20 Aug 2010

A big question about bad farmers

Economists often assume that people use their foresight to weight the costs and benefits from actions on their current and future selves.

For example, a farmer without neighbors* will not overdraft an aquifer today because he will want water tomorrow, for himself or his descendants.

But what if he makes a mistake and really does use the water "unsustainably"?

There appear to be three ways to respond to this mistake:
  1. He's screwed up. Let him suffer.
  2. The government should intervene, to rescue him from his folly and regulate sustainable use.
  3. Allow the market to correct the problem, so an outside buyer replaces him and restores sustainability, i.e., the long term flow of value from the land and water.
Note the problems with (2) that do not exist with (3). The government is a monolith that can make a similar mistake (intervening too much or too little or in the wrong way), but many market players compete to provide the best solution. Second, the government does not get rewarded for clever action (more profits) so there's no incentive to get things right. A new buyer, OTOH, would benefit from the profits of a good action.

What do you guys think of this problem and the solutions? Do you have example of wise governments or dumb markets? Please DO ignore problems and solutions involving property rights and/or commons.*

* I am intentionally avoiding a tragedy of the commons race among neighbors to pump before others do, etc.