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A Law and Economics Primer

In last month’s column we pointed out that the economics of law practice can actually impede the ability of the legal system to efficiently resolve disputes. In future columns we will discuss in depth the economic motivations of both defense lawyers and plaintiff lawyers that contribute to the problem. Before launching into those specifics, however, we need to have a broad general understanding of the relationship of economics and law in the resolution of disputes. The relationship between law and economics is much broader, and we are only discussing dispute resolution through litigation.

Almost all cases that arise in our legal system can be analyzed as an economic problem. Regardless of whether the underlying problem is a tort such an automobile accident or a fight, or a contract such as the building of a house, the sale of a car, or a myriad of other occurrences, the plaintiff has some type of a claim against the defendant. In most instances the ultimate resolution is the payment of money. This means that the plaintiff has a claim or an asset which he or she is asserting that the defendant has an obligation to pay or to buy. The question then becomes how much is to be paid.

The legal system provides answers to the question. Ultimately if the parties are not able to reach an agreement themselves, the courts system assigns a value to the plaintiffs claim and require the defendant to pay that amount. It is not necessary at this point that we discuss in any detail the matter of payment by one side of the other side’s attorney’s fees, which is sometimes required by contract or by statute. But we are deeply concerned with the amount of attorney’s fees and other costs that are involved in the resolutions of the disputes.

The service provided by courts and attorneys is conflict resolution. The legal system provides a way for the plaintiff to present his or her claim. The lawyers on both sides often participate in the effort to settle the matter. If the matter is not settled then the legal system itself, judges and juries provide an ultimate answer and bring about a final conclusion to the controversy.

In every economic transaction there are transaction costs. A sale of real estate might involve costs for title insurance, title examination, a real estate commission, etc. These are transactions costs that must be paid and do not involve directly the payment for the real estate. The same is true of the purchase of an automobile. The same is true of every transaction with economic implications. Transaction costs are an important element of economics.

The cost of attorneys and the court system in the resolution of disputes in court can be described as transaction costs, if the resolution of legal controversies is analyzed as an economic problem. The problem that we are suggesting in this series of columns is that the transaction costs for dispute resolution through the legal system have become unreasonably expensive. The economic value assigned to the transaction costs itself might very well equal or exceed the economic value of the underlying problem that is being solved. Transaction costs include not only attorney’s fees, but also the court costs, the cost of witnesses, the cost of depositions, judges, court reporters, and the like. A major part of the problem rendering the legal system inefficient as a method of conflict resolution is the high transactions costs.

In columns that follow we will analyze the problem both from the standpoint of economic motives of the plaintiff lawyers and the economic motives of defense lawyers and insurance companies. We will be showing that these economic motives, in and of themselves, can inflate the transaction costs that are involved in the resolution of disputes that are presented to the legal system for resolution.

It should be noted in passing that there are many significant problems that the legal system simply cannot address because there are no funds to satisfy the economic requirements of attorneys. For instance, a faulty refrigerator can be a significant problem for a consumer. But a faulty refrigerator can be a very difficult problem for the legal system to effectively resolve. A bad auto repair job can be a significant problem for a poor individual (or even a well-to-do individual). But again, those types of problems are very difficult for the legal system to address because the economics do not justify the engagement of competent legal services. But even for those disputes that the system is economically able to address, the economics of law practice adversely affect the efficiency of the system.


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