Serfdom versus slavery

Slavery remains a live issue, as discussed in the Global Slavery Index. The Index uses the following operational definition of slavery:

Slavery is the possession and control of a person in such a way as to significantly deprive that person of his or her individual liberty, with the intent of exploiting that person through their use, management, profit, transfer or disposal. Usually this exercise will be achieved through means such as violence or threats of violence, deception and/or coercion (p.11).

That is a definition of labour bondage, rather than slavery as such, but as all human bondage is an offence against people as moral agents, one can understand the attraction of slavery as catch-all term. Especially as the inaugural edition of the Index (conservatively) estimates that 30 million people are in such bondage world-wide.

The economic scholarship on slavery and serfdom usually starts with Evsey Domar’s classic article (scroll down), summarised here by Paul Krugman. See an updated version of Domar’s model. (And further.)  Economic discussions of the choice between slavery and serfdom tends to be somewhat unsatisfactory, as the key factor--whether the source population for the labour in bondage is local or imported--is rarely given the significance history suggests it should have. The American experience of mass multi-generational slavery, along with the myth of no slave smuggling, perhaps distorts perspectives.

Return to labour
Historically, labour bondage (from slavery through to serfdom and similar arrangements) occurred when the return to labour was sufficiently high that the policing costs of bondage were more than covered by the reduction in the cost of labour from imposing bondage compared to the cost of free labour. (The effects of coercion on productivity is a more complex issue.) Typically, this occurred due to either a drop in the population (e.g. the rise of the coloni in the Roman Empire after the Antonine plague and the plague of Cyprian) or to an expansion in land available for farming (e.g. after the advent of gunpowder weapons led to the retreat of the pastoralists in Eastern Europe). In these cases, the return to labour increased because it became relatively scarcer compared to land: to put it another way, labour's marginal productivity went up because there was more land per provider of labour. So coercion blocked labour's ability to get the full return therefrom.

The expansion of export markets (also a factor in the Eastern European en-serfments), so an increase in the demand for the products of labour, and development of gang (or other easily-supervised) production methods (increasing the output for a given level of coercion) could also encourage use of labour bondage. In the former case, increased demand for the product increased the return to labour. In the latter case low supervision costs increased the return to bondage.

Pre-industrial mining and cotton harvesting were both often done by slaves or other bonded labour. In both cases, the resource was unpleasant to gather but said gathering was easily supervised. Sugar harvesting (which was particularly easily supervised) was even more prone to use of slave labour.

So, effort-intensive (unpleasant but relatively simple) production was much more prone to bondage, particularly slavery. Care-intensive (more attention complex) production tended more towards serfdom or free labour; although an "open" slave system (i.e. freed slaves then integrate into the society) would allow care-intensive slavery--such as the labour market of (pdf) the Roman Empire. It would even permit slave agents if a lack of corporation law or equivalent made free-but-controlled agents problematic. In the words of (pdf) economic historian Stefano Fenoaltea:

Another of the principal consequences of the slave's legal incapacity is that the slave is legally an extension of his master, so that a sum paid to the slave of Titius is considered paid to Titius himself. Nowadays, this would matter little: legal intermediation by an agent is not difficult, and in any case most of our bills are paid not directly to individuals but to abstract legal persons (which in substantive terms are also intermediaries). In classical antiquity, on the other hand, both legal agency and abstract-legal persons were restricted to very special cases where they were recognized at all; but an effective substitute for the nonhuman person or the legal agent was found in the human nonperson, who was legally but his master's instrument. Slaves thus also had a specific advantage in the role of agents, and slave agents were common even where slaves were generally scarce (p.657). 

Economic historian Peter Temin makes a similar point (pdf):

As [Sir John] Hicks noted, slavery was the most common formal, legally enforceable long-term labor contract in the early Roman empire. A person with a long-term relation to a principal would be his or her most responsible representative. Slaves were more valuable than free men in that respect. Witness the frequent references to literate, skilled slave agents in the surviving sources (p.536).

Slave-serf spectrum
The difference between serfdom (in its various forms) and slavery is that a serf is bound to the land or workplace (the Soviet Union operated a system of workplace industrial serfdom from 1940 to 1956) while a slave is property. That distinction seems clear enough, except that (pre-revolutionary) Russian serfdom was perilously close to slavery in several senses--serfs were bound to owners more than land, and could be bought and sold (or, at least, the right to their labour could be). Forms of bondage have been historically so varied that the distinction between owning a person (slavery) and owning their labour services (serfdom) is not always very clear-cut.

Another difference between slaves and serfs is that serfs could legally own property, slaves could not (being, themselves, property). Russian serfs could own property, for example. Except that distinction is more de jure than complete. Slaves could have economic property rights (i.e. effective control over goods or attributes thereof), even if said property rights were not legally recognised or protected--otherwise slaves would not be able to buy their freedom, as some did. (The point also works in reverse: inmates of labour camps may not be legally slaves, but they functionally are.)

Both serfs and slaves could be born such. Indeed, serfs were typically born into serfdom. This was less true of slaves, who were often enslaved, as slave populations generally did not fully reproduce themselves. Roman slavery had significant slave breeding (pdf). Indeed, judging by the age data of slaves, it is possible that a significant proportion of Roman slaves purchased their freedom in part by raising children to replace them. There was also significant slave breeding in the Antebellum South, hence it received a relatively small proportion of enslaved Africans transported across the Atlantic, even including smuggling (mainly via Cuba).

That both systems had significant slave breeding was true despite Roman slavery being an "open" slave system (relatively high levels of manumission with ex-slaves being integrated into the wider society as full citizens and economic participants) and American slavery being a "closed" slave system (very little manumission and ex-slaves were not integrated into the wider society).

But it is highly doubtful either slave population was able to fully reproduce itself. The claim that the slave population of the Antebellum South was an exception to this principle seems to be based on ignoring or downplaying the (apparently considerable) smuggling of slaves.

That the family status of slaves had no standing, so they received little or no economic benefit in extra labour or provision for old age from raising children--remembering that children have to be not only brought to term, but then nurtured--militated against full internal reproduction of slave populations.

Serf populations never had that drawback. Serf populations had little difficulty reproducing themselves, having the normal economic incentives for raising children (extra labour and provision for old age) given that they could own property and their family status was fully recognised.*

Local or imported?

The clearest difference between serfdom and slavery is that serfs were local populations bound to the land, while slaves were (at least originally) imported. If the supply of bonded labour is local, that means:

(1) things have to be arranged so that the population continues to locally fully reproduce itself; and
(2) the costs of reducing said population to being property will be particularly high, due to the size and propinquity of the population. (This will include possible threat to the legal status of other members of that society.)**

Binding people to the land or workplace was a lot cheaper and safer than stripping them of all legal rights and standing--given that most of the advantage of bondage is gained simply by blocking the ability to offer their labour elsewhere. Which led to the further advantages of requiring significantly less ongoing policing while allowing said population to unproblematically locally reproduce itself. Thus, while debt slavery did occur (selling yourself or your children into slavery to pay a debt), debt bondage is more commonly a form of serfdom--due to reduced policing costs and much increased possibility of multi-generational labour services.

Conversely, if the supply of bonded labour is foreign or otherwise scattered:

(1) the process of enslaving will have already stripped them of rights and standing;
(2) the expectation of further imports will reduce any need to arrange for full local reproduction of the slave population; and
(3) the more tradable they are, the more the cost of more complete stripping of rights will be ameliorated. 

Policing costs will be higher, however, and the cost of the enslaving will be reflected in the purchase price. So slaves will have to be more productive than serfs to be profitable, reflecting the higher acquisition and enforcement costs. Which, in return, requires either extracting more output or doing so at lower cost, or both. (Use of slave labour to reduce the costs of oppression--as in the labour camps of totalitarian states such as the Soviet Union or North Korea--is a somewhat different case.)

Serfdom will therefore dominate slavery, as the policing costs of serfdom will be substantially lower and acquisition costs will be entirely contained within the return to the serfs, who will retain the normal reasons in farming societies to have children. So, the more use of serfdom (or its cognates), the less use of full slavery. Which is what we observe historically.

Since serfdom dominates slavery, slavery--particularly mass slavery--will typically occur when some effective constraint blocks the enserfing of local population. Such as a simple lack of such population; as in the Americas after the disease catastrophe of the Columbian exchange. (Though a form of serfdom was enacted while and if significant indigenous populations remained.) Or substantive political constraints--such as wanting poor locals to row warships or serve in the army, giving them the status and bargaining power to avoid bondage (classical Athens and Rome). The very notion of citizenship militates against enserfing.

Conversely, Sparta did not use mass slavery, as it already had an enserfed local population--the helots.  (It is notable that the coloni of the later Roman Empire evolved after Roman citizenship had become universal, so of much less moment, and the Roman Empire was on the defensive, so fewer slave imports.)

Imported bonded non-slave labour did occur--in the case of "blackbirding" and other indentured labour in the colonies. A little surprising, since the importation costs would at least partly replicate enslaving costs. But slavery being illegal would give space for use of imported "serfs". And importation costs may not fully equal enslaving costs, especially if lower policing costs also operate, given that these indentures were often entered into quite voluntarily, looking to a desired outcome (such as being paid to move to a society with improved income prospects).

Where the possibility of imported bonded-but-not-enslaved labour exists as an alternative to slavery, other factors may play a role. If there is a mode of production--such as gang-production--where the return to using slaves more than compensates for extra policing costs, then slavery will be favoured. Moreover, if the bonded labour is ethnically distinctive, that reduces policing (and psychic) costs of slavery. So, if physically distinct slaves are available, but physically distinct serfs or other bonded labour is not, slavery will also tend to be favoured (as the policing costs advantages of servitude over slavery is reduced). Thus, in most American colonies of European states, (African) slavery was comparatively favoured against (European) servitude.

Even so, indentured labour was imported into the more northerly British American colonies even while slavery was entirely legal and slaves were available. The key factor seems to have been the nature of production: indentured labour was preferred for care-intensive production (typical of the small farms and businesses of the northern colonies) while the balance of advantage shifted towards slavery when the expansion of gang-production methods made slavery more economic for various crops in the southern colonies.

The enserfment that did not happen
One of the historical puzzles about the use of labour bondage is the (re)enserfment that did not happen after the massive population loss of the Black Death (1346-1353). Here was a society which had had extensive labour bondage confronting a sudden labour scarcity (since lots of people had died, but the land and capital was still there). There was a clear increase in wages as a result of said labour scarcity. Yet the attempts to re-impose bondage failed.

Looking at the historical record, two elements seemed crucial:

1. The landlord cartel was insufficiently coherent because there were too many alternative ways of deriving income from land.
2. The crowns had become much less dependant on landlord military service, so lacked sufficient interest in enforcing such a landlord cartel (which is what mass enserfment essentially is).

A paper on the economics of labour coercion (pdf) suggests that my intuition was on the right track but not quite broad enough. The paper argues that effort and coercion are complements; that is more coercion means more production. But the paper also argues outside options are crucial, because that affects the alternatives available to coerced labour.  In the words of the paper:

Labor scarcity creates a labor demand effect: it increases the marginal product of workers in the coercive sector, and thus encourages employers to use greater coercion and extract higher effort from their workers. It also creates an outside option effect: it increases the outside option of the workers in the noncoercive sector, and reduces coercion because employers demand lower effort and use less coercion when workers have greater outside options. ... Whether the labor demand effect or the outside option effect dominates simply depends on whether the population change has a larger direct effect on the market price or the workers’ outside options (Pp587-8).

In post Black Death Western Europe, the paper argues that the relatively high degree of urbanisation increased the outside option effect, reducing the use of coercion. While, in Eastern Europe in the early modern period, the lack of urbanisation meant a minimal outside option effect, increasing the use of coercion.

Which is fine as far as it goes, but it was not merely urbanisation. Western Europe also had commercially more complex economies, which also increased the outside option effect. A commercial complexity that was in part a result of more extensive states, able to mediate and facilitate such complexity: a point which particularly applies with the comparison to Russia (which had much fewer officials per given number of population), where serfdom lasted longest.

As for my above point about what the crowns wanted, at the deepest level, it is the same point; that the societies had become sufficiently commercially complex also meant that armed forces were increasingly dominated by monetary taxes and payments independent of the return to landlord coercion. And it is enforcing (or not) the landlord cartel which is the key element. Not merely to block shifting between landlords but also to block alternative contracts (as the basis of mass bondage is that essentially the same conditions are imposed across controllers of labour), as both effects reduce outside options and make coercion more profitable.

Constraints and returns

So, slavery, particularly mass slavery, will occur when there some effective constraint blocks the enserfing of local population and the option of imported "serfs" is not suited to the mode of production, has insufficient advantage in policing costs or is otherwise not practical. For example, because passage is too risky to be attractive or contract enforcement is too problematic. A West African labourer had no capacity to contract with a potential American employer and, when slavery was legal, no protection against being enslaved on route. Conversely, moving from one part of the British Empire to another as indentured labour had much better contract enforcement possibilities.

Hence the slavery versus serfdom choice--in a situation where labour bondage is practical, and the return to bonded labour is positive--will be primarily a matter of the source of the population on which bondage is imposed. If the source population was local, serfdom (or some cognate) would be used. If the source population was foreign in origins, then (with the caveats noted above) slavery (i.e. being reduced to merely property, so more tradable) would be used to compensate for the increased acquisition costs, despite the increased policing costs of slavery over serfdom.


[Cross-posted at Skepticlawyer.]

* Slavery implied sexual bondage, as family status was not recognised; serfdom did not, as family status was recognised. This provides a particularly clear contrast between being property oneself and having one's labour services owned (in part or full). [Added footnote in response to a Facebook discussion.]
** As Yoram Barzel points out (pdf), this made slavery most problematic when it threatened the legal status of members of the domestic population. Unless, of course, such threat was the point--as in labour camp slavery. Modern servitude (amounting at times to slavery) among illegal immigrants operates precisely because they are isolated from the domestic population.

Ronald Coase 1910 - 2013

Ronald Coase, the 1991 Nobel Memorial Laureate in Economics, passed away on 2 September at the age of 102.  He was working to the end, having recently published a co-authored book on China. A good one.

I have loved Coase's work ever since I first came across it. He won his Nobel Memorial for essentially two articles. One he wrote as an undergraduate in his 20s, the 1937 article The Nature of the Firm (pdf).  The other was published in 1960, The Problem of Social Cost (pdf), the most cited law article. Both pieces, plus his somewhat notorious The Lighthouse in Economics (pdf) and some other key articles and essays, were published in 1988 in his The Firm, the Market and the Law, available on Amazon in Kindle edition for $US15.12.

Buy or do?

Coase is best known for a concept he did not name--transaction costs--and a theorem he did not formulate--the Coase Theorem. The concept of transaction costs first appears in a 1931 article by economist John R. Commons. Coase, however, elaborated the concept and applied to a very practical problem--why do firms exist? Why is not the price mechanism always used? Why does everyone not operate as sole traders trading their services in the market place?

As he sets out in his Nobel Memorial Prize lecture, having completed the course requirements for his degree in Commerce from the LSE in two years, but graduation requiring three years attendance, he spent the third year traveling the US studying vertical and horizontal integration of firms. Thomas Hazlett describes nicely what young Coase did in the introduction to a 1997 interview with Coase:

Coase's scientific methodology? He asked businessmen why they did what they did. One key question, for instance, involved why firms chose to produce some of their own inputs (vertical integration), and why they sometimes chose to use the market (buying from independent suppliers). He was fascinated by their answers, but even more by their astute calculation: Firm managers were keenly aware of all the relevant trade-offs.

Coase identified the costs of transacting as the key variable determining the answer and therefore the existence, and boundaries, of firms. Firms existed because it was cheaper to do some things within a firm than in a market place; that there were costs to using the price mechanism. One of those insights which is blindingly obvious once someone has pointed it out.

Ronald Coase

In doing so, he explicitly disagreed with economist Frank Knight's analysis that risk led to non-market transactions, establishing an on-going pattern where risk and transaction costs are the key factors used by economists to discuss institutional arrangements. For example, Deidre McCloskey and Stefano Fenoaltea's debate over the structure of medieval manors turns very much on the relative importance of transaction costs and risks. Similarly, a paper on (pdf) taxation policy in the Ottoman Empire looks at the balance of risk and transaction costs according to what level taxes were levied at. If risks were more constraining, it made sense to tax at a more territorially encompassing level, so risks could be pooled. If transaction costs were more constraining, it made sense to tax at a more local level, so local knowledge could be used.

Economist Yoram Barzel has offered an analysis of the boundary of the firm which puts risk back at the centre, the boundary being set by the range of transactions guaranteed by the equity capital. Though transaction costs are hardly irrelevant in that decision. Especially as risks can be transferred--to other transactions, to other agents, across time--while risks and transaction costs overlap.

Coase's insight also make it easier to see how the IT revolution and the Internet has affected both the structure of firms and the variety of commercial and other arrangements.

While Coase's insight on the boundary of the firm may be obvious in retrospect, the insight remained remarkably fallow in economics for decades. As Coase himself noted in his Nobel Memorial lecture, the concept needed to be "operationalised", quoting 2009 Nobel Memorial Laureate Oliver Williamson. As was done by such scholars as Williamson himself, Steven Cheung and Harold Demsetz. But informing and inspiring the work of other scholars is what makes great insights intellectually productive.

Social costs going both ways

If the idea at the heart of The Nature of the Firm seems obvious in retrospect, there is nothing obvious in the massively counter-intuitive idea at the heart of Coase's other seminal piece, The Problem of Social Cost, which is that, in a world with costless bargaining, it may make no difference to the net social outcome whether a producer has liability for the damage they cause or not. If they have liability, they can pay others for the damage caused to them. If they have no liability, they can be paid by others not to do the damage. Either way, the same level of production will be agreed to. As Coase himself put it in that 1997 interview:

The law of property determines who owns something, but the market determines how it will be used.

The operative term is in a world of costless bargaining. Coase's intent was to draw attention to the role and importance of law in a world of positive transaction costs and to the reciprocal nature of the problem of damage (i.e. both the doing and the not doing cause costs to someone). But it is much easier to model a world with zero transaction costs. Economists became entranced by the world of what 1982 Nobel Memorial Laureate George Stigler termed the Coase Theorem--that, in a world of zero transaction costs, private and social costs were the same. It was a world without externalities (a term Coase did not approve of) because they could all be bargained away.

This fascination with an unreal zero transaction costs world of tractable models frustrated Coase. As he wrote in Notes on the Problem of Social Costs:

The world of zero transaction costs has often been described as a Coasian world. Nothing could be further from the truth (p.174).

But this unreal world was great for mathematical models. As Coase wrote at the end of Notes on the Problem of Social Costs:

In my youth it was said that what was too silly to be said may be sung. In modern economics it may be put into mathematics (p.185).

It was not that Coase was against the use of mathematics in economics. Far from it. He just wanted the maths to have a strong connection to the world we actually live in.

Which is a world where price mechanisms are not always used because it is a world of positive transaction costs. Hence not only firms but also laws and institutions. Coase's insights became central to analysis of firms, to law--the entire field of law and economics flows from his insights--and economic history. The last is most obvious in the work of 1993 Nobel Memorial Laureate Douglass North with his analysis of institutions as ways of dealing (indeed minimising) transaction costs but it also lurks underneath 1993 Nobel Memorial Laureate Robert Fogel's work on the efficiency of slavery. Anyone who reads a significant amount of economic history becomes very aware of how basic transaction costs are to making sense of history because they are so important to making sense of law, rules and institutions. No wonder economic historians find Coase's insights so useful.

(As an aside, the committee which picks Nobel Memorial Laureates does seem to like folk who extend the ambit of economics, the most imperial of the social sciences.)

Institutions can be analysed longitudinally (across time) but also laterally (across space). Coase's insights are a fundamental building block of 2009 Nobel Memorial Laureate Elinor Ostrom's work on common property and the evolution of rules to manage them.

Coase himself pointed out that what became known as transaction costs had already been basic in economic analysis of the origins of money--particularly in the famous coincidence of wants problem. Search costs are a basic transaction cost and a reason to have money. More recent work on "money is memory" (pdf) and money as a response to limited enforcement is yet another form of transaction cost analysis.

Coase was very aware of the difference in how lawyers and how economists think while linking between the two mindsets. As he notes in The Problem of Social Cost, lawyers are concerned first with establishing who has the legal right to do what, and then working through the consequences. Economists look to what bargains can be made.

Coase pointed out that exchange was not merely about physical items, but about bundles of rights to bundles of attributes. Harold Demsetz's famous beaver trade analysis (pdf) of the origins of property rights based on the cost and benefits of internalising externalities is very much based in such Coasian perspectives.

Coase's insights made it easier to see that any exchange is first and foremost an exchange of ownership. Mere physical possession can be resolved in any particular instance by force; who is functionally stronger and sufficiently motivated? It is accepted rights to which create enduring bargains.

Spreading influence

It is an instructive exercise to go through the list of Nobel Memorial Laureates and see for how many of them their seminal work was based--explicitly or implicitly--on the insights of Ronald Coase. Insights conveyed clearly and lucidly without any more mathematics than simple algebra and arithmetic.  Indeed, his two seminal articles should be read by anyone interested in social analysis.

Ronald Coase was not, however, a public intellectual in the way of Keynes, Hayek, Friedman or Krugman. Though his work was instrumental in developing the key arguments for privatisation: indeed, the Problem of Social Cost was written as a result of a previous article on privatising the radio spectrum being challenged by Milton Friedman and other University of Chicago economists in a memorable night of argument.

Coase drew attention to the necessity of laws, rules and institutions, but also wanted economists to be a bit more sceptical about government intervention than they had been--as he pointed out governments are not immune to transaction costs. One of the reasons he disliked the concept of externalities (apart from obscuring the reciprocal nature of the issue of effects) is because he thought it encouraged intellectually lazy presumptions about government intervention. Particularly when economists did not stop to enquire how much of current private actions rested on government protections and exemptions.

Or whether other possibilities had arisen. Coase's The Lighthouse in Economics points out that the historical record regarding lighthouses does not conform to "no private provision of lighthouses is feasible" presumption of prominent economists. Elinor Ostrom's investigation of the wide range of possibilities between private ownership and government control in governing of common property is very much in the same spirit--yes, but what do people actually do, and why? There is a Coase Institute which seems to be motivated by the spirit of its namesake.

Coase may not have been a public intellectual in the way of more famous economists, but that apparently did not stop him attracting the ire of would-be policers of academic opinion. Both he and 1986 Nobel Memorial Laureate James Buchanan were apparently encouraged to leave (via) the University of Virginia because they were regarded as too "right wing". Coase refers to the hostile sentiment in the aforementioned 1997 interview:

They thought the work we were doing was disreputable. They thought of us as right-wing extremists. My wife was at a cocktail party and heard me described as someone to the right of the John Birch Society. There was a great antagonism in the '50s and '60s to anyone who saw any advantage in a market system or in a nonregulated or relatively economically free system.

A particularly silly view of Coase, as British pragmatism seems to be the best description of his views: but insisting on evidence-based policy can get in the way of all sorts of glib presumptions. As Dr Barry Marshal, the 2005 Nobel Laureate in Medicine, was also encouraged to leave said university, the University of Virginia may have an inglorious record in the number of Nobel Laureates discouraged from working there. (Though comfortable conformity is, I suppose, a branding.)

The economic blogosphere has some fine posts on Coase, with more good things in comment sections. Scott Sumner has a nice short post, Lynne Kiesling has a post with lots of links. Peter Boettke has an nice discussion of Coase's contributions.

Coase himself said of his work that:

I’ve never done anything that wasn’t obvious, and I didn’t know why other people didn’t do it. I’ve never thought the things I did were so extraordinary.

But is not pointing out the obvious-in-retrospect a mark of truly great intellectual contributions? To me, Coase is the most important economist of the C20th as his insights so expanded the ability of economics to usefully analyse social phenomena. If you think that claim of importance is too big a claim, I refer you back to the list of Nobel Memorial Prizes in Economics and how many of them had their seminal work based, at least in part, on Ronald Coase's insights.

Which he originally came to by asking folk about how they reached particular decisions. Businessfolk often seem to be the only living group academics feel entitled to analyse without ever seriously (or even not seriously) talking to any about what they do and why or ever using any work or evidence from someone who had. Here's a challenging thought: without Coase's work, how many economists would be in that situation?

[Cross-posted at Skepticlawyer.]

The mystery of the human and the trade-offs of control

What is the biggest difference in decision-making between buying equipment and hiring a person?  The characteristics of the equipment are much easier to discern.

Sure, there can be hidden flaws in machinery and buildings. You may have to take the equipment for a test run, you may need some expert to have a look at it, but, in a very important sense, what you see is what you get. And, once you are used to one example of a piece of equipment, the next item of the same thing is likely to have the same characteristics. Indeed, the higher quality the provider, the more reliable this sameness is.

People are so not like that. They vary greatly in ways which matter to an employer (or, indeed, anyone else seeking to interact with them) but which are not easy to discern. The only reliable way to find out about a particular person is to interact with them. (Nobel Laureate James Heckman has co-written a study on how "soft skills" matter [pdf] [via], on how personality traits affect life outcomes yet can be hard to assess.)

Who is telling me
Much of how labour markets work is dominated by the opacity of relevant personal characteristics. For example, the biggest labour market intermediary (way people get jobs) is generally "friends, relatives, acquaintances, etc"--someone they know told them about the job and/or the employer about them.

You can spread information about a job much more easily by posting a job vacancy.  But that will tell you almost nothing about the applicants. Personal networks provide much richer information; even if it is just "I don't know Bob, but Kate recommended him and Kate wouldn't steer me wrong" and/or "I have a high regard for Kate's judgement". You can judge the recommendation on the reliability of the recommender and to what extent the recommender is, in effect, acting as a guarantor (so as to avoid harming your existing connection).

Recommendation through existing networks thus becomes a proxy for judging the personal characteristics you cannot directly discern.

It tells me what
Such proxies abound. Has someone else taken the risk of hiring you? If yes, have they persisted in that choice for any length of time?  Hence the best place from which to get a job is being already in one. Does your education suggest that you have application and persistence? Hence the value of education qualifications is surprisingly weakly connected to the alleged content of that education. And so forth.

This is where making it hard to sack someone (in Australia "unfair dismissals" legislation) tends to so retard the operation of labour markets, for it greatly increases the risk in hiring someone precisely because of the opacity of personal characteristics. If the minimum cost of getting rid of a complete dud is, say, $3,000 in legal fees, employer time and "go away" money, then that adds a $3,000 risk premium to every hire. This is then offset by not hiring if it pushes the risk too high for expected benefits or relying even more heavily on other filtering mechanisms. Both responses hit the most marginal would-be labour market entrants hardest. But, like much labour market regulation (indeed, much regulation generally), job-protection legislation is about protecting incumbents.

It also weakens the signal of simply being in a job, as the employer's persistence in keeping you becomes a weakened recommendation.

What can I tell?
Given the difficulty in discerning the relevant characteristics, the harder it seems to "read" someone, the less attractive they are as employees. Language and cultural differences--to the extent they seem to make it harder to discern characteristics, communicate information and predict behaviour--become an employment negative. Effects which can be hard to distinguish from actual ethnic antipathy.

So, if you are a young Muslim male in a Western European country with strong "job protection" legislation, your chances of employment are not good. Or even just being young; there are reasons why France exports young people to Britain (while Britain exports retirees to France), as these job emigres in London (helping to make London France's sixth biggest city) can attest:

[Read the rest at Skepticlawyer.]

Why have contracts?

This was originally provoked by a question and answer here.


One of the most productive questions ever asked in economics is: “why do firms exist?” Why are not all economic agents sole traders? Alternatively, why is there not one big firm? Why, indeed, do firm structures vary so noticeably across industries?

The question was famously posed by Ronald Coase and he answered it with what became known as transaction costs. (A useful summary and appreciation of his work is here [pdf].) In effect, firms existed to minimise transaction costs: if it is cheaper to do a transaction in-house, then it is. If it is cheaper to do purchase a good or service externally, then it is. Firms are alternatives to coordination by the price mechanism. In a sense, they are areas of the suppression of the price mechanism. (Original article is here [pdf].) This was very productive question because it transformed organisational and institutional analysis -- many subsequent Nobel prices in economics were awarded for work based on use of transaction costs.

But is a firm defined by a transaction costs boundary? Or is it, as Yoram Barzel has argued, defined by the range of the guarantee of the equity capital? By the range across which expenditure to match obligations is guaranteed (and, if the guarantee fails, bankruptcy occurs). Firms then become mechanisms to deal with both risks and transaction costs. It is the intersection of comparative transactions costs and risk coverage that sets the boundary of the firm. Noting that it is existence of a realm where it is beneficial to replace the price mechanism (Coase’s point) that creates the range of expenditures needing the equity guarantee (as identified by Barzel) in the first place.

Coase’s analysis in itself does not explain why firm ownership is purchased and why the owner is the recipient of the residuum (the net income of the firm, whether positive or negative after all expenditures are paid for): adding Barzel’s analysis does. While Barzel's analysis does not identify why there is a range of transactions needing the equity guarantee in the first place (as Coase's analysis does.)

So, why do contracts exist? Why are not all transactions just on-the-spot swaps?

Lots of transactions are, after all. Not only are there spot markets, but retail markets are dominated by such on-the-spot swaps, where prices are free to move between transactions.
Read More...
Contracts exist for the same reasons firms exist, to lower transaction costs and manage risks. Contracts structure, and thereby permit, economic interactions that extend beyond a caveat emptor swap on the spot. A contract is any agreed transaction or series of transactions across time. So, any purchase which is not on a caveat emptor basis has some contractual element, as there is an obligation across time. (So even spot markets can have contractual elements.)

This is easiest to see with regard to labour markets. While spot markets for labour have existed, they tend to be relatively rare. Generally, people providing goods and services they do not make or provide themselves need to use labour with some regularity, and labour with specific skill sets and characteristics (such as reliability). A contract offers income to the provider of the labour on the basis of providing particular skill sets and personal characteristics. The promise of future income (to the labour provider) and future use (to the hirer of the labour) gives the hirer of the labour reason to engage in necessary training (even if only in the procedures of the firm) and a reasonable expectation of the labour being available. The hirer can then have a reasonable expectation of providing the goods or services he can then offer to customers.

The point can be extended to any good or service that is a regular part of the production process.

So, contracts exist to manage interactions across time. They are more than simply repeated games (such as one has with a regular customer/purveyor: though these can involve built-up expectations which can become implicit contracts). Contracts structure any interactions where there is a delay between provision and payment. So, ordering a meal in a restaurant is a contract, since you are promising to pay at the end of the meal. Even if payment for an on-the-spot swap is immediate, if a transaction is not caveat emptor there will be some continuing obligations about quality which make the transaction a contract.

In common law, a contract is a matter of offer and acceptance (i.e. mutual assent) and consideration. That is, a contract involves mutual agreement for some benefit (typically, an exchange of benefits). The mere matter of assent and benefit simply makes it a transaction: it is having explicit or implicit operation over time that makes it a contract.

Contracts reduce transaction costs – in particular, you do not have to keep searching for providers, negotiation costs are reduced (particularly if standard contracts, whether customary or statutory, are used) – and they reduce risks: you can act on the basis of reasonable expectations, with means of redress if there is a failure to provide as promised, making planning ahead easier. Since time-range transactions are so common, contracts are ubiquitous in human economies. So much so, that customary contracts evolve to an extent that people are not even conscious of being engaged in an (implicit) contract, as in purchasing a restaurant meal. By creating a structure one that allows transactions that operate across time (that is, loosen the time constraint) a contract also allows much more complex interactions than would otherwise be practical.

Having high levels of social trust and effective contract law enforcement greatly increases the range of transactions that it is reasonable to engage in. The biggest single economic advantage to high levels of social trust may well be the expanded ability to engage in contractual (i.e. time-range) transactions.

While there is some minimal trust element in on-the-spot swaps, there is so little that even black markets can engage in them easily. To engage in time-delay transactions generally requires an enforcement/recourse mechanism. This accounts for much of the overt menace in black markets, since such enforcement have to provided by the purveyor themself. (The rest of the menace and violence comes from the need to privately enforce property rights, making them much more “up for grabs”, and to deter assisting the state to enforce its ban of those transactions.)

So, a contract is a way of reducing transaction costs and managing risks thereby permitting transactions that have some element across time. Which leads rather naturally into the notion of a firm as a nexus of contracts.

Unlike firms, contracts are not generally suppressions of the price mechanism: typically, they are ways of extending its operation – that is, they bring a wider range of possible transactions into the market. What is distinctive about the contracts of a firm is that they provide the basis for alternatives to the price mechanism in coordination and their operation is within the guarantee of the equity capital. Noting that firms are a nexus of contracts does not, of itself, appear to add anything to the combined Coase-Barzel analysis of firms outlined above.

It is more that firms are a particular nexus of contracts. That is, firms and contracts are both ways of reducing transaction costs and managing risks: it is just that a firm uses contracts to create a specific realm of coordination and equity guarantee. Contracts are the mechanism, the firm is a particular conjunction of the use of contracts.