Econ 522Economics of Law

Dan Quint

Fall 2009

Lecture 16

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HW2 due now

Midterm Thursday

Logistics

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Tort law Harm, causation, breach of duty

Strict liability rule No need to prove negligence (breach of duty), just harm and

causation

Versus negligence rule Need to prove all three elements

Today: economic model of torts

Last Thursday…

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Precaution

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The more carefully I drive, the less likely I am to hit you Duh But, driving more carefully is also more costly to me Must be some efficient level of care

Precaution

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The more carefully I drive, the less likely I am to hit you Duh But, driving more carefully is also more costly to me Must be some efficient level of care

What determines how carefully I drive is what I think will happen if I hit you Tort law creates incentives The essence of tort law is to use liability to get injurers to

internalize the externalities their actions cause

Precaution

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Unilateral harm – only one victim

Precaution – costly actions that make accident less likely Could be taken by either victim or injurer We’ll focus on one at a time

Notation x – the level of precaution that is taken w – the cost of each “unit” of precaution

so total cost of precaution is wx p(x) – probability of an accident, given precaution x

p is decreasing in x A – cost of accident (to victim)

so expected cost of accidents is p(x) A

Model of unilateral harmx level of precautionw marginal cost of precautionp(x) probability of an accidentA cost of an accident

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Model of unilateral harmx level of precautionw marginal cost of precautionp(x) probability of an accidentA cost of an accident

Precaution (x)

$

p(x) A (Cost of Accidents)

wx (Cost of Precaution)

wx + p(x) A(Total Social Cost)

x* (Efficient Level of Precaution)

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efficient precaution: minx { wx + p(x) A }

w + p’(x) A = 0

w = – p’(x) A

Under reasonable assumptions (p(x) convex)… x < x* w < – p’(x) A

MSB of precaution greater than MSC more precaution efficient x > x* w > – p’(x) A

MSC of precaution greater than MSB less precaution efficient x = x* MSB = MSC

Model of unilateral harmx level of precautionw marginal cost of precautionp(x) probability of an accidentA cost of an accident

marginal social cost of precaution

marginal social benefit of precaution

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Model of unilateral harmx level of precautionw marginal cost of precautionp(x) probability of an accidentA cost of an accident

x

$

p(x) A

wx

wx + p(x) A

x*x < x* x > x*

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We haven’t yet said who is taking precaution

Some cases, only injurer can reduce accidents

Some cases, victim can too

Model works fine for either one (unilateral precaution)

Under most conditions, works fine when both parties take precaution (bilateral precaution)

Next: consider effect of different liability rules on precaution

Model of unilateral harm

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No liability

Strict liability

Negligence

Effect of liability rules on precaution

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Victim precaution Private cost to victim: wx + p(x) A Victim sets w = – p’(x) A Rule of no liability leads to efficient level of victim precaution

Injurer precaution Private cost to injurer: wx Injurer sets x = 0 Rule of no liability leads to inefficiently low level of injurer

precaution

Rule 1: No Liability

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Effect of liability rules on precaution

ZeroEfficientNo Liability

Injurerprecaution

Victimprecaution

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Perfect compensation: damages D = A

Victim precaution Private cost to victim: wx + p(x) (A – D) = wx Victim sets x = 0 Social cost is wx + p(x) A, efficient level satisfies w = – p’(x) A Strict liability leads to inefficiently low level of victim precaution

Injurer precaution Private cost to injurer: wx + p(x) D = wx + p(x) A Injurer sets x efficiently Strict liability leads to efficient level of injurer precaution

Rule 2: Strict Liability

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Effect of liability rules on precaution

EfficientZeroStrict Liability

ZeroEfficientNo Liability

Injurerprecaution

Victimprecaution

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When it is the injurer who can take precautions, a rule of strict liability is more efficient

When it is the victim who can take precautions, a rule of no liability is more efficient

Each rule works well for one incentive, poorly for other Similar to paradox of compensation we already saw What about bilateral precaution?

Negligence rule may allow us to get both incentives right

So for accidents with unilateral precaution…

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Legal standard of care xn

Injurer is liable for damages if precaution level was below the legal standard of care x < xn D = A x xn D = 0

So on our graph from before, private cost to injurer is… wx + p(x) A for x < xn

wx for x xn

Rule 3: Negligence

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Injurer precaution under anegligence rule

x level of precautionw marginal cost of precautionp(x) probability of an accidentA cost of an accident

x

$

p(x) A

wx

wx + p(x) A

xn = x*

If legal standard of care is set to efficient level (xn = x*), negligence rule leads to efficient injurer precaution

Private cost to injurer

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Effect of liability rules on precaution

EfficientEfficientNegligence,with xn = x*

EfficientZeroStrict Liability

ZeroEfficientNo Liability

Injurerprecaution

Victimprecaution

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Rule we just saw: injurer is liable if he was negligent, not liable if he was not

But we can consider both whether injurer was negligent…

…and whether victim was negligent…

…when determining whether injurer owes damages(and how much)

For bilateral precaution, different ways to implement a negligence rule

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For bilateral precaution, different ways to implement a negligence rule

NoYesNoNoNegligence with Defense of Contributory Negligence

YesYesNoNoSimple Negligence

Both parties negligent?

Only injurer negligent?

Only victim negligent?

Neither party negligent?

Does injurer owe victim damages when…

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For bilateral precaution, different ways to implement a negligence rule

NoYesNoYesStrict Liability with Defense of Contributory Negligence

PartialYesNoNoComparative Negligence

NoYesNoNoNegligence with Defense of Contributory Negligence

YesYesNoNoSimple Negligence

Both parties negligent?

Only injurer negligent?

Only victim negligent?

Neither party negligent?

Does injurer owe victim damages when…

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When standard of care (for both injurer and victim) is set at the efficient level…

…any of these negligence rules lead to efficient level of precaution by both parties Simple negligence Negligence with a defense of contributory negligence Comparative negligence Strict liability with a defense of contributory negligence

Here’s the cool part…

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Even in a setting with bilateral precaution…

EfficientEfficientAny negligence rule with efficient legal standard of care

EfficientZeroStrict Liability

ZeroEfficientNo Liability

Injurerprecaution

Victimprecaution

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(I mentioned, with bilateral precaution, things occasionally get more complicated…)

Redundant precaution – either party could take precaution, efficiency only requires one of them

If precaution is continuous, any negligence rule still leads to efficient precaution level by both

When precaution is discontinuous, not always Driver can fasten seatbelt, or car company can design seatbelt that buckles

itself (more costly) Simple negligence: car company might be liable if designed manual seatbelt

and driver didn’t use it, so car company might design automatic belt Negligence with defense of contributory negligence: car company escapes

liability, so designs manual belt, rational driver uses it

But as long as precaution is continuous, no problem

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So far, our results seem to favor negligence rules… but…

EfficientEfficientAny negligence rule with efficient legal standard of care

EfficientZeroStrict Liability

ZeroEfficientNo Liability

Injurerprecaution

Victimprecaution

Up next: activity levels Steven Shavell, “Strict Liability Versus Negligence”

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Good luckon Thursday!