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Optimal Contracts with Enforcement Risk

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  • Gennaioli, Nicola

Abstract

I build a model where potentially biased judges verify complex states by interpreting an imperfect signal whose noise captures factual ambiguities. In a sales and a financial transaction I show that judicial biases amplify and distort factual ambiguities, creating enforcement risk. To insure against such risk, parties write simple non-contingent contracts that optimally protect the party that is most vulnerable to judicial error. These results shed light on the empirical association between law and finance and rationalize salient features of real world enforcement regimes.

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Bibliographic Info

Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8405.

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Date of creation: May 2011
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Handle: RePEc:cpr:ceprdp:8405

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Keywords: imperfect judicial enforcement; optimal contracts;

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Cited by:
  1. Andrei Shleifer & Florencio Lopez-de-Silanes & Rafael La Porta, 2008. "The Economic Consequences of Legal Origins," Journal of Economic Literature, American Economic Association, vol. 46(2), pages 285-332, June.
  2. Nicola Gennaioli & Stefano Rossi, 2006. "Contractual resolutions of financial distress," Economics Working Papers 1316, Department of Economics and Business, Universitat Pompeu Fabra, revised May 2012.
  3. Nicola Gennaioli & Enrico Perotti & Giacomo Ponzetto, 2014. "Standardized Enforcement: Legal Evolution, Contract Evolution and Standardization," Working Papers 747, Barcelona Graduate School of Economics.
  4. Nicola Gennaioli & Enrico Perotti & Giacomo A. M. Ponzetto, 2013. "Legal evolution, contract evolution and standardization," Economics Working Papers 1410, Department of Economics and Business, Universitat Pompeu Fabra, revised Jul 2014.
  5. Nicola Gennaioli & Enrico Perotti, 2009. "Standardized enforcement: Access to justice vs contractual innovation," Economics Working Papers 1329, Department of Economics and Business, Universitat Pompeu Fabra, revised Jun 2012.
  6. Ari Van Assche & Galina A. Schwartz, 2013. "Contracting Institutions and Ownership Structure in International Joint Ventures," CIRANO Working Papers 2013s-04, CIRANO.
  7. Laura Bottazzi & Marco Da Rin & Thomas Hellmann, 2007. "The Importance of Trust for Investment: Evidence from Venture Capital," Working Papers 325, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
  8. Van Assche, Ari & Schwartz, Galina A., 2013. "Contracting institutions and ownership structure in international joint ventures," Journal of Development Economics, Elsevier, vol. 103(C), pages 124-132.
  9. Yi, Lu & Zhigang, Tao, 2009. "Contract Enforcement and Family Control of Business: Evidence from China," MPRA Paper 18209, University Library of Munich, Germany.
  10. Massenot, Baptiste, 2010. "Financial development in adversarial and inquisitorial legal systems," MPRA Paper 27098, University Library of Munich, Germany.
  11. Massenot, Baptiste, 2010. "Contract enforcement, litigation, and economic development," MPRA Paper 27501, University Library of Munich, Germany.
  12. Bottazzi, L. & Da Rin, M. & Hellmann, T., 2010. "The Importance of Trust for Investment: Evidence From Venture Capital (Revision of DP 2009-43)," Discussion Paper 2010-49, Tilburg University, Center for Economic Research.

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