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Exploring the interaction between law and economics: the limits of formalism

Published online by Cambridge University Press:  02 January 2018

David Campbell
University of Leeds
Sol Picciotto
Lancaster University


As lawyers concerned with the regulation of economic activity, we applaud the recognition in Professor Charles Goodhart's recent Chorley lecture that much of the ‘law and economics’ of the past quarter-century has involved ‘too much one-way traffic’. If the field of law and economics has indeed largely, as Professor Goodhart suggests, consisted of a process of intellectual imperialism, specifically of the colonisation of law by economics, we consider it important to reflect on the reasons for this, and to make some suggestions to improve the collaboration between the two disciplines. In brief, we suggest that this interaction has been bedevilled by its tendency to reproduce the worst aspects of formalism in each discipline.

Professor Goodhart shows that the bulk of law and economics has consisted of a fairly unthinking application of standard neo-classical economic assumptions to legal phenomena which have themselves typically been conceived in conventional doctrinal terms.

Research Article
Copyright © Society of Legal Scholars 1998

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49. Indeed, a survey of the Social Sciences Citation Index (which covers law, economics, and social science journals) of the period 1981–88 showed that this was by far the most cited article published in a law review: R C Ellickson Order Without Law: How Neighbours Settle Disputes (Cambridge, Mass: Harvard University Press, 1991) p 2, n 2.

50. Coase ‘The Problem of Social Cost’ (above n 5) p 114.

51. G J Stigler The Theory of Price (New York: Macmillan, 3rd edn, 1966) p 113. While not denying the ideas behind it, Coase has always been anxious to disavow authorship of the phrase. Stigler said of the Coase Theorem: ‘If this proposition strikes you as incredible on first hearing, join the club. The world of zero transaction costs turns out to be as strange as the physical world would be without friction.’ (G J Stigler ‘The Law and Economics of Public Policy: A Plea to the Scholars’ (1972) 1 J Legal Studies 12. Cf G J Stigler ‘Two Notes on the Coase Theorem’ (1989) 99 Yale LJ 631).

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54. At the Tenth Annual Conference on New Institutional Economics, responding to what Posner had apparently intended to be a eulogistic account of Coase's ideas, Coase commented (R H Coase ‘Coase on Posner on Coase’ (1993) 149 J Institutional and Theoretical Economics 96): ‘My first reaction on reading Posner's paper was one of amusement. It recalled to my mind Miss Elliott's description of Alfred Marshall's lectures on Henry George. She said that Marshall reminded her of a boa-constrictor that slobbered over its victim before swallowing it. In saying this. I had no intention of equating Posner with Marshall, still less with any kind of snake, although I did confess that the wicked thought did flicker through my mind as I studied his paper with more care and ceased to be amused. Posner says that the first part of his paper describes “the conception of the field [the new institutional economics] held by Ronald Coase.” Reading this part of his paper recalled to my mind Horace Walpole's opening remarks in his book on King Richard the Third: “so incompetent has the generality of historians been for the province they have undertaken, that it is almost a question, whether, if the dead of past ages could revive, they would be able to reconnoitre the events of their own times, as transmitted to us by ignorance and misrepresentation.” I have only one foot through the door, but should the final yank come before this piece is published, Horace Walpole's words would apply exactly to Posner's highly inaccurate account of my views.’ Posner nevertheless allowed a paper on which he was then working which sought to expound Coase's views on methodology to be published: R A Posner ‘Nobel Laureate: Ronald Coase and Methodology’ (1993) 7 J Economic Perspectives 195.

55. Coase ‘The Institutional Structure of Production’ (above n 48) p 11.

56. Coase ‘The Firm, the Market and the Law’ (above n 3) pp 23–24. A typical example is pollution caused by a factory, which causes harm to persons who are not party to any of the transactions involved in producing or consuming the factory's products.

57. Coase, The Firm, the Market and the Law’ (above n 3) p 22. Although Coase was extremely hostile to Pigou, his treatment of the latter's ideas seems to us to have been fair, but see, contra, Simpson, A W B ‘Coase v Pigou Reexamined’ (1996) 25 J Legal Studies 53. Coase does not come particularly well out of the subsequent exchange with Simpson, where Coase's usual balance and wit seem to desert him. Coase ‘Law and Economics and A. W. Brian Simpson’ and Simpson, A W B ‘An Addendum’ (1996) 25 J Legal Studies 99.Google Scholar

58. For an exemplary exchange of views, see G Calabresi and A D Melamed ‘Property Rules, Liability Rules and Inalienability: One View of the Cathedral Crypt’ (1972) 85 Harv LR 1089 and P Burrows ‘Nuisance, Legal Rules and Decentralised Decisions: A Different View of the Cathedral Crypt’ in P Burrows and C J Veljanovski (eds) The Economic Approach to Law (London: Butterworths, 1981) ch 6.

59. Surveys are provided by R D Cooter ‘The Coase Theorem’ in Eatwell, J et al (eds) The New Palgrave (London: Palgrave, 1987) pp 457460 CrossRefGoogle Scholar; G Daly ‘The Coase Theorem: Assumptions, Applications, Ambiguities’ (1974) 12 Economic Inquiry 203 and R O Zerbe ‘The Problem of Social Cost in Retrospect’ (1980) 2 Research in Law and Economics 83.

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61. Posner, for example, would apparently largely dispense with antitrust (R A Posner Antitrust Law: An Economic Perspective (Chicago: University of Chicago Press, 1976), with most utility regulation (R A Posner ‘Natural Monopoly and Its Regulation’ (1969) 21 Stanford LR 548) and perhaps with legislation altogether (R A Posner Economic Analysis of Law (above n 27) pp 523–524).

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63. Eg D Campbell and P Vincent-Jones (eds) Contract and Economic Organisation (Aldershot: Dartmouth Press, 1996) pt 2.

64. M J Sklar The Corporate Reconstruction of American Capitalism 1890–1916: The Market, Law and Politics (Cambridge: Cambridge University Press, 1988) and J Weinstein The Corporate Ideal in the Liberal State 1900–1918 (Boston: Beacon, 1968). In other leading capitalist countries, the state played a more direct role in that period. In Germany, corporate concentration took place within a formalised framework which included state-supervised cartels, whereas in the UK, the longer history of the centralised state and the greater homogeneity of ruling elites permitted much more informal supervision of business and industry.

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76. Coase ‘Notes on “The Problem of Social Cost”’ (above n 53) pp 172–173.

77. Posner The Economic Analysis of Law (above n 27) p 54.

78. It is also characteristic that he sees this decision as one taken by a court rather than by a legislature, which might be better equipped to conduct the necessary evaluations.

79. Coase ‘Notes on “The Problem of Social Cost’” (above n 53) p 175–178.

80. The old common law rule that an animal owner is liable for damage caused by trespass was widely reversed in mid-nineteenth-century America by open-range statutes, which specified that a victim could only recover if land was protected by a ‘lawful fence’. But as agriculture developed in the later part of the century, many areas were ‘closed’, which effectively restored the common law rule. In California this culminated in the Estray Act of 1915, which closed all but six counties, one of which was Shasta. In 1945 the California legislature closed part of Shasta by declaring that it was ‘not chiefly devoted to grazing’ and empowered the county's Board of Supervisors to make similar determinations. Consequently, by 1981, 28 areas of the county had been closed in this way (Ellickson Order Without Law: How Neighbows Settle Disputes (above n 75) pp 42–44).

81. Ibid. pp 20–22.

82. In this respect he bears out the point made by Mark Kelman that, in its empirical mode, law and economics can be indistinguishable from ‘law and society’‘impact’ studies: Kelman A Guide to Critical Legal Studies (above n 2) p 117.

83. Ellickson, Order without Law: How Neighbours Settle Disputes (above n 75) p 52. The phrase comes from the well-known article by Robert Mnookin, and Lewis Komhauser, ‘Bargaining in the Shadow of the Law: The Case of Divorce’ (1979) 88 Yale LJ 950.Google Scholar

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87. Ellickson embarks on his critique of ‘law and society theory’ by citing approvingly an aphorism attributed to Arthur Leff that while law and economics is a desert, law and society is a swamp (ibid, p 147). This one may readily concede, and it may help to explain why Ellickson does not mention the ‘interpretative’ tum in law and society work, although he briefly mentions that his argument is contradicted by interpretivism in anthropology and the humanities (Ellickson Order Without Law: How Neighbours Settle Disputes (above n 75) p 169).

88. Ibid, pp 50–51.

89. Ibid, p 61.

90. Ibid, pp 63–64.

91. Ibid, p 75.

92. Ibid, pp 116ff. He refers to the locus classicus, Joseph Gusfield's account of prohibition ( Gusfield, J R Symbolic Crusade (Urbana: University of Illinois Press, 1963)Google Scholar. The interaction of instrumental and symbolic aspects of a campaign for legislative reform was explored in Carson's socio-legal account of the nineteenth-century struggle over the Factory Acts: W G Carson ‘Symbolic and Instrumental Dimensions of Early English Factory Legislation’ in R Hood (ed) Crime, Criminology and Public Policy (London: Heinemann, 1974) pp 108–120.

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94. Thus, recent socio-legal work on regulation has stressed that it should be considered as a ‘responsive’ or ‘reflexive’ process, involving an interaction among the layers of formal and informal regulatory arenas. This at least requires consideration of how to design state or public regulation to interact effectively with informal or private normative practices (eg I Ayres and J Braithwaite Responsive Regulation: Transcending the Deregulation Debate (Oxford: Oxford University Press, 1992). Ellickson also examines this in the later part of Order Without Law (above n 75)). However, it is also important to understand how this interaction operates through an interpretative process involving the construction of authoritative meanings: see eg N Reichman ‘Moving Backstage: Uncovering the Role of Compliance Practices in Shaping Regulatory Policy’ in K Schlegel and D Weisburd (eds) White Collar Crime Reconsidered (Boston: Northeastern University Press, 1992) pp 244–268, esp pp 256ff.

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112. It is, perhaps, sufficient compliment to Coase that one is simply jarred by the contrast between this Readers' Digest talk of galaxies and primordial matter and the carefulness about institutional detail that one identifies with his substantive work. Nevertheless, his notion that a sounder foundation for a theory of markets may be developed from ‘sociobiology’ has been elaborated by others, notably Becker (G S Becker ‘Altruism, Egoism and Genetic Fitness: Economics and Sociobiology’ in Becker The Essence of Becker (above n 16) ch 13). It is now being elevated into a general theory of ‘evolutionary economics’: eg J Hirshleifer ‘Economics from a Biological Point of View’ (1978) 20 J Law and Economics 1. The notion is that, even if not all behaviour is consistent with rational choice, competition and hence natural selection will ensure that those more capable of rational behaviour will survive. This elevates the naturalistic strain which has always been present in political economy into a general theory of ‘biological economics’.

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120. Professor Goodhart himself has felt the need to underpin his own approach to monetary and financial economics, which stresses the sluggishness and inertia of markets and hence the importance of money and the role of financial intermediaries and market-makers, with a micro-economic theory which he argues should be based not on a priori assumptions but empirical study of how actual markets work in practice. This was spelled out by the addition of a new first chapter to the second edition of his text Money, Information and Uncertainty (London: Macmillan, 1989), which begins arrestingly, ‘Time is the ultimate constraint on mortals’.

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132. P C Ordeshook ‘The Emerging Discipline of Political Economy’, in K Alt and J Shepsle (eds) Perspectives on Positive Political Economy (Cambridge: Cambridge University Press, 1990) ch 1.

133. Coase ‘The New Institutional Economics’ (above n 102) 230.

134. J M Buchanan ‘Good Economics — Bad Law’ (1974) 60 Virginia LR 483 and M Rothbard ‘Frank S Meyer: The Fusionist as Libertarian Manqué’ in G W Carey (ed) Freedom and Virtue: The Conservative/Libertarian Debate (Lanham: University Press of America, 1984) pp 97–98.

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