Question

Consider a farmer and a rancher who operate near one another. The farmer grows crops and the
rancher’s herd wanders and tramples the farmer’s crops. If the herd tramples the crops, it causes
$400 per week worth of damage to the farmer. The rancher could put a fence around the herd to
prevent damage to the crops, but the cost for the rancher to build and maintain the fence is $500
per week. The farmer could protect his crops with a fence around the crops at a cost of $300 per
week. Assume no transaction costs.

a. Suppose the farmer has the property rights, meaning the farmer has a legal claim if his
crops are destroyed. What would the rancher do? Would he build a fence around his herd,
would he let his herd wander and trample the crops, or is there something else he could
do?

b. Suppose the rancher has the property rights, meaning the farmer has no legal claim if his
crops are destroyed. What would the farmer do?

Now, for parts c. and d. , imagine the damage from the trampling costs are $200.

c. Suppose the farmer has the property rights. What does the rancher do?
d. Suppose the rancher has the property rights. What does the farmer do?
e. Define the Coase Theorem, and explain how your answers fit the Coase Theorem’s
predictions.

Answer 1

Cost of Damage $400 per week

Cost of Fencing by Rancher $500 per week

Cost of Fencing by Farmer $300 per week

Answer a

If farmer has a legal claim, cost to rancher to build fence $500 per week and cost to be paid to farmer if crops damage $400 per week. Since cost to be paid to farmer is less. Rancher will choose not to build a fence the around the herds.

Answer b

If farmer has a does not have legal claim, cost to farmer to build fence $300 per week and cost borne by farmer if crops damage $400 per week. Since cost borne by farmer is more. Farmer will choose to build a fence the around his crops.

Answer c

Now, Cost of Damage $200 per week

Cost of Fencing by Rancher $500 per week

Cost of Fencing by Farmer $300 per week

If farmer has a legal claim, cost to rancher to build fence $500 per week and cost to be paid to farmer if crops damage $200 per week. Since cost to be paid to farmer is still less. Rancher will choose not to build a fence the around the herds.

Answer d

If farmer has a does not have legal claim, cost to farmer to build fence $300 per week and cost borne by farmer if crops damage $200 per week. Since cost borne by farmer if crops damage is less. Farmer will choose not to build a fence around his crops.