Neither Saints Nor Devils: A Behavioral Analysis of Attorneys' Contingent Fees

Abstract

The market for legal services, and particularly lawyers' Contingent Fee (CF) arrangements, have been extensively studied from legal, economic and sociological standpoints, but curiously not from a behavioral perspective. Building on Kahneman and Tversky's Prospect Theory, this paper presents a series of experiments designed to reveal people's preferences regarding attorneys' fees and their perceived fairness. Contrary to common economic wisdom, we demonstrate that loss aversion (rather than risk aversion or incentivizing the lawyer to win the case) plays a major role in clients' preferences for CF. Facing a choice between a mixed gamble and a pure positive one, plaintiffs prefer CF even if it yields an expected fee that is two or three times higher than a non-contingent one. At the same time, defendants, who face a choice between two pure negative gambles, are typically risk seeking and prefer fixed fees. Our findings indicate that information problems and lack of alternatives probably do not loom large on clients' choice of fee arrangement. It is also shown that, counter-intuitively, people often judge CF arrangements that yield a low effective hourly rate for the lawyer as more unfair than CF arrangements that yield a high effective hourly rate. We discuss the policy implications of our findings in some detail.

Keywords: contingent fees, loss aversion, prospect theory, framing, fairness, litigation, behavioral law and economics, assortative matching, focal points, status quo bias, risk, decision making

JEL Classification: K4, K41, D8, D81, L1