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Economics of Tort Law
What is a tort? Contract law: injury from a broken promise Tort law: injury without any promises
Intentional tort (≈ crime) Unintentional tort (accidents)
“If someone shoots you, you call a cop. If he runs his car into yours, you call a lawyer.”
Focus on efficiency: structure the law to provide the correct incentives to avoid/prevent harm
Example 1: Joe Potatoes Joe Potatoes has been driven to distraction by the
escapades of his wife, Joan Potatoes. At the end of a hard night’s work at the loading dock, Joe is approached by Jim Bloggs. Suspecting that Jim has been romancing Joan, Joe insults and strikes him, breaking his nose. Bloggs subsequently sues for the injury to his reputation and his nose.
Example 2: Pheasant Hunting Three hunters go into the woods after pheasants.
They are spread out in a straggling line about 25 yards apart, walking in the same direction. The hunter in the center flushes a bird that flies up, its wings pounding. The hunter to his left and right turn toward the bird in the middle and fire. The bird escapes, but the hunter in the middle is blinded by birdshot. One of the two hunters certainly caused the harm, but there is no way of determining which one of them it was. The victim sues both of them.
Example 3: Fuel Additives A manufacturer produces auto fuel additives that demand
careful control over quality. If quality control is maintained at a high level, the chemical mixture in the product is correct, and it never causes damage to auto engines. If, however, quality control is relaxed and allowed to fall to a low level, some batches of the chemical mixture will be flawed. A few of the cars using the flawed batch will be harmed; specifically, the engine will throw a rod and tear itself to pieces. After the rod is thrown, as alert mechanic can detect the cause of the harm. The manufacturer determines that a high level of control costs more than the harm to some auto engines caused by a low level of quality control, so the manufacturer adopts a low level of quality control. The owner of the damaged car sues the manufacturer and asks for punitive damages.
Classroom Experiment Victor Matheson (2005), “Rationality, Tort Reform and
Contingent Valuation: A Classroom Experiment in Starting Point Bias.” College of the Holy Cross Working Paper
Focal Point ExperimentReference Point $10,000 $1,000,000
Smallest Damages $100,000 $500,000
Largest Damages $1,000,000 $2,000,000
Median Damages $500,000 $650,000
$1m or less 5 out of 6 4 out of 6
Traditional Theory of Torts Harm
Perfect compensation? Tangible vs intangible losses
Causation “cause-in-fact”:but for A, would B have occurred?
If NO, then A is the cause-in-fact of B Proximate cause
Breach of duty (fault) Strict liability: only Harm and Causation matter Negligence: requires Harm, Causation, and Fault
Can you sue for exposure to harm?
Does smoking cigarettes cause cancer?
How do you determine fault? Binary fault Continuous fault
not at fault if x ≥ at fault if x <
x~Precaution (x)
Legal standard: reasonable person
x~
x~
Not at faultNegligent
0
A Trolley Folly“A tree fell on a moving trolley, injuring passengers. One of them sued. He succeeded in demonstrating that in order for the trolley to be where it was when the tree fell on it the driver had to have driven faster than the speed limit at some point during the trip. Breaking the law is per se negligence, so the driver was legally negligent whether or not his driving was actually unsafe. If he had not driven over the speed limit, the trolley would not have been under the tree when it fell, so, the plaintiff argued, the driver’s negligence caused the injury.”
The court held that the driver’s negligence “had not caused the accident in the legally relevant sense.”
A Model of Optimal Precaution Social Objective: minimize social costs of accidents
Precaution costs Accident losses Administrative costs
Assumptions Rationality Litigation is costless No insurance available No safety regulation
Define: x = level of precaution by injurer p(x) = probability of accident [p’(x) < 0] A = victim’s accident losses w = cost per unit of precaution
A Model of Optimal Precaution
Social Costs = wx + p(x)A
What level of x will minimize Social Costs?
A Model of Optimal Precaution
Precaution (x)
$
wx
p(x)A
Social Costs = wx + p(x)A
SC
x* occurs where: w = -p’(x)A
x*
MC of precaution = MB of precaution
Examples of Accidents and Precaution
Accident Injurer’s precaution Victim’s precaution
Faulty wiring causes house fire
Manufacture wiring more carefully
Fireproof the house
Moving car hits parked car
Drive more safely Park car in safer location
Car hits pedestrian Drive more safety Walk more safely
Software fails Better design of software
Back up data at risk
Exploding pop bottle Improve quality control Handle bottles carefully
Medicine causes side effects
Improve warning label Study warning on medicine
Incentives for Precaution Tort liability gets injurer to internalize the
harm they cause victims
3 Liability Rules No Liability Strict Liability Negligence rule
No Liability Victim’s Incentives
Victim bears full cost of accident Victim’s cost = wvxv + p(xv)A
Injurer’s Incentives Injurer faces no liability Injurer’s cost = wixi
Choose xv*
Choose xi = 0
Strict Liability Victim’s Incentives
Victim receives damages of D Victim’s cost = wvxv + p(xv)[A-D]
Victim’s cost = wvxv (if D = A)
Injurer’s Incentives Injurer’s cost = wixi + p(xi)D
Choose xv = 0
Choose xi*
Perfect compensation
No Liability vs Strict Liability
Unilateral precaution situations: When only victim can take precaution, NL is preferable When only injurer can take precaution, SL is preferable
Bilateral precaution situations?
Legal Rule Victim’s Precaution Injurer’s Precaution
No liability Efficient Zero
Strict liability Zero Efficient
Analogous to contract law where we should allocate risk to the low-cost avoider.
Simple Negligence Rule Injurer’s Incentives
if x < then D = A
Injurer’s cost = wixi + p(xi)D
if x ≥ then D = 0
Injurer’s cost = wixi
x~
x~
Simple Negligence Rule
Precaution (x)
$
wx
= x*
wx + p(x)A
x~
Injurer will choose xi*
What will victim do?
Contributory Negligence Negligent injurer can escape liability if
victim was also negligent
Victim has incentive to choose xv*
Injurer has incentive to choose xi*
I’m talking on my cell phone while driving, but drunk pedestrian stumbles into road
Since injurer expects victim to take efficient precaution, injurer will minimize costs by being careful
Comparative Negligence If both parties are negligent, they share
the responsibility Injurer has incentive to choose xi*
Victim has incentive to choose xv*
Liability Rule Summary
Legal RuleVictim’s
PrecautionInjurer’s
Precaution
No liability Efficient Zero
Strict liability Zero Efficient
“Any” negligence rule with efficient standards of care
Efficient Efficient
Warning: Activity levels also affect the likelihood of an accident
Legal Rule Victim Precaution
Injurer Precaution
Victim Activity
Injurer Activity
No Liability Efficient Zero Efficient Too High
Strict Liability Zero Efficient Too High Efficient
Simple Negligence
Efficient Efficient Efficient Too High
Contributory Negligence
Efficient Efficient Efficient Too High
Comparative Negligence
Efficient Efficient Efficient Too High
Strict Liability with CN
Efficient Efficient Too High Efficient
Efficient Precaution and Activity
Who bears “residual risk”?
Setting the Standard: The Hand Rule United States v Carroll Towing Company (1947)
Hand Rule: if w < -p’A then injurer is negligent
Have all cost-justified precautions been taken?
Case-by-case basis Regulations Social customs
Since there are occasions when every vessel will break from her moorings, and since, if she does, she becomes a menace to those about her; the owner’s duty, as in other similar situations, to provide against resulting injuries is a function of three variables: (1) The probability that she will break away; (2) the gravity of the resulting injury, if she does; (3) the burden of adequate precautions. Possibly it serves to bring this notion into relief to state it in algebraic terms: if the probability be called P; the injury, L; and the burden, B; liability depends upon whether B is less than L multiplied by P: i.e., whether B < PL.
Judge Learned Hand
Errors in Damage Awards Random mistakes Systematic mistakes
Strict Liability Random mistakes: no effect on precaution Systematic mistakes: xi varies directly with error
Negligence Rule Modest damage errors will not affect xi
xi varies directly with errors in setting the legal standard
Administrative CostsSocial Cost = wx + p(x)A + C
No Liability: saves on C but erodes incentive for precaution
Strict Liability: requires harm and cause Leads to more cases, but easier cases
Negligence: requires harm, cause, and fault Leads to fewer cases, but costlier cases
Exploding Pop BottleBehavior of Firm
Firm’s Cost of Production per unit
Probability of Accident to Consumer
Loss if Accident
Expected Accident Loss
Full Cost per unit
Use Bottle 40 cents 1/100,000 $10,000 10 cents 50 cents
Use Can 43 cents 1/200,000 $4,000 2 cents 45 cents
When consumers have perfect information, the choice of liability rule is irrelevant; every rule generates efficient precaution and output
Strict Liability is a substitute for perfect consumer information