Trading Equilibrium and Direct Production

Economists who are familiar with the geometrical construction of figure 4.1, and the underlying postulates, will recognize that the minimal restrictions imposed on the locations and shapes of the indifference contours do nothing toward insuring that a final post-trade position where all gains are exhausted will be coincident with the origin, which describes the allocation or result that would obtain in the absence of all defense and predation effort. This direct-production position, in which each person retains for his own use

8. In terms of the model of figure 4.1, the natural equilibrium for one of the two persons would clearly be less desirable than the position at the origin, where, by assumption, he is allowed to retain what he produces.

9. For a different and more general discussion of the emergence of slavery, see Mancur Olson, ''Some Historic Variations in Property Institutions,'' typescript (University of Maryland, 1967).

those goods that he himself produces, given his own capacities, his tastes, and his environmental situation, may or may not be Pareto-superior to the natural equilibrium at E; and even if the direct-production position should qualify as Pareto-superior it need not lie along the contract locus which would be generated by trading among the two parties.

The relationship between E, the position of equilibrium attained in the absence of law, and the origin, that position attained when each man keeps all that he produces, is important because of the dominant role that has been assigned to the latter in the historical discussions of property rights, notably those discussions in the natural-law tradition, and especially as represented in the theory of John Locke. In the conceptual origins of contract that have been developed here, there is no fundamental distinction between the position which allows persons to retain goods privately produced and any other position. The only distinguishable position, prior to contract, is that shown in the natural equilibrium at E.10

If the direct-production position is Pareto-superior to E, by which we mean only that both parties secure higher utility levels in the former position than in the latter, there may well be a strong attraction toward settling the negotiations at this point, even if the direct-production position does not qualify as falling along the strict contract locus. There are two related reasons for this. In the first place, initial agreements on limiting behavior would not be likely to take place in terms of finely tuned marginal adjustments. Instead, a once-and-for-all quantum leap might be suggested, without the tedious bargaining required for sophisticated adjustment. In this sense, any position within the lozenge confined by the indifference contours would qualify for a settlement prospect. Among this large set of Pareto-superior positions, those which seem the most likely candidates for agreement will possess Schellingpoint characteristics. Positions which qualify here are those that are simple and known to all parties and which will tend to be selected in the absence of information and communication between the interacting parties.11 An agreement to eliminate all predatory behavior might be a plausible outcome un

10. If there is something inherent in the nature of man that inhibits theft, the natural equilibrium and the origin on figure 4.1 would coincide.

11. See Thomas C. Schelling, The Strategy of Conflict (Cambridge: Harvard University Press, 1960).

der this setting, in which case each person's production from the natural environment that he confronts becomes his "property" in some positive sense. The law might begin to take on positive features in a manner akin to that rationalized by John Locke.

The predominant role that has been assigned to the direct-production position may be based on the implicit assumption of natural equality among men. If we allow interpersonal differences to exist in the natural state, however, there is no assurance that the position attained in the anarchistic equilibrium, depicted at E in figure 4.1, is Pareto-inferior to the direct-production position at the origin. The latter position need not lie within the lozenge enclosed by the indifference contours drawn through E. At least one of the two persons may be better off, in utility terms, in anarchistic equilibrium than he would be if required to depend exclusively on his own production efforts (as in the slavery example noted). This outcome might emerge if the two persons were widely different in the ability to produce goods, either from a difference in natural capacities or from a difference in environmental situations. Also, such an outcome might arise if one person retains moral inhibitions against predation while the other does not, or even if one person values liberty of action so highly that he willingly sacrifices protection of goods produced.

When the direct-production position is not Pareto-superior to E, positive property rights to goods directly produced will not emerge from conceptual contractual agreement. Something other than an agreement on mutual limits to behavior is required to leap from the Hobbesian jungle in this case. Such an agreement on limits must be accompanied by a transfer of goods or endowments before a contractual settlement can be reached, and property rights positively established.

This may be illustrated with a different geometric construction, although still within the confines of a two-party model. In figure 4.2, effort is measured along the ordinate, and goods along the abscissa. Individual A is either favorably situated or is more capable of producing goods than individual B. The production function for A, if he is not interfered with by B, is shown by the curve Pa, which lies along the abscissa for an initial range, indicating that A can secure some goods without an outlay of effort. Individual B, by contrast, faces a much more unfavorable direct-production prospect. In the absence of all interference from A, he faces the production function shown by

Figure 4.2

Pb. The direct-production position, that represented by the origin of the earlier figure 4.1, is attained when A attains point Ea' and when B attains point Eb'. In the situation where no rights of property are assigned, B may well find that his most productive expenditure of effort lies in predation, in stealing goods that are produced by A. If A undertakes no defense or protection effort, the anarchistic production function faced by B might be like that depicted by Pb', along which B would move to position Eb. This activity on the part of B would, of course, modify the situation faced by A. He would, privately, face the production function shown by Pa', if he undertakes no responsive action. In order to illustrate the relevant relationships in a diagram like figure 4.2, we shall assume that A does not find it advantageous to respond to B's predation. A's new equilibrium position would be that shown at Ea. Since we have assumed that A undertakes no defense or protection ef forts, his actual production function is not modified, but he is producing a portion of his goods for B. The anarchistic equilibrium is that position indicated by the two points Eb and Ea in figure 4.2. It is clear that, for B, this is a more favorable situation than that which he attains when property rights are assigned in goods that are directly produced. Hence, B would never agree to the direct-production position. Contractual arrangements must include something over and beyond limits to behavior. In this setting, A might achieve B's agreement to respect an assignment of rights to goods that are produced privately or independently if he transfers to B some initial quantity of goods or endowments. One such transfer can be depicted on figure 4.2 by the amount T, as indicated. If this is transferred to B, his direct production function shifts to Pb", and his attainable private production equilibrium to Eb", which is on a higher utility level than Eb. The production function for A is shifted leftward by the initial transfer, to that shown by Pa", but the attainable equilibrium along this function at Ea" is superior in utility terms to Ea, the anarchistic result. Upon this transfer, B will agree to respect the assigned own-product of A and A will agree to similarly respect the assigned own-product of B. Positive rights may be established, once the initial transfer has taken place to bring the two parties into a setting where the direct-production assignment is, in fact, Pareto-superior to anarchistic equilibrium.

Despite the extremely simple and abstract nature of the geometrical models presented, the conclusions are significant for an understanding of the conceptual emergence of individual rights. The analysis demonstrates that there is no necessary basis for any initial agreement that will simply acknowledge the rights of persons to retain those stocks of goods that they can wrest from the natural environment by their own labor. Something other than the utility function employed in standard economic theory must be introduced in order to provide an explanatory foundation for a structure of property law that legitimizes individuals' (families') claims to stocks actually produced by their own efforts and independently from interference from others. Nowhere in the analysis am I denying the possible existence of internal behavioral constraints that may serve to inhibit man's seizing stocks of goods produced by others or invading physical domain initially inhabited by others. I remain agnostic on this as on many other aspects of human nature. My emphasis here is that such constraints, if they do exist, are over and beyond those normally introduced in economic behavioral models. With this proviso, the result stated becomes important. To secure an initial agreement on positive claims to goods or to resource endowments, some transfer of goods or endowments maybe required. That is to say, some "redistribution" of goods or endowments may have to take place before a sufficiently acceptable base for property claims can be established. As the simple two-person model indicates, there may be many such redistributions that will meet the minimal requirements. Once any of these transfers takes place, if one is required, and/or behavioral limits are mutually accepted, positive rights of persons in stocks of goods or in resource endowments capable of producing goods may be settled. From this base, trades and exchanges in the postconstitutional stage already discussed can be implemented. These trades may, in utility terms, shift all persons to positions that overwhelmingly dominate either the natural equilibrium in anarchy or that distribution of goods and endowments that is settled on the initial establishment of positive individual rights.

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