Optimal Remedies for Bilateral Contracts

Abstract

In a bilateral contract, should a breaching party be allowed to force the performance of his non-breaching counterpart? Should a breaching party be able to collect damages in contract if his counterpart was also in breach? In this paper we examine these interrelated questions. We consider situations where parties enter into a bilateral contract making reciprocal promises of performance. We extend the standard models of remedies in contracts to consider alternative breach remedies. The paper shows the distortion of incentives created by the application of a defense of non-performance in unilateral breach cases and by the application of preclusion rules in bilateral breach cases.

Keywords: Bilateral Contracts, Contract-Specific Investments, Remedies for Breach, Defense of Non-Performance, Preclusion Rules

JEL Classification: K12, K41