THE CHRONICLES OF A CAPITALIST LAWYER

RANDOM THOUGHTS OF A CAPITALIST LAWYER ON LAW, ECONOMICS, AND EVERYTHING ELSE

  • You Think Our Legislators Suck? There's a Good Explanation For That!


    If there is only one thing that I can be confident about Indonesia, that must be the notion that most Indonesian citizens hate their legislators. How couldn't we? We rarely (read: never) hear any good news about them, and we oftenly (read: all the time) hear about how irresponsible they are with their job. Remember how they lavishly spend the state budget for their ridiculous comparative study in foreign countries? How they plan to build a new potentially (read: absolutely) useless new building? How they can't meet their yearly target for issuing new laws? (though considering their capabilities, this might be a bless in disguise)

    Before you're planning for a bloody revolution, try to think about it again. Aren't these legislators the product of our beloved democracy? After all, it's the people who vote them as our representatives. But why do they betray their own constituents? It seems as if they only think about themselves or the interest of certain minority groups who have the means and funds to purchase these legislators voices in the house of representative. In reality, these interest groups don't have enough voices to put the legislators in their current position. Yet, it's clear that these groups have more control over the legislators compared to the majority of the people, i.e. us. How could that be? Should we say that democracy is a total failure? Will we have a better chance under the rule of a benevolent dictator?

    The Problem of Collective Action
     
    Public Choice theory has a very good answer for this problem (by the way, public choice theory is basically the application of economic analysis into political theory). In short, we are facing the problem of collective action, which can be further elaborated into three main issues: (i) high transaction costs, making coordination within a large group almost impossible, (ii) free rider issue within uncoordinated group, keeping people from working together (creating a vicious cycle along the way), and (iii) internalization of the interest groups' costs among a lot of people tends to lower the average costs that must be borne by each individual, giving less incentive for the people to fight back. Let's discuss this one by one.  

    In general, we, the people, are pretty much diversified. There are too many scattered interests and the costs for coordinating us into a single systematic group where each person knows perfectly other people needs, would be too expensive. Unfortunately, the case is different with interest groups. Because they are smaller in numbers, it is easier for them to coordinate among themselves, meaning less transaction costs to work together in order to satisfy their interests. This might seem obvious and logical but most people tend to underestimate this important factor. Why do you think we embrace the idea of decentralization?

    Without any effective mechanism for coordination, surely it would be very difficult for the majority to fight back. Here is where the free rider issue arises. Suppose you really want to fight back the legislators and the interest groups, you want to show them that the people are not toys to play with. To do this, you plan to invest your money in making an awareness campaign, letting people know that their legislators suck and that we can't let that happen anymore in the next election. But just when you're about to cash your check, you start to think, "wait, if I'm putting my money now, will many people agree with me and support my effort, or will they just enjoy the fruit of my efforts by doing nothing?" Unless you're a saint or you have your own interest group, you'll probably reconsider your decision and then you will wait for other people to start the effort. See the vicious cycle here?

    Finally, there is a major issue of cost internalization. When interest groups and our legislators are making policies that benefit themselves, they impose additional social costs to the rest of the people. Imagine the wasted tax money that they use for unnecessary spending, or imagine the additional burden that consumers will need to pay when interest groups, say in the form of pollutants, can induce the legislators to let them free from being responsible for the externalities caused by them to the society. Yet, since these additional costs are imposed upon a diversified group, most of the people only bear a fraction of the costs. Not to mention that these costs can also be internalized for a long term, lowering the burden to the each individuals. The end result? Less incentives for the majority to fight back since they don't feel the impact as a whole. If they do, they would have done something to prevent the interest groups and the legislators from doing whatever they want. The above things may explain why we had a "successful" reformation (read: revolution) in 1998, but not nowadays.

    One Crazy Solution: Why Don't We Sell Our Votes?
     
    So what can we do? Firstly, we need to understand how the majority of Indonesian people view the voting process and how interest groups and legislators perceive the benefit of their position. Do Indonesian people take voting as an important matter or they consider it as a commodity that they can sell for certain price? Furthermore, how do the majority of our legislators perceive their position? For the greater good of the society or for their own benefit (calculating the benefits of having the position minus the costs of getting appointed).

    If the latter is correct, the solution would be to impose an excessive price for people's votes. My main idea is: rather than imposing a sanction for political parties which try to manipulate the vote by using money, give the freedom to them to use their money as they like. Why? In a country where the price of a vote is cheap and the legal authorities are weak, there is no way for a clean political party to win against those who use money in their campaign (money is real, talk is cheap). Having said that, why don't we say to the people that they should vote for whoever can purchase their votes for the highest price (of course there should be a minimum cap for such price reflecting as close as possible the benefit that the legislators might receive from getting the position, e.g payment from interest groups).

    The more expensive the vote is, the better. The expected results are: (i) interest groups and political parties will be forced to exhaust their own resources for wasteful acts, i.e. spending a lot of money though there will be only one winner, and (ii) along with the increase in costs of buying votes, less interest groups will join the game since the expected benefits are going down to almost nothing. Through this solution, we're imposing a collective action problem to the political parties. They might work well as a single group, but if we put them in a situation where the most optimal way to reduce their costs is to not paying anyone, they will also face the same problem that larger groups face.

    Let's see how my solution work. If parties continue to pay for getting their votes, some of the smaller parties will soon realize that it is not worth it and stop playing. At this stage, it is safe to assume that the remaining players are the major ones. You may think, now we're doomed, we have major players controlling the game and no one can fight it. Not necessarily! These major players have two options: (i) they can continue to compete in spending a lot of money for getting votes or (ii) they can reach a mutual consensus that no one will use money in their campaign. Of course since none of them can trust each other (collective action problem), they will continue to spend their money to the extent that they will have no more resources to spend. In the end, when they have exhausted all of their resources, they will be forced not to use money anymore in their campaign or they will face the risk of having a vicious cycle of unnecessary money spending.

    Suggestions and comments are welcomed.

  • Knowing the Law vs Complying with the Law


    Yesterday morning, I had a nice discussion with one of my juniors in the Faculty of Law, University of Indonesia, @najmulaila, concerning the concept of legal awareness. The basic case is quite simple, she's complaining about the law students' attitude who make a right turn within the faculty, despite knowing that it is clearly prohibited. She further argued that it's useless to talk about legal compliance in Indonesia if these students don't follow the rules themselves. After all, according to her, what's the purpose of knowing the laws, if you don't comply with them? Suffice to say, she is a proponent of legal awareness campaign, i.e. having more awareness of the law should be translated into an increase in legal compliance.

    Here where I quickly have a different opinion. Knowing the law does not necessarily mean that you will comply with such law. The reason is simple and can be traced back to the basic assumption of Law and Economics, people are rational being and they respond to incentives. From the fact that most students violate the no-turning-right rule, I can conclude that the Faculty has not imposed any sanctions to the violators. No sanctions means no costs to these students to violate the rule. Hence, what are the incentives for them to comply? Surely we can't assume that these young students are those "righteous people" who will follow the law simply because it is the right thing to do as depicted in legal philosophy course. Plato always dreams of having a philosopher as the king because he exactly knows that it is impossible to have such king in the real world.

    Of course, being a diligent law student, she didn't immediately agree with me and instead offered another argument: my line of thinking is the same with corruptors! They corrupt because they know that the benefit of corruption is bigger than the costs (such as going to the prison). I almost shouted "EUREKA" when she actually said that because it is precisely what I have argued before in some of my posts (here and here). This is how Law and Economics explains the behavior of criminals, they calculate the costs and benefits of their criminal acts and whenever they decide that the benefits exceed the costs, they will most likely conduct the crime.

    If we think it through, assuming that knowing the law will increase legal compliance is a dangerous assumption, because it is a highly misguided assessment of human behavior, and there are many consequences to such assumption. Take the law students case as an example. You can always say to them how humiliating their act is, but unless the Faculty takes a real action toward the violators or unless making a right turn will cause the students to be involved in a serious accident, I bet that the rate of violations will never decrease significantly. What do you expect? Are these students hypocrites? I don't think so. They are mere human.

    Another example: it is possible that the people who understand the law can find a leeway and use such understanding for their own benefits which of course is not in line with our hope that increasing their awareness will induce them to comply with the law. So what should we do?  The answer is better legal enforcement! Legal enforcement should never be separated from the law itself.

    You can make the best law in the world, but if you have no one to enforce it, such law would be meaningless. This is especially true when you are trying to regulate people's behavior. Oliver Wendell Holmes correctly pointed out that people are only interested with what judges will do with the law. In other words, people are more interested to know what legal authorities will decide against them in certain cases and not only what the law say.

    By this, I'm not talking only about criminal law, this is applicable for any subject of law. Suppose there is a law saying that certain contracts are prohibited and will be deemed void by operation of law if people entered into such contracts. If people know that the judges will declare these contracts null and void whenever the parties bring them to the court, they will most likely not sign these contracts in the first place.

    So there we have it, a short discussion on how we should take a look at the law. One important thing that I learn from Law and Economics: some of the concepts are so obvious that people tend to disregard them entirely. At least that's the experience of Ronald Coase and his concept of Transaction Cost. The concept was made when he's still in his 20s and yet, he received his Nobel Prize in his 80s. It took 60 years for people to realize a concept that is so obvious to everyone if they think it through. Ain't that crazy?
  • The Future of Law and Economics (Collection of Essays)


    This is too important to be not posted in my blog, a series of important essays by law professors of the University of Chicago Law School on the future of law and economics program. Enjoy!
  • The Tale of the Evil Car Company (Part 2 - Proposed Policy)


    I have received several comments for my previous post, and I thank all of the commentators for the effort. I must say though, if only I set a prize for giving these comments, I would definitely give such prize to my brother, Prasetya Dwicahya, for his excellent comments (no family bias involved here). So if you have not read his comments, you better check it out before going further with this post.

    Anyway, most of what I will say has already been covered by Prasetya's comments. Thus, I'll focus instead in analyzing his proposed policy to find out whether such policy can be the best option to be pursued by the government. Prasetya's proposed policy is something that we call as the freedom of choice policy which is in line with the concept of free market and pareto efficiency (a condition where as a result of the policy, some individuals are made "better off" without making any individual to be "worse off"). People is free to choose whether they want to use the car without the safety device or bear an additional costs in order to install the safety device. The company is free to produce its products (even if there is a defect) provided that it discloses all material information to the public so that people can make an informed decision and the company can reduce its marginal costs. And the Government has the role to enforce the law to ensure that the company will pay the expected compensation to any victim of the car due to the unavailability of the safety device .

    Theoretically, this can be a win-win solution that promotes efficiency to the maximum. With this kind of policy, the costs of legal enforcement by the government would not be too expensive (assuming that the rate of accident is low in accordance with the probability that has been set out by the company), the company will not be burdened with huge additional costs, and the people will have many options to choose in order to maximize their utility and preference (i.e. getting an absolutely safe car or playing with the laws of probabilities for a huge jackpot). But it seems this is too good to be true. Or isn't it?  Or do you think this idea disgusts you, that it is a morally reprehensible choice? I mean, how do you even sure about letting people take a bet with their life in the line, even though the probability is very small?

    In practice, we let people take this kind of risk all the time. We know smoking is dangerous, yet we are not able to prohibit people from doing it. And suppose you say that there is a huge interest group behind smoking activities, there is even a better example which is more similar to the above car case. We know overeating and poor exercise are a good recipe for health problems and they also increase the probability of getting caught by various diseases, including heart attack. Yet, I bet that the government will not issue any law that prohibits people from overeating and force them to exercise routinely. My main question, if we care about our people (like in the case of the automobile company), why don't we just choose the path of regulating people's daily life? There are many answers to that: the enforcement costs will be too big, it's an invasion to people's privacy, it's another form of "big brother"/dictatorship, etc. Now, if we can give those lines of arguments to the overeating problem, shouldn't we take the same position for the problematic car?            

    What I would further argue is this, the above proposed policy that respects the element of freedom can potentially be the best option for the automobile case in any possible way. Let us tweak the case a little bit. Suppose now the probability of having an accident due to the unavailability of safety device is 80%, meaning that from 2,500,000 cars, 2,000,000 cars will go haywire. Will our proposed policy save the problem? Or should the government forces the automobile company to install the device? I would say there is no need for the government to do that. Using a simple costs and benefit analysis, the company will definitely realize that the costs of not having such safety device will be too big to be borne by the company. In this case, their best option is to install the safety device.

    Now, another tweak. Suppose the costs of installing the safety device is not US$10 per car, but US$100,000 dollar. Will our proposed policy work? I bet yes. In this case, the marginal costs of producing the car (i.e. the costs of producing an additional unit of the car) will defeat its marginal benefits. Simply saying, the automobile company will never produce the car in the first place.

    Having said the above, I need to put a caveat. Our world is very complex and a solution for a problem may not work for another problem. What I want to show here is how economics can be used as a handy tool in formulating our laws and policy. I'll continue to use this theme for my next articles and hopefully we can try to apply it in different cases with different policies. One thing for sure, this exercise should be fun.
  • The Tale of the Evil Car Company (Part 1 - Question of Policy)


    Suppose one day a major automobile publicly listed company announces that it is selling a new cheap product that will allow people to have car more easily (for the sake of discussion, we will not discuss the externalities that people will face with more cars in the road).  The car is a huge success for the company, generating a huge profit, and the stocks' value of the company has also increased several times in a year. But then, an accident happens, a gruesome one. Further independent investigation shows that while the probability of the accident is very low, around 1:100,000 per year, it can be avoided if only the company install a safety device.   

    Facing this result, the company announces to the public that to cut the costs of the car, it did not install the safety device required for preventing such accident. Why? Apparently, the cost for installing the safety device is around US$10 per car and since they produce 2,500,000 car a year, the total additional costs that the company will bear for a year is US$25,000,000. Meanwhile, by attaching a value of at least US$100,000 per person as a compensation for each accident and with the assumption that the car will be purchased entirely, the company estimates that the total costs of the accident per year wouldn't be more than US$2,500,000. So, by a simple cost and benefit analysis, the best option of the company would be not to install such safety device.

    Soon this controversial information fills all the major newspapers. The enraged citizens are calling this company as an evil car company, and politicians demand the company to be responsible for such matter. Assuming that you are a policy maker, what will you do with this case? What kind of policy that you will formulate against the fact that the company has chosen not to install such safety device?

    This is the first part of my post that deals with the basic question. I'll post my proposed policy but I would like to see first how my readers will respond to this kind of question. Your comments will be much appreciated.

  • The Protection of Criminal Suspects in Law and Economics Perspective

    Forthcoming in Jurnal Teropong Edisi RUU KUHAP 2015 | 23 Pages | Posted: 10 May 2015 | Date Written: April 28, 2015

    Public Choice Theory and its Application in Indonesian Legislation System

    24 Pages | Posted: 8 Oct 2012 | Last revised: 8 Nov 2014 | Date Written: October 8, 2012

    Special Purpose Vehicle in Law and Economics Perspective

    Forthcoming in Journal of Indonesia Corruption Watch, 'Pemberantasan Kejahatan Korupsi dan Pencucian Uang yang Dilakukan Korporasi di Sektor Kehutanan', 2013 | 15 Pages | Posted: 22 Aug 2013 | Date Written: August 18, 2013

    Legal Positivism and Law and Economics -- A Defense

    Third Indonesian National Conference of Legal Philosophy, 27-28 August 2013 | 17 Pages | Posted: 22 Aug 2013 | Last revised: 3 Sep 2013 | Date Written: August 22, 2013

    Economic Analysis of Rape Crime: An Introduction

    Jurnal Hukum Jentera Vol 22, No 7 (2012) Januari-April | 14 Pages | Posted: 12 Nov 2011 | Last revised: 8 Oct 2012 | Date Written: May 7, 2012

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