Econ 522 – Lecture 23 (December 4 2008)
One thing I forgot last lecture. I mentioned the debate over whether rich and poor should
face different sentences for similar crimes. In the U.S., this is not generally done – some
crimes are punished by a choice of a fine or jail time, but fines and jail sentences, at least
in theory, are not differentiated according to the criminal’s wealth.
In Europe, fines are more common for minor criminal offenses, and they are higher for
the rich than for the poor. Specifically, day fines are commonly used – that is, rather than
a fine being for a certain amount of money, it is specified as a certain number of days’
salary – so that rich people do face a greater penalty.
Looking back over the semester…
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We started out by introducing the notion of efficiency, or Kaldor-Hicks
efficiency, or wealth maximization, and argued that it’s a pretty good goal for the
legal system to aim for
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With property law, the Coase conjecture suggested that if there are no transaction
costs, efficiency is easy to achieve – just define property rights, choose any initial
allocation of rights, and allow people to bargain with each other
(When there are transaction costs, we’re left with a choice: design the law to
minimize transaction costs, or design the law to allocate rights efficiently as often
as possible.)
But setting up and enforcing a system of property rights costs something, so
efficiency demands only doing this when the gain outweighs the cost – we saw
this with Demsetz
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With contract law, we looked for rules that would yield efficient breach, and
efficient reliance, and efficient disclosure of information, among other things
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With tort law, we looked for rules that would create incentives for efficient
precaution to prevent accidents, and efficient levels of risky activities
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And in the last few lectures, with both civil and criminal law, we discussed
designing the legal system more generally to minimize the combined cost of
implementing the system and living with its errors – which is the same as
maximizing the resources left to society
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So with each branch of the law, the question we’ve asked is, what would an
efficient system look like, and how do the actual rules in place measure up to the
standard of efficiency?
Now that we’ve made it through all that, it seems like a good idea to look again at
efficiency, and return to two key questions:
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is efficiency the right goal for the law?
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and should we expect the common law system to naturally tend toward
efficiency?
To answer the first question, we started with Posner
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Posner points out that the appeal of a Pareto-improvement is that everyone would
consent to it
He tries to make an analogous argument for Kaldor-Hicks improvements, or
changes that increase overall efficiency
Obviously, you can’t do this after the fact: once I’ve hit you with my car, I’d
prefer a negligence system (or a system of no liability), and you’d prefer a strict
liability system
But Posner introduces the idea of ex-ante compensation
He points out: “if you buy a lottery ticket and lose the lottery, then… you have
consented to the loss”
And similarly: “Suppose some entrepreneur loses money because a competitor
develops a superior product. Since the return to entrepreneurial activity will
include a premium to cover the risk of losses due to competition, the entrepreneur
is compensated for those losses ex ante.”
Suppose we all agree that a negligence rule is most efficient than a strict liability
rule
And suppose for simplicity that everybody in society is the same – everyone is the
same age, is equally good drivers, drives the same amount, and so on
If I just hit you with my car, you’d prefer a strict liability rule
But if we all got together before any accidents happened and chose a system,
we’d both agree to the negligence rule
If you wanted to be compensated if you ever got hit by a car, you could buy
accident insurance – which, if a negligence system really is more efficient, would
be cheaper than your expected liability would be under a different system
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So Posner’s idea: we were all compensated ex-ante for the choice of the more
efficient system. (If the system is negligence rather than strict liability, then
liability insurance is cheaper.)
And therefore, it’s as if we all consented to it
Obviously, if people are different – some people don’t drive, but still get hit by
cars – the argument is harder, but he tries to make it more general
Suppose we introduced a law that was inefficient, but favored tenants over
landlords
We might think that tenants would like it and landlords would not
But since rental rates are determined competitively, it would probably just result
in higher rents, to compensate landlords for the change in the law
So Posner’s general argument: if we could all meet up to choose a rule ahead of
time, we’d all choose the efficient one
So assume that we all consented to it, and go with it
(He points out this is like the principle in contract law, where to deal with an
unforeseen contingency, you try to impute the terms the parties would have
chosen, if they had addressed that scenario in the contract.)
So that’s Posner on why the law should aim for efficiency
Cooter and Ulen take on the question as well, and offer another reason why the
law should aim for efficiency
They acknowledge that society may have goals other than efficiency – in
particular, a society may care about the distribution of wealth, not just
maximizing the total amount of it
But, they argue, if society wants achieve redistribution, it is better to design the
law to be efficient, and use the tax system to control distribution
They give several reasons for why the tax system is a better way to redistribute
wealth than the legal system:
o The tax system can directly target people with high or low incomes, rather
than relying on rough proxies (like “consumers” and “investors”, or
“doctors” and “patients”)
o Effects of changes in the legal system are harder to predict than changes in
tax rates
o Lawyers are more expensive than accountants (or really, transaction costs
are higher when redistribution is through the legal system)
o A law aimed at redistribution would function like a tax on a particular
activity; but the more narrow a tax is, the more distortion it causes, and
therefore the more deadweight loss it creates
So that gives us two views for why we should aim for a legal system that is efficient, or
maximizes wealth:
 Posner: it’s what we’d all agree to ex-ante
 Cooter and Ulen: if we want to redistribute, it works better to do it through taxes
This brings us to the second question: can we expect the common law to naturally tend
toward being efficient?
Posner gives one reason why it would
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He points out that many people believe the government, and the courts, respond to
politically powerful interest groups
But the same idea of ex-ante consent suggests that even these groups would
probably want efficient laws
If landlords, as a group, were more politically connected and influential than
tenants, we might expect them to influence the laws
But like we said before, landlords wouldn’t get that excited about inefficient prolandlord laws, because they’d probably just lead to lower rents to compensate
So well-connected groups wouldn’t resist efficient rules
Cooter and Ulen go further, and offer three specific mechanisms that could lead the
common law toward being efficient:
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First, the common law often implements social norms or existing industry
practices. These norms and practices likely developed, and lasted, because they
were better than the alternatives, so they are likely efficient
We saw this at the beginning of the course, with whaling
The whaling industry in different places developed norms and practices which
were well-suited to each environment and therefore efficient
And common-law judges chose to respect these norms, which made the common
law efficient as well
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Second, some judges may deliberately try to push the law in the direction of
efficiency
o Under the common law, judges generally follow precedents
o But judges do occasionally reverse precedents and “make new law”
o If judges are more willing to reverse inefficient precedents and replace
them with efficient ones, then this will push the common law in the
direction of efficiency
o We saw a dramatic example of this with the Hand Rule, where the judge
explicitly incorporated efficiency into the legal standard of care for a
negligence rule
o We also saw this with the ruling in Boomer v Atlantic Cement, where
even though precedent was to issue an injunction in nuisance cases – this
was a cement factory that created dust and noise – the court felt that an
injunction would be inefficient, and chose to abandon precedent and order
only damages.
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Cooter and Ulen also consider a third way the common law could naturally evolve
toward efficiency: inefficient laws might lead to more litigation than efficient
ones
o Inefficient laws have higher social costs than efficient ones
o So they must have higher costs for at least one party
o So there should be a greater incentive to challenge them or violate them,
leading to more litigation
Even if we imagine that courts do not consciously favor efficiency, but just
randomly make new law a certain fraction of the time, more litigation around
inefficient rules leads to a greater chance that inefficient rules are the ones that are
overturned in favor of new rules
If the new rule is inefficient, it will still lead to a large amount of litigation
But if it’s efficient, it will lead to less, and is therefore more likely to survive
And so the common law would evolve, over time, in the direction of efficiency
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(Cooter and Ulen concede that while this is an appealing argument, it may be a
fairly weak effect
This is because the private gain from challenging a “bad” law is different from the
social gain
If I go to court and get an inefficient law overturned, there is a positive externality
on the rest of society
Because I bear most of the cost of doing this, but don’t get all of the benefit, the
incentives to challenge inefficient laws are not that strong, and therefore it won’t
happen as much as it “should”.)
However, there’s an opposing view that litigation will not always lead to efficient laws
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A paper by Gillian Hadfield, “Bias in the Evolution of Legal Rules”
Hadfield imagines that every case is a little bit different – so the “ideal” rule
might vary from case to case
But it’s impossible to have legal rules that are too complicated/ambiguous, so the
best the court can hope to do is to be right “on average”
The court will form an opinion of what rules are efficient on average based on the
cases it sees
But the cases the court sees will not be a random sample of all possible cases
That is, since there will be a bias in which cases go to trial, the court will have a
biased view of what rules are efficient.
How does this work?
A given legal rule will have different effects on different individuals/firms
Some might find it not that costly to follow the rule: Hadfield calls these
compliers
Others will find it too costly to comply with the rule, and will choose to be
violators
And finally, some might both these options too costly, and drop out of the market
entirely.
Her point is that being right on average requires doing what is efficient, given the
true mix of compliers and violators
But the court mostly sees cases involving violators, so it is likely to choose the
rule which would be efficient if everyone in the market looked like the violators
If compliers and violators are different enough, this rule will not be efficient
overall.
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I think this is simplest to understand by an example
We made the point earlier that successive application of the Hand Rule could be
used to clarify the standard for negligence
Suppose product liability in a certain industry is covered by a simple negligence
rule, and the Hand Rule is used to determine the legal standard of care.
First, suppose all the firms in the industry face the same cost-benefit tradeoff from
taking precaution.
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precaution
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Firms initially take a low level of precaution, so there are some accidents
Some lead to lawsuits, the court finds that more precaution would have been costjustified, firms respond by taking a higher level of precaution
Eventually, some lawsuits fail because more precaution was not cost-justified, and
we’ve stumbled upon the efficient level of precaution, which is now the legal
standard for avoiding negligence
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But now suppose all the firms in the industry aren’t the same
Suppose that for whatever reason, some firms find it fairly cheap to take
precaution, while some firms find it expensive
The court can’t distinguish between these firms, so it can’t mandate different
levels of care for the two types of firms
(Or even if it could, maybe it shouldn’t.)
A legal standard for negligence would lead (in theory) to every firm taking the
same level of precaution
The level that would minimize total social costs would be based on the average
costs of all the firms in the industry. (DRAW IT)
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However, think about what would actually happen as firms applied the Hand Rule
Suppose there’s some uncertainty about the exact legal standard
Firms who can take precaution cheaply don’t have any need to run the risk – they
can set a high level of precaution, leading to very few accidents and very few
lawsuits, and be fairly sure they’ll avoid liability when accidents do occur.
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On the other hand, the firms who find it very costly to take precaution will take
less
Even if they want to meet the legal standard of care, they have a much greater
incentive to “cut it close” – to just barely meet the legal standard, rather than
exceed it by a lot
Some firms may even find precaution so costly that they choose to ignore the
legal standard and accept liability.
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But now think about the cases the court will see: they will consist almost entirely
of cases involving firms with high precaution costs
The firm can only use the information it has; so as it applies the Hand Rule, it will
constantly be assessing what precautions are cost-justified for these higher-cost
firms
So by applying the Hand Rule, courts will settle on a legal standard based on what
is cost-justified for high-cost firms; this rule would be efficient if all the firms in
the market were high-cost
But applying this rule to all the firms in the market – both the low- and the highcost firms – is inefficient. (In this case, it sets the level of precaution below the
socially optimal level, leading to too many accidents.)
Numerical example of Hadfield
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Four possible levels of precaution: none, low, medium, high
Accidents cost $1,000
Chance of an accident: 20%, 10%, 5%, 1%
Two types of firms: high-cost and low-cost
High-cost firms: $0, $60, $120, $180
Low-cost firms: $0, $30, $60, $90
Equal number of high- and low-cost firms
Efficient rule: high-cost firms should take low precaution, low-cost firms should
take high precaution
Single rule for every firm: most efficient would be for everyone to take medium
level
But if the initial rule is unclear, low-cost firms will take more precaution than
high-cost firms, so it will mostly be …
Hadfield’s claim is that this will happen not just in setting negligence standards,
but in all situations where the court adjusts legal rules based on what appears
efficient from the cases it sees
Whatever the existing rule, it will lead to some “compliers” and some “violators”
The court will mostly see cases involving violators, so it will gravitate toward
rules that would be efficient if everyone was violators
As long as compliers and violators are different enough, these rules will not be
efficient.
Hadfield doesn’t use a formal model, but argues the point fairly well
She argues that as long as there is enough heterogeneity among potential cases –
that is, as long as different cases vary enough to merit different optimal rules –
and as long as the court only learns about cases that go to trial, this bias will lead
to inefficient rules
She also discusses the assumption that courts only learn about the cases they see,
and why this is.
So that gives us a few reasons why the common law will naturally be efficient,
and one reason why it might not
There’s one other thing I thought I’d talk about today
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We saw on Tuesday that the optimal criminal system will not detect and punish
every single crime
This is for two reasons
First, some crimes may actually be efficient, although this may be pretty rare
And second, when the cost of deterrence is positive, it’s simply not worth paying
enough to deter every crime
However, we still assumed that most crimes are inefficient, and the only reason
not to punish them is the practical – it would be too costly
However, there are actually a lot of old laws still on the books in many states that
seem pretty inefficient, or, you know, stupid
One example: I grew up in Massachusetts, where you can’t buy booze on Sundays
(Bars are open, but liquor stores are closed, and the beer cases at supermarkets is
locked from 11 Saturday night until Monday morning)
In many cases, laws were passed a long time ago, when times were different, and
for whatever reason, they’re still on the books
In that case, the law is enforced, and we just had to find a way around it – by
planning ahead and buying more beer on Saturdays
But there’s a great article I found on Slate last fall by Tim Wu, about a number of
laws that are on the books but that we, as a society, have basically decided not to
enforce at all
The article is titled “American Lawbreaking”
http://www.slate.com/id/2175730/entry/2175733/
Wu starts off with a story of New York prosecutors sitting around the office,
picking a celebrity – say, Mother Theresa – and trying to come up with a crime
they could have charged her with
Wu points out: “Full enforcement of every last law on the books would put all fo
us in prison for crimes such as “injuring a mail bag.” No enforcement of our
laws, on the other hand, would mean anarchy. Somehow, officials must choose
what laws really matter.”
He continues:
Tolerated lawbreaking is almost always a response to a political failure – the
inability of our political institutions to adapt to social change or reach a rational
compromise that reflects the interests of the nation and all concerned parties.
That’s why the American statutes are full of laws that no one wants to see fully
enforced – or even enforced at all.
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The rest of the article gives examples.
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The first example doesn’t exactly fit his premise, but it’s interesting anyway
His claim: “over the last two decades, the pharmaceutical industry has developed
a full set of substitutes for just about every illegal narcotic we have.”
That is, rather than trying to legalize street drugs – which some people argue for,
but which isn’t politically very popular – our society has developed drugs like
Ritalin, vicodin, oxycontin, and clonazepam, which may serve a “legitimate”
medical purpose in some instances, but also mimic the highs of cocaine or others
(In the case of marijuana, there have also been a number of cities whose police
chiefs, or district attorneys, have basically announced they won’t prosecute simple
possession because it’s “not a priority”)
The second example Wu gives is pornography.
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Apparently, there’s porn online
And pretty much all of it is illegal.
Federal law prohibits using a “computer service” to transport over state lines “any
obscene, lewd, lascivious, or filthy book, pamphlet, picture, motion-picture film,
paper, letter, writing, print, or other matter of indecent character.”
Wu discusses some of the history of pornography prosecution
In 1968, Congress set up a commission to look into the “shocking” problem
The commission came back with the recommendation that we repeal all obscenity
laws, and replace them with laws to protect children and control public display
(Basically, they felt, porn wasn’t a problem, as long as it was kept at home and
away from kids)
But when the report came out, President Nixon and other politicians condemned it
as “morally bankrupt” and insisted they would continue the war on smut
In the 1970s and 1980s, there were some well-publicized pornography
prosecutions
But they basically halted in the 1990s, and haven’t come back
In 2005, new Attorney General Alberto Gonzalez tried to pressure local
prosecutors to crack down on pornography. Basically, nothing happened – a few
cases were brought which involved “extreme” content, but no prosecutions of
mainstream pornography at all. Quoting a Miami attorney: “compared to
terrorism, public corruption, and narcotics, [pornography] is no worse than
dropping gum on the sidewalk.”
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Even though it’s still technically illegal, what’s actually developed is a sort of
unofficial zoning system
Rather than prohibiting the behavior, it’s regulated
Not literally regulated; but it’s prosecuted when it crosses certain lines, and
ignored otherwise
Recall the Super Bowl wardrobe malfunction – just because everyone accepts that
pornography is pseudo-legal, doesn’t mean they don’t freak out when it happens
on prime-time network TV
Prosecutors still chase down child pornographers and a few other extreme cases
that cross certain lines.
But “mainstream” porn is never prosecuted, and is therefore functionally legal
What’s interesting is not that modern society has basically legalized pornography,
but the way it’s happened:
not through legislation or the court system, but through a general consensus –
among prosecutors, the FCC, the FBI, and local police – to do nothing about it.
(The ironic part of this, of course, is that since it’s still illegal, it’s not regulated at
all.)
(Also, I believe that at least up till a few years ago, oral sex was still illegal in
about half of U.S. states. Again, not much enforcement.)
Wu also discusses copyright law and illegal immigration, but the other one I found
interesting was how the Amish and Mormons basically became exempt from many laws.
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The Amish refuse to pay Social Security taxes, and do not accept Social Security
benefits; they will not educate their children beyond eighth grade
To some degree, polygamy is still practiced among some Mormons
Wu gives some history of the legal treatment of these groups: occasional
prosecutions, then backlash, and how we seem to have reached a sort of truce: the
Amish (and some Mormons) keep to themselves and keep quiet about what
they’re doing, and the rest of society pretty much lets them be, not worrying about
the fact that they’re breaking certain laws
Again, there is a de facto zoning system. When a Mormon polygamist went on
Sally Jessy Raphael and Jerry Springer to discuss and defend his lifestyle, he was
tried and convicted. When it’s done quietly, in scattered communities outside of
big cities, polygamy apparently still goes on, and is tolerated.
(The Amish are quite open about how they live, but mostly keep to themselves,
and nobody seems to worry much about it)
These all don’t fit that neatly into our usual framework of criminal law
That is, we assume that crimes are crimes because society wants them to be crimes
In these cases, society seems not to care whether certain things are crimes, but also not
care enough to make them legal
Or, you could argue, the political system is “broken” enough that certain things can’t be
fixed, and so we adapt to that by ignoring certain laws that everyone agrees are silly
An even more obvious example: speeding
Most freeways in California have speed limits of 65
Most drivers go 80
I once got pulled over…
“Keep it around 80 and everyone’s happy”
Roads are better than they used to be, cars are better, maybe 65 isn’t the optimal speed
limit
But it’s easier to just not enforce it that tightly than to actually change it