11 george mason school of law contracts i unconscionability f.h. buckley [email protected]

**George Mason School of Law

Contracts I

Unconscionability

F.H. [email protected]

*Williams v. Walker-Thomas*

*Walker-Thomas Furniture Store1074 Seventh St. NW (at L)*

*Why didnt she shop at Woodward & Lothrop?10 blocks from Walker-Thomas

*Or Garfinckels? 11 Blocks from Walker-Thomas

* Do you recognize this Department Store?

*What happened to Walker-Thomas? 1074 Seventh St. NW (at L)*

*Seventh Street NW, April 5, 1968What happened the day before?

*Would the Shaw community have been better off had Walker-Thomas never been there?*

*What might be wrong here?

Substantive UnconscionabilityThe just price doctrine

Procedural Unconscionabilitybargaining naughtiness

*Substantive Unconscionability

Thornborrow v. Whitacre, 92 Eng.Rep. 270 (1705): W. borrows 5 and in return promises to pay two grains of rye-corn in the first week, four in the second, eight in the third, and so on for a year. The court refused to enforce the contract when it appeared that there was not enough grain in the whole world to satisfy this. The contract was set aside.


Is lending (with interest) per se wrong?


Is lending (with interest) per se wrong?The usury prohibition against taking interest on a loanDeut. 23:20Unto a stranger thou mayest lend upon usury; but unto thy brother thou shalt not lend upon usury: that the LORD thy God may bless thee . Canon 27, Council of Nicea


Why did the church prohibit usury?The Biblical prohibition?


Why did the church prohibit usury?The Biblical prohibition?Rent-seeking?Tolleson et al., 5 J.L.E.O. 307 (1989)


Why did the church prohibit usury?The Biblical prohibition?Rent-seekingMoral Hazard?: Eric Posner

*Moral Hazard A range of outcomes associated with an investment opportunity

*Moral Hazard How is ones economic calculus affected if costs are curtailed at 0 on the left side of the curve?

*Moral Hazard In that case, its all upside

*Moral Hazard Thank God I have insurance!

*Moral Hazard Do traffic signals cause accidents?

*How to reduce speed levels

*Substantive UnconscionabilityIs lending per se wrong?

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then? UCC 9-201. General Validity of Security Agreement. Except as otherwise provided by this Act, a security agreement* is effective according to its terms between the parties, against purchasers of the collateral and against creditors.

*A security agreement creates a security interest in collateral

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property?

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property?9-204 (1). After-Acquired Property. Except as provided in subsection (2), a security agreement may provide that any or all obligations covered by the security agreement are to be secured by after-acquired collateral.

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property?Otherwise how could a lender take an interest in inventory or accounts receivable?

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property of a consumer?

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property of a consumer?9-204 (2). After-Acquired Property. No security interest attaches under an after-acquired property clause to consumer goods* when given as additional security unless the debtor acquires rights in them within ten days after the secured party gives value.*Goods used or bought for use primarily for personal, family or household purposes

*Substantive UnconscionabilityIs lending per se wrong?Secured lending, then?What about a security interest in after-acquired property of a consumer?Whats the point of this?Exempt Property in Chapter 7

*Substantive UnconscionabilityThe specter of household repossessions

*Substantive UnconscionabilityWhy would a consumer ever agree to a security interest in after-acquired property?

*Substantive UnconscionabilityWhy would a consumer ever agree to a security interest in after-acquired property?Ignorance as to the terms?

*Substantive UnconscionabilityWhy would a consumer ever agree to this?Ignorance as to the terms?Signalling? Two borrowers approach a lender. One is high risk, the other low risk. The borrowers know their quality but the lender cannot tell them apart. How can he distinguish them?

*Substantive UnconscionabilitySignalling? Two borrowers approach a lender. One is high risk, the other low risk. The borrowers know their quality but the lender cannot tell them apart. How can he distinguish them? Assume that the low risk borrower can hold his hand in a fire for a longer period of time

*Substantive UnconscionabilitySignalling? Two borrowers approach a lender. One is high risk, the other low risk. The borrowers know their quality but the lender cannot tell them apart. How can he distinguish them? The willingness to do so might provide a separating equilibrium

*Substantive UnconscionabilitySignalling Separating and pooling equilibria:

Pooling equilibrium: Benefit > CostHigh Quality Borrower Benefit > CostLow Quality Borrower

Separating equilibrium: Benefit > CostHigh Quality Borrower Benefit < CostLow Quality Borrower

*Cheap Talk as a Pooling EquilibriumHobbes: He which performeth first doth but betray himself to his enemy.

*Secured Lending as a separating equilibriumSignalling? Two borrowers approach a lender. One is high risk, the other low risk. The borrowers know their quality but the lender cannot tell them apart. How can he distinguish them? Assume that default is costly for both borrowers. However, the low risk borrower has a lower probability of default

*Secured Lending as a separating equilibriumSignalling? Assume that default is costly for both borrowers. However, the low risk borrower has a lower probability of default The cost C for each borrower is:pD*L, wherepHigh quality borrower < pLow quality borrowerSo that CHigh quality borrower < CLow quality borrower

*Substantive UnconscionabilitySignalling? Two borrowers approach a lender. One is high risk, the other low risk. The borrowers know their quality but the lender cannot tell them apart. How can he distinguish them? A separating equilibrium if the low risk borrower is ready to accept a penalty on default?

*Now Procedural Unconscionability

*Now Procedural Unconscionability Is unconscionability something different from the fraudlets we have seen?Is it simply all or many of them, in the ensemble?Or a weaker threshold for the ?Or something else entirely?


A rule of capacity in Walker-Thomas? Do people like the in Walker-Thomas have the capacity to enter into the sales contract?


A rule of capacity in Walker-Thomas? Do people such as the in Walker-Thomas have the capacity to enter into the sales contract? Define people such as the

*A Rule of Capacity?

If we dont legislate this ex ante, how about letting all such people set aside their contracts ex post under UCC 2-302?

*


If we dont legislate this ex ante, how about letting all such people set aside their contracts ex post under UCC 2-302?Same diff from an ex ante perspective?*


Did the understand the cross-collateral clause?*

*Is her poverty relevant?

What were her financial resources?


What were her financial resources?Are we quite sure about that?


What were her financial resources?You mean we let poor people enter into contracts?

*Did it matter what was purchased?Perfectionism, not paternalism?*Suppose it had been a 10-year subscription to The New Republic?

*Did it matter what was purchased?*Man does not live by bread alone He also needs strawberry jam.Lionel Trilling

*Gross inequality of bargaining power*Friedrich Kessler

*Gross inequality of bargaining powerThe specter of monopoly capitalismThe weaker party is frequently not in a position to shop around for better terms, either because the author of the standard contract has a monopoly (natural or artificial) or because all competitors use the same clause.*Friedrich Kessler, Contracts of Adhesion, 43 Colum. L.Rev. 629

*The specter of monopoly capitalism Is that what happened? *Joseph Schumpeter on the creative destruction ofcapitalism, in Capitalism, Socialism, Democracy

*Gross inequality of bargaining power

Is the inequality greater when you purchase at Macys?

*Gross inequality of bargaining power*$12.99!!!

I think we can do better than that, dont you?An absence of meaningful choice unless we can dicker?

*Gross inequality of bargaining power

Are all purchases in the inner city automatically suspect?Let them shop at Garfinckels

*Standard Form Contracts

Would Skelly Wright enforce any consumer contract based on a standard form?No objective manifestation of consent*

*Why Employ Standard Form Contracts?

Exploit Monopoly Power?*


Exploit Monopoly Power?Trick consumers?*


Exploit Monopoly Power?Trick consumers?Economize on negotiations?*


Exploit Monopoly Power?Trick consumers?Economize on negotiations?Police consumer fraud?*


Exploit Monopoly Power?Trick consumers?Economize on negotiations?Police consumer fraud?Reduce litigation costs?*


Exploit Monopoly Power?Trick consumers?Economize on negotiations?Police consumer fraud?Reduce litigation costs?Police agency costs of salesmen misbehavior*

*Seabrook: What might be wrong here?

Substantive UnconscionabilityThe just price doctrine

Procedural Unconscionabilitybargaining naughtiness

*Seabrook

Can you articulate the legal principle behind the case?*Unfinished Apartment Building

*Heres one*

*Seabrook

Did the lessee have no choice but to sign an unconscionable lease agreement *

*Seabrook

Did the lessee have no choice but to sign an unconscionable lease agreement Were there other rental properties in NYC?*

*Seabrook

Did the lessee have no choice but to sign an unconscionable lease agreement Were there other rental properties in NYC?If they were hard to get, might rent control have had something to do with this?*

*Seabrook

Just what was unconscionable?Did the lessee know that the building was not completed when he signed the lease?*

*Seabrook

Just what was unconscionable?Do you think the lessee might have considered that there was a possibility that the building would not be completed three months later?*

*Seabrook

Just what was unconscionable?Do you think the lessee might have considered that there was a possibility that the building would not be completed three months later?What do you think he would have expected to happen in that case?*

*Seabrook

Just what was unconscionable?Do you think the lessee might have considered that there was a possibility that the building would not be completed three months later?What do you think he would have expected to happen in that case?What then are the terms of the bargain?*

*Seabrook

If youve rented an apartment, did you sign a lease agreement?Can you articulate the principle that such agreements are unenforceable in our enlightened society?What do you think the consequences might be if lease contracts are presumptively unenforceable?*

*Seabrook

Lets say your counsel for Commuter Housing. Could you have done a better job drafting clauses 33 and 19 differently?*

*Seabrook

If youre advising a lessor, do you take any drafting tips from this case?If you thought that the lessor should have known just what problem would arise, is that the hindsight bias at work?*

*Henningsen1960 Plymouth*

*Henningsen1960 Plymouth in two-tone!*

*HenningsenWith a push-button transmission!*

*And today?2010 Chevrolet Spark

*HenningsenAnd what did they do with their car!!*


Contracts I

Unconscionability


*Next day

Formation: Offer and Acceptance*

*Henningsen

Was this a meeting of the minds?Why is the consumers choice worthy of respect?

*

*Henningsen

What did the warranty cover? Can you think of any business reason why it was drafted that way?

*

*Henningsen

Was the exemption clause per se illegal?

*

*Henningsen

Was the exemption clause per se illegal? Inimical to the public good

*

*Henningsen

Was the exemption clause per se illegal? Inimical to the public good

But also grossly disproportionate bargaining power*

*Henningsen

Were the Big Three immune from competition?*

*Henningsen

Were the Big Three immune from competition?

Is a similarity in prices or terms across a market evidence of cartelization? *

*Henningsen

Were the Big Three immune from competition?Is a similarity in prices or terms across a market evidence of cartelization?Would you expect to see more competition as to prices than as to terms? *

*HenningsenWere the Big Three immune from competition?Is a similarity in prices or terms across a market evidence of cartelization?Does competition as to terms assume that all consumers screen?Free riding?*

*HenningsenWere the Big Three immune from competition?Is a similarity in prices or terms across a market evidence of cartelization?Does competition as to terms assume that all consumers screen?Suppose you heard that one firm had an extortionate contract?*

*Substantive Unconscionability againThe two-person bargaining game

The Edgeworth Box Function provided a bargaining model based on ordinal utility (indifference curves)

*

*The two-person bargaining game

The Edgeworth Box Function teaches us that bargaining is a non-zero sum game

But at the heart of the bargaining game is a zero-sum game

*

* *MaryBessABCDEFGRecall the Contract Curve Indifference curve in commodity space

* *ABCFGA is the endowment pointBlowing up the bargaining lens

* *MaryBessABCDEFGRecall the Contract Curve Indifference curve in commodity space

* *ABCFGAt C Mary is much better off than at A, and Bess is neither better nor worse offA is the endowment pointBlowing up the bargaining lens

* *ABCFGAt B Bess is much better off than at A, and Mary is neither better nor worse off

A is the endowment pointBlowing up the bargaining lens

* *ABCFGA is the endowment pointAt G both parties are better off than at A

Blowing up the bargaining lens

* *ABCFGDoes unconscionability have anything to do with how bargaining gains are divided?Is your intuition that G is in some sense fairer than B or C?

* *ABCFGDoes unconscionability have anything to do with how bargaining gains are divided?But as we are talking about ordinal utility, it is not meaningful to speak of how much better off someone isat G relative to B or C

*Youre the head of a charitable foundation, with broad purposes

You receive two proposalsThe Ladies Lawn Bowling Club of Wimbleton UKFood relief for the starving people of the Sudan

Which do you pick, and why?*

*Youre the head of a charitable foundation, with broad purposes

Congratulations, youre a cardinalist!*

* *ABCFGDoes unconscionability have anything to do with how bargaining gains are divided?To do so, we would need to move from ordinal to cardinal utility

*Ordinal and Cardinal Utility

Ordinal numbers: First, second, third

Cardinal numbers: 1, 2, 3 *

*Ordinal and Cardinal Utility

The Edgeworth Box Function provided bargaining model based on ordinal utility (indifference curves)

However, prior to the ordinalist revolution of the 1930s, economists thought of utility in a cardinal way*

*Cardinal utility

*Act always to increase the greatest happiness of the greatest number

*The Ordinalist Revolution One could dispense with cardinal utility and interpersonal comparisons while preserving much of standard economics by concentrating on choices made at the margin

*Vilfredo Pareto

*The Revival of Cardinal UtilityGame Theory

*John von Neuman, Theory of Games and Economic Behavior (1944)

* *AGCThe units of measurement are now in utils, not commoditiesCardinalists assume we can measure utility levels

* *AGCWe move from commodity to utility spaceCardinalists assume we can measure utility levels

* *AGCCardinal, not ordinal utilityUtility spaceLets suppose we can measure Marys utility levels

* *AGCG'BMarys utilityBesss utilityUtility SpaceAnd suppose we can do the same for Bess

* *01.01.0MaryBessTo simplify we normalize the utility functions of both from 0 to 1.0

* *ACBBC is concave (bends outward) because we assume that joint utility is maximized when gains are sharedMaryBessWe can then represent the contract curve in utility space

* *ACBMaryBessThe PresolutionBC represents the presolution to the game: it is feasible and efficient

* *MaryBessABCDEFGRecall where were getting this from

* *01.01.0MaryBessThe solution to the two-person bargaining game picks one point on the contract curve The Solution

* *01.01.0MaryBessNash solution of (.75* .8 =) .6Howard Raiffa, The Art and Science of Negotiation (1982)Nash maximizes the product of the utility gainsThe Nash Solution

* *01.01.0MaryBessMary insists on a payoff of .95.95.95The hard bargainer doesnt seek the Nash Solution

* *We have $1,000 to divide between us. I first decide how the money is to divided.The ultimatum game

* *We have $1,000 to divide between us. I first decide how the money is to divided.In the second stage you decide whether or not to accept the split I propose.The ultimatum game

* *We have $1,000 to divide between us. I first decide how the money is to divided.In the second stage you decide whether or not to accept the split I propose.If you accept the split we both take our respective shares.If you reject the split neither of us get anything.The ultimatum game

* *

In the first round I choose $950, leaving you $50

Take it or leave it?The ultimatum game

* The ultimatum gamePlayer 1FairUnfairAcceptAcceptRejectReject5, 50, 00, 09.5, 0.5Player 2Player 2

* *

You see that Safeway refuses to charge a premium for a shovel during a snow stormIs it being irrational?

Do we have built-in fairness constraints?

* *

Do men play the ultimatum game differently than women?


* *

Do men play differently than women?

Do men play differently when they play against women?


* *

Do men play differently than women?

Do women play differently when they play against men?


* *

Do people play differently when the payoffs are higher?


* *

Do people play differently when they are told that player 1 has earned the money?


* *

Do we distinguish between strangers and brothers?Greater interdependence and stronger fairness norms in market societies Weaker fairness norms in diverse societies?


* *01.01.0MaryBessQu. How many such bargains will be lost through bargaining breakdown?.95The hard bargainer

* *01.01.0MaryBessAssume that an arbitrator can measureutilities and refuses to enforce bargains that allocate .95 of the gains to one party.95Getting to Yes:Suppose we resist enforcing hard bargains?

* *01.01.0MaryBessSome contracts will not be enforced. But might more be entered into because hard bargainers have been chilled? .95Getting to Yes:Suppose we resist enforcing hard bargains?

* *

Suppose we refused to enforce bargains that appear wholly one-sided? This would result in an efficiency loss. But would chilling the hard bargainers result in a greater number or bargains, and a net efficiency gain?Now back to the ultimatum game


Contracts I

Formation


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11 george mason school of law contracts i unconscionability f.h. buckley [email protected]

Documents

secured lending

se wrong

usury prohibition

biblical prohibition

rentseekingmoral hazard

street nw

eric posner

range of outcomes