Regulatory Theory Lecture Notes

Why Theory Matters

  • Theory drives how you comment on agency actions and proposed rule making.
  • Understanding the agency's reasoning helps you respond effectively.
  • Administrative law is policy-driven, focusing on good public policy.

Regulations

  • Regulations are legal directives issued by governmental bodies and enforced by governmental parties rather than private litigants.
  • Regulatory tools include:
    • Price controls (minimums and maximums).
    • Standards (contaminant levels).
    • Licenses and permits (driving, hunting).
    • Fees.
    • Grants (research, education).
    • Subsidies.
    • Public education and persuasion.
  • Regulations can encourage certain behaviors without being strict "command and control" rules.

Property and Rights

  • Administrative law often deals with defining what qualifies as property and rights.
  • Example: Speed limits and seatbelt laws raise questions about government taking property or infringing on rights.
  • These considerations are central to legal practice.

Public Choice Theory

  • Public choice theory explains how collectives make decisions and why certain regulations persist.
  • Concentrated Benefits and Diffuse Costs
    • Example: Corn subsidies benefit farmers greatly but cost individual taxpayers very little.
    • Taxpayers are rationally indifferent because the cost is too small to warrant action.
  • Collective Action Problems
    • Corn farmers can easily organize, while taxpayers are a large, diverse group.
    • This disparity leads to laws that may not be widely supported.
  • Regulatory Capture/Agency Capture
    • Expertise often comes with a vested interest.
    • Agencies may be staffed by people from the regulated community, creating a "revolving door."
  • Rent Seeking
    • Industries influence public policy to increase profits through lobbying and other means.

Transaction Costs

  • Ronald Coase: In a world with no transaction costs, the law doesn't matter.
  • Transaction costs are barriers to making a deal (e.g., too many people to negotiate with, cultural differences, asymmetry of information).
  • Law exists to:
    • Reduce transaction costs.
    • Guess what people would have negotiated without transaction costs.

Externalities

  • Externalities are costs or benefits from production/consumption borne by unrelated parties.
  • Negative Externalities
    • Example: A cosmetics manufacturer polluting air and water.
    • Those affected by the pollution are paying a price without consuming the product.
    • Pigovian Tax: A tax used to get people to internalize the costs of their negative externalities.
  • Positive Externalities
    • Example: A school for disadvantaged children improving the community.
    • Businesses benefit from better-educated employees without paying for the school.
    • Markets under-produce goods with positive externalities; regulation should encourage these activities.

Tragedy of the Commons

  • Garrett Hardin's example: Farmers overgrazing a common field because they benefit individually but share the cost of destruction.
  • Fisheries: Individuals benefit from catching fish, but everyone pays the price when fish are depleted.
  • Regulation aims to address the tragedy of the commons and destruction of common pool resources.
  • Eleanor Ostrom: Communities can collaboratively manage commons without private property rights.
  • Example: Balinese water temples managing water distribution equitably.

Types of Public Goods

  • Excludability: Ability to keep people away from a good.
  • Rivalrous: Consumption by one person prevents consumption by another.
  • Pure Private Good: Excludable and rivalrous (e.g., an apple).
  • Common Pool Resource: Non-excludable and rivalrous (e.g., fish in the ocean).
  • Toll Good/Club Good: Excludable and non-rivalrous (e.g., country club).
  • Pure Public Good: Non-excludable and non-rivalrous (e.g., national defense).

Regulation and Public Goods

  • Pure Public Goods: Use taxes to address free-rider problems.
  • Congestible Public Goods: Regulate at the local level (e.g., parks, roads).
  • Spillover Public Goods: Require collaboration between jurisdictions or assigning jurisdiction to the smallest geographic boundary that internalizes all costs (e.g., air, water - regulated at the river basin level).

Why Regulate?

  • Correct externalities.
  • Lower transaction costs.
  • Provide more information.
  • Control monopoly power.
  • Limit competition (e.g., public utilities).
  • Redistribution of resources or leveling the playing field.
  • Limit discrimination.
  • Encourage exploration and education.
  • Paternalism (government knows best).
  • Moralism.
  • Correct bounded rationality (recency bias, endowment effect).
  • Correct collective action problems.

Cost Benefit Analysis (CBA)

  • Executive Order 12866 and subsequent orders require CBA for economically significant regulations.
  • Agencies weigh costs and benefits of regulation versus not regulating.
  • CBA dates back to the 1928 Flood Control Act.

Political and Philosophical Underpinnings

  • Libertarianism: Protecting individual liberties is the true meaning of a just society.
  • Utilitarianism: Maximize good for the maximum number of people, even if it infringes on individual liberties.
  • CBA often involves balancing these competing theories.
  • Pareto Optimal: Regulation that makes someone better off without making anyone worse off.

Pros of CBA

  • Informs us of the consequences of our actions.
  • Systematic evaluation.
  • Helps evaluate outcomes.
  • Helps overcome cognitive biases.

Cons of CBA

  • Incomplete and inappropriate.
  • Difficulty in valuing human life.
  • Uncertainty and assumptions.
  • Risk of unintended consequences (e.g., banning pesticides increasing cancer rates).

Discount Rates and Sensitivity Analysis

  • Net Present Value (NPV)
    • NPV=∑Benefits−Costs(1+Discount Rate)tNPV = \sum \frac{Benefits - Costs}{(1 + Discount\ Rate)^t}
    • where tt is the number of years in the future.
    • If NPV > 0, do the project; if NPV < 0, don't do it.
  • NPV calculations involve subjectivity and assumptions about benefits, costs, and the discount rate.
  • Sensitivity analysis involves changing assumptions to see how it impacts results.
  • Look critically at agencies' CBA and assess their assumptions.
  • CBA is inherently comparative, comparing options to each other or to doing nothing.
  • CBA is a tool for decision-making, not the decision-maker itself.

Arsenic in Drinking Water Example

  • EPA lowered the arsenic standard from 50 ppb to 10 ppb in 2001.
  • The cost-benefit analysis can differ greatly depending on the size of the community and their economies of scale.
  • The costs and benefits need to be really nuanced.

Valuation Methods

  • Revealed Preferences: Market price (best if available and market is efficient).
  • Production Function Approach: Changes in output quantity or quality (used in fisheries and timber).
  • Surrogate Markets/Hedonic Pricing/Proxy Markets: Look at related markets to infer value (e.g., travel costs to Yellowstone, housing prices near polluted areas).
  • Cost-Based Claims: Replacement costs, avoidance costs, mitigative costs.
  • Stated Preference Approach/Contingent Evaluation: Directly asking people how much they would pay, often unreliable due to it's nature.

Nudges and Libertarian Paternalism

  • Using subtle interventions to influence behavior without mandating actions.
  • Examples: Placing healthy foods near cash registers, adding armrests to benches.
  • Lumping things together: creating parking spaces.
  • Concretizing effects of choices: serving shrimp with tails.

Pricing the Priceless

  • Ecosystem services (wetlands, forests) are hard to value.
  • Disability Adjusted Life Years (DALYs) and societal weighting are used to value human life, raising ethical questions.

Mathematical Modeling

  • Used to reduce complex ecosystems in ways that allow mathematical prediction.
  • Mathematical models are useful, but limited.
  • Limitations include:
    • The bigger the model gets, the less resolution there is in the model, the less accurate it is.
    • Discretization is the way we chose to enable equation communication inside of mathematical models.
    • Parameterization: difficulty in mathematically explaining some components (e.g., clouds).

Precautionary Principle

  • Don't wait for scientific certainty before regulating if there are potentially big or permanent costs.
  • Examples: Climate change, food security.

Happiness Research/Hedonic Psychology

  • Agencies often don't account for hedonic adaptation or well-being analysis.
  • Humans tend to adapt to their conditions and bounce back from negative events.

Fun Theory

  • Simple interventions (like the musical stairs) can change behavior.
  • Raises ethical questions about paternalism.