What role do transaction costs play in the Coase theorem?

Transaction costs are a critical element in understanding the Coase theorem, which posits that if property rights are clearly defined and transaction costs are negligible, parties can negotiate to achieve efficient outcomes regardless of who holds the rights.

When considering the role of transaction costs, it becomes evident that they can either aid or obstruct negotiation efforts between parties. For instance, if transaction costs are low, individuals are more likely to successfully negotiate agreements that lead to efficient resource allocation. On the other hand, high transaction costs can pose significant barriers to reaching those agreements, making it difficult for parties to come to terms or to implement mutually beneficial changes.

Because of the dual nature of transaction costs—they can hinder negotiations when they are high or facilitate them when low—the correct interpretation aligns well with this perspective. Understanding the implications of transaction costs helps illustrate the practical boundaries of the Coase theorem in real-world applications, highlighting that while the theoretical model proposes ideal conditions, actual outcomes may differ based on the costs of transactions involved.