Legal Theory Lessons from the Financial Crisis

By Driesen, David M. | Journal of Corporation Law, Fall 2014 | Go to article overview

Legal Theory Lessons from the Financial Crisis


Driesen, David M., Journal of Corporation Law


INTRODUCTION   I. TRADITIONAL LAW AND ECONOMICS AND THE FINANCIAL CRISIS      A. Law and Microeconomics      B. Deregulation and the Financial Crisis      C. The Posner Defense  II. COMPLEXITY AND THE IMPOSSIBILITY OF PREDICTING A MEANINGFUL      EQUILIBRIUM III. INSTITUTIONAL FACTORS MAKING EFFICIENCY AN ELUSIVE GOAL FOR      GOVERNMENTS  IV. TOWARD LAW AND MACROECONOMICS      A. Focusing on the Shape of Change Over Time      B. Avoiding Systemic Risk While Keeping Open a Reasonably Robust         Set of Economic Opportunities      C. Economic Dynamic Analysis      D. Economic Dynamics' Limits and Some Potential Objections   V. CONCLUSION 

INTRODUCTION

What lessons should we draw from the financial crisis? Many scholars have addressed this question in narrow terms, focusing on specific reforms to the financial system. (1) The literature has remained remarkably quiet on the broader question of what lessons the crisis teaches about the theory of law and economics. This Article addresses this question in the realm of laws regulating complex systems. This realm includes, at a minimum, the fields of financial regulation, environmental law, intellectual property, and antitrust law. These areas (and many others) involve substantial problems of discontinuities, surprise, nonlinearities, and complexity, which create huge challenges for cost-benefit analysis (CBA) based on statistical probability functions. Furthermore, in these dynamic areas, the most important problems often stem from the least predictable phenomena, at least quantitatively.

This Article argues that for these sorts of dynamic problems the current theory of law and economics has proven inadequate. That theory treats law as if it were a mere transaction, much like the purchase of a good. Accordingly, it emphasizes attainment of equilibrium between costs and benefits, captured by the microeconomic concept of allocative efficiency. (2) This Article argues that at least for these dynamic systems, this ideal proves both unattainable and not terribly important.

It rests these conclusions primarily on two grounds. First, in a dynamic system with significant discontinuities and true uncertainties, complexity defeats optimality as a goal for legal decisions because optimality becomes impossible to calculate and relatively unimportant. (3) Furthermore, the financial crisis teaches us that the CBA substitutes neoclassical law and economics employs to cope with intractable problems of complexity and uncertainty--assumptions of rationality and perfect information--work very badly as guides to major policy decisions.

The second ground for doubting allocative efficiency's utility as a guide to law in this context is more institutional in nature. Law is not a transaction. Law by its nature provides a framework that influences, but usually does not control, resource allocation. Accordingly, most law is neither efficient nor inefficient. It simply provides the framework under which market actors seek to achieve efficient outcomes. Hence, it is often not possible to determine whether a law is efficient. Because law provides a framework, it should be thought of as more closely analogous to macroeconomic policy (which likewise influences but does not control resource allocation) than to the transactions that microeconomics typically focuses on.

These insights have profound implications for legal theory. They mean that law and economics' problems run deeper than the debate about whether to use neoclassical assumptions or assumptions from behavioral and institutional economics to "predict" which legal rules will prove efficient. Instead, these two problems--the dynamic nature of many regulated systems and the institutional place of law--undermine the use of efficient transactions as a legal model at least in the many areas of law that regulate complex irregular phenomena.

One can imagine a unifying role for legal theory combining law and economics to address complex systems that avoids these problems, but this new role would substantially change law and economics' focus, goals, and methods to make it more macroeconomic and less transaction-oriented, at least when it addresses the law of complex systems. …

The rest of this article is only available to active members of Questia

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Default project is now your active project.
Project items
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Buy instant access to cite pages or passages in MLA 8, MLA 7, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

(Einhorn 25)

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Note: primary sources have slightly different requirements for citation. Please see these guidelines for more information.

Cited article

Legal Theory Lessons from the Financial Crisis
Settings

Settings

Typeface
Text size Smaller Larger Reset View mode
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Help
Full screen
Items saved from this article
  • Highlights & Notes
  • Citations
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

matching results for page

    Questia reader help

    How to highlight and cite specific passages

    1. Click or tap the first word you want to select.
    2. Click or tap the last word you want to select, and you’ll see everything in between get selected.
    3. You’ll then get a menu of options like creating a highlight or a citation from that passage of text.

    OK, got it!

    Cited passage

    Style
    Citations are available only to our active members.
    Buy instant access to cite pages or passages in MLA 8, MLA 7, APA and Chicago citation styles.

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

    1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

    Cited passage

    Thanks for trying Questia!

    Please continue trying out our research tools, but please note, full functionality is available only to our active members.

    Your work will be lost once you leave this Web page.

    Buy instant access to save your work.

    Already a member? Log in now.

    Search by... Author
    Show... All Results Primary Sources Peer-reviewed

    Oops!

    An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.