Abstract

http://ssrn.com/abstract=2195749
 
 

References (29)



 
 

Footnotes (19)



 


 



Managing Reputation with Litigation: Why Legal Sanctions Can Work Better than Market Sanctions


Scott Baker


Washington University in Saint Louis - School of Law

Albert H. Choi


University of Virginia School of Law

August 20, 2013

Virginia Law and Economics Research Paper No. 2013-02
Washington University in St. Louis Legal Studies Research Paper No. 13-03-01

Abstract:     
A long-lived firm sells a good to a sequence of short-lived consumers, where the quality of the good imperfectly depends on the firm's costly, unobservable effort. To solve the moral hazard problem, the firm can promise to pay damages (formal sanctions) or facilitate reputational punishment by future consumers (informal sanctions). Formal sanctions create litigation costs and the potential for court error (two elements of verification cost), while informal sanctions lead to inefficient failures to trade. We show that formal sanctions are generally better at deterrence than informal sanctions. Increasing damages raises deterrence by both inducing more lawsuits (marginal effect) and making existing lawsuits a stronger deterrent (infra-marginal effect). Increasing reputational sanctions, by contrast, lacks the second, infra-marginal effect. In equilibrium, the firm relies on formal sanctions as much as it can, so long as the cost of nuisance suits (induced by court error) does not outweigh the infra-marginal benefit.

Number of Pages in PDF File: 26

Accepted Paper Series


Download This Paper

Date posted: January 2, 2013 ; Last revised: August 21, 2013

Suggested Citation

Baker, Scott and Choi, Albert H., Managing Reputation with Litigation: Why Legal Sanctions Can Work Better than Market Sanctions (August 20, 2013). Virginia Law and Economics Research Paper No. 2013-02; Washington University in St. Louis Legal Studies Research Paper No. 13-03-01. Available at SSRN: http://ssrn.com/abstract=2195749 or http://dx.doi.org/10.2139/ssrn.2195749

Contact Information

Scott A. Baker
Washington University in Saint Louis - School of Law ( email )
Campus Box 1120
St. Louis, MO 63130
United States
Albert H. Choi (Contact Author)
University of Virginia School of Law ( email )
580 Massie Road
Charlottesville, VA 22903
United States

Feedback to SSRN


Paper statistics
Abstract Views: 536
Downloads: 159
Download Rank: 107,536
References:  29
Footnotes:  19
People who downloaded this paper also downloaded:
1. Contracting About Private Benefits of Control
By Ronald Gilson and Alan Schwartz

© 2014 Social Science Electronic Publishing, Inc. All Rights Reserved.  FAQ   Terms of Use   Privacy Policy   Copyright   Contact Us
This page was processed by apollo8 in 0.266 seconds