Econ 522 Economics of LawMonday…Slide 2MisinformationFraud and Failure to DiscloseFrustration of PurposeMutual MistakeAnother principle: knowledge and controlUnilateral mistakeSlide 10Unilateral mistake: Laidlaw v Organ (U.S. Supreme Court, 1815)Back to duty to discloseSlide 13Unilateral mistake: productive versus redistributive informationSlide 14Vague contract termsFairnessContracts of adhesionAdhesion?Slide 20UnconscionabilityUnconscionability: Williams v Walker-Thomas Furniture (CA Dist Ct, 1965)Slide 23Slide 24Slide 24Three broad types of remedy for breach of contractExpectation damagesReliance damagesOpportunity cost damagesExample: expectation, reliance, and opportunity cost damagesSlide 31Ranking damagesHawkins v McGee (“hairy hand case”)Slide 34Recapping different types of damagesOther court-ordered remediesSlide 37Slide 38Party-designed remediesPenalty DamagesLiquidated damagesPenalty damagesPenalty clausesSlide 44Econ 522Economics of LawDan QuintSpring 2011Lecture 132Regulations/immutable rulesDerogation of public policyFormation defenses and performance excusesIncompetence (but not drunkenness)Duress and necessityImpossibility, and determining the efficient bearer of a riskToday: more ways to get out of a contractMonday…3Contracts based onbad information4Four doctrines for invalidating a contract based on faulty informationFraudFailure to discloseFrustration of purposeMutual mistakeMisinformation5Fraud violates “negative duty” not to misinformIn some circumstances, positive duty to disclose certain informationCivil law: contract may be voided if you did not supply information you should have (“failure to disclose”)Common law: seller is not forced to disclose everything he knowsMust warn about hidden dangersNeed not share information that makes product less valuable but not dangerousException: new products come with “implied warranty of fitness”We’ll see another exception shortlyFraud and Failure to Disclose6Both parties based a contract on the same bad information contract may be voided due to frustration of purposeCoronation CasesRooms rented out with view of new king’s coronation paradeParade was postponed, owners still tried to collect rentCourts ruled change in circumstance had frustrated the purpose of the original contracts, which were therefore void“When a contingency makes performance pointless, assign liability to the party who can bear the risk at least cost”Frustration of Purpose7Frustration of purpose: circumstances changed after the contract was signedMutual mistake: circumstances changed before the contract was signed, but the parties didn’t know about itEnforcing the contract would be like forcing involuntary exchangeCoase: we expect voluntary exchange to be efficientBut involuntary exchange may not beMutual Mistake8Hadley v Baxendale (miller and shipper)Hadley knew shipment was time-criticalBut Baxendale was deciding how to ship crankshaft (boat or train)A general principle about information: efficiency generally requires uniting knowledge and controlContracts that unite knowledge and control are generally efficient, should be upheldContracts that separate knowledge and control may be inefficient, should more often be set asideAnother principle: knowledge and control9Mutual mistake: neither party had correct informationContract neither united nor separated knowledge and controlUnilateral mistake: one party has mistaken informationI know your car is a valuable antique, you think it’s worthlessYou sell it to me at a low priceContracts based on unilateral mistake are generally upheldUnilateral mistake10Mutual mistake: neither party had correct informationContract neither united nor separated knowledge and controlUnilateral mistake: one party has mistaken informationI know your car is a valuable antique, you think it’s worthlessYou sell it to me at a low priceContracts based on unilateral mistake are generally upheldContracts based on unilateral mistake generally unite knowledge and controlAnd this creates an incentive to gather informationUnilateral mistake11War of 1812: British blockaded port of New OrleansPrice of tobacco fell, since it couldn’t be exportedOrgan (tobacco buyer) learned the war was overImmediately negotiated with Laidlaw firm to buy a bunch of tobacco at the depressed wartime priceNext day, news broke the war had ended, price of tobacco went up, Laidlaw suedSupreme Court ruled that Organ was not required to communicate his informationUnilateral mistake: Laidlaw v Organ (U.S. Supreme Court, 1815)12Under common law, seller required to inform buyer about hidden safety risks, but not other informationBut…Obde v Schlemeyer (1960)Seller knew building was infested with termites, did not tell buyerTermites should have been exterminated immediately to prevent further damageCourt in Obde imposed duty to discloseBack to duty to disclose13Under common law, seller required to inform buyer about hidden safety risks, but not other informationBut…Obde v Schlemeyer (1960)Seller knew building was infested with termites, did not tell buyerTermites should have been exterminated immediately to prevent further damageCourt in Obde imposed duty to discloseMany states require used car dealers to reveal major repairs done, sellers of homes to reveal certain types of defects…Back to duty to disclose14Productive information: information that can be used to produce more wealthRedistributive information: information that can be used to redistribute wealth in favor of informed partyCooter and UlenContracts based on one party’s knowledge of productive information should be enforced……especially if that knowledge was the result of active investmentContracts based on one party’s knowledge of purely redistributive information, or fortuitously acquired information, should not be enforcedUnilateral mistake: productive versus redistributive information15Other reasons a contract may not be enforced16Courts will generally not enforce contract terms that are overly vagueCan be thought of as a penalty defaultBut some exceptionsParties may commit to renegotiating the contract “in good faith” under certain contingenciesVague contract terms17Bargain theory: courts ask only whether a
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