Coase Revisited: Economic Efficiency under Externalities, Transaction Costs, and Nonconvexity

This paper presents a general-equilibrium analysis of economic efficiency under externalities, transaction costs, and nonconvexity. It applies to market exchange as well as contractual arrangements. We show that the Coase theorem continues to hold under general conditions: The efficient management of externalities remains consistent with aggregate profit maximization under transaction costs and nonconvexity. We examine the role of transaction costs and explore how the minimization of transaction costs is an integral part of efficient allocations. We also show how our analysis applies under nonconvex technology, provided that we allow for nonlinear pricing in markets.