A central feature of contracts is that they are necessarily incomplete. It is a fact of life that contracts between parties often require renegotiation and even legal intervention for definition, clarification, execution, and enforcement. Yet, there has been limited attention in the literature to either the process of renegotiation or the effects of legal frameworks on contracting and the anticipation of contracting opportunities. Through formal modelling, Drs. Hermalin and Katz seek to assess the relative efficiency of renegotiation and judicial interpretation as ways of handling the incompleteness of contracts. The work addresses three classes of contracts--sales contracts, debt or bankruptcy contracts, and a "best effort" service or franchise contract. For each area, these investigators will examine (1) the basic assumptions about the information structure of the parties (including the judge), (2) the nature of the contracts that private parties would reach in a given legal environment, and (3) the outcomes of handling incompleteness under alternative legal regimes. This research should produce results that will further our basic understanding of contracting and the role of courts in contract enforcement. As important, the project ties the developing economics literature on contracting closer to the empirical realities of law by focusing on the role of the contract enforcement and damage rules administered by the courts. Also, the work adds new sophistication to the law and economics literature on contract damages by closely scrutinizing the information available to the parties and the conditions before them for renegotiation. Finally, this effort--in particular, the emphasis on renegotiation--could very well change our view of why contracts are incomplete and what the courts can and should do to deal with this incompleteness.
