Reconsidering Contractual Liability and the Incentive to Reveal Information

Abstract

In an earlier work, we analyzed how the legal rules governing contractual liability affect the transfer of information between the parties to the contract. In particular, we showed how limitations on contractual liability might lead high valuation buyers to reveal their valuation of performance, and we identified the circumstances under which such limitations on liability are and are not socially desirable. In an article forthcoming in the Stanford Law Review, Barry Adler develops a critique of our analysis, as well as of that of Ayres and Gertner, who independently argued that contractual rules can beneficially facilitate information transfers. We reconsider here the subject of contractual liability and the revelation of information and respond to Adler's critique. We find Adler's model to be a natural extension of ours rather than a departure from it. Our reexamination leads to the conclusion that the informational effects that our work analyzed are important to take into account in designing contract rules.