TY - JOUR AU - Bebchuk,Lucian Arye AU - Shavell,Steven TI - Information and the Scope of Liability for Breach of Contract: The Rule of Hadley V. Baxendale JF - National Bureau of Economic Research Working Paper Series VL - No. 3696 PY - 1991 Y2 - May 1991 UR - http://www.nber.org/papers/w3696 L1 - http://www.nber.org/papers/w3696.pdf N1 - Author contact info: Lucian A. Bebchuk Harvard Law School 1545 Massachusetts Avenue Cambridge, MA 02138 Tel: 617/495-3138 Fax: 617/812-0554 E-Mail: bebchuk@law.harvard.edu Steven Shavell Harvard Law School 1575 Massachusetts Avenue Hauser Hall 508 Cambridge, MA 02138 Tel: 617/495-3668 Fax: 617/496-2256 E-Mail: shavell@law.harvard.edu AB - According to the contract law principle established in the famous nineteenth century English case of Hadley v. Baxendale, and followed ever since in the common law world, liability for a breach of contract is limited to losses "arising ... according to the usual course of things," or that may be reasonably supposed "to have been in the contemplation of both parties, at the time they made the contract, ..." Using a formal model, we attempt in this paper to analyze systematically the effects and the efficiency of this limitation on contract damages. We study two alternative rules: the limited liability rule of Hadley, and an unlimited liability rule. Our analysis focuses on the effects of the alternative rules on two types of decisions: buyers' decisions about communicating their valuations of performance to sellers; and sellers' decisions about their level of precautions to reduce the likelihood of nonperformance. We identify the efficient behavior of buyers and sellers. We then compare this efficient behavior with the decisions that buyers and sellers in fact make under the limited and unlimited liability rules. This analysis enables us to provide a full characterization of the conditions under which each of the rules induces, or fails to induce, efficient behavior, as well as the conditions under which each of the rules is superior to the other. ER -