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More Is Less: Why Parties May Deliberately Write Incomplete Contracts
Why are contracts incomplete? Transaction costs and bounded rationality cannot be a total explanation since states of the world are often describable, foreseeable, and yet are not mentioned in a contract. Asymmetric information theories also have limitations. We offer an explanation based on 'contracts as reference points'. Including a contingency of the form, 'The buyer will require a good in event E', has a benefit and a cost. The benefit is that if E occurs there is less to argue about; the cost is that the additional reference point provided by the outcome in E can hinder (re)negotiation in states outside E. We show that if parties agree about a reasonable division of surplus, an incomplete contract is strictly superior to a contingent contract. If parties have different views about the division of surplus, an incomplete contract can be superior if including a contingency would lead to divergent reference points.
Book Details
- Publisher: Cambridge University Press
- Publish Date: May 23rd, 2024
- Pages: 34
- Language: English
- Edition: undefined - undefined
- Dimensions: 9.00in - 6.00in - 0.07in - 0.13lb
- EAN: 9781009396073
- Categories: • Economics - General• Contracts