The influence of litigation costs on deterrence under strict liability and under negligence

Abstract

This paper examines the influence of litigation costs on deterrence under strict liability and under negligence. By deterrence, I refer to the effect of the threat of liability on the care exercised by potential injurers.’ More precisely, this paper takes litigation costs as given and examines the social desirability of the levels of care exercised under negligence and under strict liability.2 The relationship of this paper to the existing literature examining the influence of litigation costs on incentives under a liability system can best be described by comparing its focus to two fairly recent papers.’ Shave11 (1982) examines whether plaintiffs bring suit when bringing suit is socially desirable in a regime in which litigation is costly. Polinsky and Rubinfeld (1988) examine whether the level of liability is socially optimal in a regime in which litigation is costly. This paper examines whether the level of care is socially optimal in a regime in which litigation is costly. The major result presented in this paper is that strict liability leads to underdeterrence when litigation costs are taken into account. The intuition behind this conclusion is straightforward. Optimal deterrence requires that all external costs resulting from the injurer’s failure to take care be “internalized” to the injurer. But if litigation is costly, two types of external cost will not be internalized under strict liability: the litigation cost “imposed” on victims who choose to sue; and the losses suffered by victims who choose not to sue because the cost of litigating exceeds the anticipated damage award. The negligence rule also leads to underdeterrence when litigation costs are taken into account. Specifically, if agents have rational expectations and the jury is perfectly informed, then in equilibrium a negligence regime must underdeter. The