Digression on simplified pictures.
A. In thinking through the logic of a problem, whether in physics,
mathematics, or economics, we frequently use simplified pictures,
designed to bring out the particular issue we are interested in.
B. For example, we worth out the logic of Newtonian motion by
analyzing the trajectory of canonballs in a vacuum--without worrying
about the fact that in a vacuum, the canoneers would die before they
could fire their cannons.
C. Similarly, much of what we are doing in this course involves
deliberately simplified pictures, intended to let us think through the logic
of one problem or another.
D. After doing so, one is better equipped to deal with the much messier
conditions of real life problems.
I. Contract law: Why have it?
A. Why do we want contracts to be enforceable?
1. Because performance often occurs over time, with transaction specific
2. House building problem, for example.
B. What about private enforcement?
1. Via reputation: Orthodox jews in the diamond industry example.
a. The industry depends heavily on trust, keeping your contract,
b. But orthodox Jews are not permitted to sue each other.
c. If you violate the agreement, there are mechanisms (take it to the
Rabbi) for proving the fact, and then publicizing it.
d. And presumably, if you don't have enough of a stake in your
reputation yet for that to matter, you won't be trusted the deals
where you could make a lot of money by breaking your contract.
e. Also, there are social costs as well as economic ones with such a
f. Perhaps patterns like this--of small, close knit ethnic minorities
dominating some industry, are evidence that this is a better method
of enforcing contracts.
g. But people who are not members of such groups, not engaged in
repeat dealings in markets where reputation is important, still want
to sign contracts--building a house.
2. Via bonding with a reputable enforcer
a. This requires you to have enough assets to post bond
b. But legal enforcement requires you to have enough assets to pay