In his
article, ‘Consideration and Form’, renowned American legal philosopher and
contract law scholar Lon Fuller wrote the following about ‘private autonomy’,
which he considered central to contract law:
“This principle simply means that the law views private
individuals as possessing a power to effect, within certain limits, changes in
their legal relations. The man who conveys property to another is exercising
this power; so is the man who enters a contract. When a court enforces a
promise it is merely arming with legal sanction a rule or lex previously established by the party himself. This power of the
individual to effect changes in his legal relations with others is comparable
to the power of a legislature. It is, in fact, only a kind of political
prejudice which causes us to use the word “law” in one case and not in the
other, a prejudice which did not deter the Romans from applying the word lex to the norms established by private
agreement.”
In light of
this, I define ‘Contract’ as follows: A voluntary, mutually agreed-upon, and
mutually beneficial change in two parties’ legal relations with one another.
Contracts can take the form of a transfer of legally recognized property titles
(conveyance contract), the making of a legally binding promise (promissory
contract), or the waiver of some existing legal liability for causing injury or
trespass (liability contract).
At first
glance, these ideas might seem strange. The common view of law is of rules
imposed from on high by legislatures and judges. But, through contract, private
individuals can make law for themselves in many fields, and can use the
apparatus of judges and police officers as tools for making these laws
enforceable.
This system
of private, voluntary law making through contract actually has a pretty broad
and important scope. The bulk of what we know as property, contract, and tort
law is within its realm. There are really only a few things which ‘law imposed
from on high’ must deal with before voluntarism can do the rest. These are: 1.
Assignment of initial property rights. 2. Determining when a contract exists
and interpreting its meaning. 3. Determining when an injury or trespass is ‘caused’
by another person or not. 4. Setting Default Rules. 5. Maintaining the legal
apparatus. Let us consider these five in turn.
Property,
contract, and tort law all revolve around property rights in persons and
things. The voluntary system of exchanges and contracts can modify property
rights in all kinds of important and beneficial ways, but it cannot establish
an initial assignment of these rights. The first question the law must answer
with regard to the initial assignment of property rights is: who owns the labor
and the body of each individual person? Anglo-Saxon Common Law (and any other
civilized legal system) answers: the individual person themselves! When it
comes to children, the answer is a bit more complicated, but for adults, the
individual adult is recognized as initially possessing the right to bodily
integrity (freedom from gratuitous bodily harm imposed by others) and the right
to dispose of their own labor powers as they see fit.
The second
question is: how does private ownership in previously unowned land and material
goods get established? Anglo-Saxon Common Law generally answers: the first
person to possess and use the unowned land or material good should be the
legally recognized owner of it. The pioneer who clears a patch of unowned
wilderness to start a farm is recognized as owning that patch; the gatherer who
picks a basket of berries from an unowned forest is recognized as owning that
basket of berries. Robbery of a parcel of land or a material good does not
establish the robber’s legal title to that good, unless a significant span of
time (usually 50 years) has passed, in which case the heir or the purchaser of
the robber’s lands or goods will get full, uncontestable legal title to them. One
can certainly think of other ways of establishing legal ownership in previously
unowned land and material goods. For instance, the government with military
power over a territory could claim all privately unowned land for itself
temporarily, and then auction it off to the highest private bidder. Whichever
way or combination of ways the legal system chooses, the important thing, for
the purposes of establishing a legal system based on free contract, is that
there be a recognized way of turning unowned things into legally recognized
private property.
Once the
question of initial property rights is settled, people can start entering into
contracts with one another to modify and transfer these property rights. People
can exchange their labor and material possessions for the labor and material
possessions of other people, and will do so as long as the deal is mutually
beneficial. For simple hand-to-hand exchanges, all the legal system has to do
is recognize the changed titles to property.
Another thing people can do, and
this is vital for any economy above the primitive level, is exchange legally binding promises to do something
for, or to give something to, the other person. For example, one person can
promise to work at a task for an employer for two weeks, and in exchange, the employer
can promise to pay the worker a definite sum of money at the end of the two
weeks. Or, a farmer could promise to sell a grain trader a certain quantity of
wheat at a certain price on a specified date in the future, in exchange for the
grain trader’s promise to buy this certain quantity of wheat at a certain price
on a specified date in the future (a futures contract). Or, a creditor could
agree to give a debtor a certain sum of money in the present, in exchange for
the promise of the debtor to repay this sum of money, with a specified sum of
interest added on, by a specified date in the future. In all of these cases,
the legally binding aspect comes in when the person who made such a promise
seeks to break that promise. If they do so, the apparatus of the law comes in
and forces the breaker of the promise to pay out the agreed-upon (or the default)
damages to the victim for breaching the contract. This legal sanction helps to
make these kinds of promissory transactions, especially ones involving complete
strangers, more certain, and therefore more effective.
In order to enforce a contract, the legal
system must first determine whether a contract between two parties in fact
exists or not, and if it does, what exactly the content of the agreement is.
This task cannot be done through private contracts, because the point in
question is whether a contract exists in the first place and how it is to be
interpreted if it does. Thus, here is the second thing that ‘law imposed from
on high’ must deal with in order to facilitate the system of free contract. The
legal system must determine when a contract has the mutual assent of the two
parties, and must interpret the substance of any mutual agreement that exists. If
it failed to do these things effectively, than the legal system might be
imposing obligations on the parties that they did not mutually agree to, or it
might be failing to enforce obligations that the parties wanted to be legally
enforceable. The legal system, which in this context is supposed to be acting
as the tool of the contracting parties, could end up becoming an ineffective
tool, or could end up transforming from a tool into a tyrant.
If people
have a legally recognized property right in their persons and material
property, than the legal system will generally seek to protect the individual’s
person and material property against invasion, injury, and trespass by another
party. Here is where tort law comes in. Just as, in the case of promissory
contracts, the legal system had to determine when a contract existed and what
its contents were, here the legal system has to determine when an invasion,
injury, or trespass exists, which party, if any, caused these events, and what
percentage of the causal responsibility for the event lies with that party. This
is the third thing that ‘law imposed from on high’ must deal with in order to
facilitate the system of free contract.
The fourth
task of ‘law imposed from on high’ is to set the ‘Default Rules’. The system of
free contract is all about allowing parties to alter their legal relations with
one another as they see fit, as long as the alteration is mutually agreed-upon by
the relevant parties. But sometimes, contingencies arise which the parties did
not plan for or take into account when negotiating their contracts. If the
contingency does arise, there must be a ‘default’ behavior adopted by the legal
system in relation to this contingency. This behavior could be doing nothing at
all, or it could consist of following a default rule that will apply if this
contingency arises and the parties say nothing about it in their contract.
Some legal
scholars think that default rules should be set based on what most contracting
parties in specific circumstances would have wanted anyway. Others, such as
Randy Barnett, think that the actual content of the default rules is less
important than that they help reduce misunderstandings between the parties
about the terms that will apply in the event of a dispute. Even if most parties
choose to contract around these rules, by doing so the likelihood that both
parties are consenting to the same thing increases.
As such, according to Barnett: “contract
law should confine itself to common-sense default rules that unsophisticated
parties would expect.” I tend to agree with this latter view, as it
is more conducive to the system of free contract I am describing. By setting
simple default rules that conform to the likely expectations of unsophisticated
parties, we can both help ensure that unsophisticated parties aren’t taken
advantage of, and encourage sophisticated parties to raise the issue with
unsophisticated parties if they wish to contract around this default rule. The
idea is to encourage parties to actually work out mutually agreeable terms for
themselves, rather than to try to impose sophisticated default rules from on
high that judges and legal scholars think are agreeable and should be adopted
by the parties. Parties to a contract typically have better knowledge of their
specific circumstances, the relevant local business conditions, and their own
subjective preferences and valuations, than judges and legal scholars do. Thus,
it is better if the parties themselves work out the terms, and if sophisticated
parties are incentivized to discuss and raise the relevant issues with
unsophisticated parties, which Barnett’s conception of default rules
encourages.
In property
law, the best default rule is a simple one: if parties do not mutually agree
upon a transfer of property, than legal recognition will remain with the
original holder of the property. If parties do not like this, than they can
manifest their mutual agreement to transfer property clearly.
When it
comes to the promissory contracts of contract law, default rules can get more
complicated. One question addressed by such default rules is: what damages or
remedies are the victims of a breach entitled to from the breacher, in case of
breach of contract? This is a contingency that could well be addressed in the
original contract. Some contracts even specify precise sums of money to be
transferred to victims in case of breach. These are known as ‘liquidated
damages clauses’. But what if the original contract does not specify what
damages are to be paid in case of breach of contract? In this case, the legal
system must follow the default rule that it has decided upon. Here, I think the
best default rule is: specific performance in most cases, but if not feasible,
than expectation damages. Specific performance is a remedy for breach of
contract that basically does not allow people to breach their contracts. If
someone seeks to breach, the court forces them to deliver what they promised.
However, as part of the default rule, if the party in breach can show that
specific performance is unreasonably onerous, than expectation damages could be
awarded instead. Expectation damages are a sum of money that is calculated with
the goal of putting the victim of the breach in the same position as they would
have been had the contract been specifically performed. These calculations can
often be quite uncertain, and often tend towards undercompensation for the
breach, which is why specific performance should be the presumptive form of
relief in the default rule.
This default rule is one that unsophisticated
parties would expect. Unsophisticated parties generally think that if you
execute a legally binding contract with someone, they are seriously bound to do
what they promised for you. If this proves overly difficult given changed
circumstances, than it is not a giant leap to translate this expectation into a
money sum of damages. If the parties to the contract think that this simple measure
of damages is unreasonably onerous for the breacher, they can always choose to
contract around it, as long as both parties agree to do so.
Another issue
in promissory contracts addressed by default rules is: when is a promise
legally enforceable? Courts and contracts scholars have come up with all kinds
of sophisticated doctrines to answer this question, involving ‘consideration’, ‘bargaining’,
‘promissory estoppel’, and the like. But at the end of the day, these should
just be considered default rules. If parties, on a written and signed contract,
write: ‘We, the undersigned, agree that this agreement is intended to be
legally binding’, than that should settle the issue, without recourse to any of
the doctrines above.
Another
issue is: what does it take for a breach of contract to occur? Does a minor
breach of a relatively minor clause in the contract invalidate the whole thing?
The best default rule is that if the breaching party shows a genuine
willingness and ability to address this breach and to prevent more breaches from
happening in the future, than the breach is not ‘material’, and the contract is
not invalidated by it.
If not, than the breach is ‘material’, and the contract is invalidated. This is
a default rule because the parties could well stipulate in the original
contract that any minor breach of any clause in the agreement constitutes a
full breach. For projects requiring great attention to detail and precision,
this stipulation might make sense for the parties. Alternatively, the parties
could stipulate that only ‘gross’ breaches will invalidate the contract, but
that the party in less than gross breach has a duty to rectify such breaches
and perhaps to pay specified money penalties to the other party for any such breach.
How about
for tort law, an area where the concept of default rules is not typically seen
to apply? I maintain that much of tort law is a series of default rules because
parties should have the legal right to waive some of the ‘default’ liability
through contractual waiver agreements. Given this ability, I think that the
best tort law default rule is the strict liability rule. This rule states that
if a party can be shown to have caused harm to the person or property of
another, that person is fully liable for that harm, to the extent of his role
in the causation of that harm. The major competitor of this rule is the
negligence rule, which says that people are only liable for harm caused to
others if they have not taken ‘reasonable’ precautions against inflicting such
harm.
Whatever one may think of the
substantive merits of these two rules, when considered as a default rule that
should be based on the common sense expectations of unsophisticated parties,
the strict liability rule clearly wins. If you cause harm to my person or
property, you are responsible for recompensing me for that harm. I think that
this simple and straightforward rule is the one that unsophisticated parties
would generally expect to prevail. This is especially true given how hard it is
for courts to define what a ‘reasonable’ precaution is, and thus to define what
‘negligence’ is. Unsophisticated parties generally don’t expect the law to be
so uncertain and malleable, and even if they did they still wouldn’t really
know what exactly to expect in specific circumstances. Also, for most
business-customer relationships especially, the more likely potential tortfeasor
tends to be the more sophisticated party (the business selling goods or
services) than the potential victim (the customer). Strict liability is the
most onerous default rule for the sophisticated potential tortfeasor, so they
will be incentivized to communicate with and work out an alternative
arrangement with the potential victim before entering into a business
relationship with them. This process of
information sharing, bargaining, and eventual mutual agreement will often
result in a more mutually beneficial arrangement of liability than one imposed
by the courts from on high.
For example, imagine that the owner
of a private playground specifies that everyone who pays for their children to use
the playground must agree that the playground owner will not be liable if the
child hurts themselves on the playground, unless there is something truly
negligently unsafe about it such as exposed rusty nails or exposed asbestos.
This arrangement will result in the relevant liability rights being modified in
a way that facilitates both parties taking reasonable, not so costly
precautions. The parents can drill some basic safety tips into the heads of
their children, while the playground owner can make sure that the playground is
free of rusty nails and asbestos. This situation is better than if the
playground owner were fully liable, and had to coat everything with cushions to
guard against children hurting themselves, or if the playground owner was
completely free of liability, in which case rusty nails and asbestos could
abound.
Thus, it is not so much that strict
liability is a good rule in all, or
even most, circumstances. It is that strict liability is a good default rule that incentivizes parties to work out more
mutually beneficial liability arrangements for themselves.
The final thing that ‘law imposed
from on high’ must see to is: maintaining the legal apparatus itself. We have
given tasks to ‘law imposed from on high’, and we have assumed that the legal
system will have an enforcement arm that can enforce both the ‘laws imposed
from on high’ and the private, legally binding agreements of contracting
parties. This obviously requires personnel and resources to execute. Under the
anarchist ideal, providers of legal services would be able to maintain
themselves based on voluntary subscriptions paid by the users of their legal
services. However, if one suspects that this system would soon lead to
warlordism and chaos, as I do, than the legal system must impose a ‘law from on
high’ that allows it to fund itself non-voluntarily. Here is where taxation law
comes in. The monopolistic legal system of a given geographical area levies
mandatory contributions from the inhabitants of that area, according to various
principles and rules of taxation.
So there you have it, ‘law imposed
from on high’ is necessary to deal with the issues of: 1. The assignment of
initial property rights. 2. Determining when a contract exists and interpreting
its meaning. 3. Determining when an injury or trespass is ‘caused’ by another
person or not. 4. Setting Default Rules. 5. Maintaining the legal apparatus. This
done, the system of free contract can deal with most of the rest of society’s
legal issues in a voluntary, decentralized, and mutually beneficial fashion. People
can set and alter their legal relations with one another through the mechanism of
free contract, and create rules of law that best serve their individual purposes.
This empowering phenomenon allows people to take charge of a significant
portion of their own legal destinies, instead of leaving it all up to judges
and legislators to decide and to impose on us. All of this is what the Mighty
Contract allows.
