Under what conditions does the Coase Theorem guarantee an efficient outcome through bargaining?

• A. High taxes and heavy regulation
• B. No property rights and high transaction costs
• C. Well-defined property rights and zero or low transaction costs
• D. Central government setting prices

Answer: (C)

Private bargaining can yield an efficient outcome only when property rights are clearly defined and the costs of making a deal are essentially zero or very small. When rights to use or pollute a resource are well-specified and enforceable, the affected parties can negotiate a set of terms—such as payments, restrictions, or compensation—that internalizes the external effects. Because bargaining costs are negligible, they can reach an agreement that maximizes total welfare, and that outcome is efficient regardless of who initially holds the rights.

Think of a neighbor‑noise example: if the right to a quiet environment is clearly owned by the neighbor and it’s cheap to negotiate, the source of the noise can compensate the neighbor to reduce disturbances, or vice versa, and they settle on a level of activity that makes both better off. The key is that rights are clear and the negotiation costs are tiny.

If rights aren’t well-defined, or if bargaining costs are high, the parties can’t reach an efficient deal through private negotiation; the externality remains unresolved or the transaction costs prevent a beneficial exchange. Central government price setting or heavy regulation isn’t what the Coase framework relies on, because those approaches bypass private bargaining and rely on top‑down rules rather than voluntary exchange.