Cadillac Contracts and Up-front Payments: Efficient Investment under Expectation Damages

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Journal of Law, Economics, and Organization, Vol: 12, Page: 98

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Edlin, Aaron S.
Contracts; Economic Law; Investment; Breach of Contract; Law
article description
This article shows that up-front payments can eliminate the overinvestment effect identified by Shavell (1980), by controlling which party breaches a contract. At the same time, "Cadillac" contracts (contracts for a very high quality or quantity) can protect against underinvestment due to Williamsonian holdups. This combination provides efficient investment incentives when courts use expectation damages as a remedy for breach. The expectation damages remedy is therefore well-suited to multidimensional but one-sided investment problems, in contrast to specific performance, which is well-suited to two-sided but unidimensional investment problems.