Accessible Pareto-Improvements: Using Market Information to Reform Inefficiencies

Abstract

We study Pareto improvements whose implementation requires knowledge of only market prices and traded quantities, not utility and demand functions. Quantity stabilizations (for example, the Lau, Qian, and Roland model of dual-track reform) give agents the right to repeat their earlier trades and hence require policymakers to know the quantities agents previously exchanged. While reasonable in some partial equilibrium contexts, such knowledge is implausible in general equilibrium. To diminish informational requirements further, we also consider price stabilizations, which hold constant the relative prices that consumers face. Although price stabilizations do not achieve first-best efficiency, they lead to Pareto-improvements and production efficiency. Moreover, the production efficiency advantage persists under price stabilization but not under quantity stabilization when some firms are not profit-maximizes; this difference can be critical in transition policies for planned economies. In addition to planning, we consider several other applications of quantity and price stabilization, both partial equilibrium and general equilibrium: removal of rent controls, deregulation of a cross-subsidizing public utility, and the entry of an autarkic economy into world trade. Not surprisingly, the most plausible candidates for quantity or price stabilization occur in partial equilibrium settings. Finally, we discuss some difficulties specific to general equilibrium models of transition economies. When the state completely rations trades under planning, it will usually need to operate at a deficit. Under reform, the state must raise revenue to close this deficit, and that will frequently prevent quantity stabilizations from achieving a Pareto improvement. But ex ante deficits do no pose a problem for price stabilization reform strategies.