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Real estate businesses tend to be small within a national context but relatively big in any location. Real estate businesses interact with government frequently, either in terms of zoning, taxation or long term planning. At the same time, it is not surprising that many people complain about the “excessive power” of real estate developers to “manipulate” city councils.

With this in mind, it is interesting to read today’s announcement concerning Jean Tirole being named as a Nobel Laureate “for his analysis of market power and regulation”.  See also.

In my opinion, this award is part of an evolving perspective on how businesses should be regulated.

Simplistic analyses start with a situation, label it as a “problem” and say that “somebody should do something”.   Next, people or politicians recognize that “I am somebody” and that any policy can be considered as “something”. Conclusion: any policy is better than nothing. History offers many counter examples.

Accounting for costs and benefits in the presence of a market failure (e.g. monopoly, oligopoly, externalities) shows when an individual’s self-interested pursuit of profit can be a net cost on society overall or a net benefit. So, why not let some wise people who are not motivated by profit the power to decide: e.g. government?

This solution remains popular even if, over time, its faults and inefficiencies are apparent. This thinking has evolved because even government bureaucrats are motivated in ways which lead to

  • “regulatory capture” (where the regulated industry effectively controls the regulator) or
  • “empire building” (where bureaucrats start with a narrowly defined problem and make their jobs more important by applying the rules more widely

As well as being administratively costly to everybody.

If neither the market nor government bureaucrats can be trusted to get the right answer, the important question is: what is the third alternative?

Elinor Ostrom was recognized for noting an important role for institutions (in the context of real estate, the closest analogy might be a design charrette).

This year’s Nobel Laureate in Economics focuses on how to produce and use the information needed to make a wise decision.  To figure out an ideal solution, wise people need to know a lot of information even if other people do not necessarily want to share. Ideally, those who have information would share it in a way which benefits all. Or, to state the same idea differently, the unintended negative consequences of a poorly designed policy are often a consequence of people taking advantage of the information that they did not share.

For example, a developer might want to build something in an area because they expect to earn a profit. People living nearby might oppose this building for some good or bad reasons. The (widely-disliked) current institutions focus on a political process leading to mistrust, deception, misinformation, rumour and angry debates at city council.

Rather than pose this situation as a win-lose bargaining problem, suppose that we focus on the real problem: What do people want? What are the costs of providing what people want?   What is the highest and best use of this location? Businesses are used to such discussions when making business plans.

How to translate such discussions into political environment? First, and perhaps obviously, change the incentives to make any discussions more credible. The work by Jean Tirole shows that solutions are possible when overseeing businesses, if not always easy. Section 37 of the Ontario Planning Code may be an interesting first step in this direction: [1] [2].