George Mason School of Law
Contracts II
MW 1000 – 1115
Hazel 121
F.H. Buckley
fbuckley@gmu.edu
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George Mason School of Law
1. Why Enforce Contracts
2
George Mason School of Law
1. Why Enforce Contracts
2. Where Contracts Should Not Be
Enforced
3
George Mason School of Law
1. Why Enforce Contracts
2. Where Contracts Should Not Be
Enforced
3. The Content of the Contract
1. Conditions
1.Promissory and Non-promissory
2. Warranties
4
George Mason School of Law
1. Why Enforce Contracts
2. Where Contracts Should Not Be
Enforced
3. The Content of the Contract
4. Breach and Remedies for Breach
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George Mason School of Law
1. Why Enforce Contracts
2. Where Contracts Should Not Be
Enforced
3. The Content of the Contract
4. Breach and Remedies for Breach
Plus or minus…
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A Law and Econ Perspective
Le mot de Tony Kronman
Dean Henry Manne,
George Mason
Insider Trading and the
Stock Market 1965
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A Law and Econ Perspective
Le mot de Tony Kronman
Dean Henry Manne,
George Mason
Insider Trading and the
Stock Market 1965
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Ronald Coase,
U. of Chicago
The Problem of Social Cost
1960
A Law and Econ Perspective
Le mot de Tony Kronman
Dean Henry Manne,
George Mason
Insider Trading and the
Stock Market 1965
9
Ronald Coase,
U. of Chicago
The Problem of Social Cost
1960
Hon. Richard Posner
University of Chicago
Economic Analysis of Law 1973
A Preliminary Question
 Who cares if we enforce contracts?
 The nihilism of the 1970s: What’s
wrong with this contract?
 “If one person does not lose, the other
does not gain.” Augustine
 The rise of consumerism
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So why enforce contracts?
 Casebook suggests two principles
 The Efficiency Norms of Law and
Economics
 An “Autonomy Principle”
Vas ist das?
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Autonomy
 My personal freedom expands when I
have the freedom to bind myself
 Rousseau: people must be forced to be
free
 Now: must people be free to be forced?
 They can only be subject to contractual
fetters if the institutions of promising and
contract law exist
Autonomy
 So why is it desirable that promissory
institutions exist?
 Can’t breach a contract without them
Autonomy
 So why is it desirable that promissory
institutions exist?
 Can’t breach a contract without them
 And I can’t slide home without the game
of baseball
 So how to come up with an argument for
either institution, without attributing
some outside value to the game?
 Suppose it was shown that contractual
enforcement made everyone miserable?
Could promising exist without
promissory institutions?
The Kingdom of Tonga
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The Queen of Tonga
With the Queen Mother at the Coronation, 1953
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The Queen of Tonga
With her Prime Minister, Coronation 1953
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Tonga
Where People Don’t Promise
 There is no word for “promise” in
Tonganese
 “I intend to do x, but if I change my
mind, well, then was then, now is now.”
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Tonga
Where People Don’t Promise
 There is no word for “promise” in
Tonganese
 “I intend to do x, but if I change my
mind, well, then was then, now is now.”
 In such a place, is an autonomy analysis
of promises intelligible?
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David Hume
“A promise is
not intelligible
naturally, nor
antecedent to
human
conventions.”
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Hume didn’t think that all
morality is conventional
 Non-conventional Natural vs.
Conventional Artificial duties
 Can you suggest some examples of
non-conventional rules?
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Some examples of nonconventional rules?
 Consider: “You think that killing x is
wrong, but that’s just because you
have a convention that x count as
people.”
 Is that persuasive?
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Promising, on the other hand,
rests on a language convention
 How could I will myself to be bound
by a promise in Tonga?
 Hume: There is no mental act that
creates an obligation, or that need
accompany it.
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Promising, on the other hand,
rests on a language convention
 Which raises the question: Are such
institutions desirable?
 If so, we have an answer why people
should perform their promises
 Otherwise they would subvert a
valuable institution
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Promising, on the other hand,
rests on a language convention
 So just what is the benefit afforded
by promissory institutions?
 A greater assurance of performance
 Which is strengthened when
contractual sanctions are added to
moral ones.
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Does the sanction provided by
promissory institutions suffice?
 Men being naturally selfish, or
endow'd only with a confin'd
generosity, they are not easily
induc'd to perform any action for the
interest of strangers, except with a
view to some reciprocal advantage
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Contracts in the State of Nature
Hobbes, Leviathan 14.18 (1651)
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
If a covenant be made wherein neither of the parties
perform presently, but trust one another, in the
condition of mere nature (which is a condition of war of
every man against every man) upon any reasonable
suspicion, it is void…

For he that performeth first hath no assurance the other will
perform after, because the bonds of words are too weak to
bridle men's ambition, avarice, anger, and other passions,
without the fear of some coercive power; which in the
condition of mere nature, where all men are equal, and
judges of the justness of their own fears, cannot possibly be
supposed. And therefore he which performeth first doth
but betray himself to his enemy.
The Prisoners’ Dilemma
Hobbes’ Insight
 A simple game that has become the
dominant paradigm for social
scientists since it was invented about
1960.
 How the game works – and why
didn’t it work for Dilbert
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PD games help to explain why we do
dumb things
 Over-fish lakes and oceans
 Pollute
 Arms race
 Fail to exploit bargaining gains
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Modeling PD games
 Game theoretic problems: payoffs for
each player depend on actions of both
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Hollywood gets in the act
Russell Crowe as John Nash
in “A Beautiful Mind”
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The need for poetic license
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Modeling PD games
 Game theoretic problems: payoffs for
each player depend on actions of both
 Two possible strategies: A party
cooperates when he performs valueincreasing promises, and defects
when he breaches
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Modeling Two-party choice
Cooperate
Player 1
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Modeling Two-party choice
Player 1
Defect
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Modeling Two-party choice:
Player 2
Player 2
Cooperate
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Modeling Two-party choice
Player 2
Player 2
Defect
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Modeling Two-party Choice
Both Cooperate
Player 2
Cooperate
Cooperate
Player 1
Defect
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Both
cooperate
Defect
Modeling Two-party Choice
Both Defect
Player 2
Cooperate
Defect
Cooperate
Player 1
Defect
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Both defect
Modeling Two-party Choice
Sucker’s payoff for Player 1
Player 2
Cooperate
Cooperate
Player 1
Defect
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Defect
Player 1
cooperates,
Player 2
defects
Modeling Two-party Choice
Player 1’s temptation to defect
Player 2
Cooperate
Cooperate
Player 1
Defect
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Player 1
defects,
Player 2
cooperates
Defect
Modeling Two-party Choice
Player 2
Cooperate
Defect
Cooperate
Both
cooperate
Player 1
cooperates,
Player 2
defects
Defect
Player 1
defects,
Player 2
cooperates
Both defect
Player 1
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Bargains as a Prisoner Dilemma game
Cooperation: Promise and Perform
Defect: Promise and Breach
Player 2
Cooperate
Joint
Cooperate
cooperation
Player 1
Defect
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Player 2:
Sucker’s
payoff
Defect
Player 1:
sucker’s
payoff
Joint
defection
Let’s apply this to promising
Player 2
Cooperate
Player 1
Both
Cooperate promise and
perform
Defect
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Player 1
performs,
player 2
breaches
Defect
Player 2
breaches,
Player 1
performs
Both defect:
No one
performs
Plugging in payoffs
First number is payoff for Player 1,
Second number is payoff for Player 2
Player 2
Player 1
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Cooperate
Defect
Cooperate
3, 3
-1, 4
Defect
4, -1
0, 0
Defection dominates for Player 1
Cooperate
Player 1
Defect
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Cooperate
Defect
3
-1


4
0
Defection dominates for Player 2
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Cooperate
Defect
Cooperate
3

4
Defect
-1

Player 2
0
The possibility of defection
destroys trust
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Your corn is ripe today, mine will be so
tomorrow… (Hume’s Treatise III.ii.V)
The paradox of the PD game
 While cooperation is collectively
rational, defection is individually
rational.
 The undersupply of cooperation is
“the tragedy of the commons.”
Garrett Hardin, The Tragedy of the
Commons (1968).
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Modeling Two-party Choice
Both Cooperate
Player 2
Cooperate
Cooperate
Player 1
Defect
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Both
cooperate
Defect
Joint Cooperation
Everyone promises and performs
The food is
better at
the
Tattaglias…
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I’m
worried
about
Tessio…
Modeling Two-party Choice
Both Defect
Player 2
Cooperate
Defect
Cooperate
Player 1
Defect
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Both defect
Joint defection
Can these gentlemen be acting efficiently?
An inefficient honor code
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Modeling Two-party Choice
Sucker’s payoff for Player 1
Player 2
Cooperate
Cooperate
Player 1
Defect
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Defect
Player 1
cooperates,
Player 2
defects
Sucker’s payoff
Sucker performs, other party defects
GONERIL
Hear me, my lord;
What need you five and
twenty, ten, or five,
To follow in a house where
twice so many
Have a command to tend
you?
REGAN
What need one?
KING LEAR
O, reason not the need…
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Modeling Two-party Choice
Player 1’s temptation to defect
Player 2
Cooperate
Cooperate
Player 1
Defect
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Player 1
defects,
Player 2
cooperates
Defect
Defector’s Payoff
Defector breaches, sucker performs
"I can make them voting machines sing
Home Sweet Home."
"Don't write anything you can phone.
Don't phone anything you can talk.
Don't talk anything you can whisper.
Don't whisper anything you can smile.
Don't smile anything you can nod.
Don't nod anything you can wink."
Gov. Earl K. Long
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The Tragedy of the Commons
and the Law of the Sea
)
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War as a Prisoner’s Dilemma Problem
So why doesn’t the Coase Theorem Work?
)
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All we are saying is …
Give Contracts a Chance
Iranians employing
the defect strategy
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An application: Marriage
Marriage is more
than a contract;
it’s a covenant…
Rembrandt, The Jewish Bride 1666
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An application: Marriage
But it’s less
than a contract
if the parties
have
unilateral
exit rights
under
no-fault
divorce laws
Rembrandt, The Jewish Bride 1666
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Marriage, Divorce, Natality
 What did no-fault divorce do to the cost of
matrimonial fault?
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Marriage, Divorce, Natality
 What did no-fault divorce do to the cost of
matrimonial fault?
 How do you think no-fault divorce laws
affected divorce levels?

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Bring and Buckley, 18 Int. Rev. Law & Econ. 325 (1998)
Marriage, Divorce, Natality
 How would you expect the parties to react to
the increased probability of divorce?
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Marriage, Divorce, Natality
 How would you expect the parties to react to
the increased probability of divorce?
 Fewer marriages
 Increased female participation in the labor
force
 Increased human capital investments by
women
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Children as marriage-specific assets
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20
15
Series1
Series2
10
5
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19
Divorce rate 1965-83 ———
Natality rate for married couples 1965-83 ———
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Where Promises Can’t Be Relied on
Akerlof, The Market for Lemons, 84 Q.J. Econ. 488 (1970)
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The Market for Lemons
What would you pay?
 Of the remaining 1956 Fords, half are
worth nothing (“lemons”) and the
other half are worth $5000 (“beauts”)
 The seller knows which kind of car he
has but you can’t tell them apart
 What would you pay?
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The Market for Lemons
What would you pay?
 Of the remaining 1956 Fords, half are
worth nothing (“lemons”) and the
other half are worth $5000 (“beauts”)
 The seller knows which kind of car he
has but you can’t tell them apart
 The trick: Seller’s willingness to sell is
a signal
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The Market for Lemons
What would you pay?
 Of the remaining 1956 Fords, half are
worth nothing (“lemons”) and the
other half are worth $5000 (“beauts”)
 The seller knows which kind of car he
has but you can’t tell them apart
 Question: Is the seller satisfied with
this result?
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Contract Law as a solution
 Suppose that the defector is
penalized through legal sanctions so
that the incentive to defect
disappears.
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