Law and economics, or economic analysis of law, is the application of microeconomic theory to the analysis of law, which emerged primarily from scholars of the Chicago school of economics.

Economic An economy is an area of the production, distribution and trade, as well as consumption of goods and services. In general, it is defined as a social domain that emphasize the practices, discourses, and material expressions associated with t ...

concepts are used to explain the effects of laws, to assess which legal rules are economically efficient, and to predict which legal rules will be promulgated. There are two major branches of law and economics; one based on the application of the methods and theories of

neoclassical economics Neoclassical economics is an approach to economics in which the production, consumption and valuation (pricing) of goods and services are observed as driven by the supply and demand model. According to this line of thought, the value of a good ...

to the positive and normative analysis of the law, and a second branch which focuses on an institutional analysis of law and legal institutions, with a broader focus on economic, political, and social outcomes, and overlapping with analyses of the institutions of politics and governance.

History

Origin

The historical antecedents of law and economics can be traced back to the classical economists, who are credited with the foundations of modern economic thought. As early as the 18th century, Adam Smith discussed the economic effects of mercantilist legislation; later, David Ricardo opposed the British Corn Laws on the grounds that they hindered agricultural productivity; and

Frédéric Bastiat Claude-Frédéric Bastiat (; ; 30 June 1801 – 24 December 1850) was a French economist, writer and a prominent member of the French Liberal School. A member of the French National Assembly, Bastiat developed the economic concept of opportuni ...

, in his influential book ''

The Law The Law may refer to: Books * ''The Law'' (Bastiat book), an 1850 book by Frédéric Bastiat * ''The Law'' (novel), a 1957 novel by Roger Vailland * ''The Law'' (novella), a 2022 novella by Jim Butcher Film and television * ''The Law'' ( ...

'', examined the unintended consequences of legislation. However, to apply economics to analyze the law regulating nonmarket activities is relatively new. A European law & economics movement around 1900 did not have any lasting influence.

Harold Luhnow Harold W. Luhnow (September 25, 1895 – August 1978) was an American businessman, philanthropist, and political activist. He is most well known for his management of the influential William Volker Fund during the period between 1947 and 1964 in t ...

, the head of the

Volker Fund Volker may refer to: * Volker (name), including a list of people with the given name or surname * Volker, Kansas City, a historic neighborhood in Kansas City * Volker Boulevard, Kansas City * '' Alien Nations'' (German: ''Die Völker''), a real-tim ...

, not only financed F. A. Hayek in the U.S. starting in 1946, but he shortly thereafter financed Aaron Director's coming to the University of Chicago in order to set up there a new center for scholars in law and economics. The University was headed by Robert Maynard Hutchins, a close collaborator of Luhnow's in setting up the Chicago School, as it became commonly known. The university faculty then included a strong base of libertarian scholars, including

Frank Knight Frank Hyneman Knight (November 7, 1885 – April 15, 1972) was an American economist who spent most of his career at the University of Chicago, where he became one of the founders of the Chicago School. Nobel laureates Milton Friedman, Georg ...

George Stigler George Joseph Stigler (; January 17, 1911 – December 1, 1991) was an American economist. He was the 1982 laureate in Nobel Memorial Prize in Economic Sciences and is considered a key leader of the Chicago school of economics. Early life and ...

, Henry Simons,

Ronald Coase Ronald Harry Coase (; 29 December 1910 – 2 September 2013) was a British economist and author. Coase received a bachelor of commerce degree (1932) and a PhD from the London School of Economics, where he was a member of the faculty until 1951. ...

and Jacob Viner. Soon, it would also have not just Hayek himself, but Director's brother-in-law and Stigler's friend Milton Friedman, and also Robert Fogel, Robert Lucas, Eugene Fama, Richard Posner, and Gary Becker. Historians Robert van Horn and Philip Mirowski described the development of modern economic concepts in "The Rise of the Chicago School of Economics", a chapter of ''The Road from Mont Pelerin ''(2009); and historian Bruce Caldwell (a great admirer of von Hayek) filled in more details of the account in his chapter, "The Chicago School, Hayek, and Neoliberalism", in ''Building Chicago Economics'' (2011). The field began with Gary Becker’s 1968 paper on crime (Becker also received a Nobel Prize). In 1972, Richard Posner, a law and economics scholar and the major advocate of the positive theory of efficiency, published the first edition of Economic Analysis of Law and founded '' The Journal of Legal Studies'', both are regarded as important events. Gordon Tullock and Friedrich Hayek also wrote intensively in the area and influenced to spread of law and economics.

Founding

In 1958, Director founded ''The'' ''Journal of Law & Economics'', which he co-edited with Nobel laureate

, and which helped to unite the fields of law and economics with far-reaching influence. In 1960 and 1961, Ronald Coase and

Guido Calabresi Guido Calabresi (born October 18, 1932) is an Italian-born American legal scholar and Senior United States circuit judge of the United States Court of Appeals for the Second Circuit. He is a former Dean of Yale Law School, where he has been a ...

independently published two groundbreaking articles, " The Problem of Social Cost" and "Some Thoughts on Risk Distribution and the Law of Torts". This can be seen as the starting point for the modern school of law and economics. In 1962, Aaron Director helped to found the Committee on a Free Society. Director's appointment to the faculty of the University of Chicago Law School in 1946 began a half-century of intellectual productivity, although his reluctance about publishing left few writings behind. He taught antitrust courses at the law school with Edward Levi, who eventually would serve as Dean of Chicago's Law School, President of the University of Chicago, and as U.S. Attorney General in the Ford administration. After retiring from the

University of Chicago Law School The University of Chicago Law School is the law school of the University of Chicago, a private research university in Chicago, Illinois. It is consistently ranked among the best and most prestigious law schools in the world, and has many dist ...

in 1965, Director relocated to California and took a position at Stanford University's Hoover Institution. He died September 11, 2004, at his home in Los Altos Hills, California, ten days before his 103rd birthday.

Later development

In the early 1970s, Henry Manne (a former student of Coase) set out to build a center for law and economics at a major

law school A law school (also known as a law centre or college of law) is an institution specializing in legal education, usually involved as part of a process for becoming a lawyer within a given jurisdiction. Law degrees Argentina In Argentina, ...

. He began at the University of Rochester, worked at the

University of Miami The University of Miami (UM, UMiami, Miami, U of M, and The U) is a private research university in Coral Gables, Florida. , the university enrolled 19,096 students in 12 colleges and schools across nearly 350 academic majors and programs, ...

, but was soon made unwelcome, moved to

Emory University Emory University is a private research university in Atlanta, Georgia. Founded in 1836 as "Emory College" by the Methodist Episcopal Church and named in honor of Methodist bishop John Emory, Emory is the second-oldest private institution of h ...

, and ended up at

George Mason George Mason (October 7, 1792) was an American planter, politician, Founding Father, and delegate to the U.S. Constitutional Convention of 1787, one of the three delegates present who refused to sign the Constitution. His writings, including s ...

. The last soon became a center for the education of judges—many long out of law school and never exposed to numbers and economics. Manne also attracted the support of the John M. Olin Foundation, whose support accelerated the movement. Today, Olin centers (or programs) for Law and Economics exist at many universities.

Chicago School notable figures

Modern forerunners of economic thought developed at the Chicago School include Adam Smith, David Ricardo, and

. Founders include: * Aaron Director,

University of Chicago The University of Chicago (UChicago, Chicago, U of C, or UChi) is a private university, private research university in Chicago, Illinois. Its main campus is located in Chicago's Hyde Park, Chicago, Hyde Park neighborhood. The University of Chic ...

, University of Chicago, 1991

Nobel Memorial Prize in Economic Sciences The Nobel Memorial Prize in Economic Sciences, officially the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel ( sv, Sveriges riksbanks pris i ekonomisk vetenskap till Alfred Nobels minne), is an economics award administered ...

* Richard Posner, University of Chicago *

Yale University Yale University is a Private university, private research university in New Haven, Connecticut. Established in 1701 as the Collegiate School, it is the List of Colonial Colleges, third-oldest institution of higher education in the United Sta ...

. Calabresi, judge for the U.S. Court of Appeals for the Second Circuit, wrote in depth on this subject; his book '' The Costs of Accidents: A Legal and Economic Analysis'' (1970) has been cited as influential in its extensive treatment of the proper incentives and compensation required in accident situations. Calabresi took a different approach in ''Ideals, Beliefs, Attitudes, and the Law'' (1985), where he argued, "who is the cheapest avoider of a cost, depends on the valuations put on acts, activities and beliefs by the whole of our law and not on some objective or scientific notion" (69). * Henry Manne,

George Mason University George Mason University (George Mason, Mason, or GMU) is a public research university in Fairfax County, Virginia with an independent City of Fairfax, Virginia postal address in the Washington, D.C. Metropolitan Area. The university was orig ...

Other notable individuals include: * Gary Becker,

Nobel Memorial Prize The Nobel Memorial Prize in Economic Sciences, officially the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel ( sv, Sveriges riksbanks pris i ekonomisk vetenskap till Alfred Nobels minne), is an economics award administered ...

–winning economist and a leader of the Chicago School of Economics * Frank Easterbrook, U.S. Court of Appeals for the Seventh Circuit judge * Andrei Shleifer * Robert Cooter * Harold Demsetz * Hans-Bernd Schäfer *

William Landes William M. Landes (born c. 1939) is an American economist who has written about the economic analysis of law and an emeritus professor at the University of Chicago Law School. He is a fellow of the American Academy of Arts and Sciences, which ci ...

W. Kip Viscusi William (W. Kip) Viscusi (born 1949) is an American economist whose primary fields of research are the economics of risk and uncertainty, risk and environmental regulation, behavioral economics, and law and economics. Viscusi is the University Di ...

* A. Mitchell Polinsky * Michael Trebilcock

Positive and normative law and economics

Economic analysis of law is usually divided into two subfields: positive and normative.

Positive law and economics

'Positive law and economics' uses economic analysis to predict the effects of various legal rules. So, for example, a positive economic analysis of

tort law A tort is a civil wrong that causes a claimant to suffer loss or harm, resulting in legal liability for the person who commits the tortious act. Tort law can be contrasted with criminal law, which deals with criminal wrongs that are punishabl ...

would predict the effects of a strict liability rule as opposed to the effects of a

negligence Negligence (Lat. ''negligentia'') is a failure to exercise appropriate and/or ethical ruled care expected to be exercised amongst specified circumstances. The area of tort law known as ''negligence'' involves harm caused by failing to act as ...

rule. Positive law and economics has also at times purported to explain the development of legal rules, for example the

common law In law, common law (also known as judicial precedent, judge-made law, or case law) is the body of law created by judges and similar quasi-judicial tribunals by virtue of being stated in written opinions."The common law is not a brooding omniprese ...

of torts, in terms of their economic efficiency.

Normative law and economics

''Normative law and economics'' goes one step further and makes policy recommendations based on the economic consequences of various policies. The key concept for normative economic analysis is efficiency, in particular, allocative efficiency. A common concept of efficiency used by law and economics scholars is Pareto efficiency. A legal rule is Pareto efficient if it could not be changed so as to make one person better off without making another person worse off. A weaker conception of efficiency is Kaldor–Hicks efficiency. A legal rule is Kaldor–Hicks efficient if it could be made Pareto efficient by some parties compensating others as to offset their loss. Nonetheless, the possibility of a clear distinction between positive and normative analysis has been questioned by Guido Calabresi who, in his book on "The future of Law and Economics" (2016: 21-22), believes that there is an "actual - and unavoidable - existence of value judgments underlying much economic analysis" Uri Weiss proposed this alternative: "It is common in law and economics to search for the law that will lead to the optimal outcome, providing the maximum size 'pie,' and to think about maximizing happiness instead of minimizing pain. We prefer another approach: We do not try to identify games that will lead to the optimal result but to prevent games in which it is in the best interests of the players to come to an unjust result".

Criminal law

In 1968, Gary Becker, who would later win the Nobel prize for economics, published ''Crime and Punishment: An Economic Approach''. This work relied on the economic concept of utility as the basic unit of analysis. In 1985, in ''An Economic Theory of the Criminal Law'', Posner set out an alternative approach that relied instead on wealth as the basic unit of analysis.

Relationship to other disciplines and approaches

As used by

lawyer A lawyer is a person who practices law. The role of a lawyer varies greatly across different legal jurisdictions. A lawyer can be classified as an advocate, attorney, barrister, canon lawyer, civil law notary, counsel, counselor, solici ...

s and legal scholars, the phrase "law and economics" refers to the application of microeconomic analysis to legal problems. Because of the overlap between legal systems and political systems, some of the issues in law and economics are also raised in

political economy Political economy is the study of how economic systems (e.g. markets and national economies) and political systems (e.g. law, institutions, government) are linked. Widely studied phenomena within the discipline are systems such as labour ...

constitutional economics Constitutional economics is a research program in economics Economics () is the social science that studies the production, distribution, and consumption of goods and services. Economics focuses on the behaviour and interactions of ...

and

political science Political science is the scientific study of politics. It is a social science dealing with systems of governance and power, and the analysis of political activities, political thought, political behavior, and associated constitutions and ...

. Approaches to the same issues from Marxist and

critical theory A critical theory is any approach to social philosophy that focuses on society and culture to reveal, critique and challenge power structures. With roots in sociology and literary criticism, it argues that social problems stem more from s ...

Frankfurt School The Frankfurt School (german: Frankfurter Schule) is a school of social theory and critical philosophy associated with the Institute for Social Research, at Goethe University Frankfurt in 1929. Founded in the Weimar Republic (1918–1933), du ...

perspectives usually do not identify themselves as "law and economics". For example, research by members of the

critical legal studies Critical legal studies (CLS) is a school of critical theory that developed in the United States during the 1970s.Alan Hunt, "The Theory of Critical Legal Studies," Oxford Journal of Legal Studies, Vol. 6, No. 1 (1986): 1-45, esp. 1, 5. Se DOI, 10.1 ...

movement and the

sociology of law The sociology of law (legal sociology, or law and society) is often described as a sub-discipline of sociology or an interdisciplinary approach within legal studies. Some see sociology of law as belonging "necessarily" to the field of sociology ...

considers many of the same fundamental issues as does work labeled "law and economics", though from a vastly different perspective. The law and political economy movement also analyzes similar concepts using an entirely different approach. The one wing that represents a non-neoclassical approach to "law and economics" is the Continental (mainly German) tradition that sees the concept starting out of the governance and public policy (''Staatswissenschaften'') approach and the German

Historical school of economics The historical school of economics was an economic methodology, approach to academic economics and to public administration that emerged in the 19th century in Germany, and held sway there until well into the 20th century. The professors involved ...

; this view is represented in the ''Elgar Companion to Law and Economics'' (2nd ed. 2005) and—though not exclusively—in the ''European Journal of Law and Economics''. Here, consciously non-neoclassical approaches to economics are used for the analysis of legal (and administrative/governance) problems. Law and economics is closely related to

jurimetrics Jurimetrics is the application of quantitative methods, and often especially probability and statistics, to law. In the United States, the journal ''Jurimetrics'' is published by the American Bar Association and Arizona State University. The ''Jou ...

, the application of

probability Probability is the branch of mathematics concerning numerical descriptions of how likely an Event (probability theory), event is to occur, or how likely it is that a proposition is true. The probability of an event is a number between 0 and ...

and statistics to legal questions.

Applications

* Affirmative action (

Coate-Loury model The Coate-Loury model of affirmative action was developed by Stephen Coate and Glenn Loury in 1993. The model seeks to answer the question of whether, by mandating expanded opportunities for minorities in the present, these policies are rendered ...

) * Antitrust law ( Herfindahl–Hirschman Index) * Calculus of negligence * Congestion pricing *

Corporate governance Corporate governance is defined, described or delineated in diverse ways, depending on the writer's purpose. Writers focused on a disciplinary interest or context (such as accounting, finance, law, or management) often adopt narrow definitions ...

* Cost-benefit analysis ** Criminal law ** Mass surveillance in the United States ** Surveillance *Crime enforcement *

Deregulation Deregulation is the process of removing or reducing state regulations, typically in the economic sphere. It is the repeal of governmental regulation of the economy. It became common in advanced industrial economies in the 1970s and 1980s, as a r ...

( Airlines,

communications Communication (from la, communicare, meaning "to share" or "to be in relation with") is usually defined as the transmission of information. The term may also refer to the message communicated through such transmissions or the field of inqui ...

energy In physics, energy (from Ancient Greek: ἐνέργεια, ''enérgeia'', “activity”) is the quantitative property that is transferred to a body or to a physical system, recognizable in the performance of work and in the form of hea ...

, surface freight) *Design of contracts ( Contract theory) ** Efficient breach * Discrimination ** Statistical discrimination (economics) * Drug policy (

Iron law of prohibition The iron law of prohibition is a term coined by Richard Cowan (cannabis activist), Richard Cowan in 1986 which posits that as law enforcement becomes more intense, the potency of prohibited substances increases. Cowan put it this way: "the harder ...

) * Evidence *

Evolution Evolution is change in the heritable characteristics of biological populations over successive generations. These characteristics are the expressions of genes, which are passed on from parent to offspring during reproduction. Variation ...

of the

( Evolutionary game theory) * Financial regulation ( Efficient market hypothesis) ** Fraud-on-the-market theory *Governance of the commons ** Tragedy of the commons * Institutional origins ** ''The Colonial Origins of Comparative Development: An Empirical Investigation'' **

Constitutional economics Constitutional economics is a research program in economics Economics () is the social science that studies the production, distribution, and consumption of goods and services. Economics focuses on the behaviour and interactions of ...

** Legal origins theory **

Property rights The right to property, or the right to own property (cf. ownership) is often classified as a human right for natural persons regarding their possessions. A general recognition of a right to private property is found more rarely and is typically ...

Intellectual property Intellectual property (IP) is a category of property that includes intangible creations of the human intellect. There are many types of intellectual property, and some countries recognize more than others. The best-known types are patents, cop ...

( Economics and patents) * Natural monopoly regulation ( Averch–Johnson effect) * Peltzman effect *

Principal–agent problem The principal–agent problem refers to the conflict in interests and priorities that arises when one person or entity (the " agent") takes actions on behalf of another person or entity (the " principal"). The problem worsens when there is a gr ...

** Adverse selection ** Moral hazard * Quarantine measures for

public health Public health is "the science and art of preventing disease, prolonging life and promoting health through the organized efforts and informed choices of society, organizations, public and private, communities and individuals". Analyzing the det ...

* Prudent investor rule ( Modern portfolio theory) * Rent control * Rent-seeking * Transaction costs ( Coase theorem) * Value of a statistical life * Voting systems (

Social choice theory Social choice theory or social choice is a theoretical framework for analysis of combining individual opinions, preferences, interests, or welfares to reach a ''collective decision'' or ''social welfare'' in some sense. Amartya Sen (2008). "So ...

) * Water law

Influence

The economic analysis of law has been influential in the United States as well as elsewhere. Judicial opinions use economic analysis and the theories of law and economics with some regularity, in the US but also, increasingly, in Commonwealth countries and in Europe. The influence of law and economics has also been felt in legal education, with graduate programs in the subject being offered in a number of countries. The influence of law and economics in civil law countries may be gauged from the availability of textbooks of law and economics, in English as well as in other European languages (Schäfer and Ott 2004; Mackaay 2013). Many law schools in North America, Europe, and Asia have faculty members with a graduate degree in economics. In addition, many professional economists now study and write on the relationship between economics and legal doctrines. Anthony Kronman, former dean of Yale Law School, has written that "the intellectual movement that has had the greatest influence on American academic law in the past quarter-century

f the 20th Century F, or f, is the sixth Letter (alphabet), letter in the Latin alphabet, used in the English alphabet, modern English alphabet, the alphabets of other western European languages and others worldwide. Its name in English is English alphabet#Let ...

is law and economics.

Criticisms

Despite its influence, the law and economics movement has been criticized from a number of directions. This is especially true of normative law and economics. Because most law and economics scholarship operates within a neoclassical framework, fundamental criticisms of neoclassical economics have been drawn from other, competing frameworks, though there are numerous internal critiques as well. Yet other schools of economic thought have emerged and have been applied to the work of law and economics in, for example, the work of

Edgardo Buscaglia Dr. Edgardo Buscaglia is a highly renowned scholar and practitioner within the field of law and economics. Dr. Buscaglia is also an international philanthropist and civil society leader engaged in supporting non-governmental organizations in their ...

and Robert Cooter in the book "Law and Economics of Development".

Rational choice theory

Critics of the economic analysis of legal questions have argued that normative economic analysis does not capture the importance of

human rights Human rights are moral principles or normsJames Nickel, with assistance from Thomas Pogge, M.B.E. Smith, and Leif Wenar, 13 December 2013, Stanford Encyclopedia of PhilosophyHuman Rights Retrieved 14 August 2014 for certain standards of hu ...

and concerns for

distributive justice Distributive justice concerns the socially just allocation of resources. Often contrasted with just process, which is concerned with the administration of law, distributive justice concentrates on outcomes. This subject has been given considerab ...

. Some of the heaviest criticisms of law and economics come from the

movement, in particular Duncan Kennedy and Mark Kelman. Jon D. Hanson, of

Harvard Law School Harvard Law School (Harvard Law or HLS) is the law school of Harvard University, a private research university in Cambridge, Massachusetts. Founded in 1817, it is the oldest continuously operating law school in the United States. Each class ...

, argues that our legal, economic, political, and social systems are unduly influenced by an individualistic model of behavior based on preferences, instead of a model that incorporates cognitive biases and social norms.

Pareto efficiency

Additional criticism has been directed toward the assumed benefits of law and policy designed to increase allocative efficiency when such assumptions are modeled on "first-best" ( Pareto optimal) general-equilibrium conditions. Under the theory of the second best, for example, if the fulfillment of a subset of optimal conditions cannot be met under any circumstances, it is incorrect to conclude that the fulfillment of ''any'' subset of optimal conditions will necessarily result in an increase in allocative efficiency. Consequently, any expression of public policy whose purported purpose is an unambiguous increase in allocative efficiency (for example, consolidation of

research and development Research and development (R&D or R+D), known in Europe as research and technological development (RTD), is the set of innovative activities undertaken by corporations or governments in developing new services or products, and improving existi ...

costs through increased mergers and acquisitions resulting from a systematic relaxation of antitrust laws) is, according to critics, fundamentally incorrect, as there is no general reason to conclude that an increase in allocative efficiency is more likely than a decrease. Essentially, the "first-best" neoclassical analysis fails to properly account for various kinds of general-equilibrium feedback relationships that result from intrinsic Pareto imperfections. Another critique comes from the fact that there is no unique optimal result. Warren Samuels in his 2007 book, ''The Legal-Economic Nexus'', argues, "efficiency in the Pareto sense cannot dispositively be applied to the definition and assignment of rights themselves, because efficiency requires an antecedent determination of the rights (23–4)".

Responses to criticism

Law and economics has adapted to some of these criticisms and been developed in a variety of directions. One important trend has been the application of game theory to legal problems. Other developments have been the incorporation of

behavioral economics Behavioral economics studies the effects of psychological, cognitive, emotional, cultural and social factors on the decisions of individuals or institutions, such as how those decisions vary from those implied by classical economic theory. ...

into economic analysis of law, and the increasing use of statistical and

econometrics Econometrics is the application of statistical methods to economic data in order to give empirical content to economic relationships.M. Hashem Pesaran (1987). "Econometrics," '' The New Palgrave: A Dictionary of Economics'', v. 2, p. 8 p. 8� ...

techniques. Within the legal academy, the term socio-economics has been applied to economic approaches that are self-consciously broader than the neoclassical tradition. Property rights, which are analyzed using economic analysis, are seen as fundamental human rights by defenders of law and economics.

References

External links

"Law and Economics"
article in the ''

Internet Encyclopedia of Philosophy The ''Internet Encyclopedia of Philosophy'' (''IEP'') is a scholarly online encyclopedia, dealing with philosophy, philosophical topics, and philosophers. The IEP combines open access publication with peer reviewed publication of original pa ...

''
Law & Economics LAB

Paper describing the effects of law and economics on inequality
{{Authority control Philosophy of law