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Schäfer on Eurobonds as a solution to the Euro-crisis

Posted on 21 November 2011 | 11:46 am

Eurobonds, A Bridge Too Far
By Hans-Bernd Schäfer


The concept behind Eurobonds

Nowadays so called Eurobonds have been proposed as a solution to the current European debt crisis. Eurobonds would invoke joint liability among all member states of the European Monetary Union for a loan received by any member state. Thus the term “Eurobond” is surely misleading. It suggests the introduction of Euro denominated bonds whilst its actual purpose is the introduction of collective liability for government debt among all members of the Euro zone. Eurobonds should thus rather be called “joint liability bonds”.
What would be the consequence of converting all Euro zone public debt into Eurobonds? The interest rates for Greek, Irish, Portuguese, Spanish and Italian government bonds would fall dramatically as a result of a diminishing insolvency risk. However, the interest rates of German or Dutch bonds would rise for the exact opposite reason. Overall, this would imply a vast relief for the crisis struck countries. Those states which are currently paying between up to seven per cent interest on their new debt would perhaps manage to cope with three or four percent, probably with the exception of Greece. Proponents of the Eurobond suggest this as the ultimate liberation of the current crisis. Consequently the rich and solvent states would have to pay higher interest rates, since the additional risks would be priced into the new interest rates. For example, in the event that the introduction of Eurobonds were to raise interest rates on German government bonds by just one percentage point above the current level without Eurobonds, this would amount to 20 billion Euros per annum of additional debt financing. This amount is equivalent to 1 percent of the total German government debt at the end of 2010. It would certainly not place Germany in a precarious debt situation; however it is more than seven times the amount of combined federal and national spending on student loans in 2010 and it is equivalent to an increase of VAT taxes of 2 per cent points.
This is still a conservative estimate. The interest rates on the Eurobonds which were launched by the European Commission and for which all member states are liable, are currently 0.6 percent above interest rate levels on German government bonds. However, the risk on the part of the guaranteeing states would increase by a multiple in the event of converting all government debt within the Euro zone. Moreover, it is uncertain how financial markets would assess Germany’s insolvency risk once it accepts joint liability for the debt of other countries. Additionally, these estimates are based on the assumption that the interest rates on private loans remain constant, which is hardly reasonable. Private borrowers will certainly not be drawn into joint liability for the debts of other states. However, once the government assumes additional liability and thereby exposes the entire German economy to an additional country risk, this will lead to an increase of the interest rates on private loans. Therefore Eurobonds would burden both taxpayers and recipients of state benefits as well as private borrowers in Germany. The impact on German tax levels as well as the state's ability to maintain pension and other social benefits, are barely comprehendible once these risks are realized, as the combined public debt of Ireland, Portugal, Spain, Italy and Greece is now around 3.6 trillion Euros, about 150 per cent of Germany’s gross national product.

Would this save the Euro? It all depends on how much fiscal autonomy will remain with the member states within the Euro zone. If everything else remains unchanged, any state may go into debt to any desired extent. The European criteria for stability will not be met, because sanctions are unlikely to be upheld as witnessed in the past. This creates huge incentives in some countries to continue borrowing beyond any measure, because in the event of a state bankruptcy, the costs can be offloaded to the more solvent nations. In the short term Eurobonds would certainly bring relief, but in the long run this would lead to a financial chaos within the Euro zone, provided any member state is able to continue raising its budget deficits without being controlled by fellow member states.

Is this too pessimistic a viewpoint? Are we not simply observing a transposition of the homo economicus model of rational selfish people onto states, which are bound by bonds, contracts and multiple forms of cooperation, all of which is based in good faith? It would be grossly negligent to defend such a thought and it would certainly not be representative of what we have witnessed in Europe, ranging from the fate of the Stability and Growth Pact to the fraudulent misrepresentation in Greece.

The problems pertaining to uninhibited new loans by means of Eurobonds are also acknowledged by the proponents thereof. Many are therefore proposing the introduction of a common financial policy among the EU member states, which is to be lead by a European minister of finance. In essence, the aim is to abolish national autonomy in terms of public borrowing in member states. Hence any member state would not be granted additional debt without the consent of the other states of the Euro zone. In the event of deviation on the part of any member state, this would invoke the other member states to prevent it from doing so. If many states were to deviate, this would invoke the most creditworthy countries, i.e. especially Germany and the Netherlands to prevent the other states from increasing their debt. Hence Brussels would have to implement and maintain strict financial discipline among the member states in much the same way as a clan society maintains an iron mechanism in order to uphold conformism and group liability as a complement thereof. Germany, the largest and most creditworthy economy in Europe, would thus have to assume the role of a hegemonic preceptor. This role is neither sought within Germany nor outside Germany, yet such discipline would remain clearly inevitable similar to the laws of a clan. It would also result in a fundamental change of the underlying European treaties, all of which would have to be ratified by the member states, not to mention the possibility of referendums in some member states. The German chancellor Merkel has just launched a plan to amend the treaty of Lisbon and to impose strict financial discipline on all countries in the Eurozone. To avoid the problem of German political dominance she proposes theat the European court of justice and not the European council should dcide, whether a member state has breached the contract and about sanctions to the breaching country.
Juncker’s proposal


Most proponents of Eurobonds are wary of this consequence. Although they make specific proposals regarding Eurobonds, their suggestions remain very cloudy when it comes to sacrificing their national budgetary autonomy. Luxembourg’s prime minister and chairman of the Euro Group Jean-Claude Juncker proposed to convert all non-government debt into Eurobonds up to a volume of 60 per cent of a state’s national product. Hence a country which has e.g. 120 percent of state debt would be able to convert half of its debt into Eurobonds. The remaining half would continue to have the underlying state as sole debtor. According to this suggestion, creditors would then have to accept the default risk on the latter half of the debt in the event that it reaches an unsustainable level. Consequently, creditors would grant no further debt unless being compensated for the excessively high risk premium, thereby implementing an automatic debt brake mechanism. Arguably, Juncker’s proposal would create an incentive to the extent that half the debt of the highly indebted countries, namely Ireland, Portugal, Greece and Italy would be served at reduced interest rates whilst interest would only moderately rise in the credit-worthy countries. The burden on the German taxpayer would be less heavy than if all government debt within the Euro zone were converted into Eurobonds. Germany would nonetheless have to face higher payments.
Juncker’s proposal could indeed assist in resolving the crisis, provided that the Eurobond guaranteed debt is treated as preferred debt over the state guaranteed debt. Moreover, in the event of an insolvency of a member state, there should be no support mechanism. The debts of the insolvent state would have to be partially cut at the expense of its’ creditors and at the expense of the future creditworthiness of the debtor state.

Orderly insolvency criteria are needed


However, the above is an illusion within the institutional framework of the European Union, and thus continues to be the prime weakness of this proposal. In fact, it is rather to be feared that the troubled debtor states will continue to become excessively indebted whilst the underlying creditors, i.e. banks, hedge funds, pension funds and private investors will continue to serve these debt levels because they can rightly so speculate that the over-indebted state will be backed by the other member states, as witnessed in the past, to avoid conflagration. For the procedure of a state insolvency within the Euro zone is not performed by rules of law and legal principles of an independent tribunal. Instead, the decisions taken by finance ministers are highly political. Until the meeting of the EU heads of state on 26 October 2011, the troubled states have represented the majority and in conjunction with the financial lobby, they have successfully prevented any state bankruptcy with a debt cut on the part of the debtor states. The underlying costs and risks have been transferred by the creditors and debtor countries to the European Central Bank and the member states, thereby putting the citizens of the Euro zone at risk. There is no indication that this will be much different after the introduction of Eurobonds. Also, there is no evidence that the debtor nations would engage in orderly, non-politicized state insolvency proceedings, as a result of which creditors were to be assigned the liability for a risky expansion of the government debt. They are of course weary of losing their political leverage.

The European Central Bank has already jeopardized its reputation of independence and on the basis of political pressure has purchased government bonds which are not eligible as collateral. From May 2010 until mid-November 2011, these purchases have totalled more than 180 billion EUR. In the event of a write-off, this will be borne directly by the taxpayers as well as the recipients of state benefits because the member states will be restrained from the central bank’s profits, or even worse, would have put up money if the central bank were to face insolvency.

The European Stabilisation Mechanism (ESM) which was passed by the heads of state and government of the Euro zone during March and July 2011 added even more scepticism. The ESM does follow the proceedings of a state insolvency and also provides for loan assistance as well as allowing creditors to participate in sovereign bankruptcy cases, yet all decisions are left with the ministers of finance and therefore remain politicized. In fact, Germany does have a veto position in the decision on loans and could enforce the participation of creditors and the restructuring of sovereign loans. However, this power can only be used in exceptional cases, unless it wants to permanently isolate itself within Europe.

Moreover, the recently declared intentions on the Franco-German summit in Paris in August 2011 are not credible. They propose a debt brake by national constitutional law in the Member States of the Euro zone according to the German model. In the past, the German Federal Constitutional Court was unable to prevent the constant expansion of government debt in spite of the existing constitutional standards. The test is still pending as to whether this will be possible in the future, based on the newly introduced constitutional debt brake. At this stage, the only credible regulation would be to effectively withdraw the underlying nation’s free disposal with regard to their national budget deficits. What has been suggested to this date is merely a re-phrasing of the failed Stability and Growth Pact.
Solidarity of EU states
Solidarity among EU member states is certainly attainable without Eurobonds. In fact, solidarity is undisputed and has been enshrined as a legal principle in the European treaties. The EU structural funds and agricultural fund are examples of this principle. However, the European Treaties explicitly do not provide for group liability in favor of banks and other creditors.
Instead of jointly assuming national debt through group liability, the insolvent debtor countries should be motivated by the remaining EU states to openly declare their insolvency, to file for bankruptcy, and to engage in negotiations in order to reduce their debt burden to a sustainable level. According to the standards of a market economy, the underlying costs would have to be borne by the creditors, who ultimately accepted the associated risk. The respective debtor countries would certainly have to accept a significant burden during the process of restructuring their debt, not least because they would have to engage in a lengthy process of regaining their initial reputation. According to the solidarity principle, the insolvent states should certainly receive assistance by the remaining EU states. Should a state insolvency cause the collapse of financial institutions, the latter should also file for bankruptcy. If customers’ bank deposits could not otherwise be saved and if the money supply is at risk, European countries should jointly save such financial institutions by using taxpayers’ money, but they should not protect the bank’s shareholders. The decision to forgive Greece half of its debts is a step in the right direction.

Invited introduction to a New book on “Comparative Contract Law and Economics” by Mitja Kovač

Posted on 13 April 2011 | 4:09 pm

‘May the Sun of Justice Enlighten Us,’ has been the motto of Utrecht University since its beginning in 1636, and indeed a passionate comparatist could not find a more suitable motto for his own research. The quest for a new, deeper understanding of the apparent similarities and differences between different legal systems, between their doctrines, rules and decisions presents the ultimate challenge for every comparatist. If one combines this sustained fascination with inspiration and encouragement from several outstanding scholars (to whom I owe everything what I know in the field of comparative contract law and economics) then an obvious result would be a search for a new multi-disciplinary international comparative law method which could form the basis of a universal legal science. Great comparatists like Lando, Markesinis, Hondius, Kötz and Zweigert have always instructed me that a true comparatist should strive for understanding, for the unraveling of seemingly widely accepted beliefs, follies and half-truths; he should, once he has isolated this quest from its national legal backgrounds, then bridge the apparent divisions; and he should fill in the gaps created by previous researches, where, indeed, the sun of justice should be the enlightening, inspiring motive. A traditional handbook on comparative contract law usually contains short summaries of different legal systems and tries to demonstrate significant differences between the compared legal systems, and especially between civil and common law. What surprised me, however, was the lack of any deeper, methodological framework for the evaluation of the differences or similarities. Being trained in law and economics, the benefits of an interdisciplinary approach, where an economically-inspired optimal model rule would serve as a uniform term of comparison, seemed clear. The more I analysed these differences from an economic perspective, the more I became convinced that many of them were matter-of-fact similarities. The question arose in my mind as to whether compared legal systems are, in the field of contract law, indeed as different as many comparatists tend to believe and if there is, apart from the simple borrowing of historical and cultural reasons, something more at stake explaining established legal changes, inconsistencies and similarities. Employing an economically-inspired optimal model rule as the uniform term of comparison, the presented essays assess some of the most controversial contractual issues, that is pre-contractual duties of disclosure, unforeseen contingencies and unilateral termination of contracts. In each of these essays, law and economics literature is surveyed and systematized into a coherent optimal model rule, which then serves as a uniform term of comparison. After each legal system is compared, it is followed by an examination of the current legal doctrine, and of the related law in action. The law and economics, and comparative contract law literature on all of these issues provide several striking insights. Following conclusions appear repeatedly in an unprecedented form: (1) All three assessments reveal that compared legal systems differ less than comparatists tend to believe. (2) Provided comparisons surprisingly reveal a growing trend from inefficient towards efficient legal practices. (3) All comparisons reveal wealth maximization as the main driving force behind the judicial decision making. (4) In all examinations economically inspired optimal model rule provides an objective framework for explaining inconsistencies or similarities, and an objective justification for certain statutory provisions or decisions, where doctrinal justification failed. (5) All assessments also offer path for statutory reform. In a quest for a truly international comparative contract law, these results appear rewarding and mutually beneficial. They may offer an additional explanation, justification and objective evaluation framework for traditional comparative contract law, as they may offer a pool of possible solutions and comparisons to legal and economic scholarship. In general, it is open to further investigation to confirm the observed pattern and to investigate even deeper into the real driving forces behind observed legal changes. This might lead to an improved understanding of all compared legal systems and may offer additional, welfare-maximizing propositions for statutory and judiciary reforms. The fruitfulness of further research along the same lines of analysis would provide ultimate recognition. This post is based on introductory part of my book: “Comparative Contract Law and Economics,” Edward Elgar Publishing, 2011. See: http://www.e-elgar.co.uk/bookentry_main.lasso?id=14286&breadcrumlink=&breadcrum=&sub_values=&site_Bus_Man=&site_dev=&site_eco=&site_env_eco=&site_inn_tech=&site_int_pol=&site_law=&site_pub_soc=

Conference in Tilburg on meta law and economics; Professor Peter Cserne's account

Posted on 6 December 2010 | 4:05 pm

MetaLawEcon: a TILEC workshop on the foundations of law and economics (Friday, 26 Nov 2010, Tilburg University, The Netherlands)
Péter Cserne (peter.cserne@uvt.nl)

When a discipline grows and gets well-established, many researchers tend to think that its foundational problems have been solved. This misperception is related to the fact that researchers often do not bother themselves with meta-level problems of their scholarship. For good or bad, they “just do it”, without much reflection on what they are doing. Although methodological self-reflection in not a panacea and rarely a full-time job, time to time it is useful to look at one’s work in a more abstract way.

Law and economics scholars are no exception. Fifty years after Coase’s The problem of social cost, law and economics seems to have become the lingua franca of US legal scholarship. Compared to the 1970s and 1980s, the discipline has become more pluralistic in its methods, more self-critical about its normative assumptions, assertions and ambitions, and it is increasingly popular in Europe (and elsewhere in the world). Still, there are significant misunderstandings standing in the way of the reception of economic insights in European legal academia. It is often suggested that this is related to the unresolved foundational problems of the discipline. Certainly, the meta-level discussion has been going on in many ways: Kaplow and Shavell’s Fairness v Welfare (2002) has provoked dozens of critical reviews, symposia are held (e.g. “Law and Economics and Legal Scholarship”, Chicago-Kent Law Review 79 (2004)), PhD theses written (e.g. by Gerrit de Geest, Horst Eidenmüller, Anne van Aaken, Klaus Mathis), collective volumes published, e.g. The Theoretical Foundations of Law and Economics, ed. Mark D. White (Cambridge 2008), Foundations of Law and Economics ed. Cooter and Parisi (Elgar 2009).

The interdisciplinary character of law and economics research raises further questions about the possibilities and limits of intellectual integration. While economists are more or less aware of the foundational problems of economic theory, they are rarely confronted with jurisprudential concerns. Lawyers who are working on doctrinal or policy problems are often confused about what to expect from economics. Finally, jurisprudential critiques of law and economics often have a straw man as their target.

These considerations inspired the Tilburg Law and Economics Centre (TILEC) at Tilburg University, the Netherlands to organise a workshop on the foundations of law and economics. Economists, legal scholars and philosophers from numerous European countries attended the workshop, amongst them a large number of students of the Erasmus Programme in Law and Economics. The keynote speaker was Professor Lewis A. Kornhauser from New York University. A leading scholar in law and economics who has published path breaking papers in many legal areas and also plays an important role in the dialogue between law and economics, legal and political philosophy, and legal theory.

Altogether, the presentations and the discussions showed at least three directions where further theoretical research has to be done. First, the paper by Régis Lanneau (Université Paris Nanterre) has generated a vivid discussion about the methodological status of economic models. While in his keynote speech Lewis Kornhauser analysed the role of formal models both in the explanation of legal doctrine and legally relevant behaviour and in legal design, Stephan Tontrup (Max Planck Institute, Bonn–Jena) discussed through examples from laboratory and field experiments the methodological difficulties of integrating experimental insights in law and economics. Wojciech Zaluski (Jagellonian University, Kraków) showed the different ways the formal models of game theory can be useful in the explication of legal interpretation. These alternative methods also raised questions about the right balance between formal modelling and empirical research in understanding human behaviour and social interaction in legal settings. Discussing the impact of experimental methods on law and economics, Georg von Wangenheim (University of Kassel) argued that they cannot replace microeconomic theory in explaining behaviour but they can both improve the predictions and challenge the normative framework of welfare economics.

A second focus of the discussions reflected on the apparent tension that while law is local, economic theory claims to be universal. This raised the question about the various ways how theoretical insights and empirical findings can be integrated in legal theory, legal education and legal practice. Joining the workshop from Canada through video conference, Prof. Ejan Mackaay (University of Montréal) discussed the prospects and limits of law and economics in civil law countries and reflected on his ample experiences with introducing law and economics to the French speaking legal academia and education. As Pierre Larouche (Tilburg University) pointed out, the term civil law is often used ambiguously in legal literature, as it is sometimes opposed to statutory law, sometimes to common law. The second opposition also led the discussion into the recent controversies about the legal origins literature, and more fundamentally, raised questions about the interaction of economic and comparative analyses of law.

Third, somewhat surprisingly, the discussion showed that a few key concepts and theories of law and economics, such as transaction costs and the Coase theorem which are often thought to be uncontroversial cornerstones of the discipline, raise fundamental problems and misunderstandings. Giuseppe Dari-Mattiacci (University of Amsterdam) argued that the apparent tension between the Coase theorem and Calabresi and Melamed’s theory of legal remedies is linked to whether transaction costs are treated as exogenous or as endogenous variable. Mariusz Golecki (University of Łódź) showed that apart from the informal statement of a theorem, Coase’s ‘The Problem of Social Cost’ includes many pioneering insights about the functioning of the legal system which are directly relevant to legal scholarship.

This workshop marked the first step of MetaLawEcon, an initiative for concentrating forces and creating a network of lawyers, economists, and philosophers for reflection on the theoretical challenges of using economics in legal research. Those interested in the activities of MetaLawEcon should contact the organiser at peter.cserne@uvt.nl

Skogh's dinner speech and memoirs

Posted on 21 September 2010 | 6:22 pm

Göran Skogh has been kind enough to allow us to post his dinner speech, including his vivid memoirs. Skogh held the speech after having been honored by EALE for his life-long commitment to law and economics and to EALE.


The 25th Anniversary of the European Association of Law and Economics

Dinner Speech 17 September 2009



Economics of Crime in the Past
and the Birth of EALE


A Personal view

Göran Skogh


Dear Friends of Law and Economics:
The European Association of Law and Economics, EALE, celebrates today its 25th anniver-sary. Its members can look back on a long row of successful research activities under the um-brella of the Association. Parallel to EALE there are independent international Law and Eco-nomics Masters and PhD programs. Bologna, Hamburg and Rotterdam run complete such educational programs. The Law and Economics movement flourish in many universities around the world. It is, therefore, a great pleasure for me to meet the many researchers here at the annual conference.
The annual conference of EALE is usually crowned with a gala dinner. Today’s dinner is unbeatable with delicious Italian food and an outstanding historical atmosphere; in a castle of marble; in the heart of Rome. We are grateful to Luissi University, to Roberto Pardolesi and his staff.
The current celebration is of special dignity for me personally. I just received a distinc-tion and an award from Eli Salzberger, President of EALE. The flattering description of my work requires responsive words of “Thanks”. I will, therefore, talk about some personal expe-riences during the years 1964-1984. Thus my story starts 20 years before EALE’s birth and 45 years back from now. I hope you will find it of interest to get some information about the old history of EALE. I will bring up three issues.
First, old friends in EALE kindly name me the “father” or/and the “mother” of EALE. At the annual dinner in Nancy 2003 I claimed that I am the mother, and that the father is still unknown. Of course, that was a joke. Now, I better tell more precisely what caused the birth. I will be as correct as possible, although my memory may fail in details.
Second, how could a poor and initially unmotivated person like me receive a PhD in “Economics of Crime” in 1974? There was no academic tradition in my family and Economics of Crime did not exist when my studies started in 1964.
Third, how was EALE’s birth related to my career, and how could the Association sur-vive?

1964-1968
In spring 1964 I finished a year of mandatory military service in the Swedish army. I returned home to the small Swedish town Värnamo, known for its furniture industry, glass products and design. It was nice to be home again, but I had a problem. I was 21 years old without any ideas on what to do in the future. Yet, I did not bother too much. The summer was wonderful in the family’s summer cottage at the Baltic Sea. In the middle of August, however, when the swimming and sailing season was over, I had to return home again because of lack of money.
The financial problem became acute. I had to decide what to do in life, i.e. to choose an education. There were various options. I left high-school with grades above average, but not good enough to be accepted as student of medicine or architecture, that were professions of high prestige in our family. There was no academic tradition in the family, and there was no strong pressure on me in that direction; my father was a furniture designer and my mother sculptured in clay and draw ornaments in glass. Both my sisters studied crafts and design. I showed no talent in that direction, they said.
I could get a job in town, or apply to one of many professional schools in the region. Finally, I had the option of free courses at one of the Swedish universities. I decided to go to the University of Lund that was rather close to home. Lund University had also a good and liberal reputation.
The academic term at Lund University started around September 1. Before that, I in-tended to stay home to save money. However, by mid August my father became irritated hav-ing me hanging around. He said to me to go to Lund and start at once.
We had in the family not discussed my economic situation before. My expectation was that my father should pay my studies. He made, to my knowledge, much money on furniture royalties. Later, I realised that he was good both in making and spending money. Anyway, he gave me a check on an amount that he expected to be enough for two quarters at the universi-ty. I was un-experienced and assumed it okey. I did not found the agreement binding, as he did.
Lund was an empty town when I arrived two weeks before school started. The excep-tion was the students’ pub “Atheneum”. It was full of students of all ages. They were arguing about everything. Most students showed to be radical and left wing. I got many new ideas and theories to think of. Macro economic theory and central planning, as an alternative to the market, were on the forefront. The free market economy that was appreciated by the entrepre-neurs in Värnamo had a bad reputation among the intellectuals in the pub.
I felt a need of more knowledge in political economy, and I wanted to post-phone the choice of profession. That made me sign up for the two first quarters of Economics.
Yet, I became disappointed and felt cheated. The first course was not in Economics. It was rather an introduction to elementary statistics, a description of “Business in Sweden” and one on “Social Welfare in Sweden”. I started to study. Statistics and Business were easy. A prob-lem was a book on Social Welfare. It was full of numbers on sick-payments, pensions, child support, etc. I found it boring, useless and seemingly politically biased in favour of the Swe-dish policy in power.
The exam came, and I failed on the Social Welfare part. I passed two weeks later. It is common that beginners fail at the first test. It was no big deal in the academy of Lund. How-ever, it was a chock coming home. I had failed and had no money left. I hoped for some mon-ey and sympathy from the family. But I received no understanding. My oldest sister was an exception. She knew the student-life by some own experience.
Most surprising to me was the reaction to my choice of topic. Politics had so far been taboo in the family discussions. “Economics” to my father now showed to be equivalent to “centralism”, “taxes” and in the end, “communism”. To my mother and sisters Economics was something evil that should be avoided. Technicians and economists use only one (the wrong) half of the brain and should, therefore, be encouraged to use the other part. Hence, I should study something nicer like Architecture, History of Arts or possibly Philosophy.
If I failed once more in Lund there was evidence enough, according to my father, that the best for me was to join the industry, e.g. the furniture industry there where they demanded labour. He wrote a check of the same amount as the first one. After that he pressed me towards the wall and shouted: “I will never pay anything more for your academic studies.” I believed him. He wanted to make me a craftsman as he was himself.
I continued with Economics the second quarter. Now the topic was “Micro Economics" based on a text-book by Richard Lipsey. This study opened a world to me. So far, learning was a matter of memorizing. Teachers taught how the world is. The testing and falsification of hypotheses, and the modern relativism was new to me. Lipsey´s introductory chapter on the scientific and elementary theory of science opened my eyes. Both the weakness and challenge of positive social science became apparent.
My father´s decision not to support my studies, and my unwillingness to remain dependent of him, made me run into financial problems again. The problem was, however, soon solved by a helping hand. 1965 there was a new study-financing system introduced by the Swedish Government. Earlier, students with wealthy parents received no support from the State. The students had to rely on the support from their families. After the study-loan reform loans with a State guarantee, and a low real interest rate, was offered to all students. The study-loan was important to me. It made me less dependent on my father, and I got time to study Economics that suddenly had become important to me. The studies went well and I received the level equivalent with a MA in 1968.

Doctorial studies
1968 was the year of student revolutions around the Western World. Lund was on the front. Most established authorities were questioned. The number of students also increased. Lund University was crowded and there was a shortage of teachers in Economics. This gave me and other un-experienced students an opportunity to earn money as temporary lecturer. The job was attractive to me, and I enrolled as a PhD student. As such I needed a theme of research. My choice of theme was “Straffrätt och Samhällsekonomi” (Economic Analysis of Criminal Law).”
That was an unconventional choice. Scientific treatment of crime and criminals was at that time a matter of Sociology, Medicine or Statistics, but not Economics. Criminal behaviour was assumed irrational and was treated as an illness of the criminal, or of Society. Radicals claimed, on the contrary, that criminals usually were rational and that punishments might be hard, but should be limited in time. Unlimited sentences and treatments had a tendency to become never ending and thus uncertain and arbitrary. Gunilla (psychologist, my girl-friend and soon my wife) was working with the treatment of criminals. She made me interested in the debate on rational criminality, with a start at a party 30 April 1969 where we first met.
Important for my choice of topic was also that my first students were students of Law. There was a tradition that students of Law should have some Economics as orientation. Espe-cially Tax Law and Competition Law were parts of the economic studies. Economic analysis of Criminal Law was not practiced.
The intension with my research was to examine how crime and criminals could be un-derstood by economic analysis. Welfare Economics was one possible approach. Here Gov-ernment maximizes total wealth or utility. This utilitarian approach got its modern, formalised version in the article “Crime and Punishment. An Economic Approach” by Gary Becker (1968). This article entered the Lund University Library just in time. It was very useful to me. The “benevolent dictator” balances and distributes the utility of the citizens. For instance, Brottsbalken (the Swedish Penal Code) could be understood as a balancing of costs of crime, policing costs and costs of penalties.
However, Government does not only calculate and distributes costs of crime. The role of the State is also to maintain Law and Order, which includes to limit private redistribution by monopoly, theft and rent seeking (Tullock, 1967, Buchanan 1975). The aim is to avoid disorder and anarchy. Hence, the role of the State needs to be analysed by other models.
A Hobbesian anarchy model seemed to me a more appropriate starting point when crime and legal order is in focus. A game theoretical model is, therefore, used in my dissertation (Skogh, 1973, and Skogh, and Stuart1982 a and b).
Our model has a given number of identical players (banana pickers) have in the model three strategies each. No property rights or Government protects the players. The players may; (a) search bananas to consume; (b) search for bananas that are hidden by others; (c) hide bananas collected by others. In a first non-cooperative Nash equilibrium all will be involved in searching and taking. If the game is co-operative and the contract is enforceable the players (Government) can collectively decide that: “A banana is owned by the player that has collected it.” Property rights are thereby introduced, and taking is an excluded strategy. Hiding and protection of bananas become unnecessary. The welfare increases because more resources can be used to enjoy time or bananas.

1974-1984
The development of Law and Economic in Lund was rapid. Professor of Law, Carl Martin Roos and I started in 1974 a joint Law and Economics seminar (Roos and Skogh 1975-1977). I finished my PhD (Skogh , 1973). “Priser, Skadestånd och Straff” (Prices, Torts and Pun-ishments) compares the different measures to control accidents. In the same year we arranged an international symposium in Lund. Leading scholars such as James Buchanan, Guido Cala-bresi, and Richard Posner contributed with comments and papers to a conference volume I edited (Skogh 1977 b).
The study-loan system mentioned above was invented by a young, smart and receptive economist, Ingemar Ståhl. He was employed professor 1968 at the Department of Economics where I studied. He became very interested in Law and Economics, and I was impressed by the new professor. It was also flattering that he was enthusiastic about my study of crime. We had lots of fun as well, both in class and private. He introduced me to persons in the Ministry of Finance. Soon I was working for a committee investigating crime forecasts in the budgeting process of the Ministry of Justice. A public investigation on minor thefts, especially shop-lifting, was started and I wrote an appendix on the social costs of shoplifting (SOU 1971:10. Appendix 9). These contacts speeded up the dissertation that was ready in 1973.
In the middle of the 1970s problems appeared. The good and open relation to Ingemar Ståhl became complicated. I was financially depending on him and felt unsecure. Maybe, I should go for another job, but I wanted for family reasons stay in Lund, and the University was the only employer for a Law and Economist. Hence, I was locked in, which made my international contacts important.
After my PhD I visited the US several times. First, I went to the University of Chicago. I had no invitation or recommendation letter so I feared entry problems. I was well received, anyway. Here is an example; the Journal of Political Economy published a paper by Richard Posner (1975). The paper’s main point was that the social cost of a monopoly exceeds the traditional deadweight loss. There may, in addition, be a loss due to unproductive rent-seeking. In my PhD I made a similar point by use of a labour union example. That is, the ben-efit of a union may be lost by costs of forming and maintaining a cartel. I sent my union chapter to Richard Posner, who quickly arranged a seminar in Chicago Law School. Gary Becker and some other famous scholars were present. I was very nervous. Before the seminar I exer-cised in front of a mirror. The presentation seemed all right - until the audience started to ask questions. Suddenly, I felt completely lost, and I thought that the seminar was a complete failure. Nevertheless, they liked the paper and I was recommended to submit it to the Journal of Political Economy. There it was soon published after some revisions (Skogh, 1976).
Another important place was the Public Choice Center, Blacksburg, VA were I met James Buchanan and Gordon Tullock. They missed my announcement and seemed a little confused, but the hesitation vanished when they understood that I know their work and that I carried own interesting work. Thereafter, I have met Professor Buchanan several times. My family was once invited to his farm. Another time he stayed with us in Sweden. We went for a sailing tour, but there was practically no wind. He was satisfied with the slow motion, but he seemed more interested in the wild blackberries on the shore. Later, just after he received the “Nobel Memorial Prize in Economic Sciences”, I had the pleasure to invite Professor Buchanan to a great dinner at Grand Hotel in Lund.

The Birth of EALE
In April 1982 Gunilla and I got our third child. The Swedish Welfare System admitted either one of the parents to take paid care of the baby during the first year. It was allowed to stay abroad. That made it possible for me and the family to go to the US again. We went to Uni-versity of California at Santa Barbara for half a year. There I taught Law and Economics and completed several papers together with my friend and co-writer Charles Stuart (1982 a and b).
In the US I got time to reconsider the situation home in Sweden. I did not get full credit for my work, I thought. The support of Ingemar Ståhl was gone. I was pessimistic and ex-pected no chair in the future, independent of quality and quantity of my Law and Economics production. An alternative was to start my own business. I started, therefore, a small founda-tion “Forum för Rättsekonomi” (Forum for Law and Economics) and “Rättsekonomi i Lund HB” (Law and Economics in Lund Company). All remained small, however, partly because the European Association of Law and Economics came in between.
An organisation taking care of the Law and Economics interests on a European level came to my mind when I visited the US. On my way back to Sweden in 1983 I paid a visit to the Law and Economics Center at Emory University, Atlanta. Emory published a Law and Economics newsletter. Its mailing list included Europeans that were strangers to me. I wanted to contact these persons that seemed to have similar interests. It was self-evident to me that economists in Law Schools and lawyers in Economics Departments needed to support each other both in teaching and research. The European Union law and legislation required, in addition, a large number of economic investigations.
It was natural for me to take the initiative to the European Association. I had experience of several European countries, and of travel and work in the US. The seminars at Lund Uni-versity, including the conference in the hotel Lundia 1977 (see further the conference volume, Skogh, 1978), were also important. We received necessary financial support from the Mari-anne and Marcus Wallenberg’s foundation .
The first EALE conference was held at the study-centre “Sparta” in Lund, 19-21 March 1984. I was elected the first chairman. Several participants declare an interest in taking over the leadership the second year. Nonetheless, soon after the first meeting EALE had no leader-ship and no place to go for the second annual meeting. Without a second meeting in 1985 the baby would die, I thought. In this moment I got contact with Matthias Graf von den Schulen-burg working at Wissenshaftscentrum, Berlin. He became interested and together we organ-ised the second conference. The conference was a success. The interest was great both among European and American scholars. The conference volume became a mile stone in the history of EALE (Schulenburg and Skogh 1985).
The third conference was held in Oxford and the forth in Betanzos, Spain. EALE re-ceived some continuity and I felt that it was time for me to leave the leadership. Fortunately, there were excellent candidates. I was delighted suggesting a new leadership:
Roger van den Bergh , Chairman and Michael Faure, Secretary.
They kept a successful leadership for more than a decade. My own research interest moved from “Crime” to “Transaction Costs and Insurance”. My private business remained small, because Academia, EALE included, came in between.


Concluding remarks
The reason why EALE was founded, and still develops, is a real demand for its services. Eco-nomic analysis of Law is a challenge to both lawyers and economists. EALE coordinates re-search and contributes to the internal and external discussion. Here informal meetings – the gala dinner included -- have an important role. Do not forget, it is important to get together and enjoy life. Teaching, friendship and research come together.
The growth of organisations like EALE is due to macro processes that the individual does not influence, but the outcome is also a result of individual vision, control and effort. My efforts organising the first annual conferences were necessary, but not sufficient, conditions for the start and survival of EALE. I also held a watching eye later on. In that sense you may call me a “founding father”. It may remind you that EALE has a history. On the other hand, you shall not forget that there are many actors behind a success like EALE.

References

Announcement: The European Association for Law and Economics. The International Review of Law and Economics, pp. 223-227, no. 4, 1984.

Becker, G. S., “Crime and Punishment: An Economic Approach”, Journal of Political Economy, 169-217, 1968.

Posner, R. A., "The Social Costs of Monopoly and Regulation", Journal of Political Economy, vol. 83, no. 4, 807-827, 1975.

Skogh, G. “Straffrätt och Samhällsekonomi” (Economic Analysis of Criminal Law) Dissertation. Lund Universi-ty. Liber, Lund 1973 a.

Skogh, G., "A Note on Gary Becker’s Crime and Punishment: an Economic Approach", Swedish Journal of Economics, vol. 57, 305-311, 1973 b.

Skogh, G., "The Social Costs of Monopoly and Regulation: Some Comments", Journal of Political Economy, vol. 84, no. 6, 1319-1323, 1976.

Skogh, G. Priser, Skadestånd och Straff. (Prices, Damages and Punishments) Liber. 1977a.

Skogh, G. Editor Rättsekonomiska seminarier I, II, III. (Law and Economics Seminars I, II, and , III.) Depart-ment of Economics, University of Lund. Memoranda 1975:12, 1976:27, 1977: 33.

Skogh, G. Editor. Law and Economics. Report from a symposium in Sweden. Juridiska föreningen i Lund, no 28, 1978.

Skogh, G., "Public Insurance and Accident Prevention", International Review of Law and Economics, 67-80, 1982 c.

Skogh, G. and Stuart, C., "An Economic Analysis of Crime Rates, Punishment and the Social Consequences of Crime", Public Choice, 171-179, 1982 a.

Skogh, G. and Stuart, C., "A Contractarian Theory of Property Rights and Crime", The Scandinavian Journal of Economics, no. 2, 1982 b.

Skogh, G. Editor ”Law and Economics and the Economics of Legal Regulation”. Co-edited with Schulenburg, Matthias, Graf von den. Martinus , Nijhoff, 1985.

Skogh, G. ”En samhällsekonomisk mål-medel-analys av butikssnatterier.” (A National Economic-Aims-Means-Analysis of Shoplifting). SOU 1971:10 appendix 9.

Tullock, G. “The Welfare Costs of Tariffs, Monopolies, and Thefts”, Western Economic Jounal no 5, 224-232, 1967.

Benito Arrunada on the need to reform the Spanish labor market

Posted on 30 June 2010 | 11:55 am

This EALE blog invites many kinds of postings, concerning both theoretical and policy related issues. The idea is to become a forum for the exchange of wide-ranging ideas touching upon (European) law and economics. Here is a posting concerning the need for labor reforms in Spain. Please feel free to send me something. - Henrik (hl.ino@cbs.dk)

`Labor reform as an ethical imperative´

Prof. Benito Arrunada, Dept. of Economics & Business, Univ. Pompeu Fabra

Spain has the most restrictive labour law of all developed countries. As a result, it also has the highest unemployment.

The rules that weigh down industrial relations today stem from those laid down formulated under Franco. Why are they still alive 34 years after the death of the dictator?

Some people may think that the labour laws are wrong but well-intentioned. I do not believe this. The State, in its zeal to protect workers, is unlikely to have forgotten that a contract is only possible when all parties agree. The problem does not lie in the State’s paternalistic myopia but in the unequal way it treats its citizens.

In Spain, there are two types of worker. On the one hand, the élite which enjoys “placements” in the public sector and large corporations. On the other, temporary workers—mostly young people, women and immigrants—as well as marginal, self-employed workers.

This duality is apparent throughout the Spanish labour market, especially in access to long-term, stable jobs.

More than ever, we need stable jobs, in which workers can gain experience and accumulate knowledge. But stability is reserved for the labour élite. Today’s permanent contracts do not promote long-term relations because employers are obliged to continue paying their workers, whatever their productivity and attitude.

Obviously, employers take precautions. Firstly, they avoid long-term employment, replacing work by capital and long-term by short-term work. When they have no alternative and they have to hire long-term workers, they choose people they can trust, who will be productive even when they have a contract in which abuse is possible. So the people they hire are those able to signal that they will be cooperative in the future. And such signals, considering the calamitous state of education in Spain, are only within the reach of the well-off and the well-connected.

Entrepreneurs are being criticised for not hiring more workers. But it is no coincidence that there are few Spaniards who want to be entrepreneurs, and even fewer who want to be employers. This vocational crisis can be seen even in schools of Business Administration in regions that once proclaimed their entrepreneurial spirit. This is not just because entrepreneurs are viewed with suspicion: in a society that worships money, the fact that young people do not wish to be entrepreneurs suggests that business is not very profitable.

Temporary contracts are also a tool for inequality—not because they are temporary, but because they cannot be extended. This restriction prevents them from being used for long-term relations without the risk of opportunism. Long-term relations are thus reserved for the labour élite which is able to offer the right signals.

What’s more, there is tremendous hypocrisy regarding temporary contracts. Their fiercest critics are often the first to use them for their own employees, as has occurred with some trade unions.

And employers’ organisations are not free from blame. They say they are in favour of making contracts more flexible, but seem to be less than enthusiastic about an equally necessary measure, that of liberalising the negotiation of collective agreements. Perhaps they are afraid of undermining their raison d’être.

The crisis is exacerbating discontent, and these inequalities will end up being intolerable. The privileged half of the country cannot continue to live at the cost of the other half. If it wants to keep its standard of living, it will have to work for it. It is time for popular sovereignty to do away with privileges, and restore the forgotten values of justice and equality of opportunity. Labour reform is an essential first step to achieve the fair and open society that we all want.

Posted on 13 June 2010 | 8:33 pm



Europe Needs A Sovereign Bankruptcy Procedure

By Hans-Bernd Schäfer

The bailout for Greece has spoiled the reputation of Chancellor Angela Merkel so much, that almost nobody in Germany wants her in charge when the next crisis unfolds. First she was not far sighted enough to see the upcoming danger and when the danger was clear and present she was not courageous enough to fight for the right decisions. First she subordinated the problem to internal affairs like a provincial election and insisted that this is only a problem between Greece and its creditors. Later she was overrun by coordinated efforts of banks and other creditors to grant a complete bailout.
What went wrong? The fathers and mothers of the EURO simply ruled out the possibility that a member of the Euro-Zone might default. Had they studied financial history they would have known that sovereign bankruptcies are in the long run as numerous as snowflakes. The Greek crisis would have been swiftly solved without any impact on the credibility of the Euro, had a sovereign bankruptcy procedure been in place, as it already exists for cities in the United States. When in the USA a large city goes bankrupt that does not even cause headlines around the world, let alone affects the strength of the dollar. Greece however, with an economic weight of 2.6% of the Euro area’s GNP could send the Euro into decline, because no orderly procedure existed to deal with the crisis.
A well-ordered method for sovereign bankruptcy should observe in particular the following four objectives, including the appropriate legal instruments. First of all, after the government of the debtor nation has declared sovereign bankruptcy, the creditors – just as with normal insolvency proceedings – should remain inactive to generally prevent the draining off of foreign currencies. This limits the effects of the crisis on the real economy. Secondly: the proceedings should create incentives for the debtors and creditors to keep from carelessly or even thoughtlessly increasing the foreign debt. These proceedings also allow outsiders to impose harsh terms and reforms on all offers of help to the nation whose debt is to be restructured. It includes prescribing a haircut for creditors by reducing interest payments or writing off a part of the debt and reduce it to a sustainable level. When this occurs, the insolvency proceedings cast a long shadow on the behavior of the creditors and debtors at the time the loan was given. It leads to ex ante efficiency of insolvency proceedings. Thirdly, the conditions of the economic policy in the debtor nation should ensure minimum standards for the maintenance of essential public services. Fourthly, an independent person or committee, who neither follows personal interests nor is dependent on the interests of third parties and is in the position to weigh the interests of all parties and make reasonable judgments, should coordinate the proceedings, for instance a European or International sovereign insolvency court.
If well-regulated insolvency proceedings had been established, Greece would have declared sovereign bankruptcy when mature bonds could no longer be refinanced. Greece could have then submitted an application to open proceeding to restructure its debt at an institution created for just this purpose. The application would have lead to a moratorium that would have prevented a sudden reduction of Greek debt by seizing foreign assets and the following notorious hemorrhaging. In official proceedings the application would have then been examined to determine which sanctions could be imposed on the nation. The state would receive a bridging loan or other help. The loan could either come from the IMF, other European countries or state banks. The holders of government bonds as well as bank loans would be called to pay for and receive a so-called haircut. If such a haircut would have endangered certain banks, which are too big to fail, the governments could have come to rescue the banks but not the equity capital of their owners. These proceeding would not have endangered the stability of the Euro. In fact, it would show that a difficult financial crises can be surmounted by the use of a well-ordered and legally conceived proceeding. The rules of crisis management would stem the danger of future crises and not expand them.
In the absence of any legal framework the governments of the Eurozone agreed on a complete bailout, which gives the wrong incentives to creditors. For a period of three years all Greek loans, which become due are replaced with credits from governments of the Euro Zone. After 3 years one third of all Greek debts will be shifted to the taxpayers in the Euro Zone without any burden to the creditors themselves. This is a bailout, giving creditors even more incentives to careless lending and spending resources to receive government support. And this is not even the end of the story. Even though Greece can replace all its due capital payments with new loans from the bailout package, the European Central Bank has started to buy huge amounts of Greek government bonds.
At best the bailout package has bought three years of time. After 3 years the Greek debt will be higher than today, then about 150 per cent of the national product. The huge reforms within Greece will have disrupted the economy, as the public sector will shrink and it takes more than three years for the private sector to provide almost a million of new jobs. To send Greece back to the capital markets after 3 years will most probably not work. Latest then a debt restructuring including a sizable haircut for Greek’s debtors will be unavoidable. It is to be hoped that the governments of the Euro zone come to realize this and invest their time into drafting a debt restructuring procedure which works and does not lay the foundations of more crises in the future.

Why is Law and Economics more influential in the US?

Posted on 9 June 2010 | 9:33 am

After reading the excellent article referred to below by Professors Martin Gelter and Kristoffel Grechenig on the reasons why European legal thought has embraced law and economics much less than American legal thought has, I asked them if they would write a posting about it.
Feel free to comment on this posting by Prof. Grechenig (you can comment, or send a longer posting to me at hl.ino@cbs.dk). - Henrik

Some History of Legal Thought and Its Influence on Law & Economics

by Kristoffel Grechenig, Dr., LL.M., University of St. Gallen, Switzerland & Max Planck Institute for Research on Collective Goods, Bonn, Germany

I widely agree with H.-B. Schäfer, when he says that the impact of law and economics on legal scholarship is increasing (blog post, 30/5/09). In order to understand why there are still differences between U.S. legal scholarship and German-tradition legal scholarship with regard to law and economics, it is essential to understand the historical development of German "legal science". I believe that there are two main factors for this transatlantic divergence: First, legal realism enjoyed great success in the U.S., whereas the German free-law movement failed to leave a lasting impression. While legal realism transformed American legal thought and opened up the discourse to policy arguments, the predominant German legal theory for a long time emphasized and still emphasizes the internal coherence of the legal system; it assigns only a limited role to external elements. Second, the different philosophical roots and attitude towards utilitarianism and consequentionalist thinking in general had an impact on legal scholarship such that a resistance to consequentialism in Europe implied a resistance to law and economics. To be clear, quite a bit has changed in the past due to the work of the people who have posted on this blog and many others. The point is that a general and widespread acceptance will depend, among other factors, on how well the historical basis of legal doctrine has been understood. For more on the historical development please see the article by Martin Gelter and myself published in the Hastings International and Comparative Law Review, Vol. 31, No. 1, 2008, http://ssrn.com/abstract=1161168).

New book on empirical methods in law by Ulen et. al.

Posted on 13 November 2009 | 8:02 am

An interesting book has come out on statistical methods in law, written by Professors
Robert M. Lawless, Jennifer K. Robbennolt, and Thomas S. Ulen. The book introduces the reader to empirical methods, in a non-technical, verbal (non-mathematical) fashion. Its non-technical approach might make it useful (and popular!) in law or law and economics courses.
See more on: http://www.aspenpublishers.com/Product.asp?catalog_name=Aspen&product_id=0735577250&cookie%5Ftest=1

Dr. Ringe on European Court of Justice case law on tuition fee discrimination

Posted on 19 October 2009 | 9:18 pm

Discrimination can be beneficial – Why the ECJ case law on tuition fees should be reconsidered

Dorothea Ringe, Oxford Centre for Entrepreneurship and Innovation, Said Business School, University of Oxford, dorothea.ringe@sbs.ox.ac.uk

By guarding non-discrimination between EU-citizens, the European Court of Justice has done much to uphold the spirit of European integration and to further efficient provision of goods and services in the internal market. However, non-discrimination is not always beneficial. The ECJ case law on tuition fees is one example. By extending the non-discrimination principle to the area of higher education and especially tuition fees, the ECJ disincentivises European governments from spending tax-payers money on high quality higher education. This is especially problematic given the importance of higher education for economic prosperity and growth.

In its case law, the ECJ ruled that EU Member States are not allowed to differentiate tuition fees according to nationality (seminal case: Gravier v City of Liège 1985). This line of case law has created a free-riding problem between the EU Member States. The States anticipate that students are willing to study in another Member State if they get a better deal with respect to the quality of higher education in relation to tuition fees. If a State reduces its spending on higher education, it expects a proportion of its high school graduates to move abroad. But there is a high probability that after graduation these students return to their home State because, at least in the long run, Europeans have a high tendency to work and live in their home country. As a result, the government will have saved some resources but still expects to benefit from a highly educated citizen. Politicians can then invest these resources into other politically rewarding projects. All States face the same dilemma and therefore all have an incentive to reduce their spending on higher education.

So what can be done to solve the problem? There are two potential solutions to remove the adverse incentives: the first would be to reverse the ECJ case law and allow national governments to charge migrant students within the EU full-cost tuition fees. This would be to follow the US model of financing interstate student mobility. The other solution would be to follow the Swiss model. In Switzerland, a system of intergovernmental transfer payments exists, which compensates the host canton for educating students from other cantons.

The current ECJ case law prevents the introduction of the US model of differentiated tuition fees mainly on the basis that non-discrimination needs to prevail. However, in its judgements the Court does not consider the adverse effects on investment incentives in higher education outlined above. Taking these effects into account, it seems much less convincing to me that the non-discrimination principle in the EC Treaty should cover tuition fees for mobile students within the EU. On the contrary, I think that increasing overall investment in higher education outweighs the negative effects of differentiated tuition fees on student mobility and should therefore be considered justifiable under the EC Treaty. The ECJ should therefore reconsider its current case law if it has to decide on another case of tuition fee discrimination.

It would be even better, if the EU Member States could agree on introducing the Swiss model of transfer payments. In this system, mobile students do not have to bear extra cost. Student mobility comes with many advantages and should be encouraged if possible. This is the aim of the Bologna process. However, given the current institutional structure within Europe, it comes as no surprise that in the Bologna negotiations, EU Member States’ governments were not able to agree on the allocation of the cost of cross-border student mobility within the EU. Student mobility within the EU is highly unbalanced. As they would financially lose out, net-student-exporting States have no incentives under the current system to agree to a system of transfer payments. By ruling out tuition fee differentiation according to nationality, the ECJ therefore also prevents intergovernmental bargaining with regard to a system of compensation payments.

Realistically, the ECJ is unlikely to change its established case law with respect to tuition fee differentiation in the medium term future. The only option in order to move from the current system to the Swiss system could be to include a system of transfer payments within a grand political bargain in the context of negotiating the general EU budget. If this does not happen, the ECJ case law will continue to aggravate the problem of low spending on higher education teaching within the EU. Many students probably even prefer this regime where they have a lot of choice between Universities in different Member States. The social cost of the current system in the form of lost externalities of higher education, on the other hand, will have to be borne not just by the students but by all European citizens.
This post is based on the final part of my thesis “Tuition fees and equal access to higher education in Germany and the EU: An analysis from a law and economics perspective”

The Fourth in the Series on the development of law and economics in Europe

Posted on 21 September 2009 | 11:46 am


Developments of Law and Economics in Spain

Fernando Gomez, Universitat Pompeu Fabra, Barcelona, Spain


As has been pointed out by many observers of Law and Economics (L&E) as an intellectual enterprise, both from the inside and from the outside, the major difficulties for the growth of L&E have been encountered in settings in which traditional legal scholarship and education had deep roots. This is the case of Spain, where Law schools and legal scholarship are centuries-old, the legal professions –in private practice and in government service- are well-established, and the formalistic modes of approaching the legal system still are powerfully engrained in the internalized world vision of lawyers.

The progress made by Law and Economics in recent years is, nevertheless, remarkable, and proceeds along several lines. First, legal education. In the past decade or so, some of the most reputed Law Schools in Spain (Carlos III and Autónoma, in Madrid, UPF in Barcelona) implemented joint degrees in Law and Business Administration, Law and Economics and, to a lesser extent, Law and Political Science. These degrees were already in the market offered by private institutions, but the move by large public universities gave a definitive push towards joint degrees involving Law and other disciplines. With some exceptions, however, L&E as a distinctive intellectual discipline and approach to social issues related to the Law did not acquire a significant presence in those joint degrees, and remained largely confined to some graduate programmes, both at Law Schools and at Economics Departments, where the presence of L&E is already well-established. Moreover, the role of some of those graduate programmes in the promotion of L&E in Latin America, where many of the graduate students come from, should not be underestimated (see, for instance, the Law and Economics programme at Fundación Ortega y Gasset:
http://www.ortegaygasset.edu/contenidos.asp?id_is=253).
The recent ALACDE Meeting in Barcelona in June 2009, where L&E scholars from Latin America, Europe, and the US came together, is good proof of this influence.

Starting in the academic year 2009-2010 Law Schools all over Spain have started new curricula for their Law degrees, and again some of the leading Law schools have introduced L&E, and economically-oriented subjects in the core undergraduate legal education. This is a major impulse, although the major challenge still lies in the expansion of L&E methodology to understand and to teach the basic traditional legal courses (Constitutional Law, Property, Criminal Law, Contracts and so forth).

This concern about the actual use of L&E in legal scholarship produced by Spanish academics is one of the inspiring motivations behind InDret (www.indret.com). InDret is the first formally peer-reviewed legal journal in Spanish academic market, and is by now the most successful e-journal in Law in the entire Spanish-speaking world. Although the journal is generalist in scope, and ecumenic in approach, the number of articles that are squarely L&E papers, or at least L&E influenced, is very important, and growing, particularly in Corporate Law, Torts, Contracts, and Antitrust, but even in Criminal Law there has been relevant activity.

The other major L&E move in Spanish scholarship has been the creation in 2006 of the Spanish Law and Economics Association (AEDE, www.laweco.es) which serves as the first institutional expression of the Spanish L&E community, organizing sectorial conferences and sponsoring graduate courses in L&E, in Spain and abroad.

Most of those L&E initiatives are still young, but the wave of increased presence and relevance of L&E in the Spanish academic environment is already on its way.

Prof. Eger on the recent developments of the European Master of Law and Economics

Posted on 29 June 2009 | 8:03 am

The development of law and economics within Europe depends on the development of good educational programs. In this respect, the European Master of Law and Economics (EMLE) stands out. I asked Professor Thomas Eger,the program director, if he would be willing to provide a brief status report. /Henrik

The European Master in Law and Economics (EMLE): Recent Developments and Future Prospects
by Prof. Dr. Thomas Eger, University of Hamburg, Programme Director EMLE

The European Master Programme in Law and Economics (EMLE) is entering its 20th academic year, and still striving. Over this period, the programme has established a reputation as one of the primary sources of high quality postgraduate education in the field of the economic analysis of law in Europe. Thus far, more than 1,000 students have benefited from the cooperation between the pre-eminent European centres for research and teaching in Law and Economics. Currently, the EMLE network comprises the Universities of Aix-en-Provence, Bologna, Gent, Haifa, Hamburg, Manchester, Rotterdam, and Vienna. Most of the established scholars in the field have taught in the programme or have been associated with it at some point.
As for future prospects, we are looking forward to welcoming two additional teaching centres to the EMLE consortium in 2010: the Warsaw School of Economics and the Indira Ghandi Institute of Development Research (Mumbai, India). The Australian National University at Canberra will most likely join the network in 2011.
The EMLE programme continues to enjoy strong support from the European Commission in the form of the Erasmus Mundus (EM) programme, which provides generous grants for students and visiting researchers. EMLE was accepted for the first round of EM in 2004 as one of only 19 Master courses out of a total of 128 applications. A few weeks ago, we submitted an application for the second round of EM for further support from 2010 onwards. We are confident that we have prepared a strong application which reflects the unique value, structure, and organisation of the EMLE programme.

The third in the series on the development of law and economics in Europe

Posted on 30 May 2009 | 2:17 pm

Law and Economics in Germany

By Hans-Bernd Schäfer


When cosmologists tried to estimate the total amount of matter in the universe, they used two different methods. The first method was to add up the estimated matter of every visible star and galaxy. The second method included calculations derived from the movement of stars, which are influencedby the matter around them. Surprisingly the second method led to more than 10times more matter than the first method. Therefore physicists now believe that there is a lot of "dark matter" in the universe. With regard to law and economics writings there is a lot of dark matter in many countries -including Germany- too. These writings are almost invisible to the international audience. The authors write in their national language and publish in national law journals.

In a very informative article Oren Gazal has counted the international presence of law and economic scholars on international conferences and in international journals in different countries. He finds two countries outstanding in law and economics, Israel and the United States. Others follow in a great distance. I think this is basically correct but overlooks the large literature not written in English. In Germany there exist now more than a dozen of habilitation theses, dozens of Ph.D. theses and hundreds of articles on law making extensive and diligent use of economics, all in German language. They describe the consequences of legal norms, interpret the law with the help of economic tools, compare alternative rules and discuss regulatory competition. In the Max Planck Institutes as well as in various universities excellent legal studies using economic tools were produced and published in German language. The authors are lawyers, who gain little reputation inside their own profession, when they publish in English. They want to be read by peers, by judges as well as by attorneys. They want to be quoted in High Court decisions and be used in the classroom. And unlike economics, which is an international discipline, law is much more a cultural discipline, embedded in the national legal dialogue and language. A scholar of civil law, criminal law, constitutional or administrative law cannot earn a reputation in Germany by publishing predominantly in English. I believe that this is not likely to change over the foreseeable future.

The number of articles by German lawyers in international law and economics journals therefore reveals little about the importance of this field for legal scholarship in Germany. The impact of law and economics on legal scholarship is clearly increasing. Among German lawyers who publish continuously in this field in German language and use economic arguments are Behrens, Eidenmüller, Fleischer, Kirchner, Köndgen, Kötz, Leyens, Rühl, Schantze, Schweitzer, Spindler and Wagner. Their Law and Economics thoughts have not only entered textbooks on law but also commentaries such as the influential “Münchner Kommentar zum Bürgerlichen Gesetzbuch”. This will influence the legal language and court decisions. I think that now the majority of younger law scholars in the field of intellectual property law and corporation law believe that they cannot understand their own discipline without economics. And many civil lawyers welcome and support economic reasoning within their discipline. The idea of legal competition between German States and within Europe has become prominent among politicians, practitioners and scholars alike. A gradual and unspectacular shift from legal formalism to consequentialism is observable in legal scholarship. This does not necessarily imply much more teaching in law and economics as a separate discipline in separate courses but a change of content of existing courses.

There are places, where law and economics is particular prominent as a discipline, such as at Hamburg University, where the law faculty lends its support to a Ph.D. program in Law and Economics, an international master program and a specialisation program in law and economics for Hamburg students. But also the private Bucerius Law School and the Max Planck Institute for international and comparative law in Hamburg support research and teaching in law and economics. There are now many law faculties in Germany, where law and economics is taught on a regular basis, including Berlin, Humboldt-University, Bonn, Hanover, Munich, Göttingen, Kassel, Saarbrücken. In Bonn lawyers and economists work in the same faculty and regularly meet for law and economics seminars. This creates a very fruitful atmosphere, conducive for research. I cannot see any aggressiveness against law and economics in German law faculties anymore, much unlike 20-25 years ago. It has become a normal and accepted part of the legal scholarly debate and thinking.

All advanced law students in Germany have -since a recent federal reform of legal education- to register in a program of specialisation, before they can take the state exam. This can be law and economics. The exam results for this program count for 30 per cent of the state exam. Section 5a(2) of the reformed “Deutsches Richtergesetz”, a skeleton law, which regulates legal education, points explicitly to specialisation with interdisciplinary content. This makes it legally easy for law faculties to introduce a specialisation program in law and economics. Hamburg established such a program. But law and economics as a separate subject is also taught in introductory courses and in seminars in many places across the country.

What is not observable in Germany is what Nuno Garoupa describes for the USA, where law schools hire large numbers of social scientists as law professors. A habilitation in the discipline of law remains the entry ticket for becoming a law professor. A habilitation in another discipline –even if it is closely related to law- together with an additional law qualification –is very unlikely to qualify for a position of professor of law in a German law faculty. The practice is somewhat more lenient for law professors in business or economics departments. I think this will not change in the foreseeable future. This practice is certainly a constraint on high standard interdisciplinary research in German law faculties. On the other hand Max Planck Institutes presently put together interdisciplinary groups of lawyers and economists to work on joint and similar projects. This might result in high quality research within a couple of years.

The second in the series on the state of law and economics across Europe

Posted on 4 May 2009 | 7:18 pm

Recent developments of law and economics in Israel

by Oren Gazal-Ayal, ph.d, Senior Lecturer, Faculty of Law, Haifa University

Law and Economics is definitely the leading methodology in current Israeli legal scholarship. It is even more popular than in the United States, where it originated. Per population, Israeli participation in the American Law and Economics Association and in its European parallel is several times higher than participation of American or European scholars. A similar picture can be found when examining Israeli participation in writing papers in law and economics journals. See http://www.bepress.com/rle/vol3/iss2/art11/. Law and economics language and discourse are entrenched in every legal discussion in Israel, even among strong opponents of this methodology.
Law and economics is also embedded in the core curriculum of Israeli law schools. In every tort, contract and property core course, the basic law and economics arguments are discussed. The four leading law schools in Israeli universities usually offer more than one law and economics course to their students. Many Israeli law students study for a degree in economics while pursuing their law degree. In some law schools, a course in economics and basic concepts of law and economics is obligatory. The Haifa Law School is also a participant in the European Master Program in Law and Economics. Leading law and economics scholars originally from Israel are current faculty members in American law schools including Harvard, Yale, Chicago, NYU, Virginia, Northwestern and more. Law and economics is also popular among economists in Israel, although to a lesser degree.
The popularity of law and economics has also penetrated the legal discourse in Israeli courts, and the Israeli Supreme Court often refers to the leading scholarship in economic analysis of law, though sometimes it does so while adopting the views of its critiques. However, since an increasing number of judges, lawyers and law clerks have been educated in the highly law-and-economics friendly law schools, one can observe a slow and persistent increase in the tendency to openly adopt economic arguments in legal opinions.
For more details about the popularity of law and economics in the Israeli academia, and for an explanation of this unique phenomenon see: "Economic Analysis of Law in North America, Europe and Israel".

The first in a series about developments of law and economics in Europe

Posted on 22 April 2009 | 7:46 pm

Recent developments of law and economics in Switzerland

by Professor Anne van Aaken, University of St. Gallen

Switzerland has been one of the countries in Europe where Law & Economics was taught at Master level in the universities already in the 1980ties, mostly in the economics departments (e.g. Bern and Fribourg). But Switzerland was also early in establishing courses in Law & Economics for both, Economics and Law doctoral students from Switzerland. Those so-called Gerzensee Courses, organized by Gerard Hertig from the Federal Technical Institute in Zürich (ETHZ), are given by renowned Law & Economics scholars, mostly from the US.
Ever more, Law & Economics is taught also in the Law Schools, e.g. Luzerne, University of Zürich, University of Basel (see e.g. the Zaeslin program: http://www.wwz.unibas.ch/ds/abt/wirtschaft-und-politik/zaeslin-program-for-law-economics/abteilung/wifor) and ETHZ, all of them offer courses in Law & Economics. The Law School of the University of St. Gallen has established an entire Bachelor and Master in Law & Economics (http://www.mle.unisg.ch/org/lehre/ms.nsf/wwwPubInhalteGer/Master-Programm+Law+and+Economics+(MLE)?opendocument). This program is – as concerns the early integration of Law and Economics in the curriculum (partly also business administration) – unique in Switzerland and to my knowledge in Europe. The first Master students graduated in 2007 and were highly appreciated in the job market, be it with internationally working law firms, be it with accountancy or consultancy firms. Furthermore, there are regular Lecture Series in Law & Economics, taking place in Zürich, organized by the ETHZ, the University of Zürich, the University of St. Gallen and recently joined by the University of Lucerne (http://www.hertig.ethz.ch/LE_Spring_2009/LE_Spring_2009_Schedule.htm).

Ever more students also write their doctoral theses in the field of Law & Economics in St. Gallen, but not only there. St. Gallen University, together with ETHZ is cooperating with the Amsterdam Center for Law and Economics and the Law School of Haifa University for the informal exchange possibility open for doctoral students in the field of Law & Economics, so called “LEx” (http://lex.acle.nl/). Until now, the Swiss Courts have not openly used Law & Economics arguments (different from e.g. the German Federal Constitutional Court in 2006), but consequentialist arguments may be found also here.
As a personal impression, I find that the communication is getting easier between lawyers and economists, although it clearly remains far behind the level of communication and mutual acceptance in the United States. But depending on the area of law (e.g. competition law, corporate law, international law, legal theory) and the area of economics (institutional economics, behavioral economics, microeconomics with game theory) in which people are trained and practice, communication is taking place and can be very fruitful, certainly in academia as well as in practice. In short: although slowly, Law & Economics in Switzerland is becoming more mainstream, also in the law faculties and communication between lawyers and economists as well as business is becoming easier.

A new series of postings about the development of law and economics in Europe

Posted on 22 April 2009 | 6:46 pm

Law and economics is developing and taking hold in most European countries and it is interesting to follow the developments. It is also worthwhile I think, for there are probably many ways in which developments in one country can be an inspiration in another, e.g. in terms of the development of courses, or in the form of new modes of collaboration between lawyers and economists. I believe there is also untapped potential for collaboraton, e.g. in the development of phd courses.
Thus, I have asked some of the law and economics scholars associated with EALE to give an account of recent developments in their country. I plan to ask several others in the coming weeks. I asked if they would report on e.g. `how many phds are attracted to the subject, whether courses in law and economics are becoming more widespread, whether law and economics has an impact on the law, and whether the conversation with lawyers is becoming easier or more productive.´
The first account is contributed by Professor Anne van Aaken, University of St.Gallen, who will describe some of the recent developments in Switzerland.

Guest posting by Alon Harel

Posted on 8 April 2009 | 10:25 am

Should We Balance Security and Liberty? Skeptical Reflections on the Economic Analysis of Terrorism


Alon Harel, Professor of Law, Hebrew University

Economic analysis of law has penetrated every area of law. Most recently economists have started exploring the area of terrorism and its impact on civil rights. A characteristic example is Richard Posner recent book entitled: Not a Suicide Pact: The Constitution in Times of Emergency. In this book Posner develops his vision concerning the protection of civil rights in times of emergency. The vision which Posner articulates with respect to constitutional interpretation of civil rights is a pragmatic, common-sense vision. Posner believes that liberty is important; security is also important and judges ought to be guided by the perceived practical consequences of their decisions with respect to both values. Consequently constitutional law in Posner's view is fluid and responsive to changing circumstances. It is this pragmatic vision which guides Posner in his discussion of torture, the limitations of freedom of speech, the regulation of electronic searches etc.

The most powerful metaphor used by Posner is the metaphor of balancing conflicting considerations. In Posner's view the interpretation of constitutional texts is free of legalistic constraints. Supreme Court Justices make decisions in much the same way as other Americans do by balancing the anticipated consequences of alternative outcomes and picking the one that creates the great preponderance of good over bad effects. He continues and speaks of the need to restrike the balance between the interest in liberty from government restraint or interference and the interest in public safety, in recognition of the grave threat that terrorism poses to the nation's security. This comment examines critically the use of balancing in judicial reasoning concerning the protection of civil rights. My challenge to balancing understood as a method of judicial reasoning is divided into two. First I show that balancing is not a useful tool and second I establish that it is likely to be a biased or a distorted.

The most fundamental difficulty in using balancing is that balancing-based reasoning is simply not a helpful method of reasoning when the balancing is conducted between notions as vague as security and liberty. To see why, think of a transaction between a buyer and a seller of 2 kg of vegetables. What makes this transaction possible in the market is the fact that neither the seller nor the buyer determines what the weight of the vegetables is. The weight of the weights placed on the scale is agreed by both the seller and the buyer to be the measure on the basis of which the weight of the vegetables is determined.

Assume that instead of using one set of weights the seller and the buyer bring their own weights to the shop and each one of them insists on using her own weights. Such a scenario would undermine the very concept of weighting. Similarly in our context -- the context of the alleged metaphorical weighting of security and liberty -- there is no agreement as to what the value of security is and what the value of liberty is. Perhaps each judge could conduct balancing on his own on the basis of her own weights. But such balancing could achieve very little. The decision would be controversial not because some judges balance while others do not but because the weight they give to conflicting considerations are different and, furthermore, no legitimacy could be generated on the basis of such a subjective process of balancing. What can the metaphor of weighting or balancing achieve if each participant in the dispute brings their own weights to the table? To illustrate this claim, think of both civil libertarians and ardent advocates of security. Posner reiterates again and again that civil libertarians are rights fundamentalists because they fail to balance rights against other considerations. But, at least some civil libertarians ought not to be blamed for failing to weigh the pros and cons of their position. Instead it is more accurate to interpret them as saying that they bring their own weights to the court or to the political discourse and their own weights suggest that liberty is in most cases much more important than security.

Balancing however is not only futile but also dangerous. It is dangerous because of two reasons. First the balancing fails to acknowledge that many of the values protected by rights are socially constructed through a long and vulnerable process of trial and error. The erosion of rights during times of emergency erodes the sensitivities and understandings of their importance and value. Second the use of balancing channels us towards certain considerations which are more easily measurable and quantified. Thus, ironically, it is the process of balancing itself which disrupts the possibility of conducting a genuinely balanced discourse concerning the protection of civil rights at a time of emergency.

To establish the first claim think of the process by which individuals acquire sophisticated tastes with respect to literature, theatre, wine or fine food etc. An individual who wishes to acquire such tastes ought to consume these goods even when she is disinclined to consume them. This is because it is the very consumption of these goods that generates the sensibilities necessary for enjoying these goods.

Many rights are similar to such goods in that benefitting from them requires the inculcation of certain sensibilities. Privacy is perhaps a primary example. Privacy is a prime example of a right that can be appreciated only in environments or societies which have a tradition of respecting it. Once rights are eroded judges (as well as citizens) lose the very capacity to value the right because the sensitivities required for appreciating its value are lost. In fact we can hardly make reasoned judgments as to what sensitivities have already been lost (or have never been acquired) due to the erosion of the protection of rights.

Let me turn attention to a second concern namely the concern that the metaphor of balancing is tilted towards certain considerations at the expense of others. To do so, think of what considerations are more likely to be put on a scale. It seems much easier to put on the scales measurable considerations such as perceived probabilities of terrorist activities, number of expected lives and expected damage to property than to put on the scale intangible costs such as the costs of the erosion of values, the deterioration of solidarity and other expressive and communicative considerations. This is not because the latter considerations are less important but only because they are less amenable to being measured and weighted.

Theoretically these intangible considerations could be put on a scale and be given a dollar amount representing their importance but practically they seem so indeterminate and vague that the concept of balancing seems to be inapplicable to them. What I am arguing therefore is that the metaphor of balancing is not as innocent and neutral. It seems to tilt the balance in favor of considerations which are more tangible than others because the latter could be more easily put on a scale. This observation could of course work either in favor or against security. Intuitively I believe that the considerations protected and promoted by human rights are most typically less tangible and measurable than the considerations favoring security. Security speaks of number of human lives and dollar amounts of property. Human rights speak of autonomy and dignity. Posnerian scales are likely therefore to be distorted scales; they are likely to fail in fully appreciating the significance of the concerns favoring the protection of rights.

Some advocates of balancing may accuse me of being a hopelessly softy leftist romanticist or perhaps as an enemy of numbers or rationality. Let me defend myself by establishing a coalition with a man who could not but be described as a man of numbers measures and rationality -- Albert Einstein -- who is reputed to have said: "Not everything that can be counted counts, and not everything that counts can be counted". My concerns with the method of balancing are simply a less successful and lucid articulation of Einstein's important observation.

This is a shortened version of a Book Review of Richard Posner Not a Suicide Pact: The Constitution in a Time of National Emergency (forthcoming in Israel L. Rev. 2010)

A Contract Case

Posted on 24 March 2009 | 8:00 pm

The Case of Tango Jalousi and Standards of Fairness

I would like to discuss a Danish Supreme Court verdict which raises issues concerning the application of standards of fairness in contract law. The case is interesting also from a law and economics perspective in that the economic analysis is useful in analyzing the (in my view faulty) premises of the Court.

The case involves the Danish composer Niels W Gade, who wrote Tango Jalousi during the period 1923-1925, and published it through his own publishing firm, although he had already licensed the rights to all of his productions to the Publishing house M. M therefore sued him for breach of contract, and in a settlement, the parties shared the future proceeds from the sale of Tango Jalousi. The publishing rights were granted to Gade’s own publishing firm; therefore when Tango Jalousi became internationally famous, M had very substantial earnings without incurring costs of publishing. After Gade’s death, his rights were endowed to a Foundation, created to finance stipends to talented young musicians.
In 1993, the Foundation wanted to void the agreement on the ground of unfairness. Unfair contract terms can be voided, wholly or in part, according to a §36 of the Danish Law of Contracts.
The Supreme Court found for the plaintiff on three grounds.
First, the Court stressed that when M were granted a share of royalties instead of damages for breach of contract, M was in effect awarded a stream of liquidated damage payments that far exceeded what conventional damages would have amounted to (i.e. according to the Court, M was essentially granted punitive damages).
Second, the court found the renegotiated contract to be unreasonable in that it departed from divisions of income rights that were common in the industry at the given time. In this regard, the court stressed that M were under no obligation to publish the music and therefore took on no risk – but stood to gain very much in case of success- under the new contract. In this respect, the Court found the contract to be unconscionable.
Third, the Court noted that the barrier for Court intervention was lowered due to the longevity of the contract in combination with supervening events, mainly the exceptional popularity of Tango Jalousi, and the unforeseeable technological development that greatly expanded the market for it.
The Supreme Court did not void the original contract but modified it such that M would no longer receive royalties; the royalties would henceforth be received by the Foundation and hence be allocated to young musicians.
I believe that this verdict can be criticized with respect to all three grounds provided by the Court.
Concerning the first, the question before the court had little to do with that of when liquidated damages should be enforced. The renegotiated contract gave M a right to a future income stream instead of compensation in the form of cash (or instead of specific performance), and it is hard to understand why the fact that this mode of payment resembles a stream of liquidated damage payments renders it objectionable. There are two reasons for subjecting liquidated damages to scrutiny. Either it can be feared that the breaching party overlooked the term, or the term may appear unfair in itself. The former rationale does not apply to the new contract, since the sharing of future income formed the core of the newly negotiated contract (and Gade was an experienced businessman). And the latter rationale raises the issue whether the newly negotiated contract was unfair or not, which falls under the Court’s second ground for modification.
To sum up concerning the first ground, it is not relevant that the parties agreed on a stream of payments that resembles a stream of damage payments, what matters is whether the ex-ante value of the contract, the net present ( risk-adjusted) value can be deemed unconscionable.

As its second ground for modifying the contract, the Court did indeed, as mentioned, view the contract following breach to be unconscionable. It stressed that M received rights to income stemming from radio broadcasts, an income that would, according to the Court, conventionally be allocated to the composer, and the Court further noted that M did not bear any risk, since M was neither required to publish nor to promote Tango Jalousi. However, while it may be true that M received a share not normally received in the industry, this was a consequence of the original contract going back to 1923, in which M compensated Gade by a lump sum payment. The presumption must be that the share given to M was determined by this payment from M to Gade, and there is no evidence presented to the Court that M’s share was out of proportion to this payment. Indeed the opposite is the case, as testimony during trial revealed that in 1936, during a legal battle between another Publishing house, W, and M, M offered to sell the rights to Tango Jalousi to W, at a price of 1500 Danish kroner (the offer was rejected). Thus, the Court had evidence to suggest that the net present value of M’s rights was not unconscionable, as 1500 kr was not disproportional compared to the prices at which similar rights were traded (there is reporting of such prices in the description of the case).
Moreover, it is a false premise of the Court verdict that M did not bear any risk. M ran the risk that Tango Jalousi would not become popular and that the claim on its future income stream would become valueless. M could have demanded compensation for breach of contract, either specific performance or some measure of damages; indeed, if the Court had assessed reliance damages, it could have granted M at least the repayment of the lump sum. Gade preferred to pay M a share of future income, and M was prepared to take the risk that Tango Jalousi would not become a success.
In summary, the Court failed to adequately identify the contract after renegotiation as (probably) a reasonable contract under the circumstances, partly perhaps because the Court did not distinguish sufficiently between the net present value of the claim and its ex post value.

On the third ground for modification, supervening events, it is clear that courts can make contracting easier for parties by intervening under unforeseen circumstances, but also that intervention can lower the value of contracting if carried too far, by creating uncertainty. On the positive side, a case can perhaps be made for modifying the contract on welfare grounds, if it can be argued that the optimal, complete contract between the parties would have limited M’s potential earnings. It is, however, not clear why the parties would cut off M’s earnings in case of exceptional earnings. On the negative side, the contract involved a sharing of risk in the same way as venture capital contracts do, and it can create uncertainty and little if any benefit if courts take upon themselves the role of censoring such contracts. The question is whether a venture capitalist, who gains a large share of the income of a company (perhaps larger than what is standard in the industry) may fear that if the company becomes very successful, the contract may be rescinded or modified. The answer is probably no, since the Court states that the verdict should not be understood to apply in situations where the parties have traded the risk. But then the third ground for modification cannot be seen to stand, as certainly the parties traded the risk.
Overall, the case may be unique and so its precedent may be limited. But by following the temptation to create what the judges apparently saw as the fair outcome, they may have added noise to the rules of contract validation and modification. Although standards of fairness can be an important tool for the court to reach the right (and the efficient) result, it may be worthwhile investigating whether the use of fairness standards in contract law needs to be constrained in some way.

Nuno Garoupa on the difference between US and European law schools

Posted on 4 March 2009 | 7:54 pm

There are many differences between American and European law schools. In fact, so many people have written about this topic that there is hardly one difference that has not been identified by now. Having worked on both sides of the Atlantic, the main difference that never ceases to amaze me is how American elite law schools have been transformed into a micro-universe of social sciences. Most of my colleagues are economists, sociologists, philosophers, historians, psychologists, political scientists, anthropologists. Naturally this has significant implications for the type of research we do in the law school (where doctrinal work is less and less popular), for the type of professional norms we develop in the law school (with most faculty in residence throughout the day), and even for how the law is taught to students. Such environment cannot be reproduced in Europe (with some minor innovative projects here and there) because diversity and interdisciplinary dialogue are not appreciated. There are plenty of more or less sophisticated arguments in Europe to oppose such move. However, the obvious consequence is that European law schools cannot provide the intellectually stimulating environment that one finds in elite law schools in America. It is of no surprise that SJD degrees are now massively populated by Europeans who use that as an entry door into the job market of American law schools (something the Israelis have been doing for more than a decade). It is also of no surprise that Latin Americans and Asians now look to the elite law schools in America as the leading legal teaching and research institutions. The exponential increase of LLMs and SJDs from these areas of the world in the top American law schools is amazing. Unfortunately, most European law schools have been unable to react to change and competition. In many case they lack the resources, in most cases they lack the will.

Guest posting by Prof. Endre Stavang

Posted on 2 March 2009 | 2:43 pm

Free allocation and the rationale for emission trading: Is there an inconsistency?

Endre Stavang, Oslo University, Faculty of Law

In this post, I argue that free allocation is not inconsistent with the basic social rationale behind alienable emission allowances, and I indicate the legal relevance of this consistency analysis to the issue of designing a robust system. My question is: Is the argument below obvious, obviously wrong, or neither?
Should allowances allocated to each firm owning a polluting plant be given with or without financial compensation? The legislator must choose: 1. Quotas are allocated to firms without financial compensation. 2. The payment of a certain amount of money determined by the state is a condition for the allocation of quotas to the firm (through the use of an auction mechanism or by other means). Existing systems are predominately based on principle 1. Is this inconsistent with the basic purpose of minimizing total costs of regulating the emissions? The answer to this question of consistency is important for two reasons. First, consistency is a basic legal value. If free allocation is not consistent with a statutory rationale that is subject to a broad consensus, it is likely not sustainable. Second, the allocation of emission allowances may be reviewed based on state aid rules. The checking of consistency between the rationale of the regulation and its various details may be a crucial element in the review under the law of state aid. In sum, the following question is of particular interest: Is it inconsistent with the main rationale behind alienable allowances to give out such allowances without compensation?
As a starting point in this evaluation, the concept of opportunity costs is relevant. Generally speaking, there will be an incentive for firms to abate under both principles. If a firm chooses not to abate, it will incur a cost in the form of lost revenues from selling allowances. The opportunity cost is as real as the expense under auctions and other forms of making firms compensate for allocated allowances. However, the existing tax system influences work incentives and savings decisions in an undesirable way. If the allowances were auctioned, the government could lower these disincentives while maintaining their total income. Thus, although the basic rationale behind alienable allowances does not dictate auctions rather than free allocation, it is clear than free allocation causes some extra social costs. By how much is an empirical question. The question, then, is whether these costs are unnecessary or whether there are some corresponding benefits of free allocation.
The benefits of free allocation are related to its distributional consequences which may feed back into the efficiency analysis for both fairness as well as public choice reasons. First, let’s look at the fairness aspect. Obviously, auctioning the allowance will, when compared to the free allocation of allowances, change the distribution of wealth between the firms and the state. If the allowances were sold by the state in a well-functioning market, the firms would have to pay a price that reflected the scarcity of the allowances, and this price would equal the tax rate that the state would have imposed in an optimal emission tax system. Thus, in addition to the costs of abatement, the firms would have to pay a tax that is disproportionate with the harm that, as a matter of theoretical attribution, is the result of the firm’s emission. This so-called excess burden is a well-known feature of an emission tax rate equal to the marginal costs of harm caused by the emission, and auctioning allowances would entail a similar excess burden. This lack of proportionality may run against sentiments of fairness and justice, and if such sentiments are widely shared by individuals in the relevant jurisdiction, it may seem justified to count this lack of fairness or justice as a cost of the auctioning system as compared with free allocation. Second, it may also be relevant under the criterion of cost-effectiveness that the design and operation of the tradable emission allowance system requires industry participation and cooperation. If auctioning rather than free allocation is chosen, and if that choice makes firms ex ante less eager to cooperate in the practical implementation of the allowance system, it may become more difficult and hence costly to gather necessary information and to run the system. Such administrative costs are relevant under the criterion of cost-effectiveness.
It may seem that the costs of fairness and administration discussed above are somewhat fanciful, and that an analysis under the cost-effectiveness criterion should only include costs that may be documented to exist. However, legislative history of the Norwegian greenhouse gas emission trading act indicates that these are real concerns. In the 1990s, some preparatory work indicated that the government was preparing for a shift towards a consistent use of “green taxes” as the preferred environmental regulatory instrument. However, after a hearing in parliament (“Stortinget”) in 1998, it became evident that the politicians and their expert advisors favoured emission allowances (property rights) over taxes to regulate greenhouse gases nationally. Moreover, in 2002, Stortinget explicitly instructed the cabinet to develop the details of the act, based on free allocations of allowances, in close dialogue with industry. In my opinion, it is reasonable to infer that the political system in this way acknowledged that there are relevant considerations to make besides the aggregate costs of harm and abatement.
Another type of argument that might be relevant and could serve as a counter-argument to the free allocation of allowances, is that such allocation contradicts the Polluter Pays Principle (PPP). This principle has been invoked by governments on numerous occasions over the years. However, the PPP comes in a narrow and a wide version. The narrow version says that the polluter should bear his own abatement costs and thus rules out the bribe option. This does not tell us anything about free allocation versus auctions, The wide version of the PPP has relevance as a theoretical idea, but is not supported by actual law or policies in any consistent way. This version states that all harm should correspond to financial expenditures for the firm. However, this version lacks support in actual legal policy-making practices. So far, a consistent set of optimal environmental taxes has not been put into effect. Industrial pollution is mainly regulated through a concession system, and the civil liability for the firms are then regulated not by pure strict liability, but through a system of tolerance limits with entails a doctrine of reasonable use. Thus, the wide version of the PPP is far removed from the preferences of the political community as revealed through actual legislation. In this situation, it is not clear why we should accord it independent weight in the evaluation under the criterion of cost-effectiveness.
It might be argued that the polluters should pay upfront for the allowances in order to keep size of the polluting sectors down. It might seem that free allocation is insufficient in this respect, since the allowances would be withdrawn if the plant shuts down. Thus, the incentive to shut down would be too small, and the polluting sectors too large. However, as long as the total emissions allowed over time are somehow kept within the fixed cap, this should not be a problem in aggregate. Moreover, a real PPP system would also be imperfect in that it is subject to the excess burden problem and thus may lead to too many shut-downs.
In sum, the conclusion must be that it is not a clear inconsistency between cost-effectiveness as the main rationale behind greenhouse gas emission trading and the choice to allocate alienable allowances without compensation. As already mentioned, this conclusion may be relevant for the application of state aid rules, and it may be that Norway and EU members have paid insufficient attention to the implications of this point in the structuring of their emission trading systems. A “property approach” to allocation plans might work, but this would have to be developed elsewhere.

International Banking Regulation, Squaring the Circle? by Hans Bernd Schaefer

Posted on 22 February 2009 | 3:23 pm

My first job was to work for the management of a large German bank in Frankfurt, which for the right reasons does not exist any more. What I learned on the job was basically how to circumvent regulatory laws and the control of auditors.

At the time regulatory laws prohibited to lend more than a particular quota of equity capital to one debtor to avoid the concentration of risk. This rule was not more than a joke. The bank was grossly overexposed to an Asian government and received a higher interest for those credits. It established a subsidiary in Liechtenstein, which in Liechtenstein was not a bank but an ordinary and unregulated business. It lent money to this subsidiary, which again lent it to the Asian state. Thus the balance sheet was kept clean and the auditor made his check mark.

The bank had a subsidiary, which specialized in giving risky credits to foreign debtors. When I was there, it became clear that this subsidiary had accumulated a dangerously high amount of foul credits. Several of our team had nothing to do than to telephone and travel around the world to save a least part of them. On staff meetings this was a never ending but secret story.
A little later the bank sold this subsidiary to another German bank. For this purpose the subsidiary set up a balance sheet, approved by a large auditing firm. In this financial statement the foul credits appeared with their face value. The auditing firm had not gone through the files carefully enough to see that a foul apple was to be passed on to somebody else. The sold bank went bankrupt a year later and the CEO, who thought he had bought it for a bargain price was fired. The CEO who had sold it as well as the auditing firm had nothing to fear.

When my bank itself set up its balance sheet, it turned out that the profits were a bit low and that the owners would like to see higher profits. No problem. Another subsidiary was established, a real estate company, which bought estate from the bank at an overvalued price. Thus an additional nice profit showed up in the balance sheet and again the auditors accepted this as long as the overvaluation was not scandalously high. By the way, this and other, similar methods are used by managers, whose salaries exist in large parts of bonus payments.

Such practices played a big role in the global financial meltdown. And you can see how difficult it will be to regulate this internationally. It is even questionable, whether this is possible at all.

Financial regulatory agencies get sometimes captured by bank interests as well as by ideology. The IMF has played a disastrous role for many developing countries and countries in transition. Its mantra of “privatise, liberalise and stabilise”, the policy of the so called “Washington Consensus” has led to stagnation in Latin America and to collapse in Russia, because it overlooked the importance of institutions for a market economy. (See the writings of Acemoglu, Rodrick and others). Empirical studies (Frankel, Roubini) about IMF lending have revealed that the facts support better the bailout hypothesis than the stabilisation hypothesis. In other words, it is more likely that these credits were used to bail out banks, especially US banks than to stabilise the debtor countries. Should the IMF be trusted to oversee the world financial system for the benefit of the ordinary taxpayer? I have doubts. To reform large organisations is as difficult as to reform political parties or churches.

Assume that the problem of regulatory capture can be successfully solved. An international regulatory agency must have access to all financial data worldwide. Is this transparency at all possible? It might be possible to eliminate some white spots on the financial landscape for instance in Switzerland, Iceland or Estonia. But the main problem is not these unregulated havens, it is China. China has become the most important player in the world financial markets with foreign reserves of over 1.7 trillion dollars and a current account surplus of more than 370 billion dollars in 2008. Does anyone believe that the Chinese government will let an international regulatory agency look into its deck of cards? Chinese banks are state controlled and state owned. The government uses them to steer the economy and to make politics. China is a nation with a long standing tradition of secrecy. Its most fabulous monument is the “forbidden city”. Another important financial player is Saudi Arabia. Does anyone really believe that these two countries will open all of their books to international controllers?

A third question mark goes to the auditors. The scandals and omissions, in which they are involved and which they did not prevent have accumulated so much, that some people start asking, whether this profession is of any use at all. Here at least something can be done, sharpen the liability of auditors. I have proposed this in several articles before. So far liability does not work. Courts are reluctant to define due levels of care, which are different from those, which the auditors have defined for themselves. And courts set very and in my view unreasonably high hurdles for the proof of causation. In other words, courts prefer to make type-one-errors over making type-two-errors. They should and could strike the balance between both types of error better.

University reform

Posted on 21 February 2009 | 10:32 am

It would be interesting to share some thoughts on the need to reform European university systems. After all, some of the best European law and economics professors, e.g. Gerrit de Geest, Nuno Garoupa, and Franscesco Parisi, not to mention Bebchuk or Hart, are now working in the States. The question, to my mind, is what should be done to reform the European systems.
My view is that we need to address three issues: First, state funding is not going to increase much over time, due to the demographic strains on the public budget. Hence, it is important that students pay part of the cost of college, if not from the first year than at the graduate level.
Second, the idea that a certain fraction of a generation should go to college is misguided. In Denmark, that policy is implemented by paying universities per student who passes exams; a recipe for a lowering of academic standards. Some of our students should not have been allowed in; they learn very little, and would most likely be better off in a different and less abstract teaching environment. They are also a strain on the system. Third, we should think carefully about how we can ensure competition among universities in attracting students and professors.
I realize that reforms have been implemented in parts of Europe. In Denmark, the taboo about letting students pay is very strong; it is considered a vital part of the welfare state that students not pay, to ensure equal opportunity. (However, most students are from well-to-do families, and one could set up a system of stipends for the gifted students from poor families).
In my view, addressing this taboo is vital; a Coasian bargain should be struck between the prospective student and the talented people who might or might not choose to become university professors (and who, increasingly, choose the latter, or choose to go abroad).

It would be interesting to hear about experiences from other countries.

The Wonderful World of Youtube

Posted on 17 February 2009 | 6:26 pm

By Hans-Bernd Schäfer

Since 2005 you can download videos in the internet about almost everything and almost everybody and you can exchange views about them with other viewers around the world. Whatever your taste might be you find some people in the world to communicate with and share views about the uploaded video. This is really a big leap in communication, so it sounds. But there are clear signs, that youtube gets captured by intolerant users. And the youtube rules support this trend. Rule 1: Everybody who uploads a video can delete any comment. Rule2: Users can thumb down a comment as spam. And the content gets deleted after several users have marked it.

Make a try. Go to any youtube movie which attracts extremists. The “Original Panzerlied”, a German march song from World War II is a good example. Most of the posted comments are from neo-Nazis or an extreme rightist scene. That is what you expect? You should not because the youtube rules are so democratic, that comments get deleted if several users declare it as spam. Consequently you should not find such comments because for every neo-Nazi there should be at least around 10 others who report the comment as spam. Why does this not happen? Perhaps only extremists listen to old military music, undisturbed by anyone else. Youtube provides hundreds if not thousands of warm places for such extremists. You also find relatively few critical comments about these videos. Again the reason might be self selection. Only neo-Nazis themselves view and comment these videos. But it is equally possible that the person who uploaded the movie has deleted comments he did not like.

Make another try. Go to Wagner music in youtube. Siegfried’s funeral march is a good example. Here we have a different audience and a different set of comments. Music lovers, Wagner worshipers and again neo-Nazis come up with their praise of Wagner music, albeit for different reasons. But again the neo-Nazis texts are seldom eliminated. Why not? Probably because many users simply do not care or they believe they do not have a right to censorship or because it is simply too laborious to press two buttons. The rule that several uncoordinated censors can trigger a mechanism to delete a hate comment is ineffective. Some people might say that this is not so bad. Each comment can be read and speaks for or against itself. Most users of youtube are tolerant or disinterested enough not to censor extreme views.

Now comes the crucial observation. Make again another try. Post a critical comment about Siegfried’s funeral march in youtube. As long as you write something like “the tempo could be “Largo” rather than “Grave”” you are on the safe side. This might even trigger a debate and you can pride yourself with having written an upstream comment. But if you post a factual but critical and dismissive comment you get lost. Many Wagner fans around the world have been intolerant since Wagner music exists. A hundred years ago Wagnerianers had no problem with denouncing Brahms music as contradictory and Mendelssohn Bartholdy music as shallow. But if somebody criticized their master he had to be prepared that a fan gave him a hit on his head with his violin. This attitude still persists with the hard core Wagner fans. They report your comment as spam and it gets deleted. What kind of check youtube makes –if any- after it receives several spam reports remains obscure. Probably it is an automatic and programme generated decision.

These are only two examples, but such a self selection mechanism works for many topics in politics, literature, the arts or show business. A few intolerant people can agonise many other users in a group of commentators.
If you upload a video in youtube, you can censor any comment. Politicians can upload their videos and silence their critics. The latter is not likely to happen, as it becomes public and spoils the politician’s reputation. But newspapers did report such a case in the USA.

And this is what I see as a danger. Youtube gets kidnapped by people with high stakes or extreme convictions combined with low tolerance. They capture the comment spaces and delete comments they dislike. Thus youtube creates circles of like-minded and intolerant people. This is the opposite of a discourse. At the end of the day you might find thousands of fractured and like-minded communities, whose most intolerant members have kicked out all those who do not share their views.

This is mildly speaking a case of unintended consequences of a rule. It must be abolished. This does not guarantee a big change to the better as this problem has been observed for chat rooms before. But currently youtube rules support and subsidize the most intolerant of its users.

Law and Economics and the Global Economic Crises

Posted on 16 February 2009 | 11:24 pm

As Avishalom Tor wrote in the previous posting, an interesting discussion on the causes of and remedies to the global economic crises took place in the EMLE midterm meeting in Hamburg. The discussion, however, was conducted in the framework of the dominant economic paradigm – trust in the operation of markets, focusing on traditional market failures and extensive discussion of the failure of regulation in correcting these market failures, under the assumption that wealth maximization is the prime goal of policy makers including the law. I believe that the current economic crises ought to prompt us to re-think about the paradigm and indeed about Law and Economics and its future development. I would like to mentions here two points among many others meriting discussion– psychology and fundamental values.

The behavioral approach in economics and in Law and Economics established itself in recent years as an important addition to economic analysis. However, until now this approach has focused on various phenomena on the level of the individual player and mainly in the context of micro-economics and individual behavior in market conduct. The recent global crises prove the need to extend this approach in additional avenues, among which are macro economic theory. Trust in the economic system, for example, can be of major importance to economic results. It has been thus far assumed, for example, that despite individual psychological effects, which distort individual conduct in the stock markets, on the aggregate level one has to analyze stock markets in a pure rational framework. The current crises prove this to be wrong. Overall fall of trust can bring to irrational micro and macro market activities. If people would not trust their countries economy and government, rescue packages introduced by various governments in order to stimulate the economy might not do the job. Economists analyze real economic activities but it seems that the psychological factors exercise a significant role in economic performance.

Beyond shaking the crud rationality assumption used by traditional economic models, the behavioral approach so far has not produced other methodological tools and models to analyze operation in economic and non-economic markets. Likewise, its findings negate the accuracy of traditional economic models but are far from being rigorously incorporated into existing models. This is an important challenge for the years to come.

The second point is in the realm of normative economic analysis and the philosophical foundations and values that has been dominating economic theories in the last few decades. One of the sources of the current global crises is borderless greediness. The corporate world and its actors were trying to make more and more money, far beyond is needed for good life. This behavior is reflection of the prime and sole normative goal set by economic policies in recent decades – maximization of wealth and growth, which is also reflected by most of scientific writings including Law and Economics work. The success of the Chicago school, intertwined with the Regan-Thatcher ideology leaving its marks on the policies of both left and right in the western world, affected not only policy-makers and scholarly analysts and advisers, but also individual conduct, as the very ones that brought to the bubbles causing the financial crises.

Behavioral studies have shown the there is no perfect correlation between wealth and happiness, growth and utility, and these findings are another reason for change of values within economic policy and indeed the economic science. I think that we – the Law and Economics community - have to take seriously a re-visit in the philosophical foundations of our own works.

A Quick Report on the 2009 EMLE Midterm Meeting

Posted on 16 February 2009 | 12:41 pm

I have just returned from a weekend in Hamburg, where the 2009 Midterm Meeting of the EMLE program took place this year. Hamburg was lovely as usual, and the meeting was most successful. On Friday morning the workshop component took place, with multiple parallel sessions where graduate students and EMLE faculty members (including many active EALE members) presented many interesting papers. Topics ranged from general concepts in law and economics, through torts, criminal law and procedure, financial markets, corporate governance, competition law, and more.

The afternoon, in the Hamburg Chamber of Commerce, featured an impressive panel of experts on “Financial Market Crisis from a Law and Economics Perspective.” The illustrious list of experts, included Prof. Dr. Thomas Eger (Director of the EMLE Programme, University of Hamburg), Prof. Dr. Rolf Eggert (President of the German Central Bank (Bundesbank), Hamburg Office), Dr. Dr. Michael Hingst (Senior Partner White and Case, Hamburg Office), Jun. Prof. Dr. Patrick C. Leyens (University of Hamburg), Henry Marquenie (CEO CAK Group, Amsterdam), Prof. Dr. Markus Nöth (University of Hamburg), Thomas Schmitz-Lippert (Head of the International Department, German Federal Financial Supervisory Authority (BaFin), Bonn). The panel was most interesting, participants - under the excellent direction of Professor Eger - made clear and concise contributions and generated an interesting and engaged discussion from the audience.

After the panel, the Student Award Ceremony featured an award to an excellent thesis by Giovanni Formica on “Law and Economics of Bundling by Non-Dominant Firms.” Giovanni also presented his thesis in a clear, engaging way, developing a two-pronged argument: First, that dominance is neither necessary nor sufficient for bundling to generate anticompetitive effects, which are strongly dependant on case-specific characteristics. And, second, that extant US and EU law implicitly account for this reality, although the explict legal regimes on both sides of the Atlantic do not acknolwedge it. (The presentation concluded with a call for a modified rule of per-se legality for the above practice.)

Finally, the academic portion of the conference concluded with an invited lecture by Professor Bruce Kobayashi of GMU Law School on “Jurisdictional Competition for Limited Liability Companies.” Bruce's interesting empirical paper (co-authored with Larry Ribstein) documents the incorporation trends of LLCs, finding inter alia that these new (and increasingly popular) business organizations flock disproportionately to Delaware as they increase in size, much like US public corporations.

All in all, this excellent event (and the many social activities surrounding it) was admirably organized and executed by the team of the Hamburg Institute of Law and Economics, headed by Professors Eger and Leyens, and assisted by their excellent staff!

The endowment effect and expropriation

Posted on 6 February 2009 | 9:31 am

I have just read an interesting article arguing that property law should incorporate the endowment effect which although not undisputed seems to be empirically well founded. The article is `Current Empirical Premises to the Disclosure of the Secrets of Property in Law. A Foundation and a Guidline for Future Research´ by Geir Stenseth, and can be found here: http://www.anci.ch/doku.php?id=start
Geir goes through the empirical and theoretical work on the endowment effect. As becomes clear, the psychological foundations of the endowment effect are unclear. Recent findings suggest that there may be a genetic element (the effect can allegedly be found also in chimpanzees (!)). One explanation is that may be conducive to survival to spend more resources to fight for possessions than to try to acquire the possessions of others. Stenseth also discusses psychological explanations of investing oneself in the one's possessions. His point is that property law, e.g. the laws of expropriation (eminent domain) should reflect the empirical findings. He also notes that the endowment effect has importance for the use of property rules versus liability rules. If the endowment effect is substantial, that argues, of course, in favor of overcompensating (when comparing with market values) owners when expropriating their land or house.
In Denmark, local municipalities have recently expropriated land where no vital public interest was at stake, e.g. for the establishment of golf courses. A recent law proposal from the conservative-liberal (in the European sense) government requires this to be done through zoning regulations but does not constitute a fundamental break from the very free access of state authorities to expropriate private property. In Sweden, however, a new proposal suggests overcompensating owners (paying up to 125% of the market value).
An interesting example that research in the borderline between psychology, economics and law can inform public policy.
The issue also seems to me to have broader implications. The notion of entitlement is central to the recent paper by Hart and Moore on contracts as reference points. That appears to be connected to the endowment effect and to the theory of loss aversion that stresses the existence of a reference point from which losses are keenly felt.
I contacted Stenseth to suggest that he present his ideas at the EALE conference in Rome, which he is considering.