I wanted to call this post “Coase Revisited,” but I didn’t want only econ geeks to read it, and the title I used is my real point anyway.
The so-called “Coase theorem” states that if transaction costs are zero, property will always end up in the hands of whoever can put it to the highest use, so that the initial allocation of property does not matter. Coase considered this obvious and trivial and thought it was somewhat silly that it became a theorem named after him. Coase’s actual point was that transaction costs are not zero and cannot be neglected, therefore the initial allocation of property actually does matter, at least somewhat.
The number of vacant lots and buildings and unused patents out there would tend to back up Coase’s point. Indeed, people have even proposed a taxation system explicitly designed to discourage unproductive hoarding of land. But it turns out that there is already a mechanism in place that discourages the holding of any non-productive asset: interest.
The only rational reason for someone to hold an asset that produces no income would be if that asset were worth more to them than the money they could get for it on the market after accounting for transaction costs. Either they have plans for the asset, for example constructing a shopping mall, or they expect the asset to rise in value by more than whatever interest they could make on the money they could get for it.
To accurately compute the cost of an asset, one must include the interest they would make on the money they could get for that asset along with any depreciation or appreciation. Corporate financial statements include the interest on all capital the company holds. This is not just an accounting trick; it’s a genuine cost. It doesn’t come out of the corporation’s pockets, but it’s money the corporation really would have had if it didn’t own those assets.
The same thing is true for everyone, not just corporations. If you could put the money from your house into CDs and make enough to cover the cost of your rent plus however much you expect your house to appreciate, you should by all means sell the house. Of course, in a world where houses always appreciate and you can’t make enough on a CD to even cover inflation, it makes very little sense to sell a house even if it’s vacant.
That makes interest rates being kept artificially low by loose monetary policy a double-whammy: whammy one because it makes the cost of holding real estate lower than it otherwise would be, and whammy two because it causes real estate to appreciate.
Which brings us to my original title of this article: interest offsets transaction costs in causing property to move toward its highest use. If you’re worried about the hoarding of assets, you should support tighter monetary policy. In fact, according to the Austrian school of economics, the phenomenon of holding onto unproductive assets during times of artificially low interest rates is exactly what causes the business cycle, and letting those rates rise is the cure. After all, what is “liquidation” other than transferring unproductive assets to those who can make productive use of them?