Chemical Plant, Laundry, and the Cost of Bargaining
A chemical plant and a laundry share a riverbank. The plant earns €3.2 million per year. The laundry earns €1.8 million with clean intake water but only €0.9 million if the plant discharges untreated effluent. Installing treatment at the plant would cost €0.6 million per year and would restore the laundry's clean-water profit. The laundry could relocate for €1.1 million per year, but relocation would not reduce the plant's profit. The plant currently has no legal duty to treat; the laundry has sued for an injunction. Negotiation and expert costs are estimated at €0.40 million. The court can either grant an injunction, award damages equal to the laundry's proven loss, or dismiss the claim. The plant argues that the laundry came to the nuisance after the plant began operating. The local regulator wants an efficient and administrable rule.
1. Identify the efficient outcome and predict bargaining under zero transaction costs with each entitlement.
Read the worked answer
Compare joint annual profits. Pollution: plant 3.2 + laundry 0.9 = 4.1. Treatment: plant 3.2 − 0.6 + laundry 1.8 = 4.4. Treatment raises joint profit by 0.3, so it is efficient. With zero transaction costs, the entitlement affects distribution but not efficiency. If the laundry has a right to clean water, it can refuse pollution; the plant will treat because paying the laundry to accept pollution would require more than 0.9, while treatment costs only 0.6. If the plant has a right to pollute, the laundry can offer between 0.6 and 0.9 to induce treatment; both gain, so treatment occurs. Relocation is not efficient: it costs 1.1 to save 0.9 of laundry profit, reducing joint profit.
2. With negotiation and expert costs of €0.40 million, compare a property rule and a liability rule.
Read the worked answer
With negotiation and expert costs of 0.4, the bargaining surplus from treatment is only 0.3, so a voluntary bargain is unlikely. If the plant has the right to pollute, pollution persists even though treatment is efficient: the laundry will not pay 0.6 plus 0.4 in costs to obtain a 0.9 benefit. If the laundry has the right to clean water, an injunction forces treatment at cost 0.6; the plant cannot buy the right because its maximum offer 0.6 is below the laundry's minimum 0.9. Thus the property-rule allocation matters. A liability rule can mimic the efficient result if damages are set at the laundry's proven loss 0.9: the plant then prefers treatment (0.6) to paying damages (0.9). If damages are capped at 0.2, the plant pollutes and the efficient outcome is lost. Administrative costs and the risk of inflated damages matter.
3. Evaluate the came-to-the-nuisance argument and the appropriate damages measure.
Read the worked answer
Came-to-the-nuisance is weak on these facts. A rule that denies protection to later arrivals can encourage strategic location by polluters and ignores that the laundry may have no low-cost alternative. If relocation costs 1.1 and pollution loss is 0.9, relocation is not cheaper than treatment; the efficient solution is treatment. A damages measure based on lost profit (0.9) is preferable to relocation cost. If courts set damages too low, the plant externalizes harm. The regulator should compare the plant's abatement cost with the laundry's harm, not with the laundry's relocation cost, and should account for negotiation costs.