Cadillac Contracts and Up-Front Payments: Efficient Investment Under Expectation Damages

Aaron Edlin ()

No 4915, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper shows that up-front payments can play a crucial role in providing efficient investment incentives when contracts are incomplete. They can eliminate the overinvestment effect identified by Rogerson [1984] and Shavell [1980] when courts use an expectation damage remedy. This method extends to complex contracting situations if parties combine up-front payments with what we call 'Cadillac' contracts (contracts for a very high quality or quantity). This combination provides efficient investment incentives in complex contracting problems when an expectation damage remedy is accompanied by a broad duty to mitigate damages. This indicates that an expectation remedy is well-suited to multidimensional, but one-sided, investment problems, in contrast to specific performance, which Edlin and Reichelstein [1993] showed is well-suited to two-sided, but unidimensional, investment problems.

JEL-codes: K L (search for similar items in EconPapers)
Date: 1994-11
Note: LE
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Journal Article: Cadillac Contracts and Up-Front Payments: Efficient Investment under Expectation Damages (1996)
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