Tort cost of the accidents and internalize the

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Last updated: May 2, 2019

Tort damages made to the victims usually consist of twoparts, which are compensatory damages and punitive damages. In this essay, thetort damages under the situation where the victims are not liable would bediscussed. Theoretically, in economic models under the assumption that thelegal standard of precaution equals the efficient level, tort damages aresupposed to compensate the victims perfectly and give the incentive topotential injurers to take the legal precaution so that the social cost isminimized and economic efficiency can be achieved.

When put into the real worldwhich is an extension of economic model, however, besides adopting the perfect compensatorydamages or Hand Rule damages, problems should also be considered when decidingthe level and condition of the damages such as amount and condition of punitivedamages, diversity of tort loss, failure of the economic assumptions and asymmetricinformation.The purpose of tort law is to minimize the social costs ofaccidents including precautions costs, accident losses and administration costswhich could be seen as a function of precaution. An efficient level of tortdamages should intend to render potential injurers to reconsider the expectedcost of the accidents and internalize the marginal costs and benefits ofprecaution.

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Under the rational choices made by people, comparing the choicesbetween taking legal precaution and the perfectly compensatory tort damages,they should be made better to take the legal standard of precaution under therule of strict liability or negligence. Since the potential injurers take thelegal standard of precaution and thus avoid the liability of accident, forvictims, it is the same situation as the rule of no liability which render themto take the precaution, too. Failure of the determination of tort damages maylead to a wrong expected cost of accidents, thus a precaution which is too highor too low may occur, leading to an economic inefficiency. Therefore ineconomic theory, the tort damage is supposed to induce people to take theefficient precaution by making the liable injurers compensate perfectly to thevictims so that the social costs can be minimized.There are two concepts, or methods, to compute thecompensatory damages in tort law. One is the standard economic concept ofindifference which is intended to render the victim at exactly the same levelof utility as before the accident.

For this kind of compensation, there is somerequirement of the tort loss of the victims. To utilize the concept of perfectcompensation which “is fundamental to an economic account ofincentives” properly, a ready market substitute of the loss is necessary. Givenan available substitute of loss, or have known the monetary prices of the goodsat which make victims indifferent to sell them, it is reasonable to give theproper level of monetary compensation.In some situations, however, for the loss in the tortiousacts such as the death of a child to a family, it is impossible to find amarket substitute, therefore a perfect compensation, for the victims.

As aresult, another method is taken to give a “reasonable” compensationwhich is called Hand Rule Damages. Based on the fact that individuals alwaysface the trade-off between paying more precautions and a less probability ofengaging in an accident and under the assumption that individuals make rationalchoices between the marginal costs and benefits of precaution, it is possibleto compute the monetary amount of the kind of loss which have no available marketsubstitute such as life. Illustrated by mathematical function, the monetaryvalue of loss  (where Xdenotes the precautions and probability of the accident is denoted by P).Therefore, using either the perfect compensatory damages orthe Hand Rule damages enable us to determine the level of tort damages properlyand induce people to take legal standard of precaution in an economic modeltheoretically. Some more considerations, however, should be taken when put intoa “real world” context.

As Gary (1994) mentioned in one of hisreviews, that although “tort law provides a significant amount ofdeterrence, yet considerably less than the economists’ formulae tend topredict”. When reviewing the data of tort damages from differentcountries, maybe the first thing being noticed is the disparity of damagescaused by the same accident. Argued by Cooter and Ulen (2016), that damages”cannot be different in similar countries for identical accidents and alsobe optimal in each country” and also that “punitive damages are asignificant source of liability disparity”. As can be seen from above, thereis much uncertainty about how much and when the punitive damages can be awardedand the only thing can be referred to is ambiguous guideline.

In practice, both the compensatory and punitive damagesshould be put into a context which is an extension of economic model where theeconomic assumptions would be relaxed.The rationality of individuals and groups is one of the mostimportant assumptions in economic analysis while it is not the case in reallife. People sometimes act irrationally because of the asymmetry of informationand sometimes just for no reason. A misestimate of probability of accidents byinjuries may result in an error in determining the tort damages. For example,there is usually a difference between the beforesight and hindsight estimatesof probability. The injuries are sometimes subject to the hindsight bias andfail to take themselves back to the situation before the accidents happen andthink of the expected probability of the injurers at that time. So therationality of the amount and warranty of some punitive damages is doubtful.

Alsobecause of the hindsight bias, the value of loss given by the Hand Rule Damagesis sometimes needed to be reconsidered for the uncertainty in the probability. Otherirrational behaviours of injuries include the anchoring effect which is usualas well as in other courts. When the attorney of victims suggests considerablelarge damages, the thinking of injuries may be framed in the suggestion andthus decisions is possible to be influenced by the proposal which could be notso reasonable and as a result, a huge punitive damage may appear. Moreover, insome cases, even the ability of the attorneys of persuading the injuries thatthe compensatory damages is much lower than the real loss can affect theresult, which should also be taken into consideration when determining the tortdamages.

Besides the injuries, potential injurers and victims behavenot so rationally as the assumptions in the model, too. A drastic reduction ofcompensatory damages may occur when only part of the victims brings suit andrecovers because others fail to prove the causation or harm. Although there areguidelines in a few countries to regular the punitive damages in order tocompensate that difference, still a huge rage of flexibility exists especiallyfor the uncertainty of the “enforcement error”, namely the “ratio ofcompensated victims to all victims” (Cooter and Ulten, 2016), is not clear. What’smore, occasional acts of “clumsiness, inattention, misjudgement, misperception,or weakness of will” which are called lapses would also make the decision of liabilityand also punitive damages controversial (Cooter and Ulten, 2016).When determining the level of tort damages, the diversity ofdifferent industries should be considered because of the different viability.

Beingimposed on a huge tort damages, a company or group may have a possibility to gobankrupt and eventually an economic inefficiency is caused. Not only theeconomic viability, according to the empirical study of Gary (1994), but alsothe effects of tort damages and liability rules vary among differentindustries.Despite a number of realistic problems including thoseabove, when analyzing the empirical data from Gary’s review (1994) andcomparing the theoretical incentives and its real effects, it is found that inmost of the case, more or less the tort law has succeeded in deterringpotential injurer from doing injury on others, although the ratio “between tortliability incentives” in theory “and resulting real world conduct” will not bea one-to-one relationship.

This could partly be explained by people’s reactionto errors of injuries setting the level of tort damages. We could observe thesame direction of injurers’ precaution and the level of the error indetermining the tort damages under the strict liability. But under the negligencerule, even when there is a modest range of error in setting an efficient levelof damages because of some realistic problems, it is proved that potentialinjurers are still made better when choosing to take the legal standard ofprecaution.As a conclusion, since every industry, even in every case,has its own style and combination of realistic problems. It is impossible tofind a general solution to those problems in practice and it is recommended totake a full consideration of these problems and make case-by-case design oftort damages which are based on the basic theoretical intention which is to perfectlycompensate the victims and induce potential injurers to take the legal standardprecaution so that the economic efficiency could be achieved.


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