COORDINATION, COOPERATION, AND THE EXTENDED COASEAN

APPROACH TO ECONOMIC POLICY

Alberto Chilosi
Facolta di Scienze Politiche
via SeraIini 3
56126 Pisa (Italy)
E-mail: Chilosisp.unipi.it

ABSTRACT
The Coasean way to deal with the cooperation Iailure that is implicit in Pareto
ineIIiciency is to remove or lessen the obstacles to cooperation through the
attribution oI property rights and the elimination or reduction oI transaction costs.
The relevance oI this approach is however undermined by some intrinsic
diIIiculties to its application in a real world context, such as those arising Irom the
number and indeterminacy oI the interested parties, the cost and indeterminacy oI
bargaining, and the Iree rider problem. A way to extend the Coasean approach
while taking into account those real liIe limitations is to consider the local
authorities as representatives oI the interest oI their local constituencies and,
through the provision oI an adequate institutional Iramework, to enhance the
opportunities Ior cooperation through voluntary agreements involving private and
public parties. Thus the extent oI cooperation could be widened, as opposite to
traditional remedial actions relying on non-contractual, or direct entrepreneurial
action by the state. With the reduction in the appeal oI state direct and coercive
action a number oI institutions emphasising the contractual cooperation between
public and private parties have eIIectively grown oI importance, as wide apart as
the township and village enterprises in China and the programma:ione nego:iata
in Italy. In the Iinal part oI the paper the latter experience is brieIly reviewed and
appraised.

Keywords: cooperation, coordination, Coase theorem, economic policy, territorial
pacts, transition, Italian economy.


2

'social sciences progress by means oI concepts
(Von Hayek, quoted in Moulin, 1986, p. 6)
1. COORDINATION, COOPERATION, AND THE COASEAN APPROACH TO ECONOMIC
POLICY
1.1 Coordination and Cooperation
The concept oI coordination reIers to the carrying out oI a set oI activities by
diIIerent individuals in a way compatible with the attainment oI a given social
(Iavourable, at any rate better than without coordination) result. Coordinating
decisions, and the resulting activities, is the basic task oI an economic system,
indeed, oI any social system. Coordination can be conscious and aimed Ior,
according to a voluntary agreement, and may then be called cooperation, or can
result Irom separate individual decisions, such as in Nash equilibrium, or in the
paradigm oI the invisible hand. In the general equilibrium Iormalization oI the
latter there is (implicitly at least) bilateral cooperation between buyers and
sellers;
1
the overall outcome however involves the attainment oI a Pareto eIIicient
state Ior society as a whole; thus bilateral cooperation results in overall (Pareto)
eIIicient coordination. In the general case oI Nash equilibrium (where individuals
act independently oI explicit agreements) the outcome may turn out to be Pareto
inIerior to some other state that could be attained through cooperation, leading to

1
Even iI markets are described as impersonal and in thick markets, in particular,
cooperation may be reduced to the bare element oI purchasing and selling a
standard commodity at a given market price, transactions in the end take place
between individual sellers and individual buyers. In general the market system
relies on the Iact that satisIactory overall coordination can be achieved through
institutions leading to limited cooperation, amounting in most cases to bilateral
exchange. On the other hand in the case oI the traditional planned socialist
economy, coordination is basically achieved through commands, even iI there may
be substantial elements oI cooperation, bilateral or otherwise.


3
what may be called a cooperation Iailure. On the other hand, to be stuck in a Nash
equilibrium when there is an alternative Pareto superior one is reIerred to as a
coordination Iailure, as in this case the superior outcome does not necessarily
require explicit cooperation: iI only the separate selI-interested agents were to
behave diIIerently (Ior instance because oI diIIerent expectations as to the other
agents` rational behaviour or on government policy), a better social state could be
achieved in an alternative equilibrium situation, even without explicitly striking a
deal. For instance, in the macroeconomic theoretical case oI multiple equilibria
arising Irom strategic complementarity,
2
the diIIerent possible Nash equilibria
could depend on diIIerent levels oI selI-IulIilling expectations as to the level oI
demand.
3
In case a Nash equilibrium is Pareto dominated by another state that is
not a Nash equilibrium, as in the case oI the usual one-shot Prisoner Dilemma, or
in the Iixed time span Prisoner Dilemma supergame,
4
the Pareto superior state
could in principle be achieved through cooperation, iI cooperation is possible,
which usually means iI deals are enIorceable. On the other hand it is well known
that, in case oI an inIinitely repeated game, every Pareto eIIicient outcome
dominating a Nash equilibrium can be sustained, even without explicit

2
This occurs whenever 'increased eIIort by other agents leads the remaining agent
to Iollow suit (Cooper, 1999, p.19).
3
CI. e. g. Cooper (1999).
4
This means a game composed oI a sequence oI one-shot (stage) games. II the time-
horizon is Iixed, because oI backward induction the solution becomes the
repetition oI the ineIIicient Nash equilibrium oI one-shot games, since the
dominating cooperative solution cannot be sustained by the selI-interest oI the
players.


4
agreements, iI everybody expects Nash reversion
5
as a punishing strategy,
provided the discount Iactors are high enough (intertemporal preIerences are not
too myopic). II the expected punishing strategy is more severe, the above applies
to every outcome that is associated with greater payoIIs than those compatible
with the maximum punishment the other parties can inIlict (this means payoIIs
that are individually rational).
6
In this we have a kind oI implicit cooperation,
based upon no explicit agreement, but on the expectation oI other players`
sanctions bringing about an expected loss in case oI non conIorming behaviour.
1.2 Pareto Inefficiencv as Cooperation Failure
Generally speaking, however, Pareto sub-optimality is tantamount with
cooperation Iailure, as by its very nature a Pareto inIerior state could always be
improved through cooperation, iI cooperation Iinds no obstacle or constraint. In a
nutshell this could be seen as the essence oI the so-called Coase theorem.
7

However, Ior (explicit) cooperation to be possible a set oI conditions are required.
The Iirst is that the agreements involved in cooperation should be implemented.
This is not too complicated when they are struck among a limited number oI
agents and are enacted simultaneously, such as in barter or spot market exchanges.
Even in this basic case however some general requirements concerning law and
order must be IulIilled. For instance, the possibility Ior an agent, instead oI
entering into a mutually advantageous exchange, to grab somebody else`s assets

5
This means the return to the strategy bringing about the dominated Nash
equilibrium Ior the indeterminate Iuture.
6
This is the content oI the Iamed Folk theorem; see Mas Colell et al., 1995, pp. 418-
423.
7
See Coase, 1960. The nature oI the 'Coase theorem has been amply debated in
the literature. See Ior instance Usher (1998), Dixit and Olson (2000), where Iurther
bibliographical reIerences can be Iound.


5
with dexterity or Iorce, and get away with that, or to cheat, misrepresenting the
nature oI the exchange, should be prevented; in other terms property rights into the
possible objects oI exchange and rules determining the requirements oI proper
behaviour should be established, iI only, minimally, by the power oI custom and
social conventions (such as in tribal trades, or trades along the old prehistorical
trade routes that operated in distant past,
8
even without the disciplining power oI a
state). But the requirement oI implementation becomes more demanding
whenever exchanges acquire, as is oIten the case, an inter-temporal dimension. In
this case the problem arises oI what would prevent agents who must perIorm
subsequently to behave opportunistically, not executing their side oI the deal. In
other terms, the contract, even iI mutually beneIicial ex-ante, may not be selI-
enIorcing (incentive compatible) ex-post (compliance would not be a subgame
perIect strategy), and Ior its stipulation the guarantee oI outside legal enIorcement
can be required.
This issue is most clearly stated by Hobbes in a well-known passage:
9


'If a covenant be made wherein neither of the parties perform
presentlv, but trust one another in the condition of mere nature .
upon anv reasonable suspicion, it is void. but if there be a
common power set over them both, with right and force sufficient
to compel performance, it is not void. For he that performeth first
has no assurance the other will perform after, because the bonds
of words are too weak to bridle mens ambition, avarice, anger,
and other passions, without the fear of some coercive power`

8
See Hermann, 1965, ch. 1.
9
Hobbes, 1651, chapter xiv ('OI the First and Second Natural Laws, and oI
Contracts), p. 84.


6

To keep one`s pledge and avoid behaving opportunistically can be induced by
ethics or reputation, and by the incentives provided by the perspective oI repeated
exchanges, but usually requires some kind oI outside sanction, iI only to support
the maintenance oI the ethical values or habits that may be Iurthered and
strengthened by compliance, and jeopardized by the experience oI successIul
violation. Sanctions could be administered spontaneously by altruistic
punishment,
10
but usually require the existence oI some speciIic institutions, such
as courts, police, state administration. The way in which these institutions are
generated and maintained lies outside the scope oI this paper and is the object
matter oI political theory.
11
Intertemporal exchanges lie at the basis oI
Iundamental activities oI market economic systems, such as investment,
insurance, credit and even employment. At the very heart oI a modern market
economy there are also situations where somebody is in charge oI managing assets
owned by somebody else, in an agency Iramework, characterized by asymmetric
inIormation. Moreover not only contracts that must be carried out in time, but also
contracts where there is some uncertainty as to the quality oI the object require

10
Indeed, according to Fehr and Gchter (2002), 'cooperation Ilourishes iI altruistic
punishment is possible, and breaks down iI it is ruled out. This may contribute to
explain part oI the economic success oI Far-eastern societies where 'shame
allegedly plays a much more important social role than in the West (on this point
see Lall, 1998).
11
In this game theory is the source oI some interesting lines oI thought; Ior the
game-theoretical approach to the issue oI the origin oI the state, see Taylor, 1987
and the literature quoted there.


7
trust.
12
The basic institutions oI capitalism require some degree oI trust Ior
perIorming satisIactorily, and trust depends to large extent on the prospects oI
opportunistic behaviour to be sanctioned. Without legal enIorcement oI
compliance, and punishment oI opportunistic behaviour, a satisIactory Iunctioning
oI a modern market economy is not possible. Indeed, while direct management oI
the economy by the state has proved relatively wasteIul, according to the overall
experience oI the last century, the experience oI transition countries has proved
how essential the role oI the state is as a guarantor oI public order and oI law
enIorcement, the enIorcement oI contracts in particular.
13,
1.3 Obstacles to Cooperation

12
For the purpose oI the argument we may deIine trust as a subjective degree oI
conIidence that the behaviour oI some other party, with whom one contemplates to
enter into a contractual relation, will not be short-run opportunistic; the degree oI
conIidence should be high enough to decide to stipulate the contract, otherwise
there is no trust. By short-run opportunistic behaviour we mean one which exploits
the opportunities to reap a short-run advantage in breach oI contractual
obligations, such as, Ior a cashier, to 'take the money and run. Obviously legal
enIorcement is neither a necessary nor a suIIicient condition Ior having trust. Not
necessary, because trust can be based on other kind oI motivations by the
contracting parties, which are brieIly touched in the text, besides the guarantee oI
legal enIorcement. Not suIIicient, because legal enIorcement is only an imperIect
substitute oI voluntary compliance, iI only because perIormance can be veriIied in
the courts only at a (oIten substantial) cost and with a variable degree oI
imperIection.
13
There are many areas where economic recovery has been hampered by lack oI
contract enIorcement. For an interesting example in the area oI agriculture, see
O'Brien et alii (1999), p. 29.


8
Even independently oI the issue oI enIorcement there are a number oI diIIiculties
in practice that may prevent theoretically possible cooperative deals to be struck:
1. InIormation. There are two sets oI issues: a) Who may beneIit Irom
cooperative agreements? How to Iind them? b) What are the real
characteristics oI the object oI contracting? Through deceit they could be quite
diIIerent Irom what it appears, whenever, as is usually the case, inIormation is
asymmetric. This possibility may block possible Pareto improving transactions
and hinder the opening oI potential markets.
14

2. Cost oI contracting: how much would it cost to get the parties together and to
organize the agreement (including the writing oI a contract)?
3. Bargaining: how to divide the gains that could be obtained by the agreement?
For instance, under realistic circumstances oI Iundamental uncertainty and
private inIormation, somebody could block the agreement with the strategic
aim oI Iorcing the surrender oI almost all the gains to himselI. In the process
no agreement may be reached.
4. Free riding, whenever the beneIits oI an agreement could be shared, because oI
externalities, by those who choose not to be part to it and to avoid paying the
costs that its implementation may require.
The advantage oI coordination through thick markets as a way to reach, iI not
optimal, at least comparatively satisIactory societal outcomes lies in the Iact that
these are attained by-passing the above diIIiculties that bedevil cooperation.
1.4 The Coasean Approach to Economic Policv
II market Iailures are tantamount to the Iact that potentially mutual beneIicial
agreements are not struck, it seems somewhat natural that the Iirst task oI policy
should be to remove, or at least to lessen, the obstacles to Pareto improving
voluntary agreements (this could be considered as the classical Coasean approach
to economic policy):


9
1. Through the assignment oI property rights, while taking into consideration the
diIIerent consequences that alternative assignments oI property rights can have
in practice on the overall social outcome,
15
the number oI the concerned
parties could be limited and the Iree rider problem reduced. For instance, the
assignment oI a property right to the exploitation oI a resource, blocking the
Iree access oI indeterminate third parties, limits the number oI agents that
could be part oI an agreement about its exploitation. The possible interested
third parties could bid the right Irom those to whom the property right to its
exploitation is conIerred. This can avoid the tragedy oI the commons, whereby
those who may have an interest in an eIIicient exploitation oI the resource are
too numerous and indeterminate (and possibly prone to Iree rider behaviour)
Ior allowing the practical possibility oI striking an agreement as to its eIIicient
management.
16
This could be the common sense translation oI the Coasean
requirement oI the suitable assignment oI property rights Ior Iacilitating Pareto
improving agreements. Another translation could be that by assigning well-

14
As in the classical case oI AkerloI`s 'market Ior lemons.
15
This consideration could Ior instance lead to the assignment oI property rights to
the 'lowest cost avoider, this mean to the subject who can avoid damage deriving
Irom the activity oI others at the lowest possible cost, and thereIore can be bought
oII by those who have an use oI the resource oI higher value than his damage.
16
Things are diIIerent in case oI close-knit small communities where it is much
more immediate to single out those interested in the eIIicient use oI the common
resource and where social control (the repeated game Iramework implied by the
daily contacts oI the members) may more easily prevent Iree riding and disruptive
strategic behaviour. This applies Ior instance to the rules established and
maintained by usage concerning the exploitation oI the commons in the traditional
medieval village (cI. Dahlman, 1980).


10
deIined property rights Pareto improving deals can be Iavoured because the
uncertainty and legal indeterminacy oI the absence oI clear legal provisions are
removed. In the assignment oI property rights issue one may well include that
oI setting up and maintaining a system oI property rights protection and
contract enIorcement.
2. For similar reasons the explicit assignment oI property rights could also reduce
the cost oI contracting to manageable proportions. On the other hand it is
obvious that the assignment oI property rights not necessarily can bring about
the exploitation oI all possible mutually advantageous exchanges. For
instance, in the textbook case oI pollution, iI the subjects involved are many,
and possibly necessarily indeterminate, the assignment oI property rights may
be not enough to lead to the exploitation, through cooperative agreements, oI
all the theoretical possibilities Ior Pareto improvements.
17

3. By legally Iixing the conditions oI contracting the state can avoid the haggling
and indeterminacy oI bargaining, and some transaction costs such as in the
draIting oI contracts, and at the same time pursue some distributional or equity
objectives. The probability that the more risk averse and poorer contractor may
get an unIair deal, being stripped oI his part oI the surplus created by the
transaction, may be reduced. Moreover there are cases where the legal Iixation
oI the conditions oI contracting can lead to an eIIective increase oI overall

17
Let us Ior instance suppose to have a polluting Iactory and a great number oI
residents in the area oI pollution. Whether the Iactory is given or denied the right
to pollute it is practically impossible Ior the residents (all oI them) and the Iactory
to strike a deal. A deal could be more easily struck between the Iactory and the
local representative authorities, but this involves issues oI a diIIerent nature, which
are considered in the next section.


11
surplus.
18
But to Iix the terms so as to be compatible with the interest oI all the
concerned parties to implement, through cooperation, potential Pareto
improvements could be an inIormationally impossible task. Moreover, these
kinds oI interventions may easily succumb to rent seeking and wishIul
thinking (as is oIten the case, Ior instance, with rent control).
4. By supplying inIormation on the nature oI the objects oI possible transactions
(such as through certiIication, supervision, determination oI standards and
quality control) the state could reduce those uncertainties as to the object oI
contracts that may block transactions.
5. State intervention should not be such as to make socially improving
cooperation more diIIicult than otherwise could be. This apparently
straightIorward requirement is not so simple as it appears, however, since not
all the possible agreements lead to social improvements, even iI the assumed
social welIare Iunction has the Paretian property. A basic public task is to
impede agreements that are social detracting (whatever the implied social
welIare Iunction may be). This requires distinguishing between social
detracting and social improving contracts, and thus to have a set oI institutions
Ior controlling agreements, allowing or prohibiting them according to their
nature.
1.5 Social Improving and Social Detracting Transactions
Indeed, a basic diIIerence between economic systems lies in the kind oI
transactions that are seen as social detracting, and are thereIore Iorbidden, or as
social improving, and are thereIore permitted. Under socialism, in its extreme or
'classical Soviet-type Iorm, all kinds oI contracts between private individuals
leading to the hiring oI labour are in principle Iorbidden. Under 'capitalist
institutions, contracts oI this sort are in principle allowed, and even encouraged.

18
A straightIorward textbook example is the Iixing oI minimum wages in a context
oI monopsonistic power in the labour market.


12
Under most regimes a set oI voluntary transactions are considered to be social
detracting and thereIore Iorbidden, such as those aiming at carrying out all sort oI
criminal activities. In market economies some transactions can be Iorbidden that
are speciIic oI these economies, such as IalsiIying balance sheets, or agreeing
about price-setting in a cartel.
The reasons to Iorbid transactions can be intrinsic (Ior instance the transaction to
sell an organ Ior transplant in exchange Ior money or other utilities is seen as
unethical and thereIore Iorbidden). But in most cases the basic reason to Iorbid
certain types oI transactions lies in the perceived external eIIects, in the short or in
the long run. From a 'classical socialist viewpoint transactions that imply the
private hiring oI labour are supposed to lead to exploitation and alienation.
Whatever the meanings oI these words may be, these are seen as Iundamental
social evils, and thereIore, as a matter oI principle, the transactions alleged to
bring them about are Iorbidden. Moreover other externalities oI private market
behaviour that are supposed to justiIy its suppression, according to what we may
call the extreme socialist viewpoint, are considered to be the propensity to
insuIIicient utilization oI productive capacity, and macroeconomic instability
generating the business cycle, as well as the tendency to produce excessive
economic inequalities. Other less sophisticated views, especially in more
backward countries, intrinsically see transactions as a zero sum game: iI
somebody gains, it means somebody else loses, hence the lack oI legitimation oI
private property rights in the eyes oI vast sectors oI society. This is even more so,
as oIten may be the case in third world countries, under conditions oI widespread
violations oI law and order leading to private enrichment through socially
detracting activities. All this can in turn limit the propensity to risk-taking and
entrepreneurship in legitimate social improving activities, and contribute to
perpetuate conditions oI backwardness.
1.6 The Externalities Issue
II we abstract Irom transactions that are considered intrinsically wrong and are
Iorbidden because oI ethical reasons, all other voluntary and inIormed transactions


13
that do not generate negative external eIIects oI some sort could be considered to
be socially advantageous, Irom a Paretian perspective.
19
But in reality transactions,
indeed all sorts oI human activities, usually bring about non-negligible external
eIIects. Thus cooperation by some agents may lead to a Pareto non-comparable
change, possibly even to a social worsening in the Kaldorian sense. (Obviously the
latter outcome can take place only iI some abstractly possible exchanges are
concretely blocked.) As there are hardly any human activities that in practice are
deprived oI eIIects on somebody else`s welIare, one must decide which external
eIIects should be considered to be relevant and regulated by the state, and which
instead should be considered as irrelevant and ignored. The external eIIects oI a
strictly economic nature, be they real or pecuniary, are a traditional economic
policy concern.
20
OI course, Irom a Coasean viewpoint the need to have a speciIic
consideration Ior economic externalities does not exist, once the state has
perIormed its role in attributing property rights and Iavouring the reduction oI
transaction costs. Either the external interests do take care oI themselves through
Pareto improving cooperative agreements or, iI those agreements are blocked by
unavoidable transaction costs, the real (transaction) cost oI internalizing the
externalities (such as those needed to set up and organize markets) makes the

19
We are not going here into some delicate issues, that are beyond the simple
Paretian Iramework, such as the issue oI time consistency oI decisions or that oI
the Iormation oI preIerences, which would complicate the matter.
20
Pecuniary externalities are not an issue in the general equilibrium perIectly
competitive paradigm (and accordingly they have been neglected Ior a long time),
but are very much relevant in an imperIectly competitive Iramework. See on this
point Makowski and Ostroy (2001), pp. 529-531.


14
internalization oI externalities constrained Pareto ineIIicient.
21
Whenever this
happens, however, the coercive intervention oI the state could, but needs not,
remedy the situation. Moreover coercion is needed whenever changes that are not
Pareto improvements (somebody loses) are seen as leading to socially preIerable
outcomes (obviously on the basis oI evaluations that respond to criteria diIIerent
Irom the Pareto principle).
1.7 Hierarchical vs. Joluntarv Coordination
In real economies command by some in authority is another method oI
coordination. Authority implies a hierarchy: hierarchies and command are
methods oI coordination alternative to markets and voluntary cooperation.
Hierarchies can either be based on voluntary agreements (labour contracts in
particular, which are Iounding hierarchies inside the Iirm) or result Irom coercion
and sheer (non-contractually based) authority exertion (as in an army based on
military draIt, Ior instance, or in the traditional patriarchal Iamily, or Iorced labour
camps, or in slave societies). Moreover everywhere, even in the most liberal
market economies, widespread elements oI coercion are present in state activities
such as taxation, maintenance oI law and order, conscription. These activities are

21
According to Demsetz (1969), iI there are theoretically unexploited possibilities
oI exchange, and the private parties concerned have Ireedom to contract, we do not
have a situation oI ineIIiciency because the cost oI reaching the agreements is
higher than the beneIit to be reaped. On the other hand transaction costs
themselves depend on the institutional arrangements, and can be dramatically
reduced by public intervention (providing Ior instance relevant public goods such
as the introduction oI standards or legal enIorcement oI contracts), whose costs
can be lower than the added value oI the resulting transactions. Only coercive state
intervention can, in particular, overcome the Iamiliar Iree rider problem, which,
not being addressed by Coase, undermines the relevance oI the 'Coase theorem
(cI. Dixit and Olson, 2000).


15
part oI the most essential Iunctions oI every state, and to be eIIective they require
some Iorm oI basic coordination (iI only through implicit collusion) in setting up
and maintaining the institutions (this means repetitive ways oI behaviour) on
which their very nature depends. The same applies to the institutions concerned
with the organization oI exchanges. The creation and maintenance oI them require
the setting up oI rules oI behaviour, in particular, but not necessarily so, by
coordinated (and coercive) action by state authorities.
22

Whatever the source oI the hierarchy, the basic principle oI hierarchical
coordination is command. This would present no problem in case oI perIect
inIormation. But, because inIormation is imperIect, agents in a hierarchy must be
given a span, more or less large, oI autonomous decision-making and part oI their
activities must be coordinated through voluntary cooperation with other agents.
Agents must also be persuaded to use their autonomous span oI decision in the
best interest oI their organization. A way to proceed is through the structure oI pay
and the shaping oI careers, as well as by internal discipline. Another is to build up
an ethos and ideology so as to stimulate behaviour in hierarchies. One may only
recall all the nationalistic paraphernalia oI the states and the armies. But
corporations too have their ethos and ideology. Ethos and ideology also aIIect the
nature and productivity oI market interactions, as is shown by the classical studies
on the relationships between religion and market perIormance.
1.8 Failures of the Market, Failures of the State, the Nirvana Fallacv, and the
Reverse Nirvana Fallacv.
Building up hierarchies as an alternative to voluntary (contractual) coordination
can be justiIied whenever coordination through hierarchies brings about better

22
The policing and organization oI markets require the expenditure oI resources that
typically is not considered in the basic theoretical Iramework, but which
introduces a type oI transaction cost that (together with the other Ieatures
considered in the text) constitutes an essential departure Irom it.


16
overall results. As well known, in the Coasean view oI the Iirm the Iirm as a
(contractually Iounded) hierarchy is seen as being more eIIicient than market
relations as a tool oI coordination, because oI the economy in transaction costs
that the Iirm brings about in comparison to relying on market contractual
relations.
23
Under the notion oI the economy in transaction costs one can also
include the avoidance oI opportunistic behaviour and hold-ups by occasional
contractors, potentially disrupting production and distribution processes.
24

Another, intermediate, way between the Iirm as a net oI long-run contracts,
allowing hierarchical coordination, and the alternative approach oI relying on
anonymous market transactions, is the creation oI Iormal or inIormal networks,
binding personal and enterprise collaboration through Iormal or inIormal
contractual relationships.
25

Obligatory membership, hierarchy and command are organizational principles
intrinsic to the very nature oI the state, with no need oI a contractual Ioundation as
in the Iirm, even iI sometimes given a Iictitious social contractual Ioundation in
political theory. The idea that whenever the market system and contractually based
voluntary cooperation Iail, there is automatically a case Ior the state to intervene
with remedial actions, out oI his superior knowledge and organization, is seen

23
For some Iurther perspectives on the nature oI the Iirm, a comprehensive but
concise summing up is provided by Hart (1989).
24
CI. Williamson (1975).
25
CI. Richardson (1972). For the nature oI collaborative inter-Iirm relations one
may reIer in particular to Mariti and Smiley (1983). For the role oI inIormal
networks, sometimes based on ethnic, religious or Iamily ties, see Coleman (1988,
quoted in O'Brien, 1999), where the preconditions to establish these kinds oI
inIormal network ties are seen as a component oI social capital.


17
these days as a Iallacy, the well known Nirvana Iallacy,
26
but was conventional
wisdom in a not too distant past, dispelled both by experience and theoretical
advances. It is conventional wisdom at present that along with the Iailures oI the
market there are the Iailures oI hierarchies, and the Iailures oI the state, and there
is no guarantee that the latter are any less damaging than the Iirst.
27
On the other
hand one should beware oI what we may call the reverse Nirvana Iallacy, rather
widespread in some quarters, oI assuming that, because the state is imperIect, the
market (in the general meaning oI voluntary contracts oI any sort) must
necessarily lead to better results.
28

2. THE EXTENDED COASEAN APPROACH TO ECONOMIC POLICY
2.1 The Extended Coasean Approach and its Limitations

26
CI. Demsetz, 1969.
27
As Stiglitz (1994, p. 243) puts it 'We live in an imperIect world in which oIten
we Iace nothing but the choice oI the lesser oI two evils!
28
There are some economists oI the radical right who purport that because oI
general considerations (such as the special severity oI agency problems in state
organization as well as the assumed logic oI politicians` and bureaucrats`
behaviour) state intervention, iI only to Iurnish pure public goods, must be
avoided. But this radical stance is proved to be incoherent by the usually
unopposed acceptance oI the Iact that some basic public goods such as external
security and law and order, including the assignment oI property rights, must be
provided by the state anyway. Thus one does not see why the suitability oI
publicly Iurnishing other public goods (instead oI leaving the measure oI their
provision to the market, possibly through the creation oI speciIic and costly barrier
to access, with consequent undersupply) should not be considered case by case on
its own merits, instead oI being a priori dismissed.


18
Whenever potential socially improving agreements are Irustrated by the obstacles
that are resilient to the classical Coasean policy approach, such as those deriving
Irom the indeterminacy oI the interested parties, or their great number, leading to
excessive transaction costs, or the Iree rider and social action problem, public
bodies, instead oI resorting to direct and coercive measures, could become part oI
some cooperative agreement as the elected representatives oI the constituencies
aIIected by the deal. We could conceive here an eIIective extension oI the
Coasean approach to economic policy, according to a kind oI generalized
subsidiarity viewpoint. The philosophy, based on the consideration that 'the
interested parties know better, could run as Iollows: First oI all the conditions
Iavouring the autonomous cooperation oI the interested parties Ior achieving
social improving agreements should be created, iI possible, by reducing
transaction costs and suitable assignment oI property rights. (The latter is a
coercive measure against those who are excluded Irom property. So, in the
assignment oI property rights the coercive power oI the state enters anyway.) II
this cannot be done or cooperation is not Iorthcoming, public authorities can
become part oI a deal on behalI oI their constituencies. This requires the legal
system to validate agreements oI this kind. The above presents no problem
whenever standard market transactions are involved. Things are diIIerent iI the
transactions under consideration require some undertakings concerning the
behaviour oI the authorities in their public decision making capacity (Ior instance
a deal between a local public authority and an investing outside company
including the pledge to shape the town plan so as to allow the company to use a
given parcel oI land Ior building its plant, or Ior the local authority to construct
some kind oI public inIrastructure, such as a road). Thus, in order Ior these kinds
oI agreements to be possible one needs to have the corresponding legal institutions
in place. Otherwise their validation could be de Iacto granted by a suitable social
and political context (one may reIer here to the guarantee provided by the
permanence oI the local ruling structures oI the Communist Party, in the case oI
the township and village enterprises in China, or, in a quite diIIerent context, in


19
the industrial districts oI Emilia Romagna). The advantage oI reaching voluntary
deals lies in the Iact that they are revealed improving the state oI all the parties oI
the deal (but obviously not the state oI third parties that also could be aIIected).
29

This aspect is missing in case public bodies implement a measure in their coercive
capacity (such as through expropriation, taxation, or regulation) or through direct
economic initiative.
30

However, iI we do not want to be conIined to policy measures supposed to lead to
eIIective Pareto improvements only, coercive action is an obvious necessity (in
particular in case oI measures oI a redistributive nature). Moreover, whatever way
public bodies intervene, the possibility that their action be captive oI rent-seeking
interests must always be taken into account. But this is a general problem oI
agency: whenever there is a delegation oI responsibility there is always the
possibility that the agents behave against the interest oI the principals to their own
advantage. Outside the area oI the state this is obvious in the case oI corporations,
where oIIicers can act in diIIerent well-known ways against the interest oI the
shareholders.
31
In both cases supervision and control may be necessary, even iI

29
The latter point is an important qualiIication to the advantages provided by any
kind oI policies based on consensual agreements, such, as Ior instance income
policies based on covenants between the government and the representatives oI
organized social interests.
30
However, some pledges concerning the use oI these administrative powers by the
public authorities concerned could be part oI a deal.
31
Such as through asset stripping or, as has come oI prominence in recent times,
cashing in stock options aIter artiIicially increasing through deceit the value oI
shares. One may recall in this connection Adam Smith`s pessimistic appraisal oI
the agency problem in joint stock companies (cI. Smith, 1976, 740-758).


20
there are some well known reasons why the agency problem in case oI public
bodies may be particularly severe.
32

2.2 The Present Relevance of the Extended Coasean Approach
Coercive and substitute direct types oI intervention have lost their appeal, as a
consequence oI the collapse oI the planned economies, oI the negative
consequences oI dirigistic policies all over the world, and the increasing
awareness that, iI the market Iails, so does the state. This has enhanced the interest
Ior models oI policy creating opportunities Ior the coordination oI decisions
through mutual agreement by the agents concerned (public or private they be).
DiIIerent varieties oI this kind oI approach can be Iound in successIul applications
in various institutional and geographical contexts. One may reIer to the township
and village enterprises in China, based on private-public (or local-state)
partnerships, to speciIic aspects oI Japanese and, more in general, Iar-Eastern
industrial policies,
33
implying large scale private-public concerted action, and,
turning closer home, to certain aspects oI the Iunctioning oI industrial districts or
oI successIul regional economic systems (such as the Baden-Wrttemberg model)
in Europe, making up sorts oI 'associational economies, as they have been
dubbed.
34
Lately institutions leading to policy interventions based on decentralized
compacts between public and private entities have been introduced in Europe, and
in Italy, in particular, with the aim to pursue objectives (such as regional
development) that previously would have been thought to demand direct

32
For instance the usually much greater number oI ultimate principals (the voters)
increasing the severity oI the social action problem, and the Iact that the option oI
'exit is certainly more practicable Ior partners or shareholders than Ior members
oI political constituencies.
33
CI. Aoki et alii (1997); Nakatani (1998).
34
CI. Cooke and Morgan, 1998.


21
intervention Irom above through planning or direct public economic initiatives. In
this Iramework, as instances oI a cooperative, voluntary approach to economic
policy, we may reIer to the Italian set oI institutions that go under the name oI
'programmazione negoziata and the European analogue, the 'Employment
Territorial Pacts. On the macroeconomic level one may reIer to policies based on
contractual agreements between the representatives oI public and organized
interests (income policies).
3. COORDINATION OF PUBLIC AND PRIVATE DECISIONS AND DEVELOPMENT POLICY
IN ITALY
3.1 At the Macroeconomic Level
Coordination oI public and private decisions through voluntary agreements
between the concerned parties has been an important aspect oI Italian economic
policies in the 90-ies, both at the macro and at the micro level.
35
At the
macroeconomic level the income policy agreements oI July 1992 and July 1993
played an essential part in the path towards Iinancial stabilization that led Iirst
Italy away Irom the brink oI Iinancial disaster (in 1992) and then to rapid
disinIlation and the unexpected inclusion oI Italy in the EMU Irom the start.
36

These agreements, which amounted to pledges oI coordinated cooperative
behaviour by the parties concerned (government, trade and employer unions),
apparently produced Ior them, as well as Ior the national economy as a whole, a
much better overall outcome than could be expected Irom separate non-
cooperative alternative courses oI action.
3.2 At the Local and Regional Level. the Territorial Pacts

35
There is an important related issue, that oI the coordination oI economic policy
authorities among themselves, which is however out oI the scope oI the present
paper.
36
See Rossi, 1998, pp. 97 I.


22
At the regional policy level, both aspects, oI coordination oI investment decisions
and oI coordination oI private and public initiatives, have Iound in Italy an
institutional counterpart in the territorial development pacts. The latter were
pushed to the centre-stage oI Italian regional development policy in the nineties,
Iollowing the collapse oI the previous dirigistic type oI intervention, the so-called
Intervento straordinario. As oIten is the case, Italian legislation is rather
cumbersome. There are a number oI diIIerent, complementary or overlapping,
measures oI so called negotiated planning (programma:ione nego:iata)
37
whose
declared aim is the coordination oI economic policy measures and the creation oI
private-public partnerships at the regional, or at any rate, local level.
38
The legal
Ioundation oI territorial pacts lies in the law 23.12.1996, no. 662, even iI the Iirst
launching oI the institution dates back to April 1995.
39
Some general principles oI
consensual agreements as an admissible instrument oI administrative action and
policy had been stated previously by the law 241/1990 (art. 11, 14 and 15).
In what Iollows we will not distinguish between the diIIerent types oI
intervention, reIerring in general to them as "territorial pacts". An alleged aim oI
these measures is to Iavour the coordination oI activities at the local level,
between public authorities themselves, and between public authorities and private
parties, with the hope, among others, to stimulate bottom-up development and to
replicate the more spontaneous, successIul experience oI Italian industrial
districts. The latter have been characterized by the beneIicial interaction in time oI
the diIIerent private and public initiatives, which have resulted in static, but
especially dynamic, economies oI scale through external eIIects.

37
DeIined by art.1 oI the law no. 104, 7/4/1995.
38
Up-to-date inIormation can be Iound at: www.dps.tesoro.it.
39
Decreto legge 103/95 oI 24 April 1995.


23
UnIortunately the institutional provisions regulating territorial pacts have been
marred by a set oI negative Ieatures, which have aIIected their implementation.
The Iirst one is the persistence oI cumbersome administrative procedures.
40
A set
oI administrative bodies, both at the local, and at the central administrative level
have been compulsory involved in their elaboration and approval. This has led to
the lengthening oI procedures up to the point where the change in the Iactual
situation makes the coordinated intervention uncoordinated or unsuitable. The
legal Iramework includes some power to surrogate the local authorities in case oI
delay or procrastination, but it seems that the responsibility Ior delays lies oIten
with the central authorities themselves.
41

Moreover, and this is the crux oI the matter, territorial pacts imply substantial
Iunding (Ior investment and Ior employment) Irom the state or EU (especially in
the Me::ogiorno), up to 80 oI investment expenditure,
42
and this, rather than
genuine coordination oI decisions seems to be the objective that is really pursued
in practice, leading to an improper use oI the institutional instrument. II the
objective is the pursuit oI the coordination oI decisions between diIIerent, public
and private, economic agents, whose decisions interrelate one with another, what
is required is the setting up oI legal instruments to validate compacts between the
agents concerned, and, perhaps, some advisory agency, helping with ideation oI
coordinated projects and interventions, and reducing transaction costs through its
mediation and initiative. Subsidies IalsiIy the coordination exercise, artiIicially
inducing the creation oI coordinating structures where none are needed, and
encouraging the elaboration oI Iake coordinated projects. Ideally, the scope Ior

40
Some simpliIications in the procedures oI the patti territoriali have been
introduced in 1997.
41
CI. ISFOL, 1998, p. 242.
42
See CIPE, Deliberazione 21 marzo 1997, art. 2.9 d).


24
agreements should be leIt to the judgement oI the agents concerned, provided the
commitment oI each oI them remains inside their powers and responsibilities. In
practice subsidies may be justiIied to induce compliance: iI you abide by the terms
oI the agreement you receive the subsidy, otherwise you do not. Other, legal,
instruments Ior ensuring compliance may be available but one can have some
doubts on their real eIIicacy.
43

Some Iurther misgivings apply to the ad hoc introduction oI exemptions Irom
administrative procedures and attenuation oI labour relations constraints. It is not
clear why the rules should be attenuated with respect to territorial pacts and not in
general, iI they are too rigid, or upheld in any case, iI their respect is supposed to
lead to better social outcomes.
44
II the issue lies in the existence oI social and

43
The basic legal background oI negotiated programming (or more in general, Ior
having legal negotiated agreements between private and public parties, or among
diIIerent public parties) is provided by the law 7/8/1990, n. 241, in particular art.
11. The latter attributes the power to the administration to recede unilaterally Irom
the contract, with the private party being entitled only to some kind oI
undetermined compensation. Even iI in practice the legal enIorceability may be
seen to be doubtIul, there are other ways in which the agreements can exert their
eIIects. First oI all there is the prime mover, the quest Ior subsidies and Ior the
Iinancing oI inIrastructure, which could be jeopardized by the non-IulIillment oI
the contractual obligations, second there is the political aspect which in theory
could lead to possible reprisals oI some sort against the non perIorming parties. On
the other hand one must add that in practice veriIication oI the execution oI the
pacts has been by and large limited and insuIIicient (Moro, 2001).
44
In reality in the period in which the territorial pacts were introduced a consensus
was emerging that the norms that regulate employment contracts in Italy were
much too rigid and a cause oI unemployment. Pending a wholesale rehauling oI
Italian labour relations, some weakening oI existing rules were introduced in a
piecemeal Iashion, among others in the design oI territorial pacts.


25
economic conditions that bring about a large divergence between social and
private costs at the local level, the most straightIorward way to intervene would be
toward the reduction oI this divergence. Finally, iI the issue lies in lack oI
appropriability oI external eIIects, and Iree riding, this is not entirely resolved
through the voluntary stipulation oI pacts (even iI the latter can lead to the
endogenization oI some externalities), but may require some Iorm oI coercive or
direct intervention (Ior instance through the creation oI obligatory consortia).
One should also consider that the organization and implementation oI territorial
pacts are not devoid oI real costs, administrative and otherwise. The Iinancial
resources that are used Ior the initiatives envisaged in the pacts have an obvious
opportunity cost, iI only in terms oI reduced Iinancing oI other alternative
initiatives, and there is no prima facie reason why credit at concessionary rates
should be included, as is usually the case, not to speak oI the huge investment
subsidies that have been mentioned above.
On the other hand the subsidies and sundry advantages that are oIIered may
stimulate local initiative and coordination which otherwise would stay latent, and
lead to the creation oI some social capital through the eIIort, however artiIicial, in
coordinating decisions. Much depends on the extend oI subsidies; some subsidies
may be an incentive to local initiative and project-making. Too much may lead to
waste oI resources and the creation oI economic initiatives which may not be selI-
supporting in the long run (not unlike the previous centralized development
planning experience oI the Cassa del Me::ogiorno).
45
Moreover, another crucial
aspect is the nature oI the subsidies. While direct subsidies to private initiatives
(such as subsidization oI interest or capital payments by private investors) are
hardly justiIiable in view oI past experience, Iinancing and organizing the creation

45
This applies in particular to investment subsidies in the South. For an appraisal oI
some more successIul experiences oI territorial pacts elsewhere, see Regalia
(2002), pp. 7-9.


26
oI inIrastructures and in general the provision oI public or collective goods that
are Iunctional to an overall coherent set oI coordinated decisions enter naturally in
the scope oI public intervention.
4 CONCLUSION
Whenever the Coasean approach oI Iavouring the agreements between the
concerned parties cannot be used to remedy market Iailures, Ior instance because
oI the large number or indeterminacy oI them, or the intractability oI the Iree rider
problem, instead oI resorting to the more traditional Iorms oI public policy
through the direct or coercive action oI the state one could turn to what we may
call the extended Coasean approach to public policy, centering on the setting up oI
the conditions whereby public authorities, as representatives oI the concerned
constituencies, could strike voluntary deals with private parties, and between
themselves, so as to arrive to some desired overall social improvement. Thus in
theory there is a strong case Ior setting up institutions Ior Iavouring the voluntary
coordination oI various private and public decisions. This can be achieved by
introducing into the legal system instruments Ior the determination, enIorcement
and validation oI potentially social improving coordinating agreements and, at the
same time, by providing some suitable contribution to the the required
institutional inIrastructure. In the actual practice oI territorial pacts these appear to
have been essentially vehicles Ior the distribution oI subsidies. But this is only one
possible, and not particular commendable, use oI this kind oI institution oI
economic coordination.


27

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