Cooperative investments induced by contract law

Abstract

I revisit the economic analysis of contract law for a setting of cooperative investments. While Che and Chung (1999) have shown that expectation damages perform rather poorly, I argue that this negative result follows from their implicit assumption of unilateral expectation damages. Yet the very nature of cooperative investments gives rise to the possibility that both parties may claim expectation damages. I show that such a regime of bilateral expectation damages provides the incentives for the first-best solution even in a framework of binary choice where, for selfish investments, the traditional overreliance result would hold. Copyright © 2006, RAND.