Should Courts Always Enforce What Contracting Parties Write?

Luca Anderlini, Leonardo Felli () and Andrew Postlewaite ()

PIER Working Paper Archive from Penn Institute for Economic Research, Department of Economics, University of Pennsylvania

Abstract: We find an economic rationale for the common sense answer to the question in our title - courts should not always enforce what the contracting parties write. We describe and analyze a contractual environment that allows a role for an active court. An active court can improve on the outcome that the parties would achieve without it. The institutional role of the court is to maximize the parties' welfare under a veil of ignorance. We study a buyer-seller model with risk-neutral agents and asymmetric information. The court must decide when to uphold a contract and when to void it. The parties know their private information at the time of contracting, and this drives a wedge between ex-ante and interim-efficient contracts. In particular, if the court enforces all contracts, inefficient pooling obtains in equilibrium. By voiding some contracts the court is able to induce them to separate, and hence improve ex-ante welfare.

Keywords: Optimal Courts; Informational Externalities; Ex-Ante Welfare (search for similar items in EconPapers)
JEL-codes: C79 D74 D89 K40 L14 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cta, nep-law and nep-reg
Date: Written
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Related works:
Working Paper: Should Courts Always Enforce What Contracting Parties Write?
Working Paper: Should Courts always Enforce what Contracting Parties Write? (2006)
Working Paper: Should Courts Always Enforce What Contracting Parties Write? (2003)
Working Paper: Should Courts Always Enforce What Contracting Parties Write?
Working Paper: Should Courts Always Enforce What Contracting Parties Write? (2006)
Working Paper: Should Courts Always Enforce What Contracting Parties Write? (2004)
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