Why Do Business Losses Cause Conflict?

Abstract

Evidence suggests that contractual conflicts, defined for the purpose of the present article simply as a decrease in the level of cooperativeness of the parties, are more prone to occur when one or both parties to a contract have suffered a significant loss. While this tendency can be explained in various ways within conventional contract theory (without behavioral assumptions), it is argued that behavioral theories involving motivated reasoning and reciprocity deepen our understanding of it. In short, social psychological experiments suggest that losses are likely to trigger motivated, self‐serving perceptions and beliefs, which in turn are likely to induce both negative reciprocity and counter‐productive acts aimed at bolstering self-image. To strengthen this claim that motivated reasoning and reciprocity are important for understanding contractual conflict as arising in the wake of a loss, the article also summarizes some of the experimental evidence that points to the existence of motivated reasoning and to its role in explaining conflict.

Keywords: Contractual conflict, Business losses, Behavioural theory, Contract theory, Law and Economics, Psychology

JEL Classification: K00, K12, D86, D89