accident, but only one party has the actual possibility of avoiding the accident We shall consider all such possibilities when referring to the effect of alternative legal rules on the parties' behavion 2. 1 Strict Rules: No Liability and Strict Liability Strict liability can be thought of as the mirror-image of no liability. a party who occasions harm to another will compensate the victim regardless of who is at fault. This rule is the converse of no liability. No liability can in fact be thought of as strict liability on the part of the victim, in that the victim always bears the loss regardless of the parties' fault. No liability and strict liability can thus be considered the limit points in the range of possible liability rules. The choice between strict liability and no liability has obvious distributive effects in that strict liability results in the victim al ways being compensated, while no liability makes the victim bear all accident costs The different allocation of accident costs has clear incentive effects. in a strict liability system, the injurer has to bear both the cost of precaution and the This will lead to the efficient level of precaution. On the contrary, a no-iabiz, expected accident cost and, hence, he will minimize the sum of those costs ule does not achieve an efficient result because the injurer would bear of precaution without internalizing the benefit of such precaution. Absent liability, the injurer would adopt no precaution at all, which is an inefficient result. On the other hand. if we look at the victim's incentives to take precaution, we see that the opposite is true. Strict liability creates no incentives for victim precaution, while no liability would shift the entire residual liability on the victim, inducing optimal victim care. It follows that strict liability and no liability can give incentives to take efficient precaution only to one party
5 accident, but only one party has the actual possibility of avoiding the accident. We shall consider all such possibilities when referring to the effect of alternative legal rules on the parties’ behavior. 2.1 Strict Rules: No Liability and Strict Liability Strict liability can be thought of as the mirror-image of no liability. A party who occasions harm to another will compensate the victim regardless of who is at fault. This rule is the converse of no liability. No liability can in fact be thought of as strict liability on the part of the victim, in that the victim always bears the loss regardless of the parties’ fault. No liability and strict liability can thus be considered the limit points in the range of possible liability rules. The choice between strict liability and no liability has obvious distributive effects, in that strict liability results in the victim always being compensated, while no liability makes the victim bear all accident costs. The different allocation of accident costs has clear incentive effects. In a strict liability system, the injurer has to bear both the cost of precaution and the expected accident cost and, hence, he will minimize the sum of those costs. This will lead to the efficient level of precaution. On the contrary, a no-liability rule does not achieve an efficient result because the injurer would bear the cost of precaution without internalizing the benefit of such precaution. Absent liability, the injurer would adopt no precaution at all, which is an inefficient result. On the other hand, if we look at the victim’s incentives to take precaution, we see that the opposite is true. Strict liability creates no incentives for victim precaution, while no liability would shift the entire residual liability on the victim, inducing optimal victim care. It follows that strict liability and no liability can give incentives to take efficient precaution only to one party
espectively either the injurer or the victim. Strict liability will fail to produce an efficient outcome when the avoider is the victim, and no liability will fail when the avoider is the injurer With respect to alternative precaution, the result is slightly different. In the case of unilateral precaution, if the tort law system fails to target the avoider, he will take no precaution at all, while in the case of alternative precaution, either party can take precaution; therefore, imposing liability on the party who is not the least cost avoider will result in suboptimal precaution levels and excessive precaution costs. Strict liability and no liability can thus yield efficient results only in the case of unilateral or alternative precaution, provided that liability is allocated on the least cost avoider In the case of bilateral precaution, both strict liability and no liability fail to generate optimal incentives, because neither rule can simultaneously threaten both parties with liability in a Nash equilibrium. In bilateral-precaution situations a different rule is therefore needed to induce both parties to adopt the necessary precautions 2. 2 Negligence rules in Genero Fault can be seen as a way of creating optimal incentives on both tortfeasors and victims and also of achieving efficiency in the case of bilateral precaution. Negligence rules draw a line between liability and no liability by identifying a level of due care and verifying if the relevant party adopted that level of due care. American case law in a sense anticipated the economic definition of negligence, adopting the simple and formal logic of cost-benef analysis to adjudicate tort cases. Already in 1947, Judge Learned Hand, in the celebrated decision of United States v. Carroll Towing Co(159 F 2d 169(2d
6 respectively either the injurer or the victim. Strict liability will fail to produce an efficient outcome when the avoider is the victim, and no liability will fail when the avoider is the injurer. With respect to alternative precaution, the result is slightly different. In the case of unilateral precaution, if the tort law system fails to target the avoider, he will take no precaution at all, while in the case of alternative precaution, either party can take precaution; therefore, imposing liability on the party who is not the least cost avoider will result in suboptimal precaution levels and excessive precaution costs. Strict liability and no liability can thus yield efficient results only in the case of unilateral or alternative precaution, provided that liability is allocated on the least cost avoider. In the case of bilateral precaution, both strict liability and no liability fail to generate optimal incentives, because neither rule can simultaneously threaten both parties with liability in a Nash equilibrium. In bilateral-precaution situations a different rule is therefore needed to induce both parties to adopt the necessary precautions. 2.2 Negligence rules in General Fault can be seen as a way of creating optimal incentives on both tortfeasors and victims and also of achieving efficiency in the case of bilateral precaution. Negligence rules draw a line between liability and no liability by identifying a level of due care and verifying if the relevant party adopted that level of due care. American case law in a sense anticipated the economic definition of negligence, adopting the simple and formal logic of cost-benefit analysis to adjudicate tort cases. Already in 1947, Judge Learned Hand, in the celebrated decision of United States v. Carroll Towing Co. (159 F.2d 169 (2d
Cir. 1947)), clarified the tradeoffs between the costs and benefits of risk and prevention activities using a mathematical formula. This rule became a milestone in the law of torts and it is now known as the hand formula of negligence. The formula defines negligence as a function of three variables: a) the probability of a harmful event occurring(magnitude of risk); b)the seriousness of the damage that may result from this event(gravity of harm) and c)the cost of preventing the occurrence of the harmful event(burden of prevention). In the original formula,(P) indicates the magnitude of risk; (L) indicates the gravity of the loss; and (B)indicates the burden of prevention (i.e the cost of adequate precautions ). According to the Hand formula, conduct is negligent if the cost of adequate precautions is less than the cost of the injury multiplied by the probability of its occurrence, i.e., if(B)<(PL) Although the Hand formula does not directly consider the social value of sk-creating behavior, it produces the proper incentives for the evaluation of such behavior. By imposing a balance between risk and prevention, the result in Carroll Towing encourages individuals to weigh the cost of prevention against the utility of the behaviour. When deciding whether to engage in an activity, the reasonable person will consider whether the utility derived from the activity justifies the risk of liability and/or the cost of prevention( this is, indeed, the question of the Restatement(Second) of Torts 8 291, comment a, which asks whether the game is worth the candle). According to this logic, individuals will respond to liability rules by undertaking the socially optimal level of precaution. A vast region of law and economics literature has explored the wisdom of this tort doctrine. often with the use of formal economic model bringing to light the importance of using marginal(rather than total) values in the assessment of liability. Along similar lines, after establishing a positive economic model of tort law, Landes and Posner(1982)conclude that the Hand
7 Cir. 1947)), clarified the tradeoffs between the costs and benefits of risk and prevention activities using a mathematical formula. This rule became a milestone in the law of torts, and it is now known as the Hand formula of negligence. The formula defines negligence as a function of three variables: a) the probability of a harmful event occurring (magnitude of risk); b) the seriousness of the damage that may result from this event (gravity of harm); and c) the cost of preventing the occurrence of the harmful event (burden of prevention). In the original formula, (P) indicates the magnitude of risk; (L) indicates the gravity of the loss; and (B) indicates the burden of prevention (i.e., the cost of adequate precautions). According to the Hand formula, conduct is negligent if the cost of adequate precautions is less than the cost of the injury multiplied by the probability of its occurrence, i.e., if (B) < (PL). Although the Hand formula does not directly consider the social value of risk-creating behavior, it produces the proper incentives for the evaluation of such behavior. By imposing a balance between risk and prevention, the result in Carroll Towing encourages individuals to weigh the cost of prevention against the utility of the behaviour. When deciding whether to engage in an activity, the reasonable person will consider whether the utility derived from the activity justifies the risk of liability and/or the cost of prevention (this is, indeed, the question of the Restatement (Second) of Torts § 291, comment a, which asks whether “the game is worth the candle”). According to this logic, individuals will respond to liability rules by undertaking the socially optimal level of precaution. A vast region of law and economics literature has explored the wisdom of this tort doctrine, often with the use of formal economic models, bringing to light the importance of using marginal (rather than total) values in the assessment of liability. Along similar lines, after establishing a positive economic model of tort law, Landes and Posner (1982) conclude that the Hand
formula of negligence, as applied, coincides with the economic model of due care Introducing fault means setting a due level of precaution, defined by the legislator or by the judge. The due level of precaution should be set to be equal to the efficient level of precaution. Under any negligence rule the judge has to perform such a test by confronting the level of precaution actually taken by the parties with the due level of precaution. This increases the administrative cost of adjudication compared to strict liability rules and generates some Among such complexities is the fact that, while some forms of precaution to assess and to compare with the legal standard of precaution. In the presence of non-observable precautions, it is clear that individuals would rationally limit their investment to observable precaution to avoid negligence and refrain from investing in non-observable precautions, since they could not draw much benefit from such investment In the law and economics literature the case of non-observable precautions is generally treated under the discussion of care levels versus activity level The most common example of activity level is the repetition of a dangerous action, as driving. Although courts may occasionally take into account the frequency of an activity in their assessment of negligence, often no threshold of optimal frequency" can be easily utilized by legal rules as a liability allocation mechanism, given the difficulty of pinpointing a critical value to efficient from excessive activity. Since courts cannot be asked to unascertainable costs and benefits and cannot be asked to evaluate non- observable precaution levels, it is clear that the types of precautions that are evaluated for the finding of negligence are generally confined to care levels, not
8 formula of negligence, as applied, coincides with the economic model of due care. Introducing fault means setting a due level of precaution, defined by the legislator or by the judge. The due level of precaution should be set to be equal to the efficient level of precaution. Under any negligence rule the judge has to perform such a test by confronting the level of precaution actually taken by the parties with the due level of precaution. This increases the administrative cost of adjudication compared to strict liability rules and generates some complexities. Among such complexities is the fact that, while some forms of precaution are easily observable ex post, some others are very difficult, or even impossible to assess and to compare with the legal standard of precaution. In the presence of non-observable precautions, it is clear that individuals would rationally limit their investment to observable precaution to avoid negligence and refrain from investing in non-observable precautions, since they could not draw much benefit from such investment. In the law and economics literature the case of non-observable precautions is generally treated under the discussion of care levels versus activity levels. The most common example of activity level is the repetition of a dangerous action, as driving. Although courts may occasionally take into account the frequency of an activity in their assessment of negligence, often no threshold of “optimal frequency” can be easily utilized by legal rules as a liability allocation mechanism, given the difficulty of pinpointing a critical value to separate efficient from excessive activity. Since courts cannot be asked to balance unascertainable costs and benefits and cannot be asked to evaluate nonobservable precaution levels, it is clear that the types of precautions that are evaluated for the finding of negligence are generally confined to care levels, not