The Economics of Litigation and Arbitration: An Application to Franchise Contracts

32 Pages Posted: 11 Apr 2001  

Keith N. Hylton

Boston University - School of Law

Christopher R. Drahozal

University of Kansas School of Law

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Abstract

If we define the deterrence benefits from contract enforcement as avoided harms net of avoidance costs, we should expect contracting parties to choose the dispute resolution forum that provides the greatest difference between deterrence benefits and dispute resolution costs for every type of dispute. We apply this general framework to franchise contracts and conduct an empirical analysis of the determinants of arbitration agreements among franchising parties. Although it is obvious that contracting parties have an incentive to choose arbitration in order to reduce dispute-resolution costs, there have been no studies of the importance of deterrence concerns. We examine the deterrence hypothesis here and find a great deal of support for it. Indeed, our results suggest that deterrence factors generally outweigh litigation costs in the design of dispute resolution agreements. We find that the probability of arbitration is significantly higher when the parties are likely to rely on implicit contract terms for governance and compliance with those terms is difficult to ensure.

Keywords: contract law, tort law, law and econ, litigation, governance, franchising, arbitration

JEL Classification: K00, K12, K13, K41

Suggested Citation

Hylton, Keith N. and Drahozal, Christopher R., The Economics of Litigation and Arbitration: An Application to Franchise Contracts. Boston Univ. School of Law Working Paper No. 01-03. Available at SSRN: https://ssrn.com/abstract=266545 or http://dx.doi.org/10.2139/ssrn.266545

Keith N. Hylton (Contact Author)

Boston University - School of Law ( email )

765 Commonwealth Avenue
Boston, MA 02215
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Christopher R. Drahozal

University of Kansas School of Law ( email )

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Lawrence, KS 66045-7577
United States
785-864-9239 (Phone)
785-864-5054 (Fax)

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