The Inefficiency of Contractually-Based Liability with Rational Consumers

Posted: 22 Oct 2005

See all articles by Abraham L. Wickelgren

Abraham L. Wickelgren

University of Texas at Austin - School of Law; University of Texas at Austin - Center for Law, Business, and Economics

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Abstract

The prevailing view in the law and economics literature is that preventing firms and consumers from contracting out of mandatory liability rules is optimal only if consumers are irrational or misperceive the risks of the products they buy. In this paper, I show that even if consumers do correctly judge a product's risk, if they cannot directly observe the safety characteristics of that product, then allowing firms and consumers to choose their own liability rules cannot lead firms to make efficient investments in product safety (unless the efficient level of investment is zero). Because the legal system is costly, consumers always have an incentive to waive liability in exchange for a lower price after safety investments are sunk. If they do so, however, firms will anticipate this, thereby undermining their incentive to invest in safety. Mandatory product liability provides a mechanism for consumers and firms to commit not waive liability.

Suggested Citation

Wickelgren, Abraham L., The Inefficiency of Contractually-Based Liability with Rational Consumers. Journal of Law, Economics, and Organization, Vol. 22, No. 1, Spring 2006. Available at SSRN: https://ssrn.com/abstract=822256

Abraham L. Wickelgren (Contact Author)

University of Texas at Austin - School of Law ( email )

727 East Dean Keeton Street
Austin, TX 78705
United States

University of Texas at Austin - Center for Law, Business, and Economics

Austin, TX 78712
United States

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