Abstract
In this study, we follow Ayres and Gertner and focus on private contracts between a buyer and a seller in a model based on the well-known case of Hadley v. Baxendale. Then, we examine the problem of whether the normal-damage (the seller is liable for the buyer’s normal loss in case provision fails, also known as the Hadley rule) or full-damage (the seller is liable for the full loss, whatever it is) rule is more effective in settling contract violations. The results of the analysis show that the full-damage rule has a better information disclosure effect than the normal-damage rule, unlike in previous studies, indicating that the full-damage rule may be desirable.
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Notes
- 1.
- 2.
Sakai (2016) considered the case where the British rule dictates the burden of litigation cost under the Hadley rule.
- 3.
If c=0 and there is no transaction or litigation cost, the Coase theorem holds for this model, as in previous studies like Mas-Colell et al. (1995).
- 4.
See Fig. 7.1.
Fig. 7.1 
Social welfare under the case of B N ≥ c p
- 5.
See Fig. 7.2.
Fig. 7.2 
Social welfare under the case of B N < c p ≤ B S
- 6.
There are many equilibria in addition to p = p S a. However, p = p S a maximizes the gain to low-risk buyers in a pooling equilibrium, and the seller analyzes whether the buyer disclosing the information is low-risk type at that time.
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Sakai, K. (2017). Optimal Default Rule for Breach of Contract. In: Naito, T., Lee, W., Ouchida, Y. (eds) Applied Approaches to Societal Institutions and Economics. New Frontiers in Regional Science: Asian Perspectives, vol 18. Springer, Singapore. https://doi.org/10.1007/978-981-10-5663-5_7
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