New Economics Papers
on Law and Economics
Issue of 2007‒02‒24
twelve papers chosen by
Jeong-Joon Lee, Towson University

  1. Financial Constraints and the Costs and Benefits of Vertical Integration By Macchiavello, Rocco
  2. Ethnicity and Spatial Externalities in Crime By Patacchini, Eleonora; Zenou, Yves
  3. Phoenix rising: Legal reforms and changes in valuations in Finland during the economic crisis By Korkeamäki, Timo; Koskinen, Yrjö; Takalo, Tuomas
  4. Studying Justice: Measurement, Estimation, and Analysis of the Actual Reward and the Just Reward By Guillermina Jasso
  5. A Persistence Model of the National Minimum Wage By Melanie K. Jones; Richard J. Jones; Philip D. Murphy; Peter J. Sloane
  6. Antitrust and Regulation By Dennis W. Carlton; Randal C. Picker
  7. Criminal Prosecution and HIV-related Risky Behavior By Adeline Delavande; Dana Goldman; Neeraj Sood
  8. Overruling and the Instability of Law By Nicola Gennaioli; Andrei Shleifer
  9. Public Goods, Taxes, and Takings By Thomas Miceli
  10. Labor Conflicts and Inefficiency of Relationship-Specific Investments: What is the Judge's Role? By Bruno Deffains; Yannick Gabuthy; Eve-Angéline Lambert
  11. Good Law & Economics needs suitable microeconomic models: the case against the application of standard agency models to the professions By Lorenzo Sacconi
  12. Using standstills to manage sovereign debt crises By Aitor Erce-Domínguez

  1. By: Macchiavello, Rocco
    Abstract: Does vertical integration reduce or increase transaction costs with external investors? This paper analyzes an incomplete contracts model of vertical integration in which a seller and a buyer with no cash need to finance investments for production. The firm is modeled as a "nexus of contracts" across the intermediate input supply and the financing transaction. The costs and benefits of vertical integration depend on the relative importance of a positive "contractual centralization" effect against a negative "de-monitoring" effect: the firm centrally organizes the nexus of contracts reducing the extent of contractual externalities while the market disciplines decisions driven by private benefits. Larger projects, more specific assets, and low investors protection are determinants of vertical integration.
    Keywords: contractual externalities; investors protection; limited liability; theory of the firm; vertical integration
    JEL: D23 G32 K12 L22 O10
    Date: 2007–02
  2. By: Patacchini, Eleonora; Zenou, Yves
    Abstract: We develop a model where the decision to commit a crime in a neighboring area is a positive function of the percentage of same-race individuals residing in that area since they can provide crucial information on crime possibilities. The model then predicts a positive spatial correlation in crime between different contiguous areas; this correlation is higher the closer the distance between the areas. We empirically investigate these relationships using data from the crime statistics that are recorded by the police in Britain. We find results that are consistent with the model. In particular, the agglomeration of a given ethnic minority group is positively related to its crime activity and this effect declines quite sharply with distance between areas.
    Keywords: crime; ethnic minorities; social interactions
    JEL: C23 K42 R12
    Date: 2007–02
  3. By: Korkeamäki, Timo (Gonzaja University, Boston University School of Management and Bank of Finland.); Koskinen, Yrjö (Boston University School of Management and CEPR); Takalo, Tuomas (Bank of Finland Research)
    Abstract: Finland experienced an extremely severe economic depression in the early 1990s. In the midst of this crisis, significant new legislation was passed that increased supervisory powers of financial market regulators and reformed bankruptcy procedures, significantly decreasing the protection of creditors. We show that the introduction of these new laws resulted in positive abnormal stock returns. The new laws also lead to increases in firms’ Tobin’s q, especially for more levered firms. In contrast to previous studies, our results also suggest that public supervision of financial markets fosters rather than hampers financial market development.
    Keywords: corporate governance; bankruptcy; financial supervision; shareholder protection; creditors’ rights; corpo-rate valuations; political economy
    JEL: G34 K22
    Date: 2007–01–19
  4. By: Guillermina Jasso (New York University and IZA)
    Abstract: This paper describes procedures for measuring and estimating the fundamental quantities in the study of distributive justice. We examine a variety of methods for measuring the actual reward and the just reward, for both self and other, including direct and indirect methods for measuring the just reward. Finally, we provide an extended illustration of one of the two indirect methods, the one-reward-per-rewardee method, obtaining estimates not only of ideas of the just earnings for others but also of just rates of return to personal characteristics as well as perceived overall injustice and its decomposition into poverty and inequality components.
    Keywords: fairness, occupations, Rossi’s factorial survey method, vignettes, experienced and expressed justice evaluations, justice evaluation function, loss aversion, Golden Number, Gini index, Atkinson’s inequality measure, Theil’s MLD, justice index
    JEL: D1 D31 D6 D8 I3 J31
    Date: 2007–01
  5. By: Melanie K. Jones (WELMERC, University of Wales at Swansea); Richard J. Jones (WELMERC, University of Wales at Swansea); Philip D. Murphy (WELMERC, University of Wales at Swansea); Peter J. Sloane (WELMERC, University of Wales at Swansea and IZA)
    Abstract: This paper utilises the panel element of the BHPS (waves 9 to 14) to examine the dynamics of the National Minimum Wage (NMW) introduced to Britain in 1999. Specifically a persistence measure based on a random effects probit model for those affected by the NMW is constructed. The conditional probabilities imply some degree of state dependence, but there is also a considerable amount of turnover from one year to the next among those affected by the NMW.
    Keywords: National Minimum Wage, state dependence, wage mobility
    JEL: J0 J3 K31
    Date: 2007–02
  6. By: Dennis W. Carlton; Randal C. Picker
    Abstract: Since the passage of the Interstate Commerce Act (1897) and the Sherman Act (1890), regulation and antitrust have operated as competing mechanisms to control competition. Regulation produced cross-subsidies and favors to special interests, but specified prices and rules of mandatory dealing. Antitrust promoted competition without favoring special interests, but couldn't formulate rules for particular industries. The deregulation movement reflected the relative competencies of antitrust and regulation. Antitrust and regulation can also be viewed as complements in which regulation and antitrust assign control of competition to courts and regulatory agencies based on their relative strengths. Antitrust also can act as a constraint on what regulators can do. This paper uses the game-theoretic framework of political bargaining and the historical record of antitrust and regulation to establish and illustrate these points.
    JEL: K2 K21 K23 L4 L43 L44 L5 L51
    Date: 2007–02
  7. By: Adeline Delavande; Dana Goldman; Neeraj Sood
    Abstract: We evaluate the consequences of prosecuting HIV+ people who expose others to the risk of infection. We show that the effect of aggressive prosecutions on the spread of HIV is a priori ambiguous. Aggressive prosecutions tax risky behavior and thus deter unsafe sex and limit the number of sexual partners. However, such penalties might also create unique incentives for having sex with more promiscuous partners such as prostitutes and consequently increase the spread of HIV. We test these predictions using unique nationally representative data on the sexual activity and prosecutions of HIV+ persons. We find that more aggressive prosecutions are associated with a reduction in the number of sexual partners and increased likelihood of safe sex. However, they are also associated with increased likelihood of having sex with prostitutes and not disclosing HIV+ status. Overall, our estimates imply that doubling the prosecution rate could decrease the number of new HIV infections by 12% over a ten-year period.
    JEL: I1 I18 K14 K42
    Date: 2007–02
  8. By: Nicola Gennaioli; Andrei Shleifer
    Abstract: We investigate the evolution of common law under overruling, a system of precedent change in which appellate courts replace existing legal rules with new ones. We use a legal realist model, in which judges change the law to reflect their own preferences or attitudes, but changing the law is costly to them. The model's predictions are consistent with the empirical evidence on the overruling behavior of the U.S. Supreme Court and appellate courts. We find that overruling leads to unstable legal rules that rarely converge to efficiency. The selection of disputes for litigation does not change this conclusion. Our findings provide a rationale for the value of precedent, as well as for the general preference of appellate courts for distinguishing rather than overruling as a law-making strategy.
    JEL: K13 K4
    Date: 2007–02
  9. By: Thomas Miceli (University of Connecticut)
    Abstract: Blume, Rubinfeld, and Shapiro (1984) first showed that compensation for takings can lead to a moral hazard problem that results in overinvestment in land suitable for public use. To the contrary, this paper shows that the compensation rule is irrelevant regarding the level of investment landowners make in their property, as well as the amount of land they authorize the government to acquire, both of which will be efficient. Intuitively, landowners recognize the equivalence of taxes and takings in budgetary terms, causing the distortionary effects of compensation and property taxation to cancel each other out through the balanced budget condition.
    Keywords: Compensation for takings, eminent domain, moral hazard, public goods
    JEL: H41 K11 R52
    Date: 2007–02
  10. By: Bruno Deffains; Yannick Gabuthy; Eve-Angéline Lambert
    Abstract: This paper presents a model of litigation in the context of a labor contract. The main objective of our analysis is to determine whether and under which conditions it is efficient that the judiciary arbiters a labor conflict and how the judge's decision should be made in order to be optimal. We embed this idea by considering a relationship between an employer and his worker, in which they can make (non contractible) relationship-specific investments. The optimality here refers to the best investment incentives of the parties allowing to maximize the generated surplus. We derive conclusions about the judge's behavior giving right investment incentives and determine how the division of the surplus should vary depending on several economic and social parameters.
    Keywords: Labor Law, Litigation, Investment Incentives, Bargaining.
    JEL: C78 K31 K41
    Date: 2007
  11. By: Lorenzo Sacconi
    Abstract: Notwithstanding its widespread acceptance in the law & economics literature, agency theory could not be in general the most suitable microeconomic modeling for designing efficient and fair economic transactions institutions. The case against the standard principal-agent modeling is made about liberalizations of professional services that introduced schemes of professionals’ remuneration contingent on outcomes – i.e. “contingent fees” for lawyers. If the relationship between the professional and clients is seen according to the principal-agent model, contingency fees can be economically justified as an efficient incentive for the professional’s effort. The case is quite different, however, if the situation is seen as one of bounded rationality and unforeseen and asymmetrically gathered events. Remunerations contingent on outcomes in these contexts can generate pathological incentives. This paper argues that the professional relationship is an authority relationship based of contractual incompleteness, which requires the reliance on trustworthiness of the authority position’s holder. Hence I propose a model for understanding the professional relationship which extends the “formal vs. real authority” model proposed a few years ago by Aghion and Tirole (1997). This leads to underline the essential role played by behavioral hypothesis on professionals’ “endogenous” adherence to ethical standards that prevent conflict of interests and induce the professional’s identification with her clients’ interests, based on reciprocity and conformist preferences. A game theoretical thought experiment aimed at checking the case for or against using agency models in modeling the professional relationship is then carried out. It shows that (i) in the case of a self-interested lawyer, notwithstanding that utilitarian efficiency is safeguarded, contingent fees leads to not respecting the fiduciary obligations with at least one client (to detriment of Pareto optimality and impartial and loyal treatment of all clients) for only the ex post mostly remunerative cases are litigated. (ii) In the case of the lawyer’s willingness to comply with deontology standards - requiring impartial protection of all the clients’ rights, under a condition of minimal individual rationality - contingent fees lead nevertheless to neutralization of the deontological motivation and to a loss of efficiency in utilitarian sense. A Pareto optimal, impartial, as well as efficient, arrangement aimed at maximizing the total volume of damage compensation is then considered. Nevertheless the main result is that under a contingent fee contract, even if these motivations were available, the professional could not carry out them because the logic of the contract doesn’t allow pooling different cases’ damage compensations in order of carrying out redress across the lucky and unlucky clients.
    Keywords: lawyers’ contingent fees, principal-agent, incomplete contracts, authority, professional ethics, fiduciary duties, reciprocity, conformist preferences.
    Date: 2006
  12. By: Aitor Erce-Domínguez (Banco de España)
    Abstract: This paper presents a model analyzing the potential for an International Court with powers to declare standstills to mitigate the coordination problem inherent to roll-overs in sovereign debt markets. It is shown that, regardless of the quality of the information handled by such an Institution, the scale of the coordination problem is reduced since its mere existence forces investors to focus on the Court's course of action rather than on other investors' beliefs. Furthermore, the model shows that, in order to avoid moral hazard, the right of recourse to the Court should be made conditional.
    Keywords: sovereign debt, liquidity runs, standstills, effort
    JEL: D82 F02 K41
    Date: 2006–12

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