CENTER FOR LAW AND ECONOMIC STUDIES
Spring 2003
Columbia Law and Economic Workshop Series

All Spring workshop dates will be held here at Columbia Law in Room 101, at 4 PM.

Topic: "What Works in Securities Laws?," authored with Florencio Lopez-de-Silanes and Andrei Shleifer

Abstract - We examine the effect of securities laws on market development in 49 countries. We find that public enforcement of laws benefits securities markets, especially in countries with efficient government bureaucracies. We also find that organization of private enforcement through disclosure and liability rules benefits securities markets in countries with both efficient and inefficient government bureaucracies.

Topic: "Legal Transitions, Rational Expectations, and Legal Progress"

Abstract - This Article focuses on two questions that bear critically on the choice of a welfare-maximizing transition policy. First, to what extent and in what circumstances can we assume that private parties will make unbiased assessments of the likelihood and nature of legal change and of the transition policy that will be applied to allocate the costs and benefits of that change? Second, to what extent and in what circumstances can we assume that legal change will generally, over the long run, be desirable? To put this second question differently, in what areas of law can we assume that there will be "legal progress," and in what areas not? As it turns out, under the consequentialist (or law-and-economics) framework that has come to dominate legal scholarship on issues of legal transition, how these two questions are answered will determine the extent to which certain types of legal change should be applied retroactively or prospectively or somewhere in between.

Topic: "Organizations as Internal Capital Markets"

Abstract - This paper contributes to the theory of the firm and of organizations, and is in the spirit of recent work by Hansmann and Kraakman who focus on the importance of legal boundaries. The boundaries of organizations such as firms, trusts and collateral, define internal capital markets within which resources may be easily redeployed. Obstacles to such flexibility may be desirable to address agency problems. The paper examines optimal; flexibility and the optimal boundaries in the context of both commercial and charitable enterprises.

Topic: "A Political Economy Theory of Corporate Crime Legislation"

Abstract - Corporate crime has once again become an important issue on the US legislative agenda. Following the recent economic downturn and the spectacular revelations of corporate wrongdoing, Congress and the various regulatory bodies have begun to tighten the law and enhance honesty and completeness in disclosure. The recent enactment of the Sarbanes-Oxley Act of 2002 is one example and adds to the already sprawling and ever increasing area of corporate criminal liability. However, the continued and rather explosive growth of corporate crime legislation leaves one with a rather strange puzzle: How can such a state of the world arise? After all, corporations and business interests are considered some of the most powerful and effective lobbyists, if not the most effective and powerful, in the country. Yet, we witness the continued expansion of legislation that criminalizes some of their behavior. Indeed, one estimate suggests that there are over 300,000 federal regulatory offenses that can be prosecuted criminally. The sheer magnitude of corporate crime legislation leaves one wonderstruck as to how this could have happened given that business interests should be able to lobby to protect themselves. This paper sets out to answer this puzzle.

An answer is important not only for purposes of understanding the political dynamics of our current state of regulation, but also because it may provide insights into the effectiveness of our current approach for regulating corporate wrongdoing. Overall, my analysis suggests that corporate criminal liability – the imposition of criminal sanctions on the corporate entity – serves little deterrent or expressive function above that offered by corporate civil liability. Further, most corporate criminal liability may not be all that harmful for business interests, may benefit them at times, and thus may not often be actively opposed by them. These accounts provide some explanations for why corporate criminal liability has grown so much so recently. This also leads to some interesting normative conclusions. In particular, it leads to the counter-intuitive result that if one starts with the view that there is under-deterrence of corporate wrongdoing then one would probably prefer to reduce corporate criminal liability and focus more on corporate civil liability and managerial liability.

Topic: "A Theory of Self-Enforcing Indefinite Agreements"

Abstract - All contracts are incomplete. But incomplete contracts differ along several key dimensions. Many contracts are incomplete because parties decline to condition performance on future states that they cannot observe or verify to courts. In these cases, the incompleteness is exogenous to the contract. Other agreements, however, appear to be Adeliberately@ incomplete in the sense that parties decline to condition performance on available, verifiable measures that could be specified in the contract at relatively low cost. Thus, incompleteness is endogenous to these agreements suggesting that the parties had other reasons for leaving the terms in question unspecified.

Traditional contract law doctrine appears to track this distinction. One of the core principles of contact law is the requirement of definiteness. An agreement will not be enforced as a contract if it is uncertain and indefinite in its material terms. It is widely believed, however, that the indefiniteness doctrine is largely ignored by contemporary courts. But the conventional wisdom is false. A study of the contemporary case law on indefinite contracts reveals some striking facts. First, there is a surprisingly high volume of litigation. Second, despite the perceived influence of the Uniform Commercial Code and despite widespread academic support for more judicial gap filling, the indefiniteness doctrine lives on in the common law of contract. In literally dozens of cases, American courts dismiss claims for breach of contract on the grounds of indefiniteness, often without granting any relief to the disappointed promisee. This evidence raises a fundamental question: Why do parties write deliberately incomplete agreements in the shadow of a robust indefiniteness doctrine?

One answer is that these agreements may be self-enforcing. But most of the recently litigated cases do not appear to be self-enforcing in the traditional sense. Rather, most are isolated transactions in heterogeneous markets between strangers trading at arms length. Recent work in experimental economics suggests, however, that the domain of self-enforcing contracts may be considerably larger than has been conventionally understood. A robust result of these experiments is that a significant fraction of individuals behave as if reciprocity were an important motivation (even in isolated interactions with strangers) while an equal fraction react as if motivated entirely by self interest. These experiments support a theory that predicts that deliberately incomplete contracts that rely on self-enforcement through reciprocal fairness between strangers is more efficient than the alternative of more complete, legally enforceable agreements. The potency of reciprocal fairness as a method of self-enforcement explains (and justifies) the resiliency of the common law indefiniteness doctrine in the face of a contemporary academic consensus in favor of expanding the scope of legal regulation.

Topic: "Where Do Transactions Come From? A Perspective from Engineering Design"

Abstract - Our goal in this paper is to explain the location of transactions (and contracts) in a system of production. Systems of production are engineered systems, and where to place "transactions" is one of the basic engineering problems that the designers of such systems face. We begin by characterizing a system of production as a network of tasks that agents perform and transfers of material, energy and information between and among agents. We then argue that whereas transfers between agents are absolutely necessary and ubiquitous, transaction costs make it impossible for all transfers to be transactions. The particular transaction costs we are concerned with are the so-called "mundane" costs of creating a transactional interface: the costs of defining what is to be transferred, of counting the transfers, and of valuing and paying for the individual transfers. We go on to argue that the modular structure of a system of production determines the system's pattern of mundane transaction costs. In this fashion, the process of engineering design necessarily establishes (1) where transactions can go in a system of production; and (2) what types of transactions are feasible and cost-effective in a given location.

Topic: "Decreasing Liability Contracts"

Abstract - Performance on many contracts occurs in phases. As time passes, the promisor sinks more costs into the contract and less expenditure remains to complete performance. For phased performance, we show that optimal liability for the breaching party decreases as the remaining costs of completing performance decrease. In brief, efficiency requires a decreasing liability contract (DLC). To implement such a contract, we recommend deducting past expenditure on incomplete performance from liability.

Please direct your questions to
Thelma Twyman 
e. ttwyman@columbia.edu
t. 212.854.3739