The document discusses the Coase Theorem and hedonic pricing. The Coase Theorem states that when property rights are well-defined and transaction costs are low, private negotiations can lead to an efficient outcome regardless of the initial allocation of property rights. It is based on assumptions of few parties, low negotiation costs, no transaction costs or wealth/income effects, and no government interference. Hedonic pricing uses surrogate goods like housing prices to value environmental attributes by analyzing how characteristics like proximity to parks or mines affect prices. Regression analysis estimates how asset prices vary with characteristics to derive implicit prices for non-market goods.

1. Nta UGC-NET dec-2018
CGE online batch
Lecture 69-Environmental Eco-1
UGC-NET PAPER-2 (ECO)
COASE THEOREM
&
Hedonic pricing

3. In other words, if property rights and liability are properly defined and
there are no transaction costs, then people can be held responsible for
any negative externalities they impose on others and market
transactions will produce an efficient outcome.
This theorem was developed by Ronald Coase.
Prof. R. Coase points out that if property rights are clearly defined, the
affected parties will adopt policies to internalise the externality.
Coase theorem

4. Assumptions:
The first theorem is based on the following assumptions:
1. It assumes that the number of contracting parties is very small.
2. The cost of negotiating by the interested parties is also small.
3. There are no transaction costs.
4. There are no income or wealth effects.
5. There is no government interference.

5. Let us take Coase’s famous example of only two parties— a cattle
raiser and a wheat producing farmer.
The externality is the damage done by cattle roaming on the unfenced
land of the farmer.
They are operating on neighbourhood properties without any fencing.
As the cattle raiser increases the size of the herd, the damage to the
farmer’s crop increases.
First, the farmer has the right that his wheat be not destroyed.
Therefore, the cattle raiser will then be forced to pay damages to the
farmer for the crop destroyed.
According to Coase, property rights should be properly defined and
enforced.

6. Second, if the law is that the cattle raiser has no liability for damage
done by his herd to the farmer’s crop, it will now be advisable for the
farmer to bribe the cattle raiser to keep his herd to a minimum level.
These will be added to the marginal costs of the cattle- raiser who will
reduce the number of cattle to be raised to a manageable level.

7. The coase theorem is explained with the help of Figure.
If a bribe equal to damage is added to
marginal cost (MCc + OW1) then the
optimal solutionwill be at point L2 where
(MCc + OW1) curve cuts the Dc curve, and
the cattle number will restrictedto OQ2.
Initially, the condition of raising cattle is
Dc = (ARc = MRc).
The marginal cost of raising cattle curve
MCc cuts the Dc curve at point L1 and the
rancher would raise OQ1 cattle per year.
Therefore,the marginal social cost of
wheat is MSCw1 and a loss to wheat crop
is OW1.

8. Hedonic Price Method
The hedonic price method uses the value of a surrogate good or service to
measure the implicit price of a non-market good.
For example, house prices can be used to provide a value of particular
environmental attributes.
Individuals may be willing to pay a premium for a house located close to a
country park, while they may wish to have a discount on a house which is
located close to a open cast mining site.
House and other property prices are affected by number of factors including:
Characteristics of the property.
Characteristics of the location.
Characteristics of the environment.
In 1974, Sherwin Rosen first presented a theory of hedonic pricing in his
paper, “Hedonic Pricing and Implicit Markets: Product Differentiation in Pure
Competition,”

9. It may be found that a 1km movement away from the open cast site equates
to an increase of £5,000 on a house price.
If, for example, through regression analyses increased distance from an open
cast mining site is found to be correlated with increased house prices, it can
be ascertained that the open cast site is having a negative impact on house
prices.
The regression analysis can also be used to provide a value for the size of the
relative impact.
The hedonic price method is used to measure the relative importance –
through use of regression analyses .

10. Hedonic Regression Analysis
The hedonic regression analysis is conducted in two steps.
The first step estimates the relationship between the price of an
asset (the dependent variable) and all of its various characteristics
(independent variables).
For example, the price of a house can be summarised using a
hedonic price function as below:
Where the price of a house (P), is a function of its location relative to
a local urban centre (LOC), the type of house (TYPE), the size of the
plot (SIZE), the quality of its view (VIEW), and neighbourhood
characteristics (NEIGH) such as school quality and crime.
The change in a house price resulting from the marginal change in
one of these characteristics is called the hedonic price (sometimes
referred to as the implicit price or rent differential).

12. Nta UGC-NET dec-2018
Chanakya group of economics
Pigovian tax
&
Sustainable deve
UGC-NET PAPER-2 (ECO)
Environmental Eco-2