Question

Suppose that a flower nursery benefits from having a butterfly farm located only a few miles away, because the presence of the insects greatly improves flower pollination. Lawyers for the two companies meet to draft a legal document specifying the number of butterflies the farm promises to maintain in exchange for payments by the nursery.

The need for highly paid lawyers to work out a legal agreement between the flower nursery and the butterfly farm contradicts an important requirement of _________ namely, that the parties experiencing an externality must be able to _________ .
Private solutions to externalities do not always work. One of the primary occurrences of this is when parties must spend an excessive amount of time or money to reach an agreement. This describes the problem of ________ .

Answer 1

The need for highly paid lawyers to work out a legal agreement between the flower nursery and the butterfly farm contradicts an important requirement of the case theorem namely, that the parties experiencing an externality must be able to bargain at low cost.

Private solutions to externalities do not always work. One of the primary occurrences of this is when parties must spend an excessive amount of time or money to reach an agreement. This describes the problem of transaction costs.

Step-by-step explanation:

In case theorem,in the presence of externality, irrespective of which company own the right to the property, the two companies can negotiate for the optimal solution, provided the negotiation costs are negligible.

Transaction cost is said to be the cost which is involved in the form of time or money during the finalisation of a decision or reaching to an agreement.

In this case, excessive amount of money is spent in following the bargains between both parties to get the final aggrement, since they need highly paid lawyers. This is the problem of transaction cost.