Tort is “law-French,” itself derived from the Latin word tortus (twisted).

A tort
is an act or omission that gives rise to injury or harm to someone and amounts
to a civil wrong for which courts imposes liability. The primary aims of the tort
law are: to provide for a remedy to the plaintiff, to impose liability upon the
tortfeasor and to deter others from committing such harm. Torts fall into the
three general categories, viz., intentional torts, negligent torts and strict liability
torts.

The traditional theory of tort stipulates three essential elements of a tort. These
are: 1.) the plaintiff must have suffered an injury or harm. 2.) defendant’s act (or
failure to act) must be the cause of the injury 3.) the defendant’s act must
constitute a breach of duty owed by him to the plaintiff.

Generally every action for a tort must include all these three essentials.
However, under principle of strict liability, even if only first two essentials are
present the act shall still constitute a tort. An economic analysis of tort law
mandates the economic scrutiny of these three essentials which is as hereunder
analysed.

We will explain each element in turn and develop an economic account of it.

1. Harm

 Definition: Harm refers to a loss or injury suffered by a person or entity

as a result of someone else's act or omission. It is the actual damage that
the plaintiff must prove to establish a tort claim.

 Types of Harm:

o Economic harm: Financial losses, such as medical expenses, lost

wages, or damage to property.

o Non-economic harm: Emotional distress, pain and suffering, or

loss of consortium.
 o Injunctive harm: Threats of potential damage or continuing harm
may also warrant remedies (e.g., environmental pollution cases).

 Significance: The presence of harm is essential because tort law is

compensatory in nature—its goal is to make the injured party whole, not
to punish the wrongdoer (except in cases involving punitive damages).

 In economic terms harm can be defines as a downward shift in a person‟s

utility. This point can be illustrated with the help of figure 1.

 Figure 1 represents the utility function of Mr. X for two goods: Health
and Wealth. IC0 and IC1 represent various combinations of the two that
yields utility for Mr. X. Higher indifference curve i.e. IC1 represents
higher satisfaction. That is to say a combination at IC1 gives Mr. X
higher satisfaction as compared to any combination on the lower
indifference curve. Suppose that Mr. X was satisfied at A point on IC1
with the combination (W0, H0). Now if Mr. Y hurts Mr. X by giving him
a punch on face, the injury caused by Mr. Y resulted in a downward shift
of Mr. X‟s utility from point A to point B (W1, H1). That is to say Mr.
X‟s wealth is reduced from OW0 to OW1 and his health from OH0 to
OH1. This whole incident brings down the utility or satisfaction of Mr. X
from point A to point B which is a combination on a lower indifference
curve. The ideal of perfect compensation requires that Mr. Y should
compensate Mr. X in such a way that the latter‟s utility is restored to
 point A. Thus, the sum of damages that Mr. Y has to pay Mr. X as
compensation should be such to restore Mr. X to his pre-injury position-
A. Therefore Mr. Y should pay compensation to the tune of [W0-W1] for
the loss of wealth and [H0-H1] for the loss of health.

 Compensation amount = [W0-W1] + [H0-H1]

 If Mr. Y causes such an harm to Mr. X which resulted in an irreparable

damage to the latter, such that his health is permanently reduced to H1,
nevertheless, Mr. Y could compensate such damage by increasing his
wealth not only to the pre-injury level but to even higher level W2 to
compensate the permanent health loss. Thus, in economic terms, an
injury is interpreted as a downward shift in the plaintiff‟s utility.

2. Cause (Causation)

 Definition: Causation establishes a link between the defendant's actions

(or omissions) and the harm suffered by the plaintiff. This element
ensures that the defendant's conduct is sufficiently connected to the harm
to hold them liable.

 Types of Causation:

o Actual cause (cause-in-fact): This is determined using the "but-

for" test—whether the harm would not have occurred "but for" the
defendant's actions. It is a factual determination of whether the
defendant’s conduct was a necessary condition for the harm.

Key Question: “Would the harm have occurred if the defendant

had not acted (or failed to act)?”

If the answer is "no," the defendant's conduct is a cause-in-fact.

Example:
 A driver runs a red light and hits a pedestrian. If the pedestrian
would not have been injured but for the driver’s negligence, the
driver’s actions are the cause-in-fact of the harm.

Limitations:

In complex cases involving multiple causes, "but-for" causation

can fail to capture all contributing factors. For example, in cases of
concurrent causes, two independent actions might each be
sufficient to cause harm (e.g., two people negligently starting
separate fires that merge and destroy a house).

o Proximate cause (legal cause): Proximate cause narrows the

scope of liability by focusing on whether the harm was a
foreseeable result of the defendant's actions. It ensures that
liability is limited to harms that bear a reasonable connection to
the defendant's conduct.

Key Question: “Was the harm a foreseeable consequence of the

defendant’s actions?”

If the harm is too remote or bizarre to be foreseeable, the defendant

may not be held liable, even if cause-in-fact is established.

Example:

A delivery driver negligently leaves a package containing

fireworks on a busy street. If someone picks up the package, drops
it, and it explodes, causing injury, the driver might be held liable
because the explosion was a foreseeable result of their negligence.

However, if the package somehow triggers an unforeseeable chain

of events, like causing a plane crash, the driver might not be liable
for the crash due to lack of proximate cause.
 Tests for Proximate Cause:

Foreseeability Test: Could the defendant reasonably foresee the

harm as a likely result of their actions?

Direct Cause Test: Was there an unbroken chain of events

between the defendant's action and the harm?

Harm Within the Risk: Was the harm the type of risk the
defendant’s conduct sought to prevent?

 Significance: Without causation, a defendant cannot be held liable even

if their behaviour was negligent. For example, if a driver runs a red light
but does not hit anyone, there is no causation for harm.

3. Breach of Duty

 Definition: A breach of duty occurs when a person or entity fails to meet

the standard of care required under the circumstances, resulting in harm
to another. The "duty of care" is a legal obligation to act reasonably to
prevent foreseeable harm. In order to avoid the breach of duty, a person
must take precautions to maintain a standard of care not only towards one
individual but towards the world at large. This is however, not possible to
negotiate with each individual about his requirement of care. Thus the
common law jurisprudence of “Reasonable standard of care” comes to
picture. Every person is expected to maintain a reasonable standard of
care to avoid any breach of duty towards the rem. In order to avoid the
breach of the duty a minimum standard of precaution is required to be
maintained on the part of the defendant. Further, a legal standard is also
set by the law which every individual must maintain. The most common
example of the minimum standard fixed by the law can be the speed
limits on the highways. If the defendant maintained the precaution equal
to or more than the minimum standard set up by law then he is not liable
 for the breach of duty. However, if the defendant failed to maintain that
minimum standard set by law, he has breached the duty of care and thus
is liable for tort.

 Determining Duty:

o Courts evaluate what a "reasonable person" would have done in

similar circumstances.

o Factors include the relationship between the parties, the

foreseeability of harm, and the public policy implications of
imposing a duty.

 Examples of Breach:

o Negligence: A driver texting while driving breaches their duty to

drive safely.

o Strict liability: A manufacturer selling a defective product breaches

their duty regardless of fault.

o Intentional torts: Acts like assault or fraud involve an intentional

breach of duty.

 Significance: Proving a breach is crucial because it establishes that the

defendant’s conduct fell below the standard legally expected.

In Figure 6.2, denotes the legal standard. Precaution below breaches the duty of
care, and precaution equal to or exceeding it satisfies the duty of care.
Precaution partitions the line in Figure 6.2 and creates two zones—a permitted
zone and a forbidden zone. Thus, implies that the actor is at fault, whereas
implies that the actor is not at fault, where x indicates the actual amount of
precaution taken by the injurer. Under a negligence rule, decision makers who
take precaution as great as or greater than the legal standard escape liability for
another person’s accidental harms. Those who take less precaution than the
legal standard may have to pay compensatory damages for another person’s
accidental harms.

An Economic Theory of Tort Liability

1 Minimizing the Social Costs of Accidents

The economic model of tort law provides a framework for minimizing the social
costs of accidents by balancing two primary factors: the cost of harm and the
cost of avoiding harm. The probability of an accident occurring, denoted as
p(x), decreases as precaution increases (x), making p(x) a decreasing function.
If an accident occurs, it results in harm quantified monetarily as A, which could
include lost income, property damage, and medical expenses. The expected
harm is thus p(x)A, representing the probabilistic monetary value of harm. As
precaution increases, this expected harm decreases.

Precaution itself, however, is not without cost. It often requires monetary

expenditure, time, or loss of convenience. The cost of precaution is calculated
as wx, where w represents the cost per unit of precaution, which is assumed to
be constant. Combining the two costs—precaution costs (wx) and expected
harm (p(x)A)—gives the total social costs (SC), expressed mathematically as
SC=wx+p(x)A. Graphically, the social cost curve is U-shaped, with the total
cost being the vertical sum of the precaution cost line (wx) and the expected
harm curve (p(x)A).
The socially efficient level of precaution, denoted x∗, minimizes these total
social costs and occurs at the bottom of the U-shaped social cost curve. At this
point, the marginal cost of additional precaution (w) equals the marginal
benefit (−p′(x∗)A), where the marginal benefit is the reduction in expected
harm due to a slight increase in precaution. If the level of precaution is below
x∗, the benefits of additional precaution exceed the costs, making increased
precaution cost-justified. Conversely, if precaution exceeds x∗, the additional
costs outweigh the benefits, indicating that less precaution would be more
efficient.

This model can be applied to various scenarios. In some cases, only the injurer
can take precaution, such as a surgeon ensuring sterilized tools while operating
on an unconscious patient. In other cases, both the injurer and the victim can
take precautions, as with a drug manufacturer ensuring product purity and the
consumer following dosage instructions. In all situations, the model evaluates
how much precaution is optimal to minimize the combined costs of accidents
and their avoidance.

Ultimately, the economic model of tort law emphasizes efficiency by balancing

the costs of precaution against the benefits of harm reduction. It provides a clear
mathematical and graphical approach to understanding how to minimize social
costs while addressing the responsibilities of injurers and victims in reducing
accidents.
2 Incentives for Precaution Under No Liability and Strict Liability

The discussion focuses on the incentives created for precaution under two legal
rules: no liability and strict liability. Each rule affects the behaviour of
potential victims and injurers differently, depending on who bears the cost of
harm and how precaution impacts social efficiency.

No Liability

Under the rule of no liability, the victim bears the entire cost of harm (A) and
the cost of precaution (WvXv). This situation incentivizes the victim to
minimize their total expected costs, which include both the precaution cost and
the expected harm (WvXv+p(Xv)A). The victim will adjust their level of
precaution (Xv) until the marginal cost of taking additional precaution
equals the marginal reduction in expected harm (Wv=−p′(Xv∗)A). This
alignment ensures that the victim internalizes the costs and benefits of
precaution, leading to an efficient level of precaution (Xv∗).

However, under no liability, the injurer faces no consequences for causing

harm. The injurer’s costs are limited to their precaution costs (wixi), while the
victim bears all the harm. As a result, the injurer has no incentive to take
precaution since they externalize the harm’s costs. Their optimal choice is to
take zero precaution (Xi=0), as reducing accidents provides them no personal
benefit.

Strict Liability

Under the rule of strict liability, the injurer is held fully accountable for the
harm caused and must pay damages equal to A. Their expected costs include
their precaution costs (WiXi) and their expected liability (p(Xi)A). This
incentivizes the injurer to minimize these total costs by adjusting their
precaution level (Xi) until their marginal cost of precaution equals the
marginal reduction in expected harm (Wi=−p′(Xi∗)A). Consequently, strict
liability ensures the injurer takes efficient precaution (Xi∗), internalizing both
the costs and benefits of their actions.

For the victim, strict liability changes the incentive structure. The victim still
bears the cost of precaution (WvXv) but receives perfect compensation for harm
(D=A). This compensation reduces the victim’s total expected costs to just their
precaution costs (WvXv), making them indifferent to accidents. As a result, the
victim has no incentive to take precaution, as they externalize the benefits of
reduced harm to the injurer. The victim’s optimal precaution level is therefore
zero (xv=0).
Comparison of Rules

The two rules create opposing incentive structures. Under no liability, the
victim internalizes the costs of accidents and takes efficient precaution, while
the injurer does not. Conversely, under strict liability, the injurer internalizes
these costs and takes efficient precaution, while the victim does not. This
symmetry highlights a key principle: the rule that places the cost of harm on the
party with the ability to control risk encourages efficient behavior by that party.

Efficiency of Legal Rules

The law aims to align private costs and benefits with social costs and benefits to
create efficient incentives for precaution. If only the victim can take precaution
(e.g., using a safety harness at a construction site), then no liability is optimal,
as it incentivizes the victim to reduce harm. Conversely, if only the injurer can
take precaution (e.g., a manufacturer ensuring product safety), strict liability is
optimal, as it encourages the injurer to minimize accidents.

3 Bilateral Precaution
The concept of bilateral precaution arises in situations where both the victim
and the injurer can take measures to prevent harm, and achieving efficiency
requires both parties to act. However, existing legal frameworks such as strict
liability and no liability fall short in fostering balanced incentives for
precaution. Under strict liability, the injurer bears the cost of harm and is
incentivized to take precautions, but the victim is not similarly motivated.
Conversely, under no liability, the victim internalizes the harm and is
incentivized to act cautiously, while the injurer lacks the same incentive. This
creates a dilemma where neither approach ensures efficient precautions by both
parties simultaneously. Attempts to address this by dividing the costs of harm
between victim and injurer only exacerbate the issue, as both parties externalize
portions of the cost, leading to insufficient efforts from each side—a
phenomenon referred to as the "paradox of compensation." Resolving this
paradox requires innovative approaches that encourage joint precaution.

4 Incentives for Precaution Under a Negligence Rule

The negligence rule resolves the paradox of compensation by creating efficient

incentives for both the injurer and the victim to take precaution. This rule
establishes a legal standard of care, represented as x∗, which corresponds to the
efficient level of precaution. If the injurer meets this standard, they avoid
liability; otherwise, they are liable for the harm caused. This creates a division
of responsibility: the injurer's goal is to minimize their costs by meeting the
standard, while the victim, when not compensated for harm, behaves as though
under a no-liability rule, internalizing their own costs and benefits.

Under the negligence rule, the injurer's costs depend on their level of
precaution. In the permitted zone (precaution equal to or exceeding x∗), the
injurer only bears their precaution costs, represented as a straight line. In the
forbidden zone (precaution below x∗), the injurer incurs both the cost of
precaution and liability for expected harm to the victim, represented as a curved
line. The injurer minimizes their total costs by setting their precaution at x∗, the
legal standard, where their liability drops to zero.

For the victim, the rule creates efficient incentives because when the injurer
complies with the legal standard, the victim cannot seek compensation for harm.
This situation effectively replicates the no-liability rule for the victim, causing
them to internalize the marginal costs and benefits of their own precaution. As a
result, the victim is motivated to take efficient precaution to avoid harm.

Thus, the negligence rule aligns the incentives of both parties. It encourages the
injurer to meet the efficient standard to escape liability and the victim to adopt
precautionary measures when no compensation is available. This dual incentive
structure ensures that both parties contribute to accident prevention efficiently.

5 Contributory Negligence and Comparative Negligence

The section explores various forms of negligence rules, focusing on their ability
to create incentives for efficient precaution in different legal and factual
scenarios. Here’s a breakdown:

Forms of Negligence Rules:

 Simple Negligence:

o The injurer is liable only if their precaution is below the legal

standard (xi<x∗), irrespective of the victim’s actions.
 o Example: A pool owner who fails to post a warning sign about
shallow water is liable for harm to a diver, regardless of the diver's
negligence.

 Negligence with a Defense of Contributory Negligence:

o The injurer is liable only if both the injurer’s precaution is below

the standard (xi<x∗) and the victim’s precaution meets or exceeds
the standard (xv≥x∗).

o If the victim’s precaution is insufficient (xv<x∗), the injurer

escapes liability.

o Example: If the diver in the earlier example failed to check the

pool’s depth, the pool owner could avoid liability.

 Comparative Negligence:

o Both the injurer and victim share responsibility for harm in

proportion to their respective negligence.

o Example: If the pool owner was 80% negligent for not posting
signs and the diver was 20% negligent for not checking the depth,
the diver recovers 80% of their damages from the pool owner.

 Strict Liability with a Defense of Contributory Negligence:

o The injurer is liable for harm caused, regardless of their precaution

level, unless the victim was negligent (xv<x∗).

o Example: A manufacturer of a defective product is liable for harm

to careful users but not to negligent users.

Efficient Incentives Across All Forms:

 Economic analysis shows that all forms of negligence rules can

incentivize efficient precaution by both parties under two conditions:
 1. Perfect Compensation: Victims are fully compensated for their
harm.

2. Efficient Legal Standards: The legal standards of care (x∗) for

both parties match the efficient precaution levels.

In each rule, the injurer can escape liability by meeting the legal standard,
incentivizing them to take efficient precaution. Meanwhile, the victim
internalizes the harm when they cannot recover damages, motivating them to act
efficiently.

Redundant vs. Bilateral Precaution:

 Redundant Precaution:

o Only one party needs to take precaution for efficiency.

o Example: A manufacturer checks electrical wire for defects,

avoiding the need for homebuilders to inspect.

o Most negligence rules work well here, but discontinuous

precautions (e.g., fastening a seatbelt) can create inefficiencies. For
instance, a rule might incorrectly incentivize manufacturers to add
costly features when drivers could fasten seatbelts more efficiently.

 Bilateral Precaution:

o Both parties must take precaution for efficiency.

o Example: Car collisions where both drivers must exercise care to

avoid accidents.

o The law typically treats bilateral harm as two separate accidents,

analyzing each party’s actions and harm independently. This
approach usually aligns with the conclusions drawn for unilateral
harm and bilateral precaution.
4. Practical Implications for Bilateral Harm:

When harm is bilateral (e.g., a car crash causing damage to both vehicles), the
law allows each party to sue for their damages. By analyzing each claim as a
separate accident, the same principles of efficient precaution apply, ensuring the
parties are incentivized to act carefully.

Conclusion:

All forms of negligence rules, when applied under ideal conditions (perfect
compensation and efficient standards), promote efficient precaution for both
injurers and victims. However, specific circumstances like discontinuous
precautions or bilateral harm may require tailored analysis to ensure optimal
outcomes.

6 Activity Levels

The section explores how different liability rules influence not only
precautionary behaviour but also the activity levels of individuals engaging in
risky activities, such as driving. The discussion highlights the strengths and
limitations of these rules in promoting efficiency in both precaution and activity
levels, which are key considerations for policymakers.

Precaution vs. Activity Levels Under Different Liability Rules

In a simple model, liability rules like no liability or strict liability incentivize

only one party—either the injurer or the victim—to take efficient precautions,
while negligence rules motivate both parties to act efficiently. However, this
simple framework does not address the role of activity levels, which can
significantly influence the overall risk of harm. For instance, a driver who
adheres to legal standards of care might still increase accident risks simply by
driving more frequently. This introduces a new dimension to the analysis: how
liability rules impact incentives for controlling the level of risky activities.
Under a negligence rule, an injurer can avoid liability by meeting the legal
standard of care, regardless of how much they engage in the activity. For
example, a driver who drives 10,000 miles while taking legally sufficient
precautions does not face higher liability than a driver who drives 1,000 miles
with the same precautions. This means the marginal risk of harm from
additional activity is externalized, leading to an inefficiently high level of risky
activities. In contrast, strict liability forces the injurer to internalize all accident
costs—both from insufficient precaution and from increased activity levels.
This makes strict liability more effective in regulating activity levels and
ensuring they remain at efficient levels.

Generalization of Incentives and Ultimate Bearer of Harm

The analysis shows that in any liability framework, the "ultimate bearer of
harm"—the party who ultimately bears the cost of accidents—has incentives to
efficiently manage both precaution and activity levels. For example, under a
simple negligence rule, the victim is the ultimate bearer of harm, incentivizing
them to adjust their activity level (e.g., walking more cautiously). Conversely,
under strict liability with a defence of contributory negligence, the injurer bears
the harm cost, encouraging them to efficiently adjust both precaution and
activity levels.

However, the party that escapes liability lacks such incentives. For instance,
under a negligence rule, injurers may overindulge in risky activities since their
liability does not increase with their activity level. This asymmetry underscores
the need to match liability rules to the context, ensuring that the party whose
activity level has the greatest impact on accidents bears the cost of harm.

Policy Implications and Limitations

Table 6.2 in the analysis serves as a guide for lawmakers to select the most
efficient liability rule based on the circumstances. If only one party needs to
take precaution for efficiency, no liability or strict liability are sufficient.
However, if bilateral precaution is required, negligence rules are superior in
promoting efficiency. When activity levels are also a concern, lawmakers
should assign liability to the party whose activity level most influences accident
risks, ensuring that they internalize the associated costs.

Nevertheless, liability rules alone cannot achieve efficient incentives for both
precaution and activity levels when both parties' activity levels influence
accidents. This creates a "bilateral activity levels dilemma," where no single
liability rule can fully address both dimensions of efficiency. Policymakers
often need additional tools—such as gasoline taxes or insurance premiums
linked to miles driven—to regulate activity levels effectively. These external
controls complement liability rules, creating a comprehensive framework to
manage both precaution and activity levels.

In conclusion, while liability rules can efficiently govern precaution, their

ability to regulate activity levels is limited. Policymakers must carefully align
liability rules with the primary source of accident risk and consider
supplementary measures to address inefficiencies in activity levels. This
nuanced approach ensures a balanced and effective legal framework for
reducing accident risks.

7 Setting Legal Standards: The Hand Rule

Setting Legal Standards: The Hand Rule

The Hand Rule is a principle from tort law used to determine whether a party
has acted negligently. It was first articulated by Judge Learned Hand in the case
of United States v. Carroll Towing Co. (1947). The rule provides a formula to
evaluate whether the defendant breached a duty of care by failing to take
precautions to avoid harm.

The Hand Formula

The Hand Rule balances the costs and benefits of precaution using this formula:

B<P×L

Where:

 B = Burden of taking precautions (the cost of avoiding the harm),

 P = Probability of harm occurring,

 L = Loss or severity of the harm if it occurs.

Under the Hand Rule:

 If B<P× L: The defendant is negligent for not taking precautions because

the cost of avoiding the harm (B) is less than the expected harm (P × L).

 If B≥P× L: The defendant is not negligent because the cost of avoiding

the harm is greater than or equal to the expected harm.

How the Rule Works

1. Cost-Benefit Analysis: The Hand Rule provides a framework to weigh

the cost of preventing an accident (B) against the expected harm (P × L).
This cost-benefit analysis aligns the law with economic efficiency,
encouraging individuals or firms to take precautions only when doing so
is cost-effective.

2. Focus on Efficiency:

o The goal of the Hand Rule is to minimize the overall societal costs
of accidents, which include:

 The cost of accidents themselves.

 The cost of precautions taken to avoid accidents.

3. Application:
 o For example, suppose a company owns a ship that causes damage
by breaking loose from its moorings. The court uses the Hand Rule
to assess whether the company was negligent in securing the ship.

 B: The cost of hiring additional crew or installing better

equipment.

 P: The likelihood of the ship breaking loose.

 L: The financial or physical harm caused by the loose ship.

Illustration

Imagine a factory emits pollutants that could cause health issues in nearby
residents:

 B: Cost of installing pollution controls = $10,000.

 P: Probability of health issues occurring = 10%.

 L: Cost of health issues if they occur = $200,000.

Expected harm:

P×L=0.1×200,000=20,000

If B(10,000)<P×L(20,000), the factory is negligent for not installing pollution

controls. Installing the controls would have been the economically efficient and
socially responsible choice.

Legal Significance of the Hand Rule

1. Objective Standard: The Hand Rule sets an objective legal standard for
negligence based on a cost-benefit analysis, rather than relying solely on
subjective notions of carelessness or fault.

2. Incentivizing Optimal Behavior:

 o It encourages individuals and firms to take precautions that are
economically justified, avoiding wasteful over-precaution or
harmful under-precaution.

3. Criticism:

o Some argue that the Hand Rule is too abstract and difficult to apply
in real-world scenarios where precise values for B,P and L are hard
to determine.

o Critics also suggest it might not account adequately for moral or

social considerations beyond efficiency.

Conclusion

The Hand Rule remains a cornerstone of negligence law due to its rational
approach to determining liability. By quantifying the relationship between the
cost of precautions and the expected harm, it ensures legal standards promote
economic efficiency while reducing preventable harm.

Challenges in Applying the Hand Rule

1. Information Requirements: Applying the Hand Rule necessitates

detailed knowledge of the marginal costs of precaution and the expected
reduction in accident costs. For instance, determining whether increasing
driving speed from 40 to 50 mph raises accident costs by $1,000,000 or
 $10 involves complex calculations. The accuracy of such assessments
depends on access to precise and reliable data.

2. Setting Legal Standards: While courts can apply the Hand Rule to
individual cases, lawmakers may establish general legal standards, such
as speed limits, by conducting cost-benefit analyses. This approach can
reduce the burden on courts but requires significant expertise and
resources from regulatory bodies.

3. Relying on Social Norms: Another method is to align legal standards

with established community practices or industry norms, such as
residential maintenance expectations or auditing standards. This reduces
the need for exhaustive cost-benefit analysis but assumes that these norms
inherently balance costs and benefits efficiently.

Common Errors and Systematic Biases

Courts often misapply the Hand Rule by neglecting the injurer’s self-risk (the
risk of harm to the injurer). For example:

 In a bank robbery scenario, courts might compare the cost of hiring a

guard only to the reduction in harm to customers (risk to others) but
overlook the bank's reduced risk of financial loss (risk to self). This
omission underestimates the benefits of precaution and sets the legal
standard too low.

 In determining a driver’s negligence for speeding, courts may focus on

the risk to other road users but disregard the reduced risk to the driver.
This can lead to permissive speed standards, compromising efficiency.

Such omissions undermine the Hand Rule's capacity to promote efficient

precautions.

Psychological Biases and Their Implications

Human cognitive biases, particularly the hindsight bias, further complicate the
application of the Hand Rule. Hindsight bias occurs when people overestimate
the probability of an event after it occurs. For example:

 A citizen may predict a 50% chance of a candidate winning an election

but later, after the candidate wins, recall their prediction as 70%.

 In accidents, courts might retrospectively overestimate the probability of

harm due to untaken precautions, making it seem as though the injurer
should have foreseen the outcome.

This bias can lead to unfair outcomes, where injurers are held liable based on
inflated hindsight probabilities rather than reasonable foresight. Over time, such
judgments might prompt injurers to take excessive precautions beyond what
they consider necessary, leading to inefficiencies.

Addressing Limitations

While the Hand Rule is a powerful tool for promoting efficient legal standards,
its effective application requires:

1. Comprehensive Data: Courts and lawmakers need accurate and

accessible information to evaluate costs and benefits.

2. Training for Judges: Judicial understanding of economic principles and

biases can minimize errors in applying the rule.

3. Supplementary Regulations: For complex or systemic issues, standards

set by legislatures or regulators can complement case-by-case
adjudication.

4. Awareness of Biases: Recognizing and mitigating hindsight bias in

judicial reasoning can ensure fairness and efficiency in liability
judgments.
By addressing these challenges, the Hand Rule can more reliably fulfill its goal
of aligning legal standards with efficient precaution levels.

Relaxing the Core Assumptions

In the previous chapter we implicitly made five simplifying assumptions before

we developed our economic analysis of tort law:

1. Decision makers are rationally self-interested.

2. There are no regulations designed to reduce external costs.

3. There is no insurance.

4. All injurers are solvent and pay damages in full.

5. Litigation costs are zero.

The purpose of this section is to relax these assumptions and to see the effect, if
any, on the conclusions from the economic theory of tort liability.

1 Rationality

Rationality in decision-making is a foundational assumption of economic

theory. It suggests that individuals are self-interested and make decisions based
on stable, well-ordered preferences. This includes the ability to calculate the
costs and benefits of alternatives and choose the option that maximizes net
benefits. The economic model of tort liability relies on this rationality
assumption to influence behavior effectively. By assigning liability, the system
signals potential victims and injurers on how to act to minimize social costs.

Challenges to the Rationality Assumption

Empirical evidence shows that many individuals deviate from the rational
behavior assumed by economic models. Kahneman and Tversky's research
reveals two key biases:
 1. Underestimation of Low-Probability Events: Many people perceive
low-probability events as having a probability of zero, neglecting
precautions they should take.

2. Overestimation of Publicized Catastrophic Events: Conversely,

individuals often exaggerate the likelihood of rare but vividly portrayed
events, such as nuclear disasters, regardless of objective data.

These biases stem from how risks are perceived based on their frequency and
vividness. Risks that are infrequently discussed are underestimated, while those
frequently portrayed in the media are overestimated.

Implications for Tort Liability

These cognitive errors significantly impact the effectiveness of tort liability:

 Underestimation of Risks: People may ignore precautions, assuming

certain events are unlikely, leading to preventable accidents.

 Overestimation of Risks: Overreacting to perceived risks results in

excessive precautions, increasing costs unnecessarily.

These deviations challenge the economic model’s reliance on rational actors and
highlight the need for adapting liability rules to real-world behaviors.

Adjusting Liability Rules: Unilateral Precaution

When individuals cannot accurately assess risks, the responsibility for

precaution may shift. For example, in cases involving power tools:

 Consumers may underestimate the risks of misuse and fail to take

precautions.

 Manufacturers, being better positioned to anticipate misuse, may be held

liable for designing safer products.
This approach transforms what would traditionally be a bilateral precaution
scenario (shared responsibility) into one of unilateral precaution, focusing
liability on the party best equipped to mitigate risks.

Lapses and "Moral Luck"

Accidents often result from lapses in attention or judgment, which complicates

liability under the negligence rule. Two examples illustrate the concept of
"moral luck":

1. Unintended Negligence: A driver aiming to stay below the speed limit

lapses momentarily, exceeding the limit and causing an accident. The
driver is held liable despite generally following safe practices.

2. Intended Negligence: A driver habitually drives above the speed limit

but accidentally slows down at the time of an accident. This driver
escapes liability, despite their overall reckless behavior.

Moral luck creates inconsistencies, as liability is determined by the outcome of

lapses rather than the actor’s intent, raising concerns about fairness.

The Inefficiency of Moral Luck

Moral luck distorts incentives for precaution:

 Excessive Precaution: Safe drivers overcompensate, incurring

unnecessary costs to avoid liability.

 Insufficient Precaution: Reckless drivers may reduce their efforts to

behave responsibly, knowing they might escape liability.

Addressing Moral Luck: Liability for Intentional Negligence

One proposed solution is to replace liability for unintended negligence with

liability for intentional negligence. However, this approach is often impractical:
  Proving intent is challenging and would significantly increase the burden
of proof for plaintiffs.

 Victims would struggle to recover damages, as proving intent requires

detailed evidence beyond what is typically available.

The Role of Technology in Liability

Technological advancements, such as GPS systems, could address these

challenges by providing precise records of behavior, such as speed and driving
patterns. This could help differentiate between intentional and unintended
negligence, refining liability rules to ensure fairness and efficiency.

The diagram (Figure 7.1) illustrates the probability of a lapse causing

negligent precaution in the context of tort liability. Here's an explanation:

Components of the Diagram

1. Horizontal Axis (Precaution):

o Represents the level of precaution taken by an actor (e.g., a driver).

o Precaution levels are shown increasing from left to right.

2. Vertical Axis (Probability):

 o Represents the likelihood of the actor achieving a specific level of
precaution.

o The probability density function depicts how likely it is that actual

precaution matches intended precaution.

3. Key Points on the Horizontal Axis:

o x~ (Legal Standard):

 Represents the minimum level of precaution required to

meet the legal standard and avoid liability.

o x∗ (Intended Precaution):

 Represents the level of precaution the actor aims to achieve,

which includes a margin of error to ensure compliance with
the legal standard.

4. Margin of Error:

o The gap between the intended precaution (x∗) and the legal
standard (x~) reflects the actor's attempt to account for possible
lapses in behavior.

5. Shaded Area:

o The shaded portion under the curve to the left of x~ represents the
probability of a lapse causing negligent precaution.

o This occurs when the actor's actual precaution falls below the legal
standard, despite intending to meet or exceed it.

Key Insights from the Diagram

1. Lapses in Precaution:
 o Even if an actor aims to exceed the legal standard (x∗), momentary
lapses or errors can lead to precaution levels below the required
standard (x~).

o Such lapses result in negligence and potential liability under tort

law.

2. Balancing Private and Social Incentives:

o From a social efficiency perspective, precaution should align with

the legal standard (x~) to balance the cost of taking precautions
with the benefits of reducing accidents.

o However, actors tend to overcompensate by aiming for x∗ to avoid

liability, leading to excessive private costs beyond what is socially
optimal.

3. Impact of Lapses on Liability:

o Lapses are random and probabilistic, meaning that liability may

depend on the timing of such lapses ("moral luck").

o For example, a driver might unintentionally fall short of x~ during

a lapse and cause an accident, resulting in liability even though
they generally intended to comply.

Conclusion

The diagram highlights the gap between intended and actual precaution levels
and its implications for liability in tort law. It illustrates how lapses and "moral
luck" can unfairly affect liability outcomes and distort incentives, leading to
inefficiencies in precautionary behaviour. By visualizing this probability
distribution, the diagram underscores the challenges of aligning legal standards
with human behaviour.
2 Regulations

This excerpt discusses the complementary and contrasting roles of safety

regulations and tort liability in enforcing safety standards and compensating
victims of accidents. Below is a structured explanation:

1. Purpose of Safety Regulations and Tort Liability

 Safety Regulations (Ex Ante Enforcement):

o Implemented by administrators to prevent accidents before they

occur.

o Administrators inspect compliance (e.g., ensuring a store has a fire

extinguisher).

o Non-compliance leads to fines or corrective actions.

 Tort Liability (Ex Post Enforcement):

o Comes into effect after an accident has occurred.

o Courts require the injurer to compensate the victim if the injurer’s

negligence caused harm.

The primary distinction lies in the timing of enforcement: regulations act before
harm, and liability acts after harm.

2. Interaction Between Regulation and Liability

 Dual Enforcement:
If safety regulations and liability law impose the same standard of care,
potential injurers (e.g., businesses) are incentivized to comply with both
to avoid fines and liability.

 Conflicts Between Standards:

Courts may deviate from the regulatory standards:
 o Courts may impose a higher standard if they find regulations too
lenient (e.g., politically influenced standards for powerful
industries).

o Courts may impose a lower standard if regulations are excessively

stringent, potentially motivated by anti-competitive tactics.

3. Advantages and Disadvantages of Safety Regulations

 Advantages:

o Administrators often possess technical expertise to design safety

standards tailored to specialized industries.

o Regulations can proactively enforce safety by fining non-

compliance, especially in industries with high bankruptcy risks
(e.g., undercapitalized firms).

 Disadvantages:

o Regulations can be influenced by political motives or corruption,

leading to either excessively high or low standards.

o Corrupt officials may exploit tough regulations for personal gain,

as bribes become cheaper than compliance costs.

4. Advantages and Disadvantages of Tort Liability

 Advantages:

o Courts may obtain better information during trials (e.g., detailed

evidence about harm).

o Judges and juries often have less susceptibility to political

pressures compared to regulators.
 o Tort liability creates higher accountability for firms with sufficient
capital, motivating compliance beyond the minimum standard.

 Disadvantages:

o When firms are undercapitalized and risk bankruptcy, liability

becomes ineffective as compensation for victims.

o Liability law is costly in cases of widespread small harms, as

individual claims may not justify trial expenses.

5. Situations Favoring Regulation or Liability

 Regulation Dominance:

o Effective for industries where undercapitalized firms are common

and may escape liability via bankruptcy.

o Preferable for accidents imposing small harm on a large group

(e.g., environmental pollution), where aggregating claims is
administratively easier than using courts.

 Liability Dominance:

o Suitable when courts can gather better post-accident information

than administrators.

o Effective in less corrupt systems where liability standards are free

from political and financial influences.

6. Administrative Costs and Enforcement Efficiency

 Regulations typically require ongoing inspections and enforcement costs,

but they ensure compliance before harm occurs.

 Liability law entails legal costs (e.g., trials) and may require mechanisms
like class-action suits to address harm to large groups.
  Balancing the administrative costs and enforcement efficiency determines
whether regulations, liability, or both are more appropriate.

Conclusion

Safety regulations and tort liability serve distinct but overlapping purposes in
promoting safety and compensating harm. While regulations proactively
prevent accidents, liability compensates victims after accidents occur. The
choice between the two depends on factors like industry characteristics,
administrative costs, corruption, and the potential for bankruptcy. In many
cases, combining regulation and liability achieves the most efficient
enforcement of safety standards.

3 Insurance

Insurance and tort liability are interconnected systems that both influence and
are influenced by one another. Understanding this relationship requires
exploring how insurance interacts with the goals of tort law, the behaviors of
victims and injurers, and market dynamics like adverse selection.

1. The Role of Insurance in Tort Liability

Insurance provides financial protection for both victims (accidental harm) and
injurers (liability). This interplay introduces new dynamics:

 Double Recovery & Subrogation: Victims with insurance may initially

recover from their insurer, but insurance contracts typically transfer the
victim's right to sue the injurer to the insurance company (subrogation).
This prevents victims from recovering compensation twice.

 Insurance as a Parallel System: As insurance becomes more complete

(covering both victims and injurers), interactions shift from individuals to
insurance companies. Disputes are then resolved between insurers,
creating a private system of liability law.
2. Efficiency in Insurance Markets

The interaction between insurance and tort liability influences efficiency, often
evaluated by how well the system minimizes total costs:

 Costs of Precaution and Harm: Insurance alters incentives for

precaution. For example:

o Victims with accident insurance may take fewer precautions,

knowing they'll be compensated (moral hazard).

o Liability insurance may reduce an injurer’s incentive to act safely

unless insurers enforce safety standards.

 Market Competition: In competitive insurance markets, premiums

reflect the expected claims and administrative costs. Efficient systems
aim to minimize these costs while maintaining adequate compensation for
losses.

3. Rules of Liability and Insurance Needs

Different liability rules change who bears the cost of insurance:

 No Liability Rule: Victims must insure themselves, while injurers

generally don't need liability insurance.

 Strict Liability Rule: Injurers need liability insurance, as they bear the
responsibility for accidents. This shifts the burden of insurance from
victims to injurers, prompting manufacturers, for example, to insure
against product defects.

 Efficiency Debate:

o Proponents of strict liability argue it encourages manufacturers to

take precautions because liability insurers monitor safety practices.
 o Critics argue strict liability may result in "unwanted insurance" for
victims, such as compensation for pain and suffering, which
victims might not voluntarily purchase.

4. Challenges in Insurance Markets

a. Moral Hazard

Insurance transfers risk to the insurer, reducing incentives for insured parties to
act cautiously. Examples include:

 A driver who is less careful about locking their car after insuring against
theft.

 A manufacturer neglecting safety because liability insurance covers

potential lawsuits.

To mitigate moral hazard, insurers impose measures like:

 Deductibles: The insured pays a portion of the losses.

 Coinsurance: The insured shares a percentage of losses.

 Experience Rating: Premiums are adjusted based on claims history.

b. Adverse Selection

Adverse selection occurs when higher premiums drive out low-risk

policyholders, leaving insurers with higher-risk individuals. This creates a
cycle:

1. Premium Increase: Insurers raise premiums to cover higher-than-

expected claims.

2. Good Risks Exit: Low-risk individuals drop coverage, finding premiums

too high relative to their risk.
 3. Higher Risk Pool: Remaining policyholders are high-risk, forcing
insurers to raise premiums again.

Example:

 Two individuals, A (20% chance of $10,000 loss) and B (15% chance),

initially pay $1,500 premiums.

 If premiums rise to $1,600, B, being a lower risk, is more likely to drop

coverage, leaving A. The insurer collects $1,600 but faces $2,000 in
expected claims, creating a loss.

This phenomenon destabilizes insurance markets, especially when coupled with

unforeseen risks or regulatory restrictions on premium adjustments.

c. Reserve Shortfalls

Insurance companies must hold reserves to pay future claims. However, certain
risks, like natural disasters, generate massive claims all at once. If reserves are
inadequate:

 Insurers raise premiums sharply to replenish reserves.

 Tax consequences and investment losses make reserve adjustments

costly, exacerbating market instability.

5. Impact on Tort Law Goals

Insurance interacts with tort law in complex ways:

 It can promote efficiency by spreading risk and ensuring compensation.

 However, challenges like moral hazard and adverse selection may

undermine incentives for precaution and increase costs.

Conclusion
The interaction between tort liability and insurance is a balancing act. While
insurance fosters risk-sharing and compensation, it can distort incentives for
safety through moral hazard and create instability through adverse selection.
Designing liability rules and insurance policies to mitigate these effects—while
minimizing costs and ensuring fairness—is essential for achieving the goals of
tort law.

4. Bankruptcy

1. Problem of Bankruptcy in Tort Liability Under strict liability, firms are

responsible for the full cost of accidents they cause, which ideally incentivizes
them to take optimal care and maintain socially optimal activity levels.
However, the possibility of bankruptcy undermines this system because:

 Limited Liability: Firms only pay damages up to their net worth. If

potential damages exceed their assets, the firm externalizes part of the
risk onto tort victims.

 Reduced Precaution: Knowing they can avoid full liability through

bankruptcy, firms may take insufficient precautions.

 Excessive Risky Activity: Firms may engage in more dangerous

activities than is socially optimal, as they do not bear the full cost of
potential accidents.

Example: Hazardous Waste Disposal

A disposal company for hazardous waste may choose between:

 Precautionary Behavior: Operating safely to avoid future liability.

 Reckless Behavior: Dumping waste carelessly, accruing liabilities

exceeding their assets, and subsequently declaring bankruptcy.

Under the reckless scenario:

  The firm stays undercapitalized by distributing profits to avoid future
claims.

 Tort victims, along with other creditors, face losses when the firm goes
bankrupt.

 Non-transferable assets such as reputation, organization, and firm-

specific human capital are destroyed during liquidation.

2. New Techniques for Avoiding Tort Liability Firms increasingly use legal
and financial strategies to shield assets from tort claims without remaining
undercapitalized:

1. Subsidiary Structures:

o Risky activities are assigned to a subsidiary company.

o If liabilities exceed the subsidiary's assets, it declares bankruptcy,

shielding the parent company and its assets.

o Critics advocate for "piercing the corporate veil," where courts

hold the parent company or shareholders liable for the subsidiary’s
actions.

2. Secured Creditors:

o In bankruptcy, secured creditors have priority over unsecured

creditors, including tort victims.

o By increasing secured debts, firms can protect more assets from

tort claims.

3. Securitization of Future Income:

o Firms convert expected income (e.g., future payments from buyers)

into securities and sell them to investors.
 o Once securitized, future income belongs to investors, leaving it
untouchable by tort claimants.

3. Inefficiencies of Avoiding Liability Through Bankruptcy

 Increased Accidents: Firms in risky industries face reduced incentives

for care, leading to more accidents.

 Distorted Capital Structure: Firms maintain too little capital, disrupting

the capital-labor ratio.

 Loss of Non-Transferable Assets: Bankruptcy destroys valuable firm-

specific resources, including employee expertise and reputation.

4. Imperfect Solutions to Insolvency-Related Distortions There is no perfect

solution, but several strategies can mitigate the problem:

1. Compulsory Insurance:

o Requires firms to have insurance for potential liabilities, ensuring

compensation for victims regardless of bankruptcy.

2. Posting Bonds:

o Firms deposit a bond as a financial guarantee for potential

liabilities.

3. Ex Ante Regulation:

o Replacing liability with regulations requiring firms to follow safety

standards before accidents occur.

4. Negligence Rule:

o Under negligence, firms escape liability by meeting a legal

standard of care, removing the incentive to shield assets. In
 contrast, strict liability only allows escape via insolvency,
exacerbating the problem.

Key Takeaway

Bankruptcy distorts the incentives that tort liability seeks to create, leading to
inefficiencies and inadequate victim compensation. While solutions like
compulsory insurance and negligence rules alleviate some issues, the interplay
between liability, corporate strategies, and insolvency remains complex and
challenging to resolve fully.

5. Litigation Costs

The assumption that litigation is costless simplifies economic models of tort

liability, but in reality, litigation incurs significant expenses, which influence
the behavior of both victims (plaintiffs) and injurers (defendants) in different
and sometimes opposing ways. Here's an explanation of the impacts,
implications, and examples:

1. Impact on Victims (Plaintiffs)

 Costly Litigation Reduces Claims:

o Victims must pay legal fees, court costs, and other expenses to
pursue compensation.

o If the costs of litigation exceed the expected compensatory

damages, victims may decide not to sue.

 Resulting Behavior:

o When victims avoid litigation, potential injurers do not receive

feedback through lawsuits that their behavior is harmful.

o This lack of accountability can lead to reduced precaution by

injurers, resulting in more frequent or severe accidents.
2. Impact on Injurers (Defendants)

 Costly Litigation Encourages Precaution:

o Litigation costs for injurers include not just potential damages but
also legal expenses and reputational harm.

o If taking additional precaution costs less than facing lawsuits and

their associated costs, injurers are incentivized to take more
precaution to avoid accidents and litigation.

 Reduction of Risky Activities:

o High litigation costs may also discourage firms or individuals from

engaging in risky activities altogether, reducing accidents but
potentially stifling productive economic activities.

3. Net Effect of Costly Litigation

The opposing effects on victims and injurers make it difficult to determine the
overall impact:

 Victims’ reluctance to sue can lead to insufficient deterrence and more

accidents.

 Injurers’ increased precaution can reduce accidents, but at a potentially

high economic cost (e.g., reduced innovation or investment in risky but
beneficial activities).

The net effect depends on which of these opposing forces dominates in a

particular scenario.

4. Counterintuitive Example: Procedural Rules and Administrative Costs

The text provides a thought experiment that contrasts two legal procedures to
illustrate the potential cost savings from modifying how cases are decided:
 1. First Procedure (Traditional System):

o The judge hears every case and awards damages of $100 if the
plaintiff proves the claim.

2. Second Procedure (Randomized Trials):

o The judge flips a coin to determine whether to hear a case.

o If the coin shows "heads," the case is dismissed without trial.

o If the coin shows "tails," the judge awards damages of $200

(double the actual harm).

 Key Insights:

o In both procedures, the expected liability for injurers remains the

same:

 Under Procedure 1: Injurer always faces $100 liability.

 Under Procedure 2: Injurer faces a 50% chance of $200

liability, which still averages to $100.

o However, Procedure 2 reduces the number of trials by 50%,

significantly lowering administrative costs like court time, lawyer
fees, and other litigation expenses.

 Counterintuitive Implication:

o Although Procedure 2 is more cost-effective, it involves

randomizing justice (e.g., using a coin toss), which is intuitively
and ethically unacceptable in a real-world legal system.

5. Broader Implications for Legal System Design

The example demonstrates a broader principle:

  A legal system can reduce litigation costs by reducing the frequency of
trials while maintaining the same overall level of deterrence by
increasing damages when cases are successful.

However, practical implementation of such methods would face strong

resistance because fairness and predictability are fundamental values of legal
systems. Randomized justice or arbitrary procedural rules would undermine
public trust and violate ethical standards.

Key Takeaway

Costly litigation influences the behavior of victims and injurers in opposing

ways, making the efficiency of tort liability rules more complex. While high
litigation costs can theoretically be offset by innovative procedural adjustments
(e.g., fewer trials with higher damages), such solutions often conflict with
societal expectations of fairness and justice. Balancing deterrence, fairness, and
administrative costs remains a core challenge in designing an efficient legal
system.

6. CONCLUSION

In this conclusion, the text discusses the effects of relaxing certain core
assumptions on the overall results of the economic model of tort liability.
Despite the relaxation of assumptions, the core findings of the economic theory
largely remain intact, though some nuances emerge that require additional
considerations. Here's an explanation of the main points discussed:

1. Relaxing the Rationality Assumption

 Rationality assumption: The economic model initially assumes that all

individuals are fully rational in their decision-making, carefully weighing
costs and benefits.
  Relaxation of assumption: In practice, people often have cognitive
biases or imperfect information, which can affect their behavior.

 Economic theory's adaptation: When the rationality assumption is

relaxed, the economic model can still provide useful guidance by
accounting for cognitive imperfections. Tort law should consider these
imperfections when designing policies that influence behavior, such as
adjusting liability or providing education to mitigate errors in judgment.

2. Relaxing the Assumption of No Insurance

 Insurance assumption: The original model assumes that there is no

insurance, meaning that individuals directly bear the costs of accidents.

 Relaxation of assumption: In the real world, most individuals and firms

are covered by insurance (both first-party and third-party), which can
influence their behavior.

 Impact on economic theory: The presence of insurance does not change

the conclusions of the economic theory. This is because coinsurance,
deductibles, subrogation clauses, and the threat of higher premiums
or policy cancellations help maintain the incentives for injurers to take
optimal care and for victims to file claims. These insurance mechanisms
ensure that the social costs of carelessness are internalized by those
responsible for the harm.

3. Interaction with Other Social Policies (e.g., Safety Regulation)

 Safety regulation: Other social policies, such as government-imposed

safety regulations, also aim to reduce accidents and injuries.

 Coordination with tort liability: The presence of safety regulations does

not change the need for tort liability but requires careful coordination.
The economic model still applies, but policymakers must consider the
 trade-offs between tort liability and safety regulations to avoid
inefficiencies.

o For example, tort law might encourage individuals or firms to take

safety precautions, but if regulations already impose strict safety
standards, tort liability should complement rather than duplicate
those efforts.

4. Impact of Costly Litigation

 Litigation costs: Initially, the economic model assumes that litigation is

costless, but in reality, litigation is often expensive.

 Effects of costly litigation: The text explains that the effects of costly
litigation on tort liability have competing outcomes:

o Victims: High litigation costs might discourage victims from filing

lawsuits. If victims do not sue, injurers may not be properly
incentivized to take precautions, leading to more accidents.

o Injurers: On the other hand, costly litigation may encourage

injurers to take more precautions. If the cost of litigation is high,
they may invest in safety measures to reduce the likelihood or
severity of accidents, thus lowering their potential liability.

 Conclusion on litigation: The overall impact of litigation costs depends

on the balance between these two opposing effects. However, the
economic model does not require major changes because the incentive
structures (for both victims and injurers) are still aligned, even if the
exact outcomes vary depending on the costs of litigation.

Final Conclusion

Despite relaxing the core assumptions, the economic model of tort liability
remains largely valid. The model's key conclusions — that tort law should
incentivize injurers to internalize the costs of their actions and that victims
should be able to signal harm to induce appropriate changes in behavior — still
hold. However, the relaxation of assumptions, such as cognitive imperfections,
the presence of insurance, and costly litigation, adds complexity and nuance to
how the system functions in practice. In each case, the economic model helps
clarify how legal rules should be adjusted to maintain efficiency and fairness in
the face of real-world imperfections.