Economics of Accidents and Learned Hand Formula of Liability for Negligence Torts are wrongs that subject the wrongdoer to a suit for damages by the victim Intentional and unintentional torts Unintentional torts – injurer is liable under tort law to his victim in accidents Expected accident cost = P * L Ignore risk aversion, optimal precaution occurs when cost of taking precaution (=B) < expected benefit of taking precautions (= P * L)

Optimal precaution will be achieved without legal intervention if person taking precaution is the same as person who may be injured Otherwise legal intervention may be necessary Legal intervention is not necessary if transactions costs are zero – Coase Theorem If transactions costs are significant and legal system hold injurer liable for damages = L then his expected legal judgment cost = P * L

Judge Learned Hand wrote that a potential injurer is negligent if but only if B < P * L; the formula for optimal accident avoidance In the diagram, curve PL is the marginal change in expected accident costs as a function of care and curve B is marginal cost of care To the left of c* the injurer is negligent To the right of c* accidents are unavoidable in an economic sense. Why?

Unusually large losses LO means no negligence is implied because B > P * L would normally hold unless LO >> L Similarly if normally P is very low we will rule no negligence Likewise if normally B is very high we will again rule no negligence When applying the Hand formula average values are assumed by the court and negligence reflects individual variations from average values