LAW AND ECONOMICS MOVEMENT

TERM PAPER IN
JURISPRUDENCE
SUBMITTED ON

PARTIAL FULFILLMENT OF THE DEGREE OF

B.A. LL.B. (HONS.) VIII SEMESTER

SUBMITTED BY:
Ankush Sharma
Roll No.-157
B.A. LL.B. (HONS.) VIII SEMESTER
2016

National University of Study and Research in Law, Ranchi

Page 1 of 11

Introduction:
The paper seeks to enquire into the premises and methodology of the economic analysis of
law to see if the economic analysis of law presents a descriptive or normative account of law.
The researcher believes that the law and economics theory has aspects of both descriptive and
normative theories; though there is flaw in its normative part as the normative analysis is very
narrowly restricted to efficiency criterion.
Theory:
Law and Economics movement can be defined as the use of economic theory
primarily microeconomics and the basic concepts of welfare economics to examine
the formation, structure, processes, and economic impact of law and legal institutions.1
The works of Coase2 and Calabresi3 formed the foundation for the economic analysis of law
by arguing that many legal rules and principles lead to costs and benefits and thus such legal
rules and principles can be analysed on the touchstone of economic efficiency.4 Coase
propounded that law can be and thus should be tested on the counts of economic concepts so
that legal rules and principles can also be made economically efficient.5 The Law and

1 NICHOLAS MERCURO & STEVEN G. MEDEMA, ECONOMICS AND THE LAW: FROM POSNER
TO POST MODERNISM 3 (1st ed. 1999).

2 Ronald H. Coase, The Problem of Social Cost, 3 Journal of Law and Economics 1 (1960).

3 Guido Calabresi, Some Thoughts on Risk Distribution and the Law of Torts, 70 Yale L.
J.499 (1961).

4 MERCURO, supra note 1, at 101.

5 KLAUS MATHIS, EFFICIENCY INSTEAD OF JUSTICE?: SEARCHING FOR THE PHILOSOPHICAL

FOUNDATIONS OF THE ECONOMIC ANALYSIS OF LAW, 51 (1st ed. 2009).
Page 2 of 11

Economics movement encompasses various schools of thought viz., Chicago approach to law
and economics, public choice theory, institutional law and economics, and the new
institutional economics.
Chicago approach to law and economics is regarded as the dominant school within the
economic analysis of law. The Chicago approach is a simplistic application of economic
concepts to legal rules. As such, the approach has following premises:
a. Individual as rational maximizer of satisfaction The rational individual contrasts
with the reasonable man of traditional legal and social theories. The reasonability of
such man is conditioned by the norms and conventions of the society, in which he/she
lives. Any deviation from these norms and conventions will be considered
unreasonable, but under the economic approach, certain behaviour can be considered
rational, even if it conflicts with social norms.6
b. Individuals respond to price incentives This premise flows from the first premise
and based on the basic economic logic that when prices rise the demand will decrease
and vice versa. In the economic analysis of law, price is in the form of fine,
punishment, compensation, etc for engaging in unlawful activities. Thus, a rational
individuals decision is guided by the relative prices of the options faced by him/her.
c. Efficiency The Chicago approach employs efficiency as a criterion to decide the
desirability of any policy. Efficiency is a concern of the welfare economics. Efficiency
can be understood by following quote:
Efficiency corresponds to the size of the pie, while equity has to do with how it
is sliced.7
The reliance on efficiency is partly due to its objectivity, as Chicagons are sceptical of
the motives of those who use justice and fairness as the touchstone for policy making.8
Chicago approach pre-dominantly follows wealth maximization or Kaldor-Hicks
criterion of efficiency, as it is supported by Justice Richard Posner. Wealth

6 MERCURO, supra note 1, at 102.

7 MATHIS, supra note 5, at 190.

8 MERCURO, supra note 1, at 102.

Page 3 of 11

maximisation has been widely accepted as the efficiency criterion by the advocates of
economic analysis of law and it forms the basis of their argument that economic
analysis of law is a normative theory.
Understanding Descriptive and Normative Theory, in general
By descriptive theory, it is meant that the theory does not argue to justify or legitimize any
aspect of its subject matter9 and that such theory just outlines what is. Descriptive theory does
not go into any question of value judgement but charts out the premises on the basis of which
one can predict or explain the content of the concept under study. Economists often use the
word "positive" to refer to economic analysis that is descriptive rather than normative.10
On the other hand, normative aspect of any theory deals with the ought question and
attempts at establishing a criterion to assess the desirability of acts, rules, projects, policies,
etc.11 Normative legal theories provide standards with which to evaluate the normativity of
existing laws and proposals for law reform.12 Generally, normative theory covers two types of
arguments viz., (a) to adopt the best means, and (b) to adopt good means. The first argument
of normative theory can be labelled as prescriptive theory, which support conditional
arguments from is to ought.13
So far we have outlined both the theories in a way that depicts that there is a clear distinction
between them, but sometimes there is relationship between them. It is problematic to

9 ANDREI MARMOR, Legal Positivism: Still Descriptive and Morally Neutral, in LAW IN THE
AGE OF PLURALISM 291 (Andrei Marmor ed., 2009).

10 Herbert Hovenkamp, Postivism in Law and Economics, 78 Cal L Rev 815, 816.

11 EYAL ZAMIRA & BARAK MEDINA, LAW, ECONOMICS, AND MORALITY 12 (1st ed. 2010).

12 Steven J. Burton, Normative Legal Theories: The Case for Pluralism and Balancing, 98
IOWA Law Review 535.
Page 4 of 11

determine what should be the legal rules (normative) in the absence of substantial
information about the effects of the rules (descriptive). This is applicable in the case of
utilitarianism, under which determination of legal rule is based on the consequence of the
rules. Sometimes, the positive/descriptive aspect works as constraint on normative aspect of a
theory.14
Nature of Economic Theory of Law
Economics as a social science can be broadly divided into two fields, viz., positive and
normative economics. Positive economics is quite similar to the descriptive legal theory and
these two are used interchangeably under the economic approach of law.15 Positive economics
can be referred as an objective assessment of the subject matter under consideration.
Normative economics deals with the ought question but it is not independent of the positive
economics. Under the normative analysis in economics, any policy decision is based on
predicted effect of doing one thing and the other and such prediction is essentially derived
from the positive analysis in economics. Therefore, it is not apt to say that normative analysis
can be independent of positive analysis. Also, economists are tempted to shape positive
conclusions in accordance with normative pre-suppositions and reject those positive
conclusions, whose normative implications are not desirable.16 For example, an economist
has his normative commitment to purely capitalist mode of distribution and in order to correct

13 Andrian Vermeule, Connecting Positive and Normative Legal Theory, 10 Journal of

Constitutional Law 387,390.

14Lawrence Solum, Positive and Normative Legal Theory,

http://legaltheorylexicon.blogspot.in/2003/12/legal-theory-lexicon-016-positive-and.html
(last updated Nov. 10, 2013).

15 Hovenkamp, supra note 10.

16 MILTON FRIEDMON, ESSAYS IN POSITIVE ECONOMICS 4 (1st ed. 1970).

Page 5 of 11

the slowdown in the market he might resort to measures of state interference yet justifying
the positive step of interference in light of his normative commitments, as happened in 2008
financial crisis.
Since the economic analysis of law employs the economic concepts for analysing law, it is a
necessary result of it that the economic analysis will have positive as well as normative
aspect in it. The positive or descriptive economic analysis of law entails assessment of the
legal rules and principles by ascertaining the impact of such rules and principles in light of
the economic concepts, such as externalities, diminishing marginal utility and incentive.
Basically, in positive sphere of the economic analysis of law, economic concepts are used as a
measure to sift alternative legal rules in light of their efficiency and thus there is a blurring
line between descriptive analysis on the basis of these concepts and these concepts taking
form of objective of law.17 In positive sphere, the enquiry is conducted to questions such as,
does the polluters pay principle achieve the desired objective of countering externalities and
discouraging pollution at large?
On the other hand, normative economic analysis of law entails discussion on the question of
what ought to be. Under this sphere of economic analysis of law, the primary question is of
according preference among alternative legal rules and principles in accordance with their
desirability. As discussed earlier the transition from positive/descriptive analysis to normative
analysis is quite tenuous because the theorists under this approach use efficiency as sole
criterion for evaluation of legal rules in positive as well as normative analysis.18
In order to comprehensively understand the normative nature of the economic analysis, we
need to examine the idea of efficiency followed by the proponents of law and economics.
Initially the Pareto efficiency was used to measure efficiency but since Justice Posner has
advocated for wealth maximisation criterion (Kaldor Hicks Criterion) as the sole indicator
of efficiency, it has become widely accepted as the efficiency measure.

17 Jason Scott Johnston, Law, Economics, and Post Realist Explanation, 24 Law & Society
Review 1217 1220.

18 MERCURO, supra note 1, at 47.

Page 6 of 11

Wealth Maximisation A legal change is efficiency enhancing if the gains to the winners
exceed the losses to the losers or, alternatively stated, if the wealth of society, as measured by
willingness to pay, is increased.19 The aim of wealth maximisation is to increase social wealth
by promoting such transactions, which result into maximisation of social wealth. In relation
to the law, Posner suggests that this approach attempts to reconstruct the likely terms of a
market transaction in circumstances where instead a forced exchange took place to mimic
or simulate the market, in other words.20
The idea is simple that law will always, or mostly, deal with the situations, which cannot be
performed in voluntary market situations and thus, in such scenario, Posner says that the state
shall simulate or mimic the market and accordingly dispense justice in line with the goal of
efficiency.21
The concept of wealth maximisation can be better understood by applying it to Melvin v.
Reid22, which was discussed by Posner. The facts are that a prostitute was tried for murder
and was acquitted. Later on she led a blameless life in a new town with changed name.
Without any context, a local newspaper published an article exposing the woman. She filed a
suit against the newspaper and obtained damages.23

19 MERCURO, supra note 1, at 105.

20 RICHARD A. POSNER, ECONOMIC ANALYSIS OF LAW 16 (5th ed. 1998).

21 Richard A. Posner, The Justice of Economics, 1 Economia Delle Scelte Pubbliche 15.

22 112 Cal. App. 285, 297 P. 91 (1931).

23 Richard A. Posner, Utilitarianism, Economics, and Legal Theory, 8 (1) J. Legal Studies
103, 137.
Page 7 of 11

Posner believes that the award of damages by the court is problematic because dishonest
behaviour, in this case concealing her own identity to enter into social transaction with others,
is a cause of high transaction costs. He draws analogy with a seller of a product concealing
any material defect in the product and argues that the consequence identical to this analogy
shall be borne by the lady because the efficiency demands that the transaction costs and the
detriment from the transaction shall be least.24 But there is a fundamental flaw in drawing
such simulation of the market because in the given analogy of material defect, it is a
necessary result of such defect that the product will cause damage to the buyer but the act of
concealing the past by woman may or may not result into detriment to the persons entering
into social transactions with her. Therefore, he ignores certain other relevant considerations
such as social conditioning, values of society, how society reacts to such disclosures and that
such values are not universal but differs in every society thus giving a blanket answer seems
problematic. The efficiency notion of Posner has the possibility of taking away the chance of
the lady to come into the mainstream of the society.
The strongest argument for wealth maximisation, he says now, is pragmatism: We look
around the world and see that in general people who live in societies in which markets are
allowed to function more or less freely not only are wealthier than people in other societies
but have more political rights, more liberty and dignity, are more content so that wealth
maximisation may be the most direct route to a variety of moral ends.25
This allegedly strongest argument for Posners efficiency criterion is flawed because of the
logical fallacy of undistributed middle. His first assertion is that all societies in which
markets are free have more political rights, liberty and dignity and on the basis of this
assertion, he argues that more political rights, liberty and dignity are necessarily results of
free markets. Thus, he ignores all other reasons (undistributed middle), which might be the
cause of these and other societies having more political rights, liberty and dignity.

24 Id.

25 RICHARD A. POSNER, THE PROBLEMS OF JURISPRUDENCE 382 (1st ed. 1990) cited in
MERCURO, supra note 1, at 107.
Page 8 of 11

Normative Flaw in the Economic Analysis:

From the discussion on wealth maximisation, it is clear that the efficiency criterion employed
by the law and economic theorists is problematic in its operation but there is a normative flaw
in a more fundamental stage, which is in the claim of the economic analysis that the
efficiency criterion is the sole basis of determination of the claims of justice. Even the
supporters of the economic analysis of law cannot deny this fundamental normative flaw in
this theory.26
The efficiency criterion of the economic analysis tends to ignore those ethical and social
norms, which, at times, become instrumental in legal decision making or which even have
unconscious effect in the value judgement of a society, for example, deliberately harming
other people is considered inherently immoral. This depicts the consequentialist nature of law
and economics theory, as it denies any intrinsic value to any factor other than the effect of
outcomes. On the other hand deontological moral theories assign some importance to
goodness of outcomes, but hold that it is not the only morally relevant factor and accords a
higher value to the inherent goodness of the act in decision making.27 Such nature of the
theory makes economic analysis of law as an incomplete normative understanding of law.

Application:
Posner discussed four ethical questions viz. the death penalty, the right to privacy, trade in
babies and organs, and freedom as wealth on the touchstone of wealth maximisation. His
analysis of these ethical questions was basically a cost benefit analysis in light of the
efficiency criterion. It will be redundant to restate the reasoning given by him under each of
the questions but a new ethical question can be taken to understand the application of the
economic analysis theory.

26 Lewis A. Kornhauser, On Justifying Cost-Benefit Analysis, 29 J. Legal Stud. 1037, 1037.

27 ZAMIRA, supra note 11, at 1-2.

Page 9 of 11

Homosexuality It is a much debated question in the recent times and there is range
of arguments in support of it and against it. There are a number of issues in the
homosexuality debate but for the current discussion a specific question is set out as follows:
whether homosexuality be legalized, while de-criminalising it? In application of the law and
economics theory, the relevant costs are following:
1. The social costs attributable to deviation in the social structure and harm resulting
from such deviation.
2. The additional costs of trial and punishment of homosexuals.
3. The reduction in social costs resulting from preventing deviation in the social
structure by criminalising homosexuality.
4. The social costs of restricting individual freedom.
On the analysis of these costs, the theorists will see in what situation the costs are minimum
or wealth of the society is maximised and that situation will be recommended by the
normative legal-economic analysis. In this example, we can see that the efficiency itself has
incorporated the consideration of morality of the society (1 and 3) but that is not the case in
all the situations, such as death penalty. Posner believes that the question with respect to
death penalty can be decided by weighing the benefits of death penalty in reducing the social
cost of criminal activities and the cost of imposition of death penalty28 Such enquiry evades
morality or otherwise of any claim under the death penalty debate. Thus, the efficiency
criterion does not go into the question of morality of awarding death to a human by the
human laws.

Conclusion:
When efficiency reduces general productivity, worsens the structures of distribution and
destroys the economic and political flexibility of the system as a whole, then one of the
foremost victims is justice.29

28 Posner, supra note 23, at 136

29 MATHIS, supra note 5, at 203.

Page 10 of 11

The strong point of the economic analysis of law is that it presents a detailed evaluation of
the economic effect of a legal rule or principle. But the method cannot be used in questions,
which necessarily involve deliberation on social norms, customs, etc., as in such scenario it
becomes difficult to present such values in monetary terms. Thus, the normative aspect of the
economic analysis of law is not comprehensive in itself and that its monistic normative
analysis also proves to be a flaw in the normative economic analysis of law.

Page 11 of 11