Property Law: Types of Limitations and Remedies, Study notes of Economics and Law

Download Property Law: Types of Limitations and Remedies and more Study notes Economics and Law in PDF only on Docsity! - 1 - Econ 522 – Lecture 8 (February 12 2009) Tuesday, we discussed • Three types of public ownership • Ways in which property rights are established, verified, and lost • Limitations on property rights o laws against perpetuities (the inability to permanently restrict your heirs) o rights to use others’ property in an emergency o inalienability (the inability to sell something) Today, we’ll wrap up property law with • A couple more ways in which property rights are limited o Unbundling o Eminent domain/takings o Regulation • And a return to remedies when property rights are violated Docsity.com - 2 - One more example of limitations to property rights: Unbundling Earlier in the course, we defined property as “a bundle of rights,” that is, a collection of rights that you have over the use of your property • In some instances, an owner may want to unbundle these rights o that is, separate them, so that he could sell some of them and hold onto others • In most instances, this is not allowed – an owner may be permitted to sell the bundle as a whole, but not in pieces. A great example of unbundling comes from Pennsylvania • Pennsylvania was largely built on coal o lots of land has coal under it o lots of money was made by mining this coal • In Pennsylvania, as of the late 1800s and early 1900s, land ownership consisted of three separable pieces, referred to as “estates” o the surface estate – the rights to use the surface of the land (build a house on it, grow corn on it, whatever) o the mineral estate – the rights to whatever coal lay underneath the surface o and most interestingly, the support estate – the rights to whichever parts of the underground structure are holding up the surface. • If I owned the surface and support estates, I could build a house on the land and live there • If you owned the mineral estate, you could mine coal from my land, but if my house began to sink, it was your fault and you owed me damages • That is, by owning the support estate, I had the right to my house not falling in. • On the other hand, if you owned both the mineral and support rights, you could mine the coal however you wanted • If I owned the surface, I could still build a house • But if the surface fell in as a result of your mining operation, I had no recourse, since I owned the surface but not the right to have it held up. • In this case, the “support estate” wasn’t tangible property • But it made it completely clear who had the rights to do what with the property, and the three property estates could be bought and sold separately. • (I don’t think the support estate had any value on its own.) • There’s an interesting case from the 1920s, Pennsylvania Coal vs Mahon, which is discussed on the textbook website – we’ll come back to that case later today, because it’s interesting for other reasons. Docsity.com - 5 - Next, on to remedies for Violations of Property Rights (This is partly a review of the Calabresi and Melamed material we saw earlier) The book made the case earlier that the common law roughly approximates a legal system of “maximum liberty” • I can do whatever I want with my property as long as that doesn’t interfere with anyone else’s property • When the use of my property does interfere with someone else’s use of theirs, we have an externality • In property law, harmful externalities are called nuisances. When an externality is imposed on a small number of others, we say it’s a private externality, or in the language of public and private goods, a private bad • In these cases, transaction costs should generally be reasonably low, and the problem can be solved through negotiation. o (This might be the case with neighbors fighting over a tree that crosses the property line.) • In these cases, relief by injunction is generally attractive o the court does not need to go through the exercise of calculating damages o and the clear enumeration of property rights will hopefully encourage the neighbors to reach an efficient outcome by bargaining. o (We saw this with the example of the brewery whose smoke affected only one consumer – he and the brewery could agree to a Pareto-improving transaction to reduce pollution) On the other hand, when an externality is imposed on a large number of people – as with a factory polluting air in an area of dense population – the transaction costs of private negotiation are often prohibitively high • This is a public externality, or public bad • In these cases, from an economic point of view, damages are ideal o Damages cause the factory to internalize the externality – that is, the cost to the neighbors becomes a private cost to the factory o But the factory can still choose to accept this cost and continue polluting when this is efficient o (With high transaction costs, an injunction would likely force the factory to stop polluting, which may not be efficient.) Docsity.com - 6 - Compensatory damages is the term for damages intended to “make the victim whole,” that is, to return the victim to being as well off as he or she was before the harm occurred • (We’ll come back to other types of damages later on, in contract and tort law) • Compensatory damages can be either temporary or permanent o Temporary damages compensate for harms that have already occurred. o Permanent damages compensate in addition for the present discounted value of harm that is expected to be done in the future o By paying temporary damages, a factory compensates the neighbors for whatever pollution has already occurred o By paying permanent damages, the factory is effectively pre-paying the neighbors for the right to pollute in the future There are pros and cons to both types of damages • Temporary damages require the victim to keep returning to court if the harm continues, and require the court to keep calculating the amount of damages each time, so they impose a high transaction cost • However, under temporary damages, reductions in the harm itself lead to reductions in the damages owed, so the factory has an incentive to take steps to reduce pollution, or to pay the neighbors to take steps that reduce the harm on their end if this is more efficient. • On the other hand, permanent damages are a one-time, permanent fix, and therefore less costly to implement • But once permanent damages have been paid, the factory is not penalized for any additional harm they do (they’ve already paid for it); so there is no incentive to reduce the harm as technology makes this easier • In addition, since permanent damages are based on the expected discounted value of future harm, it depends both on future technology and future prices, which cannot be predicted with accuracy • So permanent damages suffer from higher error costs, that is, inefficiencies that are introduced when the amount of the compensation is incorrect. So Cooter and Ulen offer the following proscription for appropriate nuisance remedies: • if a nuisance affects a small number of people (private nuisance), award an injunction, and count on the parties involved to negotiate an efficient solution • if a nuisance affects a large number of people (public nuisance), damages are more efficient • if damages are easy to measure and innovation occurs rapidly, temporary damages are more efficient • if damages are difficult (or costly) to measure and innovation occurs slowly, permanent damages are more efficient Docsity.com - 7 - However, this is not what is typically done in practice • With public nuisances, the remedy tends to be temporary damages (for harm already incurred) and an injunction against future harm • However, there’s an interesting case that shows the court becoming more receptive to damage remedies for public nuisances, in spite of all the precedent in favor on injunctions. The case is Boomer v Atlantic Cement Co, decided in 1970 by the NY Court of Appeals • Defendant owns a large cement plant near Albany, which, along with cement, produces dirt, smoke and vibration • The neighbors sued, the plant was found to be a nuisance, and they were awarded temporary damages, but denied an injunction against future harms • Plaintiffs appealed, requesting an injunction. • The appeals court ruling was very interesting • They agreed that yes, this was a valid nuisance • And yes, nuisances are generally remedied with injunctions • But in this case, the harm of forcing the plant to close so greatly outweighed the level of the damage being done that they refused to issue an injunction, and instead ordered permanent damages to be paid • They pointed out that the two sides could settle the issue instead through voluntary negotiations, but that “the imminent threat of closing the plant would build up the pressure on defendant…” • They also pointed out that techniques to reduce dirt and vibration from the cement production process would be developed by the industry as a whole, not just by this one plant, and that these were therefore outside the defendant’s control and unlikely to occur within a short time • The court had estimated the total of permanent damages to all plaintiffs to be $185,000 • And the company had invested $45,000,000 in the plant and it employed 300 people • So the court refused to issue the injunction. • (Technically, they issued an injunction that would automatically be vacated once permanent damages to the plaintiffs were paid.) • They also noted that the damages were paid as “a servitude to the land,” that is, the fact that damages had been paid attached itself to the land, not the individual plaintiffs • So if these plaintiffs, having already received permanent damages, sold their property, the new owners could not sue for damages • Instead, the ongoing nuisance caused by the cement company would simply be a feature of the land, and would presumably be figured into the price that they could sell it for. Docsity.com - 10 - • If the government could seize private property without compensation, this would give it another way (besides taxes) to finance itself o Uncompensated takings would function like taxes targeted at specific individuals o But we come back to the general principle that the more narrow a tax is, the more distortion it causes, because people will go to greater lengths to avoid paying the tax, which makes it inefficient o The more broad a tax is, the less distortion it causes, and therefore the less inefficiency. o So the government should be discouraged from using takings as a source of financing, which is ruled out by requiring compensation.  (If compensation were not required, this would lead people to take costly actions to make their property less attractive to the government  That is, if the government were looking for a suitable place to build a park, people who lived in attractive locations might start cutting down their own trees, or spilling chemicals on their lawn, to make sure that the government didn’t go after their property.  Uncompensated takings would also encourage corruption, as owners would be willing to pay large amounts of money to influence the government’s choice of which property to seize  If people value their own property more highly than “fair market value,” this type of corruption is still a risk with compensated takings, but on a much smaller scale.) • Posner, in “Economic Analysis of Law,” makes the additional point that if compensation were not required, the government might substitute land, which it could get for free, for other inputs, which are cheaper than land in reality, but more expensive to the government o He gives an example o Suppose the government has a choice of putting up a tall but narrow building on a small lot, and a short but wide building on a large lot o The market value of the small lot is $1 million, and of the large lot $3 million o The tall narrow building costs $10 million to build and the short wide one $9 million o In social costs, the short wide building costs $12 million and the tall narrow one $11 million, so society is better off with the tall narrow one o But if land is free to the government, it might seize the larger lot and build the short, wide building. Docsity.com - 11 - • The restriction of takings to be only for public use similarly discourages the government from abusing this power o Suppose I own a home, which has a fair market value of $100,000 o But I’ve lived there a long time and grown accustomed to it and value it at twice that much. o Along comes a developer who wants to build something else on my land, and values the land at $150,000 o Clearly, selling my land to the developer is not efficient, and would not occur on its own o But if the government could take private land for any purpose, it could force me to sell for $100,000, then turn around and sell the land to the developer for $150,000, keeping the difference o Or it could simply force me to sell to the developer for $100,000, in which case the developer would obviously be willing to go to great lengths (such as paying any sum up to $50,000) to make this happen. o The whole notion of Coase was that we should let people negotiate on their own to reach efficiency; by making transactions involuntary o Takings go outside this framework, and so should only be used as a solution to a clear problem, such as the provision of private goods. • Aside from the possibility of forcing a trade that isn’t efficient, there is another reason overuse of takings is undesirable: it creates uncertainty o We said before that when property rights are clearly enumerated and unambiguous, this effectively lowers transaction costs and helps people bargain to efficient outcomes o On the other hand, if government takings were very common, this would create a great deal of uncertainty  if you’re considering whether to buy new property, you don’t know whether you will get the full benefit of it, or whether it will instead get seized by the government o This may make it harder to transfer property to the owner who values it most o (We’ll come back to this point.) • Given the potential for abuse, and the negative effects caused by uncertainty when takings are overused, Cooter and Ulen suggest the principle that governments should only rely on takings when they cannot be avoided • That is, in their words, “the government should only take private property with compensation to provide a public good when transaction costs preclude purchasing the necessary property.” Docsity.com - 12 - The “just compensation” restriction on takings is fairly uncontroversial • There may sometimes be difficulty in calculating fair market value • But there is little conceptual doubt over what it should represent However, the “public use” restriction has come under debate in recent years. • The last question on the homework is about one such case, Poletown Neighborhood Council versus City of Detroit • In short, in 1981, GM was threatening to close an auto plant in Detroit and move to another state unless it could relocate the plant to an improved site • The city of Detroit, which had already lost one auto plant recently, was worried about the loss of 6,000 jobs and millions of dollars in tax revenue • The city used eminent domain to condemn an entire neighborhood, Poletown, forcing over 1000 houses and 100 businesses to sell their land, which was used for an upgraded, modern plant for GM • The city defended the use of eminent domain, saying that employment for its residents, and tax revenues, were public goods which justified its use. • The Michigan Supreme Court ruled for Detroit, saying the taking was legal – that “alleviating unemployment and revitalizing the economic base of the community” were valid public purposes, and that “the benefit to a private interest is merely incidental.” • The decision was overturned much later in a 2004 ruling by the Michigan Supreme Court, County of Wayne v Hathcock • But a similar case in Connecticut, Kelo v City of New London, was decided by the US Supreme Court in 2005, also in favor of the use of eminent domain. • In Kelo, quoting Posner, “the pharmaceutical company Pfizer had decided to build a large research facility next to a 90-acre stretch of downtown and waterfront property in New London. The city hoped that Pfizer’s presence would attract other businesses to the neighborhood. The plaintiffs owned residential properties located on portions of the 90-acre tract that the city’s redevelopment plan earmarked for office space and parking. It might have been impossible to develop those areas for these uses had the areas remained spotted with houses… The city… solved the problem by condemning the houses [seizing them]. It said, “the area [of the redevelopment project] was sufficiently distressed to justify a program of economic rejuvenation.” • (Posner criticizes the court’s own logic behind its ruling, but offers what he sees as a better argument: that the more limitations are placed on the private use of seized land, the more the government itself would become a developer, which would be inefficient.) Docsity.com - 15 - There is an interesting backstory behind the Pennsylvania Coal case. Cooter and Ulen cite a book by William Fischel, Regulatory Takings: Law, Economics, and Politics. Fischel investigated the circumstances leading up to the passage of the Pennsylvania regulation, and found that at that time, even when they owned both the mineral and support rights, coal companies in Pennsylvania tended to take care of the damage they caused. Quoting from the book: The coal companies and the citizens of Scranton were neighbors; some were employers; many were employees; and social contacts among them were, and long had been, frequent. Even if the companies had retained subsurface rights and landowners had waived their right to claims for subsidence damages, as was frequently the case, there was the strong likelihood of hard feelings among surface owners towards the coal companies, and those feelings would interfere with employment and other on-going social relationships. Long before Pennsylvania Coal and the Kohler Act, the very practical necessity of maintaining good public relations led the coal companies to adopt a policy of routinely repairing surface damage caused by their subsurface mining, regardless of the contractual assignment of liability. According to a retired executive of the Pennsylvania Coal Company to whom Fischel spoke, “[I]f the company caused subsidence to any surface structure, it sent a crew up to fix the damage, at company expense. It did not matter to whom the right of support belonged, although it typically belonged to the company.” • Fischel then wondered why the legislature bothered to pass the law, given that its goals were already being met • He found that there had been recent developments in mining technology, which the court apparently feared might disrupt the status quo • In addition, one local mining company had recently gone bankrupt and had therefore not repaired the damage it had done • The Kohler Act was coupled with another bill imposing a tax on coal companies, which would be used to repair the damage already done by the bankrupt firm • Part of Pennsylvania Coal’s objection, then, was not even to the regulation itself, but to being forced to pay for another company’s damage when they were already voluntarily paying for their own. • (Fischel’s thesis, BTW, is that regulatory takings should only be compensated when they stem from local government, not from state or federal regulations • He feels that compensation for regulatory takings should only be required to discourage excessive or inefficient regulation; which he argues is unlikely to occur at the federal or state level, but a legitimate risk at the local level. • He also argues that immovability of the property, or inelasticity of its supply, should also be necessary for compensation to be required, since with movable property, the owner could simply relocate to avoid the effect of the regulation. • There’s more in the textbook website, if you’re interested.) Docsity.com - 16 - The article by Blume and Rubinfeld, “Compensation for Takings: An Economic Analysis,” gives an interesting argument in favor of requiring compensation for regulatory takings. • They point out that compensation is basically just shifting the burden of the regulation’s cost from a narrow base (the owners of the affected property) to a broader base (all the taxpayers). • Ordinarily, these are simply zero-sum transfers, and so they wouldn’t matter from an efficiency point of view • However, if we allow for the possibility that people are risk-averse, then requiring compensation after the fact is the same as providing an insurance policy against harmful regulation. • Blume and Rubinfeld argue that, if insurance against regulatory harm were made available at fair prices, people would probably buy it • Since it’s not available, he argues, the government should supply it, by compensating regulatory takings EXAMPLE. You own a house you valued at H, wealth of W, a concave utility function u, and face a probability p that a new regulation will reduce the value of your house to H’ < H So your expected utility is (1-p) u(H + W) + p u(H’ + W) Now suppose someone offered you insurance against the regulation. You would pay an up-front premium of qa, and receive a payment of a in the event the regulation passed. Would you choose to buy insurance, and how much? If you chose to buy an insurance policy worth a, your expected utility would now be (1-p) u(H + W – qa) + p u(H’ + W – qa + a) Suppose the insurance was actuarily fair – that is, q = p, so the insurance company is just breaking even on average. Then your expected utility, as a function of a, would be (1-p) u(H + W – pa) + p u(H’ + W – pa + a) or (1-p) u(H + W – pa) + p u(H’ + W + (1-p)a) We can find a to maximize expected utility by taking the derivative and setting it to 0: – (1-p) p u’(H + W – pa) + p (1-p) u’(H’ + W + (1-p)a ) = 0 or, dropping p(1-p), Docsity.com - 17 - u’(H + W – pa) = u’(H’ + W + (1-p)a) If u is concave, u’ is decreasing, so setting these equal requires H + W – pa = H’ + W + (1-p) a  H + W = H’ + W + a, or a = H – H’ So if the insurance comes at a fair price and you were risk-averse, you would choose to buy full insurance – you would buy insurance to cover the full value of the risk (If q > p – if the insurance company was intending to make a profit – you would buy less than full insurance; but if q is not too much bigger than p, you might still choose to buy some insurance, just not insure all the way.) So Blume and Rubinfeld point out that, if you faced the uncertain prospect of regulation that would affect the value of your property, and if you were offered actuarily-fair insurance against that risk, you would probably choose to buy it. However, privately-supplied insurance against regulatory harm does not exist; and Blume and Rubinfeld argue it cannot exist, for the usual reasons of market failure in insurance markets: adverse selection and moral hazard • If an insurance company offered such insurance, it would have to worry that it would only sell policies to people who had inside information about the likelihood of regulation • or that after buying insurance, owners would be less likely to lobby against regulation that would harm them So such insurance, even though it would be beneficial, is not provided by the market. But requiring regulatory takings to be compensated is a way for the government to provide exactly this type of insurance. • By compensating owners after the fact when the harm actually occurs, the government would be spreading the cost of the regulation over everyone, rather than forcing it to be borne only by the person directly affected. • Looked at from an ex-ante point of view (before the harm occurs), this is identical to selling everyone fair insurance against regulatory harm • Of course, the compensation would have to be funded through taxes, and taxes are somewhat distortive; but broad-based taxes are less distortive and harmful than narrow ones, so spreading the cost over everyone causes less distortion (less inefficiency) than having it borne by few Docsity.com - 20 - (We ran out of time, but here’s) A very short recap of everything we’ve done on property law... We began with the question: why do we need property rights in the first place? (without property rights that are well-defined and enforced, people waste resources stealing from each other, or overuse common resources, which is inefficient) Coase – without transaction costs, initial allocation of property rights doesn’t matter, only that they’re well-defined and tradable, as private bargaining will lead to efficiency. What are transaction costs? Two different normative views of the legal system: legal system should aim to minimize transaction costs (“lubricate” private exchange, a la the normative Coase), since if we make them low enough, efficiency follows; or, legal system should aim to allocate property efficiently (the normative Hobbes) so that less is lost when private exchange fails What things can be privately owned? • Public vs private goods. General principle: private goods should be privately owned, public goods should be publicly owned/provided/regulated • We expect private ownership to begin when costs of boundary maintenance are smaller than losses due to overuse of common resources o Demsetz: fur trade made furs more valuable and caused overhunting, so loss due to overuse went up, leading Native Americans to develop private land rights o Another neat theory is mentioned in the Friedman book: “we owe civilization to the dogs:” when dogs were domesticated, they could be trained to recognize their owner’s land and guard it, and so private ownership of farmland became feasible because the cost of boundary maintenance went down • Property rights over information – patents (to create incentive to innovate), copyrights (to encourage the supply of a public good) • Different types of public ownership (common access vs regulation vs unanimous consent) What can (or can’t) an owner do with their property? • General principle: maximum liberty • Nuisances, public and private nuisances • Rules against perpetuities – an owner can’t restrict heirs indefinitely (but can for one generation) • Emergency exception to rules against trespass • Inalienability – there are some entitlements that you can’t sell (or even give away) • Can’t always unbundle property rights (but can in some instances, for example with land in Pennsylvania, and with conservation easements in some locations) Docsity.com - 21 - How are property rights established? • Fugitive property – paradigms of first possession and tied ownership o first possession tends to be simpler to implement, but causes resources to be wasted in trying to gain possession o example of this: Friedman on Homestead Act, saying that the resources wasted in starting to farm before it was efficient basically wasted much of the value of the land (p. 120 in Law’s Order) • First possession versus tied ownership is one example of the general tradeoff between simple, “bright line” rules versus more complex rules that might be more costly to implement but create better incentives – Pierson vs Post, whaling • Verifying legal ownership (property deeds and car titles), acquiring title • Losing property rights – adverse possession, estray rules • Government’s rights to claim private property – eminent domain/takings, limitations (public use, just compensation); regulatory takings, abuse of takings What remedies are available when property rights are violated? • injunctions vs damages – injunctions simpler (cheaper) to implement, create bright-line property rights to encourage bargaining; damages more efficient when transaction costs are high (bargaining unlikely to succeed) • temporary versus permanent damages – temporary damages more efficient when damages are easy to calculate and technology is changing; permanent damages are more efficient when damages are hard to calculate and technology is stable Docsity.com