IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Log in (now much improved!) to save this article

Completing Contracts in the Shadow of Costly Verification

Listed author(s):
  • Albert Choi
  • George Triantis
Registered author(s):

    Contract theory typically holds that verification costs are obstacles to complete contracting; yet real-world contracts often contain provisions that seem costly to verify. We show how verification (or litigation) costs operate as a screen on the promisee's incentive to sue and as an effective sanction against the breaching promisor. As long as the court's judgment is correlated with the promisor's behavior, the parties can design a set of prices (including damages) to provide additional incentive to the promisor through an off-the-equilibrium, credible litigation threat. We show that the parties may prefer to adopt a costly signal over a costless signal. Rather than focus solely on either the problems of adjudication or those of contracting (without sufficient regard to how the disputes will be resolved in the future), we take a more comprehensive approach by looking at the design of contracts in anticipation of the path of the adjudication process. (c) 2008 by The University of Chicago. All rights reserved.

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

    File URL: http://dx.doi.org/10.1086/589665
    File Function: link to full text
    Download Restriction: Access to the online full text or PDF requires a subscription.

    As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.

    Article provided by University of Chicago Press in its journal The Journal of Legal Studies.

    Volume (Year): 37 (2008)
    Issue (Month): 2 (06)
    Pages: 503-534

    as
    in new window

    Handle: RePEc:ucp:jlstud:v:37:y:2008:i:2:p:503-534
    Contact details of provider: Web page: http://www.journals.uchicago.edu/JLS/

    References listed on IDEAS
    Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

    as
    in new window

    1. George Triantis, 2008. "Evidentiary Arbitrage: The Fabrication of Evidence and the Verifiability of Contract Performance," Journal of Law, Economics and Organization, Oxford University Press, vol. 24(1), pages 72-94, May.
    2. Mathias Dewatripont & Patrick Bolton, 2005. "Contract theory," ULB Institutional Repository 2013/9543, ULB -- Universite Libre de Bruxelles.
    3. Che, Y.K. & Hausch, D.B., 1997. "Cooperative Investments and the Value of Contracting," Working papers 9714, Wisconsin Madison - Social Systems.
    4. Polinsky, A Mitchell & Shavell, Steven, 1989. "Legal Error, Litigation, and the Incentive to Obey the Law," Journal of Law, Economics and Organization, Oxford University Press, vol. 5(1), pages 99-108, Spring.
    5. Hart, Oliver, 1995. "Firms, Contracts, and Financial Structure," OUP Catalogue, Oxford University Press, number 9780198288817.
    6. Hylton, Keith N, 1990. "Costly Litigation and Legal Error under Negligence," Journal of Law, Economics and Organization, Oxford University Press, vol. 6(2), pages 433-452, Fall.
    7. Grossman, Sanford J & Hart, Oliver, 1985. "The Cost and Benefits of Ownership: A Theory of Vertical and Lateral Integration," CEPR Discussion Papers 70, C.E.P.R. Discussion Papers.
    8. Polinsky, A. Mitchell & Rubinfeld, Daniel L., 1988. "The deterrent effects of settlements and trials," International Review of Law and Economics, Elsevier, vol. 8(1), pages 109-116, June.
    9. Hardman Moore, John & Hart, Oliver, 1985. "Incomplete Contracts and Renegotiation," CEPR Discussion Papers 60, C.E.P.R. Discussion Papers.
    10. Antonio Bernardo & Eric L. Talley & Ivo Welch, 1999. "A Theory of Legal Presumptions," Yale School of Management Working Papers ysm118, Yale School of Management.
    11. Kahan, Marcel, 1989. "Causation and Incentives to Take Care under the Negligence Rule," The Journal of Legal Studies, University of Chicago Press, vol. 18(2), pages 427-447, June.
    12. Robert M. Townsend, 1979. "Optimal contracts and competitive markets with costly state verification," Staff Report 45, Federal Reserve Bank of Minneapolis.
    13. Alan Schwartz & Joel Watson, "undated". "The Law and Economics of Costly Contracting," Yale Law School John M. Olin Center for Studies in Law, Economics, and Public Policy Working Paper Series yale_lepp-1004, Yale Law School John M. Olin Center for Studies in Law, Economics, and Public Policy.
    14. Fahad Khalil, 1997. "Auditing Without Commitment," RAND Journal of Economics, The RAND Corporation, vol. 28(4), pages 629-640, Winter.
    15. Hadfield, Gillian K, 1994. "Judicial Competence and the Interpretation of Incomplete Contracts," The Journal of Legal Studies, University of Chicago Press, vol. 23(1), pages 159-184, January.
    16. Craswell, Richard & Calfee, John E, 1986. "Deterrence and Uncertain Legal Standards," Journal of Law, Economics and Organization, Oxford University Press, vol. 2(2), pages 279-303, Fall.
    17. Kaplow, Louis & Shavell, Steven, 1994. "Accuracy in the Determination of Liability," Journal of Law and Economics, University of Chicago Press, vol. 37(1), pages 1-15, April.
    18. Douglas Gale & Martin Hellwig, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Oxford University Press, vol. 52(4), pages 647-663.
    19. Kaplow, Louis, 1995. "A Model of the Optimal Complexity of Legal Rules," Journal of Law, Economics and Organization, Oxford University Press, vol. 11(1), pages 150-163, April.
    Full references (including those not matched with items on IDEAS)

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    When requesting a correction, please mention this item's handle: RePEc:ucp:jlstud:v:37:y:2008:i:2:p:503-534. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Journals Division)

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.