Determining if Mandatory Arbitration is 'Fair': Asymmetrically Held Information and the Role of Mandatory Arbitration in Modulating Uninsurable Contract Risks
New York Law School Law Review, Vol. 54, p. 187, 2009
53 Pages Posted: 26 Nov 2009
Date Written: November 24, 2009
In this article I posit that mandatory arbitration serves to neutralize a class of business risks rarely considered by those who want to eliminate it.
Business entities enter into business relationships based on the best available current information about those with whom they do business. Unfortunately, that information can degrade over time due to undisclosed evolving circumstances thereby leaving the business entity at a distinct disadvantage. In other words, asymmetrically-held information can create "new" risks, risks that weren't anticipated when the original relationship came into being.
These "new" risks are particularly pronounced in situations involving consumer credit, employment and franchises. And for the most part they are uninsurable. For those providing credit the risk involves the deterioration of credit worthiness; for an employer it involves morale and business interruption; and for the franchiser it involves the reputation of the franchise.
Once discovered, survival requires a business entity to search for any and all measures to defuse the "new" risk and restore the equilibrium. Mandatory arbitration is one such measure because by design it is flexible, cost efficient and speedy. Mandatory arbitration makes it possible for the business entity to quickly secure an award with relief appropriate to the circumstances. It not only levels the playing field but it acts as a partial substitute for insurance because it transfers the impact of the "new" risk away from the business entity.
Congress is currently considering amendments to the Federal Arbitration Act that would ban mandatory arbitration clauses in contracts for consumer credit, employment and franchises. The Arbitration Fairness Act of 2009 fails to take into account the market driven need for self help measures such as mandatory arbitration. This article looks at the role asymmetric information plays from the perspective of the business entity and at the potential impact that the proposed reforms are likely to have on the commercial environment.
Keywords: arbitration, mandatory arbitration, asymmetric information, arbitration fairness act of 2009
JEL Classification: D80, D81, D82, D83, D84, D89, K12, K19, K41, K49
Suggested Citation: Suggested Citation