Fiduciary Law and the Preservation of Trust in Business Relationships

Abstract

This chapter explores the role of mandatory fiduciary obligations in preserving trust between business parties. Because contracts are inevitably incomplete, after investment there is always a risk of opportunism. While the parties could try to draft a more detailed agreement prohibiting various forms of opportunism, the very act of haggling over such protections may signal distrust, eliciting costly reactions (defensive measures/hedging/lack of intrinsic motivation) in the counterparty. In the absence of fiduciary protections, a vulnerable party may decide to forgo important protections against opportunism, not because such protections are suboptimal or hard to specify ex ante but because bargaining for them would signal distrust. By contrast, state-imposed fiduciary obligations remove the invocation of distrust by either party to the agreement. We further observe that while fiduciary protections can help prevent distrust among a small number of contracting parties, fiduciary protections may prove inadequate in some settings, especially in addressing horizontal conflicts between beneficiaries. The chapter concludes by observing that the limits of contract and fiduciary law leave a residual zone of vulnerability in which trust and other mechanisms of risk reduction play a significant role.