Academic journal article Texas Law Review

The Choice between Property Rules and Liability Rules Revisited: Critical Observations from Behavioral Studies

Academic journal article Texas Law Review

The Choice between Property Rules and Liability Rules Revisited: Critical Observations from Behavioral Studies

Article excerpt

Articles

I. Introduction

One of the most fundamental issues every legal system must address is the form of protection that should be given to legal entitlements. Since the publication of Calabresi and Melamed's seminal article almost thirty years ago, the scholarly debate on this subject has come to be known as the choice between property rules and liability rules.1 An entitlement is protected by a property rule if no one can appropriate the entitlement without securing its owner's consent. The entitlement must be transferred through a voluntary transaction, and its price agreed to by the owner-seller. Liability-rule protection, in contrast, enables a forced transfer of the entitlement. The coercing party need not seek the owner's permission, but only pay her the objectively determined value of the entitlement.2

Calabresi and Melamed offered a simple, elegant criterion for choosing between property rules and liability rules-namely, transaction costs.3 IMAGE FORMULA6

Property rules should be used when transaction costs are low and the parties can bargain with one another to achieve desirable outcomes. In such cases, property-rule protection will induce parties to negotiate a voluntary transfer of the entitlement. Liability rules are best applied when transaction costs are high and bargaining is impossible or difficult (for example, when there are numerous or unidentifiable parties). In these situations, liability rules should mimic the outcome that otherwise would have been reached by the market.4 The transaction-cost criterion, with its attendant recommendations regarding the choice and content of legal rules, was adopted in subsequent scholarly writing.5

Recently, however, this conventional wisdom has been questioned. In particular, it has been claimed that liability rules may be superior to property rules, even when transaction costs are low. This argument is based both on the alleged difficulties and disadvantages of bargaining around property rules and on the supposed advantages of bargaining under liability rules.6 On the one hand, the argument goes, individuals-especially sellers of entitlements-behave greedily and strategically under property rules in an attempt to capture all the gains from the trade for themselves. Consequently, people may fail to reach agreement at all, or succeed in striking a bargain only after costly delay. Liability rules, on the other hand, remove owners' holdout power and thereby better facilitate the execution of efficient transfers. Furthermore, liability rules induce owners to reveal their true valuation of entitlements and reduce the problems associated with asymmetric IMAGE FORMULA8IMAGE FORMULA9

information. Therefore, they are superior to property rules, which lack any truth-revealing mechanism.

This Article criticizes the new trend favoring liability-rule protection for entitlements and vindicates the superiority of property rules. It offers additional reasons for favoring property rules when bargaining is feasible and highlights the shortcomings of bargaining in the shadow of liability rules. The Article draws on insights from behavioral and psychological studies of bargaining behavior to support a return to the wisdom of the original Calabresi and Melamed rule, and in doing so it differs from previous critiques of liability rules.7 The advancement of additional new arguments for the use of property rules is important, because parts of the criticism of the Calabresi and Melamed rule-of-choice are correct in principle.8

More specifically, it is argued that the conventional economic assumption of extreme human opportunism is misguided. Numerous behavioral studies attest to the existence of a much wider and complex range of human motivations, and to the fact that people often succeed in reaching voluntary agreement about how to share the profits of efficient transactions. …

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