the activities of trading partners before a firm took title to inputs or after a firm relinquished title by selling a finished product.  As a result, there were simply no apparent efficiency purposes of such agreements, which reduced rivalry of one form or another and thus reduced competition without any offsetting benefits.   The result was the so-called "inhospitality tradition" of antitrust law, pursuant to which the Supreme Court condemned vertical mergers in unconcentrated markets under Section 7 of the Clayton Act as well as  various forms of partial integration as unlawful per se or nearly so under Section 1 of the Sherman Act.


However, the work of Bork, Telser, Williamson, Klein and others completely undermined the economic premises of the inhospitality tradition, by explaining how complete and partial integration were often voluntary methods of overcoming market failures and thus producing non-technological efficiencies. See Oliver E. Williamson, The Economic Institutions of Capitalism, 28 (1985) (articulating rebuttable presumption that partial and complete integration has transaction cost origins).  See also here, explaining Bork's contributions in this regard.  Thus, beginning with Continental T.V. v. GTE Sylvania, 433 U.S. 36 (1977), the Supreme Court has repudiated or narrowed  several per se rules announced during the inhospitality era.  At the same time, the antitrust enforcement agencies have reversed their previous hostility to vertical mergers, and lower courts have uniformly adopted a more friendly stance to such transactions. Society's economic welfare has increased significantly as a result, thanks in large part to Ronald Coase.  Society is richer, literally, as a result.