Recently, I had the opportunity to read Mr. Zhang Wuchang's book "The Choice of Institutions," which discusses the concept of rent dissipation.
The idea of rent dissipation was first implied in an article titled "Some Fallacies in the Interpretation of Social Costs" published by American economist Knight in 1924. The article criticized Pigou's example of two roads in his book "Welfare Economics" published in 1921. Pigou proposed that in two roads leading to the same destination, the better road is always overcrowded while the worse road is sparsely populated. This significantly increases the cost of driving on the better road. When congestion reaches a certain level, there is no difference between the better and worse roads for drivers. This lack of difference means that the value of the better road over the worse road completely disappears. Knight's criticism of this is that Pigou's assumption that the better road is not private property is a serious mistake. Knight believed that the reason the better road is congested is because it is not private property. If the better road were privately owned, the owner would charge a fee and some vehicles would choose the worse road. In other words, if the better road were private property, the owner could collect rent, and rent would become the price of using the road, which could regulate its usage. Knight took the opportunity to propose that the hypothesis must correspond to the facts, which is the key to analyzing economic problems.
The formal introduction of the term "rent dissipation" originated from an article on open-sea fishing published by Gordon in 1954, which specifically analyzed the problem of rent dissipation in marine fisheries. The analysis showed that open access to marine fishing grounds led to excessive entry and fishing by fishermen, resulting in a decrease in the total output of the fishery and a decline in the value of the marine fishing grounds.
In his article, Mr. Zhang Wuchang mentioned that "Gordon should mention Knight, although his article on open-sea fishing is also an important contribution." This shows that Mr. Zhang Wuchang recognizes the contributions of both Knight and Gordon to the theory of rent dissipation. In fact, in 1970, Mr. Zhang Wuchang expanded on Gordon's analysis of rent dissipation in marine fisheries in his book "The Structure of Contracts and the Theory of Non-Exclusive Resources," and established a general theory of rent dissipation for non-exclusive resources. It is thanks to the efforts of Knight, Gordon, Mr. Zhang Wuchang, and other scholars that a relatively systematic theory of rent dissipation has been formed.
From Mr. Zhang Wuchang's work, we understand the concept of rent dissipation. Our traditional understanding is that competition leads to an increase in social value, but rent dissipation tells us that competition, if there are problems in the arrangement of contracts, can also lead to a decrease in social value. In Mr. Zhang Wuchang's book, it is mentioned that "the emergence of the market must involve the existence of transaction or institutional costs," followed by the mention of rent dissipation, gradually leading us to the understanding that transaction costs = rent dissipation. From the work, we can feel that rent dissipation is actually a kind of waste, a phenomenon of inefficiency. The fundamental reason for rent dissipation is the lack of clear definition of property rights. The definition of property rights is reflected through the price mechanism. Mr. Zhang Wuchang quotes Professor Alchian's famous saying, "What prices determine is far more important than how prices are determined," and combines it with the analysis and discussion of rent dissipation. This deepens our understanding of the impact of the price mechanism on rent dissipation.
We believe that the understanding of rent dissipation can be divided into two categories: natural resource rent dissipation, such as the examples of highways and open-sea resources mentioned in the book, as well as the famous tragedy of the commons and anti-commons. As long as the resources are free and open, people will continue to enter until the marginal benefit equals the marginal cost. If there are no exclusive property rights, the influx of entrants will eventually reduce the rent value to zero. In the mentioned highway problem in the book, the better road will continue to be used competitively until the marginal benefit is the same as the worse road. The second category is artificially created, such as intellectual property rights and copyrights mentioned in the book. Due to patent protection, companies obtain monopolistic rights and restrict the entry of other companies, resulting in rent. Since it is a new product or process, it clearly creates new value, although there is a monopoly, social welfare increases. The rent formed by patent monopolies is a return on the cost of technological innovation. After the patent period expires, other companies can freely enter. Although the original rent of the company disappears, social welfare continues to grow. At this point, although rent dissipation occurs, it is different from the rent dissipation in the first case.
To avoid rent dissipation, interest groups have emerged. This is because when people see that rent is dissipating, they will think about whether there are methods to retain the dissipating rent. Of course, the simplest method is to establish formal exclusive property rights. However, a contradiction arises. The reason for rent dissipation is precisely the lack of formal exclusive property rights. Therefore, in the absence of formal exclusive property rights, as rational individuals, people can consider various methods to exclude competition from others and have some form of exclusive rights to the dissipating rent. These people form interest groups. Their manifestation is rent-seeking and rent-setting phenomena. There are many examples of this in life. The book mentions some, and our group also mentioned some during the discussion, such as the phenomenon of train tickets during the Spring Festival, the license plate auction in Shanghai, and the current enrollment phenomenon in schools. All of these are reflections of interest groups seeking rent and setting rent.
Reading "The Choice of Institutions" has deepened our understanding of economics. The understanding of rent dissipation has also sparked discussions among our group about some phenomena in life.
For example, the issue of buffet dining. Although a fixed fee is set for each person, because it is the same for everyone, everyone eats as much as they can, fearing that they will lose out. Even if they have already exceeded their normal dietary needs or the marginal benefits of subsequent meals are decreasing, they continue to eat until the marginal benefit is zero or negative. The consequence of this is that in order to ensure profitability, the restaurant will try to save costs as much as possible, reducing service and food quality, which in turn leads to health problems and unnecessarily occupies medical resources, resulting in a decrease in overall social welfare. The single pricing model of buffet dining is similar to the problems of highways and open-sea fishing. A single price is equivalent to the absence of a price, and without a clear definition of property rights, rent dissipation will still occur. I was thinking that rent dissipation does not necessarily require a large number of people to participate in competition. Can competition among a few individuals also lead to rent dissipation?
In any case, Mr. Zhang Wuchang repeatedly mentions economic phenomena in his book, which indirectly reminds us that mastering an economic concept is not something that can be achieved overnight. We have at least realized that long-term thinking and continuous verification with real-world phenomena are the methods of learning economics.