Ronen Avraham and Zhiyong Liu (Northwestern University – School of Law and Georgia State University – Risk Management & Insurance Department) have posted Should Courts Ignore Ex Post Information When Determining Contract Damages? A Re-Evaluation of Contract Remedies on SSRN. Here is the abstract:
In this paper we study contracts with two-sided asymmetric information with no investment. Prior literature on contract remedies does not account for the non-breaching party’s option to not sue for damages upon breach, when her expected payoff from suing (even absent litigation costs) is negative, given the contractual terms and her private information about her post breach loss. Once this option is incorporated into the analysis, we make three major contributions: First, we show that courts should commit to awarding fixed damages, because awarding flexible damages based on ex post information will distort the incentives to breach. This result does not rely on the information forcing effect of basing damages on ex ante expectations – a la Hadley v. Baxendale – which has been discussed in previous literature. Second, we show that the option of acquiescing to the breach expands the breach set under specific performance, so that a) counter-intuitively, the seller may breach more under specific performance than under other damages remedies, and b) that specific performance can be more efficient than other remedies. Third, expanding our previous work on optional versus exclusive contracts, we derive the conditions for the superiority of optional contracts over exclusive contracts, and show that courts also should ignore ex post information in optional contracts.