ECONOMIC ANALYSIS OF CONTRACTS LAW

Economic Analysis of Contracts Law

Economic Analysis of Contracts Law

Introduction

Contract means a specification of the actions that named parties are supposed to take at various times, generally as a function of the conditions that hold. The actions typically pertain to delivery of goods, performance of services, and payments of money, and the conditions include uncertain contingencies, past actions of parties, and messages sent by them (Aghion, 1990).

For example, a contract might state that a photographer should take pictures at a wedding on February 1st, that the buyer should pay the photographer $1,000 within a week of the wedding that the buyer may cancel if he notifies the photographer by January 1st, and that the photographer may cancel if he becomes ill.

It is apparent that because the notions of actions and of conditions are broad, the conception of a contract is very broad. A contract will be said to be completely specified (or simply complete) if the list of conditions on which the actions are based is explicitly exhaustive, that is, if the contract provides literally for each and every possible condition in some relevant universe of conditions. In a contract for a photographer to take wedding photographs, suppose that the universe of conditions is everything that could happen to the photographer (becoming ill, receiving an offer to take photographs at another wedding the same day) and everything that could happen to the wedding couple (becoming ill themselves, breaking off their engagement). A completely specified contract would then have to include an explicit provision for each of these possible conditions pertaining to the photographer and to the wedding couple. Although, as we will discuss, contracts are far from completely specified in reality, the concept of a complete contract will be helpful for clarifying our thinking about contracts. Moreover, we will sometimes want to simplify by assuming that the universe of relevant conditions is small (we might suppose that it is only: the wedding photographer either becomes ill, or he does not), in which case we can well imagine a completely specified contract (Aghion, 1990).

A contract will be said to be incomplete if it is not completely specified, which is to say, if the contract does not list explicitly all the possible conditions in the universe under consideration. For example, a contract that reads “Photographer shall take wedding pictures on March 14,” would obviously be incomplete because it does not list any conditions; so would a contract that says “Photographer shall take wedding pictures on March 14, unless the photographer develops appendicitis,” as this contract mentions only the single condition of appendicitis in the universe of possible conditions. Note that although these two contracts are incomplete, they do implicitly provide complete instructions for what the parties are to do under all conditions. The contract that says simply that the photographer shall take wedding pictures on March 14 implies that he should take the pictures under all conditions, even though it does not state that ...