Friday, February 10, 2006

Subway and the Coase Theorem

I've been thinking recently about why I sometimes buy sandwiches from Subway. Subway sandwiches are rather expensive compared to the substitute lunches available to me from the Student's Union shop, the West Cornwall Pasty company or WH Smiths. While I do enjoy their sandwiches I am not convinced that I enjoy them more to an extent that justifies the extra cost.

It could be that I am irrational; that the amount I spend on sandwiches is small per transaction compared to other items such as rent and I, therefore, simply ignore the cost when buying sandwiches. I have an alternative explantion:

I would suggest that this is an example of the Coase Theorem in action: The Coase theorem is that externalities will occur at their socially optimal levels regadless of the legal system in the absence of transactions costs. This results from the ability of those suffering from the externality to pay those who would like to produce an externality not to if they value its cessation more highly than the 'polluter' values the action which creates the externality.

The classical example is that of a railroad which occasionally creates sparks which destroy the fields of farmers either side of the railroad. In this case if the farmer values his crops not being destroyed highly enough he will pay the railroad owner to reroute or upgrade his equipment to prevent the damage. If he values the cessation of risk highly enough he will pay the train owner to cease his service. In this example it can be seen that the socially optimal amount of externality is produced, the amount which prioritises the interests of those who value the result of the decision most. None of this requires the use of legal property rights.

Subway bake their bread instore. This may have some function in terms of freshness but it has an externality in that the smell of bread baking makes me desirous of Subway sandwiches and less happy on my walk past the store on the way into university. Now, I have no legal rights to my own space, free from unwanted pleasant odors. For this reason I have to take the Coasean route and, as the transactions cost is relatively low, pay Subway to end the desire for sandwiches by sating it.

3 comments:

Jana Zolotarevskaia said...

Hey Matt,

I have just baked buns, hence I feel that this blog is relevant to me :)

Now, if you wish so you could pay me to stop tempting you with newly baked buns. However being a non-economist I would suggest that you buying subway sandwiches is more a question on variation. The other alternatives you listed aren’t many, so despite subway sandwiches not justifying their extra cost in taste, they might do so in terms of being a nice change to the union sandwiches which you probably have eaten for the past (almost) four years. I’m sure there is an economics term for this behaviour as well….

Now I should go back to my public international law essay (thanks for the distraction)

Matthew Sinclair said...

Jana,

There is indeed an interesting question in variety. In particular there is the question of whether we underestimate GDP growth due to a failure to capture gains from growth in the variety on offer to consumers. I believe the best recent research on the topic is here.

Vindico said...

A very interesting theory indeed. Requires further investigation!