INTRODUCTION by Lars Werin
There was a time when almost every economist took it for granted that buying and selling occur like free fall in a vacuum: there is no obstacle whatsoever to these activities. The information needed to carry them out was supposed to be automatically available, like ether in space. No resources would have to be spent in entering into and implementing transactions. Or, perhaps more accurately: either transactions were considered to take place costlessly, or the costs in carrying them out are so high as to make transactions unfeasible. In the latter case, it was perhaps natural that many economists should go on and suggest the need for the state to provide a helping hand-also assumed to be costless. As for “firms”, these were seen as exogenously given sets of technologically possible combinations of inputs and outputs, with an attached device-something like a thermostat-which costlessly registers market prices and automatically brings about profit-maximizing quantities.
The originators of the traditional theory were among the best minds in economics through the ages. They never intended the theory to be more than a stylized description of the essence of economic order. This, however, was no modest aim. The economic order is one of the most remarkable phenomena we can think of. Just ponder the fact that the market is capable of bringing about a reasonably successful coordination of the activities of practically each and every human being all over the world, continuously! This the traditional analysis succeeded in formalising. It certainly enlarged our understanding of the basic workings of the human anthill. However, over the years, the traditional model and its components increasingly became used for purposes alien to them. Given its level of abstraction, the analysis cannot be expected to explain all the particular and detailed phenomena we connect with markets. It cannot account for the institutions we call firms-there was hardly any place for them except as formal skeletons, as we saw. Nevertheless, more and more economists began to use the traditional theory for such purposes.
Occasionally these exercises turned out well, but very often eager students came to faulty conclusions-without even considering the possibility that the model was not up to the task. In literally thousands of applied investigations, one economist after another thought they could say that observed economic behavior was unsystematic, inefficient, or outright anomalous. They were, of course, in a scientific quagmire: you end up with a theory which rationally describes people as irrational. What, basically, was wrong was that certain crucially important constraints on individual decisions and activities were missing from the traditional analysis.
The main gaps were filled in the 1930s, 1940s and1950s by a little group of brilliant scholars. The most significant achievement was Coase's demonstration, that individual decisions and activities are always restricted by the structure of property rights, and by transaction costs. (Some time before that, Knight had laid his finger on the strategic, but till then misunderstood aspect of this argument.) Alchian explored the role of property rights side by side with Coase. Hayek, Arrow and Stigler began to investigate the crucial role of information-or rather, the lack of it. Other names can be mentioned, almost all the pundits, in fact.
One important task remained. A new theoretical framework had been created-but for its scientific value to be demonstrated, it had to be used in the full light of day. Above all, the paradigm must be employed for the analysis of important market phenomena, of the kind which had roused the curiosity of economists schooled in the old tradition, and which they thought they had explained. Unless this step was taken, the power of the new framework would not be finally and convincingly acknowledged. The baptism of fire remained.
It is hardly possible, I think, to single out some particular study as clearly and indisputably the one responsible for the rites. There was, for instance, the study Coase himself made of the (non-existing!) market for radio frequencies. There was an investigation by Director on the intriguing phenomenon of tie-in sales, often referred to but never formally published. There were the examples and illustrations Coase and Alchian presented in their basic articles, but they were brief and sketchy. Here and there, however, ambitious young scholars began to apply the new tools in the proper scientific manner. One of them was the thirty-year old Steven Cheung. If the laurels of victory should be awarded to someone, to my mind it has to be to him. Cheung's magnum opus was the present volume, first published in 1969 and for many years out of print. Given its status as a classic, reissue is long overdue. It must have taken the people responsible for the present endeavour enormous effort and patience to bring it about, not least to convince the author that his book has indeed become a classic.
The Theory of Share Tenancy is a scientific tour de force. It drew up a model pattern for research which aims to explain the market arrangements we observe around us, with all new analysis included. Cheung was perhaps the first to demonstrate convincingly that it is necessary to interpret contracts as economically structured. Most contracts, he argued, are results of choices among possible structures of clauses as well as arrangements for the handling of information and control. As a result of this seminal analysis, the crucial importance of contractual choice became established in economics. The Theory of Share Tenancy contributed substantially to making “contracts” a household term in the profession. Before about 1970, the word hardly appeared in the index of an economic treatise or textbook, but soon it became one of the most important entries.
Steven Cheung chose share tenancy as the subject on which to concentrate. It was a happy choice, for three reasons. First, it was (and still is) an important form of governance in agriculture, as well as in various service trades. Second, share tenancy contracts display problems typical of abroad spectrum of contractual arrangements: today these problems are often discussed under the “principal-agent”label. Third, previous conclusions on share tenancy seemed too simple, even suspect: it was therefore necessary for them to be reconsidered. Not only did Cheung proved that he was a master of the new theoretical framework, to a significant extent, he codified it. The Theory of Share Tenancy is convincing because of the author's grasp of the large literature on sharecropping, his careful analysis, and his meticulous use of empirical material derived from an extensive range of sources. Its major conclusion is now part of the body of economic theory: the results of literally all previous studies were unconvincing, and their claims that share tenancy contracts are inefficient were illusory. This dealt the death-blow to the habit of economists of declaring a situation inefficient, even when they were unable to specify any feasible means to eradicate the supposed inefficiency. They had ignored the very tangible cost constraints, which rationally prevented the steps from being taken.
Finally, The Theory of Share Tenancy is exciting reading.
The author passionately believes in his subject and in what he is doing, and all through the book the reader eagerly looks forward to what will be revealed next. Not many economic treatises have that tinge of adventure.
Stockholm, May 2000