An accident has occurred, causing $10,000 in harm to the victim. The amount of harm done is undisputed and easy to prove; punitive damages are not applicable, so any damage award would be for exactly $10,000. This type of accident is governed by strict liability, so the injurer is legally responsible, but it may be difficult to prove in court that he caused the harm. The victim can hire a lawyer for $3,000 and go to trial, in which case he would have a 40% chance of winning. He could also hire an expert witness to testify. This would ensure victory at trial, but would cost an additional $10,000, for a total of $13,000. Going to trial costs the defendant (injurer) $5,000, regardless of whether the plaintiff (victim) hires an expert witness. Assume that neither party pays any legal expenses if an out-of-court settlement is reached.
First, consider the usual American rule where each party pays its own legal fees.
(a) If the case goes to trial, will the plaintiff hire an expert witness or not?
(b) Given your answer to (a), calculate
i. each party’s threat point during pre-trial negotiations (which is its noncooperative payoff if the case goes to trial)
ii. the gains from cooperation if a pre-trial settlement is reached
iii. the settlement that would occur if the two parties agreed to divide the gains from cooperation evenly
(c) In this scenario, would the American rule lead to over-, under-, or efficient precaution on the part of the injurer?