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Contentious contracts

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Author Info
Hege, U.
Viala, P. (Tilburg University, Center for Economic Research)

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Abstract

This paper offers an explanation of rationally incomplete contracts where incompleteness refers to unforeseen contingencies. Agents enter a relationship with two-sided moral hazard in which a commitment to discard parts of the joint resources may be ex ante efficient. This happens through costly legal dispute which arises when contract terms are missing for the undesirable outcomes. We show that an optimal contract needs only to specify the obligation for the more litigious party to assure a certain output level - the threshold between foreseen and unforeseen contingencies - and a linear sharing rule for the foreseen contingencies. If litigation reveals some information about the effort levels of the agents, less costly dispute is typically needed and the allocation will improve.

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Publisher Info
Paper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 109.

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Date of creation: 1997
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Handle: RePEc:dgr:kubcen:1997109

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Web page: http://center.uvt.nl

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Find related papers by JEL classification:
D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information
K12 - Law and Economics - - Basic Areas of Law - - - Contract Law

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    Other versions:
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  17. Gale, Douglas & Hellwig, Martin, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Blackwell Publishing, vol. 52(4), pages 647-63, October. [Downloadable!] (restricted)
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  22. Jean Tirole, 1999. "Incomplete Contracts: Where Do We Stand?," Econometrica, Econometric Society, vol. 67(4), pages 741-782, July.
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  24. Cooter, Robert D & Rubinfeld, Daniel L, 1989. "Economic Analysis of Legal Disputes and Their Resolution," Journal of Economic Literature, American Economic Association, vol. 27(3), pages 1067-97, September. [Downloadable!] (restricted)
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