Consider a rancher-farmer economy. Assume that the rancher has no choice over how many cows to raise but either the farmer or the rancher (or both) can build a fence to eliminate the crop damage of $150. However, the costs of installing the fence are different: $200 for the rancher and $100 for the farmer. Without the fence, the rancher’s profit is $1,000 and the farmer’s profit is $350 (after subtracting the crop damage of $150).
Suppose the court decides to protect the farmer’s entitlement with a liability rule, so that without a fence, the rancher must compensate the farmer for the crop damage. Assume that the court can perfectly and costless estimate the amount of crop damage. Also assume that the cost of the fence is born by the installing party and is not reimbursed by anyone else. What are each parties profits?