In response to competitive pressure from some of its best clients, a Chicago law firm (the "firm") created a program to pre-bill these clients using a flat montly fee in lieu of traditional hourly-billing. The clients received unlimited legal representation in three practice areas: employment, litigation, and small transactional work.
Clients wanted the flat-fee billing to better predict and control their expenses, and the law firm thought they could profitably accomodate this request by utilizing lower cost and younger attorneys at the firm.
Predictably, clients requested more assistance on relatively trivial matters because the marginal cost of doing so decreased to zero. Although the requests and inquiries were minoro on a case-by-case basis, they represented a significant outlay of attorney time and expense in the aggregate. Harder to predict was another change in clients' behavior: they were less likely to engage in preventative measures and were more aggressive in settlement negotiations. For example, in the employment practices area, the clients did not perform supervisor training with the same frequency as before and were more confrontational when dealing with disgruntled employees--both potential areas of risk for employment discrimination claims. This change in behavior increased legal costs borne by the firm. After six months of losing money on the program the law firm ended it. Note that this is a kind of moral hazard a change in behavior that is difficult to control because it is hard to write a cocntract specifying exactly what kind of behavior you want.
Read the case above and offer a comprehensive solution to each problem below:
Analyze the key economic issues in the case.
Recommend three different business solutions to the case using managerial economic models and methods.
Justify the role of managerial economics by identifying the metrics you would use to assess the success of your decisions.