Economic Analysis of Law: An Introduction FACULTY OF LAW UNIVERSITY OF AL AZHAR INDONESIA

Definition Economic analysis of law applies the tools of microeconomic theory to the analysis of legal rules and institutions. Ronald Coase [1960] and Guido Calabresi [1961] are generally identified as the seminal articles but Commons [1924] and Hale [1952] among others had brought economic thinking to the study of law in the 1910s and 1920s. Richard Posner [1973] brought economic analysis of law to the attention of the general legal academy; by the late 1970s, his work had provoked a vigorous controversy. This controversy was both general and doctrinally specific. Posner had claimed generally that the common law was and ought to be efficient. This latter claim provoked a broad controversy about the evaluation of legal rules generally. Steven Shavell [2004] describes two types of economic analysis of law: (1) descriptive analyisis: concerning the effects of legal rules and (2) normative analysis concerning pertaining to social desirability of legal rules.

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Comprehensive Theory of Law Has Several Components. First, a comprehensive theory of law begins with a characterization of the nature of law. This component distinguishes law both from other normative systems such as morality, religion, and social conventions such as etiquette but also from coercion and politics. Second part of a comprehensive theory of law characterizes the grounds of law. Dworkin framed the grounds of law as the truth conditions for a proposition of law. From this perspective, much of the debate over the concept of law concerns the role that morality plays in these truth conditions. Third part of a comprehensive theory of law identifies the nature of the reasons for action that law provides. Often, this aspect of a theory of law is subsumed under the second part that identifies the grounds of law. Fourth part of a comprehensive theory of law identifies the value of legality. Fifth and final part of a comprehensive theory of law articulates a normative theory of adjudication, a theory of how judges ought to decide cases.

Rationality in Economic Analysis of Law Rational action in economics means that each agent acts to maximize her “preferences” in whatever environment she finds herself. A preference is a ranking of the elements in her domain of preference. The agent’s domain of preference consists of the things that fundamentally matter to her. In standard models of consumer behavior, for example, the agent has fundamental preferences over consumption bundles. Her decision problem consists of choosing a consumption bundle from the set of feasible consumption bundles, where feasibility is defined by the prices of goods and the agent’s income. The agent has preferences over some set of consequences—her income or wealth, her state of health, etc.—and she chooses some action that in part determines which consequence is realized. Every economic analysis of law provides some substantive content to each agent’s preference ranking. Typically, the analyst attributes self-interested preferences to each agent. The agent ranks consequences solely on the basis of their effect on her. In the standard market model, for example, the agent cares only about her own consumption not the consumption of others. In the standard economic model of accident law, she cares only about injuries to herself and costs that she must incur; she pays no attention to injuries to others or costs that others incur.

Three Strands of Thought within Economic Analysis of Law [1] strand policy analysis, generally focuses on the analysis of the effects of legal rules and institutions on outcomes. An outcome usually consists of the “objective” effects of the rule or institution on the behavior of “private” individuals. Policy analysis then typically evaluates the rule or institution under study against some social objective function. Often policy analysis adopts “efficiency” as the evaluative criterion. [2] strand political economy, by contrast, investigates the operation of political institutions such as electoral systems, courts, legislatures, the executive and administrative agencies. These institutions make policy or determine which people make policy. Political economy thus seeks to explain how the content of the law is determined. In some instances we might understand political economy simply as the application of the behavioral claim to the constitutional and legal rules and practices that structure legislation, administrative action, and adjudication. [3] strand doctrinal analysis, Doctrinal analysis, by contrast, focuses on the content of the legal doctrine developed by courts in adjudication. It asserts that efficiency rationalizes the content of the law. We might understand “the content of the law” in at least three ways. First, it might, as the behavioral claim does, refer to the behavior induced by the legal rules announced in judicial opinions. Alternatively, the analyst interprets these opinions and other texts to extract an economic model that underlies the decision’s legal view of the world. On this interpretation, claims (II) and (III) might be true even though legal rules induced inefficient behavior in the real world because the announced legal rule might be efficient within the implicit model used by judges but inefficient in the world as it actually is.

Doctrinal Analysis as a Rationalization of Private Law Critiques fall roughly into two groups. The first accepts the instrumentalism of law, at one level or another. It rejects, however, either efficiency as the aim of the designer or the assumption of rationality underlying any behavioral claim that may be implicated in a rationalization of doctrine. Issues related to the efficiency criterion are discussed below in section 6. The rejection of economic rationality generally rests on its failure to accommodate normativity, an issue I discuss in section 4. The second set of critics have offered a panoply of alternative explanations of the relevant area of law. These alternative explanations share two features. First, they all take the language of “obligation” seriously. Second, and related, they all reject the view of doctrine as instrumental. Following Ripstein [2016], I shall call these alternative theories deontic theories.

Basic Claims Underlying Economic Analysis of Law Posner [1973] made two claims that have usually defined the debate around the philosophical foundations of economic analysis of law. The first claim, often called the positive claim, asserts that common law legal rules are, in fact, efficient. The second claim, often called the normative claim, asserts that common law legal rules ought to be efficient. In both claims, Posner understood “efficiency” to mean the maximization of the social willingness-to-pay but subsequent authors have sometimes used the term in its more conventional economic sense of Pareto efficiency.