Legal Prostitution: An Economic Perspective

Mar 8

Prologue

As one of humanity’s oldest professions, prostitution has been labeled immoral, empowering, promiscuous, and many other things in the span of its controversial history. And yet despite that controversy, the services offered by prostitutes have and will always be sought out–legal or otherwise. Perhaps that very fact is a moral indictment of human nature–but alas, such an indictment would be better left debated amongst moral philosophers, ethicists, or psychologists. Instead, what this analysis will aim to explore is whether prostitution is subject to the same economic forces that define any other market; and if so, how does regulation, or lack thereof, pertain to considerations of economic efficiency and social optimality in a market so steeply mired in questions of ethics and morality?

Not in My Backyard

Like other human vices such as marijuana, porn, drugs, alcohol, and tobacco, the market for prostitution is subject to the mercy of the society that chooses to tolerate its permissibility. In a perfect world where the services offered by prostitutes are neither sought after nor offered, perhaps the questions of morality and ethics that so strongly define the conversation around prostitution would be moot–but we do not live in such a perfect world. As such, understanding prostitution through the lens of “public bads” and the negative externalities that accompany its consumption, regardless of personal ideologies and beliefs, is fundamental to critically analyzing the economic efficiencies that emerge from the varying degrees of regulating its market.

To understand the nuances of prostitution in the free market and the the opposition against it, it is important to first establish a framework of property rights. British economist Ronald Coase famously tells the story of a farmer and a rancher to underline the economic nuances of property rights:

A rancher and a farmer are neighbours that share an unobstructed border that runs along the edge of their farms. One morning, the farmer wakes up to the rancher’s cattle overrunning his farmland. This is not a one-time occurrence, and the farmer is estimated to incur losses of $20,000 in the long run. The farmer and rancher live in a jurisdiction where the farmer is legally entitled to not suffer losses from the rancher’s cattle–this is his property right. The farmer and rancher go to court, and the the judge issues the rancher an injunction to build a fence around his ranch. The fence will cost $60,000. Mediating costs are non-existent in the jurisdiction.

In this parable told by Coase, it is key to note that the farmer owns the property right to have his farmland free from damage. Should he wish, the farmer is within his rights to exercise the injunction and force the rancher to erect a $60,000 fence. However, that is not socially optimal, given the fact that the farmer is expected to suffer no more that $20,000. A more compelling and mutually beneficial arrangement would be for the rancher to pay off the farmer at least $20,000 for the right to not have to build the fence. Of course, the farmer knows the rancher would save $40,000 from this arrangement and would negotiate for a split of the savings. What is important is that both parties emerge better off; the farmer pockets more than he would have made from the crops he could have sold, and the rancher pays less than he would have to had he erected the fence. The point is, given low mediating costs, economic agents are able to make socially optimal choices when property rights are clearly assigned.

Just like the Coase’s parable of the farmer and rancher, economic actors such as prostitutes, “johns”, pimps, and their clients may insist they have the right to do as engage in sex work, while the rest of society may vehemently insist they have a right to exclude prostitution form occurring within their neighborhoods. Society and the state may choose to erect “fences” in the form of costly measures such as increased policing or prosecution to keep out the so called “cattle” from engaging in sex work in their neighborhoods. In many cases, the costs of deterrence easily cost more than the harm caused from prostitution; in such a scenario, an outright ban and criminalization would be both inefficient and redundant for for the following reason: society and the state would spend public funds on costly deterrence programs such as law enforcement, prosecutions, and convictions, when negotiations between affected parties probably produce efficient remedies for all parties involved. The following scenario, inspired by Adam Ozimek’s (2010) analysis of economic and social efficiencies of the prostitution market, is an example:

Pinky is the only sex worker operating in Abstinence County and neighboring Indifference County, and can make a total of $10,000 in profits per year for their services in each county they choose to operate in. Pinky cannot make more than $10,000 per year from each county, therefore their maximum profit for operating in both counties is $20,000. Abstinence County is a highly religious community with an unusually strong moral repugnance towards prostitution, and therefore suffers a negative externality of $30,000 each year from Pinky’s operations. Indifference County is an unusually atheistic settlement and therefore incurs no negative externality from Pinky’s operations. Abstinence County’s new mayor is considering two options to eliminate prostitution: either enacting a law to ban and criminalize sex work or paying Pinky a certain amount to cease operations within Abstinence County bounds. Enforcing the new law through law enforcement and prosecution will cost Abstinence County $25,000 per year. Mediating costs are non-existent in the bi-county area.

In this scenario, the most efficient remedy would be for Abstinence County to refrain from criminalizing sex work. Passing a law to ban and criminalize prostitution would mean having to enforce it by erecting a “fence” that would cost a lot more than if the county offered Pinky $10,000 each year to operate exclusively in Indifference County. When offered a payout of $10,000, Pinky would be willing to cease operations in Abstinence County. Pinky’s threat value is $10,000 a year since that is their annual income from Abstinence County and will not accept anything less than that amount from Abstinence County to cease offering their services in their jurisdiction. Abstinence County’s threat value is $25,000 since that is the maximum it would have to spend to forcibly prevent Pinky from prostituting within its county bounds. By agreeing on cooperation, a total surplus of $15,000 is generated between the two parties; Pinky and Abstinence County will both negotiate to split the $15,000 between themselves.

Why is the analysis laid out above important? The situation that Pinky and Abstinence County find themselves in, however simplified, very much resembles the paradox facing society and the law when confronted with the task of regulating human vices such as prostitution. More often than not, the state will resort to an outright ban but that is not always the most efficient and socially optimal strategy, however counterintuitive it may seem. However, this model of property rights informed by economic efficiency has shown that even morals and ethical repugnances towards prostitution, and most other human vices for that matter, can be internalized by market actors. And while transaction costs are rarely ever zero in real life, the model nonetheless highlights how laws and regulation targeting prostitutes are often inefficient and offers an alternative path guided by economic intuition.

Here Comes the Taxman

Another avenue through which the state is able to minimize the social costs of prostitution is through a Pigouvian Tax that forces market actors to internalize negative externalities. The only problem? The state cannot legitimately tax a profession or vice it deems illegitimate and criminal. Through legalization and recognition of sex work as legitimate work and legitimate consumption, the state puts itself in a position to reduce prostitution by targeting both producers and consumers. The following scenario offers an example:

Pinky’s operations in Abstinence County causes a $30 depreciation in real estate values for each session they produce. Abstinence County residents are unhappy about plummeting real estate values and elect a new mayor to deal with prostitution in the county. The mayor faces two choices: banning and criminalizing prostitution or taxing Pinky. Enforcing the ban through enhanced policing will cost the county $200 each session. Transaction and negotiation costs are prohibitively high.

Under these circumstances, the new mayor would be mistaken to outright ban sex work since the county would have to enforce the ban through costly enforcement and prosecution. Instead, a Pigouvian tax of $30 per session would increase Pinky’s marginal cost and force them to scale back their operations to socially optimal levels after much cost-benefit analysis driven by economic intuition. Since each session Pinky produces in Abstinence County results in a negative externality of $30, a Pigouvian tax of $30 will result in an optimal amount of sessions. If Pinky benefits more than $30 per session, then Pinky should be more than happy to compensate residents for their losses while still maintaining the right to make a living without fear of prosecution. Figure 1 graphically models the tax policy.

Safe Beginnings, Happy Endings

For all intents and purposes of this analysis, much of society’s opposition and repugnance towards prostitution is largely a reaction to its potential negative externalities such as drug abuse, violence, slavery, crime, and STDs. And yet, a paradox emerges from legal status: how can society effectively and efficiently manage and regulate the consumption of an activity it deems completely illegitimate? The state cannot regulate the potency or quality of marijuana sold if it operates in the illegal market, but it can fine tune health regulations and any other requirements it deems fit when it legalizes marijuana–prostitution is no different.

While it is reasonable to argues the black market for prostitution contributes to trafficking, slavery, and STDs, the counterargument that these negative externalities emerge because prostitution is forced to operate in the black market may be equally compelling. One relevant example is Los Angeles County’s Measure B, which mandates health measures and regulations such as mandatory condoms, pre-production health permits, and periodical STD blood tests for all pornography shot within the county (Dines, 2012). Interestingly enough, LA county would never be able to mandate and enforce such policies had it chosen to ban and criminalize pornography production for the simple reason that production would have moved to the black market–in that case, the only measure that the county would be left with is costly enforcement and crackdown. The same is true for the sex work industry. In the Netherlands for example, prostitutes are required to register with the Chamber of Commerce and pay income tax to legally offer sexual services. The legalization of the prostitution market converted a large portion of its black market to the legal market, giving the state the ability to regulate working conditions, health measures, age cutoffs, and even the specific zones in which the markets can legally operate.

Legal prostitution, unlike illegal sex trafficking, is unambiguously subject to legally enforceable standards of care. For example, pimps and prostitutes become contractually and legally liable to fully disclose any STDs or health conditions that may affect their clients under strict liability rules and can legally be sued under tort law for negligence–this legal recourse is almost non-existent in the black market. Under such conditions, producers in the legal prostitution market will self-enforce precautionary measures such as STD testing to reduce the probability of accidents since they internalize the cost of accidents under strict liability (Textbook, page 200).

Conclusion: A Happy Ending

While the state and society may be all too tempted to legislate and enforce bans on prostitution by pointing to the profession’s negative externalities on society, there are circumstances, as this analysis has hopefully shown, where regulated legalization would offer more economically efficient alternatives. When efficient solutions such as cooperative negotiations and taxes are capable of achieving the same mitigating and remedial solutions to prostitution without resorting to costly and forceful state apparatuses such as law enforcement and prosecution, perhaps the law’s blind justfulness need not diverge from the rationality of economics.

References

Dines, G. (2012, November 12). LA County’s Measure B is a major win for safe sex in adult entertainment. The Guardian. https://www.theguardian.com/commentisfree/2012/nov/12/la-county-measureb-safe-sex

Ozimek, A. (2015, February 22). Why is there no uber for prostitution? Forbes. https://www.forbes.com/sites/modeledbehavior/2015/02/22/why-is-there-no-uber-for-prostitution/?sh=1c2c1afd15b1

Howard Chen