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Legal ignorance and information-forcing rules.

ABSTRACT

People are often ignorant about the legal rules that govern the most common transactions in their lives. This Article analyzes one common regulatory response to our widespread legal ignorance. A surprisingly broad range of legal rules have the ostensible purpose of inducing sophisticated parties to draft express contract language that will inform their contractual partners about the legal rules governing a particular transaction. However, this "legal-information-forcing" objective often remains unrealized because people routinely sign contracts without reading and understanding their terms. In theory, courts could design information-forcing rules that would be truly informative. But recognizing the potential futility of attempts to inform many contracting parties about complex legal rules, this Article also develops and critiques several alternative justifications for "clause-forcing" rules that encourage sophisticated parties to draft express contract terms. Such terms could facilitate the activities of avid comparison shoppers, reviewers, and consumer advocates. Comprehensive written terms also may promote ex post legal clarity and thereby reduce the costs of resolving disputes. Finally, exculpatory clauses allow parties to contract out of the comparatively expensive legal system of dispute resolution in favor of a regime governed by informal social norms. On this account, clause-forcing rules encourage sophisticated drafting parties to signal their preference for a norm-governed relationship, and lawmakers then demarcate the boundary between law and norms by deciding whether to enforce exculpatory clauses. The normative desirability of these clause-forcing rules is unclear, but my exploration of these alternative justifications shows the conceptual poverty of accounts that presume express contract terms inform the majority of unsophisticated parties.
TABLE OF CONTENTS

INTRODUCTION
  I. THE PERVASIVENESS OF INFORMATION-FORCING
     JUSTIFICATIONS
      A. Origins
      B. Information-Forcing Theory Applied to Legal Ignorance
      C. The Hadley Rule Revisited
      D. Some Additional Examples
         1. Implied Just-Cause Employment Contracts
         2. ERISA Rules
         3. Other Disclaimers, Waivers, and Limitations
            of Liability
  II. THE PROBLEM WITH A LEGAL-INFORMATION-FORCING
      JUSTIFICATION
      A. The Persistence of Legal Ignorance
      B. Judicial and Scholarly Perspectives on Legal Ignorance
         1. Disclosure Requirements
         2. Boilerplate and Contracts of Adhesion
         3. Academic Support for Legal-Information-Forcing
            Rules
      C. Designing Effective Express Contract Terms
III. ALTERNATIVE RATIONALES FOR CLAUSE-FORCING
     DEFAULT RULES
      A. "Nudging" Parties to Make Better Choices
      B. Lowering Ex Ante Information Costs
      C. Ex Post Legal Clarity
      D. Opting for Norms Rather Than Law
      E. Some Potential Policy Implications
CONCLUSION


INTRODUCTION

People are often ignorant about the legal rules that govern the most common transactions in their lives. (1) Whether purchasing products and services, leasing real estate, obtaining insurance, borrowing money, or finding employment, many laypeople have a surprisingly poor grasp of basic legal principles. (2) Of course, this ignorance usually causes no harm. We buy what we need and work until retirement without becoming embroiled in legal disputes. But sometimes people involved in conflicts over defective products, unpaid insurance claims, loan defaults, or employment terminations must assert legal rights or defenses, and some of them ultimately resort to litigation. In circumstances like these, having too little legal knowledge can be dangerous. Legal ignorance potentially distorts important economic decisions. Without a clear understanding of their legal rights and responsibilities, some consumers will mistakenly agree to exculpatory contract terms. Borrowers will accept harsh credit terms. And employees will rely on illusory promises of job security.

Lawmakers have sometimes attempted to combat informational problems such as these by enacting rules that directly mandate disclosure. The federal Truth in Lending Act, for example, requires lenders to disclose interest rates and fees in a statutorily prescribed way. (3) Whenever an employer uses an outside firm to check a job applicant's background, it must disclose that fact and obtain consent from the applicant under provisions of the Fair Credit Reporting Act. (4) And regulations issued by the Securities and Exchange Commission compel issuers to publish exhaustive prospectuses when they offer stock for sale. (5) A voluminous scholarly literature debates whether the informational value of such mandated disclosures exceeds their cost. (6) My focus here, however, is not on these explicit disclosure regulations.

Instead, this Article analyzes a different regulatory response to our widespread legal ignorance. It explores how the law encourages sophisticated parties to provide legal information to the comparatively poorly informed individuals with whom they do business. Many rules in surprisingly diverse fields of law impose unfavorable default terms on sellers, employers, insurers, and other comparatively sophisticated parties, but allow those parties to opt out of these default terms by drafting contract terms that meet certain standards for clarity. Thus, for example, a clear statement disclaiming the implied warranty of merchantability negates that default provision of the Uniform Commercial Code. (7) Likewise, an employer can defeat most implied contract claims of unjust discharge by requiring new employees to sign an express confirmation of at-will status. (8)

I argue here that we can best understand these and other rules as particular instances of an approach that contract theorists have dubbed "information-forcing" or "penalty defaults."* 9 Originating in modern scholarly efforts to justify the famous rule of Hadley v. Baxendale, the information-forcing framework uses an unfavorable default to redress problems of asymmetric information between the parties to a contract. (10) Lawmakers select a default rule that disadvantages the better informed party. In order to escape the unfavorable default, the informed party must disclose information to her less well-informed contractual partner. The canonical information-forcing default in Hadley thus limits a party's consequential damages for breach unless she discloses any special circumstances that may cause unusual losses. (11)

This concept extends quite naturally from information about potential consequential losses from breach to situations in which the parties have an asymmetric understanding of the legal rules governing their relationship. Unfavorable default rules encourage legally sophisticated parties to contract expressly for their preferred terms. At least in theory, these express contract terms could inform unsophisticated parties about the law. Many courts and legislators have formulated default rules with legal-information-forcing concerns such as these in mind. (12) Judges worry, for example, that workers will overestimate the extent of their contractual protection against discharge. (13) In response, courts have adopted default rules of interpretation that encourage employers to contract expressly for an at-will relationship. (14) Similarly, the drafters of the Uniform Commercial Code sought to protect consumers who might otherwise misunderstand the extent of their rights against the seller of a defective product. (15) Section 2-316 thus establishes a warranty of merchantability as a default term, and permits sellers to avoid granting that warranty only by including a sufficiently clear disclaimer in the sales documents. (16) As one might expect, employers and product manufacturers routinely opt out of these default rules. (17) They craft express contract language that simultaneously protects their interests and, at least in theory, informs consumers and workers of the legal rule that will govern their relationship.

As these examples illustrate, legal-information-forcing rules have a common structure. First, the ostensible purpose of the rule is to encourage legally sophisticated parties to inform comparatively unsophisticated parties about their legal rights and obligations. Second, each is a default term designed to favor the interests of the unsophisticated party. Finally, the overwhelming majority of sophisticated parties respond to the rule by contracting around the default, adding language to the contract that better protects the interests of the drafter. What therefore distinguishes a legal-information-forcing rule from other defaults is (1) its goal of dispelling legal ignorance, (2) the fact that the rule initially favors the less sophisticated party, and (3) the frequency of opt-outs.

Rules of this type are remarkably ubiquitous. (18) I argue, however, that there are good reasons to doubt that many achieve their goal of informing unsophisticated parties about the law. These rules instead generate a profusion of boilerplate language in largely unread contract documents. In fact, most people fail most of the time to read most of the terms in the contracts they sign. (19) As a result, a legal-information-forcing strategy seems unlikely to succeed.

We can easily imagine regulatory innovations designed to make the contracting process more informative. Lawmakers could impose procedural requirements for opting out of the default rule in an attempt to force laypeople to pay more attention to specific terms. (20) For example, many courts emphasize considerations such as typographical prominence, separate signing, and linguistic clarity in deciding whether to enforce terms that displace a legal-information-forcing default. (21) Lawmakers could adopt even more aggressive approaches, such as requiring an oral recitation of all or part of the contract, quizzing parties about their understanding of key contract terms, or perhaps mandating the participation of an attorney in certain transactions. Careful empirical study might even help us determine which, if any, of these requirements are effective. However, people are often rationally ignorant about contract terms. In these circumstances, the cost of calling their attention to specific terms quickly overwhelms any potential benefit from being better informed. Thus, no cost-effective strategy is likely to make these express terms truly informative for the majority of unsophisticated parties.

This rather pessimistic assessment of legal-information-forcing rules suggests that courts and legislators may be mistaken to rely on them to combat legal ignorance. In short, the conventional information-forcing justification for these rules is unpersuasive. But perhaps legal-information-forcing defaults can be explained and justified on other grounds. Part III of this Article recasts the rules as "clause-forcing" and explores several alternative accounts of how the resulting express contract terms might serve socially beneficial purposes. (22)

First, these rules may produce express contract terms that inform an important subset of parties. For example, easy access to detailed contract terms could facilitate the activities of avid comparison shoppers, consumer advocates, and reviewers. Their scrutiny of these terms may indirectly benefit the majority of unsophisticated parties who elect not to read the contract. (23) Alternatively, the express terms may be valuable only after a dispute has arisen. The more detailed contract language could increase the ex post clarity of the parties' legal rights and thus lower dispute resolution costs. (24) Or finally, and most controversially, these exculpatory terms may be an effort on the part of sophisticated parties to replace legal enforcement of the parties' rights with a norm-governed system that operates largely outside of the traditional legal system. (25) Thus, parties may rely on informal market norms to enforce their commitments with less certainty, but more cheaply, than through litigation. These cost savings potentially produce higher profits for firms, lower prices for consumers, and increased wages for workers. On this account of clause-forcing defaults, the role of the judiciary is simply to decide when exculpatory language goes too far. Courts must determine whether public policy requires certain legal liabilities to persist despite the efforts of sophisticated parties to exclude them. (26)

A comprehensive positive explanation for the widespread use of clause-forcing rules will likely involve elements of each of these stories. And it is impossible to know whether a particular rule is normatively defensible until we discover what purpose it serves, and how well it achieves that goal. Embracing any of these alternatives, however, has profound implications for the design of the rules themselves. The goal of ex post legal clarity, for example, demands only that parties commit their preferred terms to writing and express them clearly. (27) Courts' current preoccupation with prominence and the typographical aspects of express terms is pointless if the terms only have value once a dispute arises. If, however, sophisticated parties use exculpatory clauses principally to substitute norms for law as a means of contract enforcement, then courts need to recognize this motivation and analyze how these clauses affect contractual relations in the relevant market. A deeper understanding of these practices will help lawmakers develop more coherent doctrinal rules to police the line between acceptable reliance on informal norms and objectionably exculpatory contract terms. Although it may be impossible to know whether these clause-forcing rules are normatively desirable, my analysis demonstrates the conceptual poverty of current judicial and legislative approaches that assume these express contract terms inform most parties.

This Article proceeds in three parts. Part I introduces the concept of an information-forcing default rule, shows how that concept applies to the problem of legal ignorance, and offers a number of examples of legal-information-forcing default rules. Part II identifies a significant problem with the conventional information-forcing justification. People often pay no attention to the express contract terms that these rules encourage. It also reviews the existing scholarly literature on disclosure regulations and on adhesion contracts for ideas about how to address this problem. Part III develops and critiques several alternative justifications for the clause-forcing rules on which the Article is focused. This Part also shows that adopting any of these alternative justifications will require courts and commentators to rethink existing doctrinal requirements, and to develop a more nuanced understanding of how clause-forcing defaults affect contracting practices.

I. THE PERVASIVENESS OF INFORMATION-FORCING JUSTIFICATIONS

In this Part, I explain the origins of information-forcing contract default rules, extend the basic theory to encompass problems of legal ignorance, reexamine the conventional information-forcing account of the Hadley rule, and illustrate how pervasively lawmakers have embraced legal-information-forcing arguments.

A. Origins

So what precisely is an information-forcing rule? As I will use the term, it is any contract default rule that favors one party in order to induce the other party to a transaction to disclose particular information. If the disfavored party fails to provide the targeted information, then that party suffers a legal disadvantage associated with a comparatively unfavorable default rule. By providing legally adequate disclosure to a transactional partner, however, the disfavored party may escape the undesirable default. This definition thus excludes any law that imposes civil or criminal penalties for nondisclosure. (28) Such affirmative disclosure duties serve a similar purpose but operate through a different mechanism. My focus here is on situations in which disclosing parties may opt into different and more favorable rules by providing the required information to their transactional partner. As we will see, even this restrictive definition encompasses a plethora of judge-made and legislatively enacted rules found in diverse substantive areas of law. (29)

Note that a so-called "penalty default" rule that specifies a term undesirable to both parties also could be used to induce parties to negotiate over that contract term. (30) Although it has become conventional for commentators to refer to both information-forcing and negotiation-forcing rules as "penalty defaults," (31) the term perhaps makes more sense applied to rules in the latter category that truly penalize both parties for failing to reach an explicit agreement. In the interest of analytical clarity, this Article focuses exclusively on the potential information-forcing function of default rules that favor one party over another.

Although the rules themselves have been around for a long time, academic attention to the theory of information-forcing rules originated among economically oriented scholars examining what is now one of the most thoroughly debated contract doctrines--the foreseeability limitation on consequential damages. (32) Among contemporary contract theorists, the canonical justification for limiting the recovery of consequential damages to those that are foreseeable in the ordinary course of business is an information-forcing rationale. (33) According to this approach, courts presume that both parties know the ordinary damages that are likely to flow from a breach of contract. If, however, "special circumstances" will produce greater than ordinary losses, then the party who knows about those circumstances must share that information with the other party prior to contracting. (34) Only after obtaining at least implied consent to bear this additional risk can the better-informed party hope to recover for more than ordinary losses in the event of a contract breach. (35) Thus, the default rule of limited liability encourages one party to reveal information that he or she would rather not disclose.

A real-world example will make this analysis more concrete. Imagine that you are shipping a box of books and a box of diamonds to a dear friend in another state. You deliver both boxes to a common carrier and pay standard shipping charges based on the weight and size of the boxes. (36) If the carrier inadvertently loses one of the boxes in transit, your economic losses depend critically on whether the lost box contained books or diamonds. Under the prevailing default rule for consequential damages, however, your potential recovery is limited to an amount the court considers foreseeable in these circumstances. Ordinary damages would almost surely cover the loss of your books. But a recovery limited to foreseeable consequential damages would protect only a tiny fraction of the value of your diamonds. In order to be compensated fully for the loss of your diamonds, you must therefore inform the carrier of this "special circumstance" at the time of contracting. The carrier in turn will take more appropriate precautions to prevent loss, and will undoubtedly charge you a price sufficient to cover both the cost of those precautions and any residual risk of loss. The limited liability default rule has thus "forced" you to reveal information about the damages you will suffer if the carrier loses your shipment. As a result, the carrier can take efficient precautions and charge you an efficient price for this service.

A considerable literature has explored a variety of difficulties, qualifications, and limitations of this information-forcing rationale for a default rule limiting consequential damages. For example, the "special circumstances" that a party must disclose before contracting may simultaneously reveal important private information about the value of the contract to that party. (37) Someone who informs a prospective contractual partner that a breach will cause unusually large lost profits has also signaled that he or she may be willing to pay an unusually high price for performance. Ordinarily, competition can be expected to drive the contract asking price down to the cost of providing the relevant goods or services plus the cost of bearing any unusual risk of loss from breach. In imperfectly competitive markets, however, these competing strategic considerations discourage disclosure and may diminish the effectiveness of an information-forcing rule. (38)

Eric Posner even goes so far as to question whether penalty default rules exist at all. (39) He directs his criticism principally at Ian Ayres and Robert Gertner's frequently cited article that first used the term "penalty default" to describe nonmajoritarian rules that have an information-forcing effect. (40) Although Ayres and Gertner applied this concept to a variety of legal rules, the Hadley foreseeability limitation on consequential damages motivated their analysis and served as the canonical illustration of a penalty default. Subsequent scholarly discussion of the penalty default theory has similarly focused disproportionate attention on the Hadley rule. (41)

According to Posner, however, it is unclear whether even this pivotal example is properly understood as a penalty default. (42) He contends that the foreseeability limitation may instead be majoritarian because carriers have no comparative advantage in providing insurance against lost shipments. (43) Alternatively, Posner suggests that liability for unforeseeable losses would not affect carriers' precautions, and thus carriers need not internalize those costs in order to ensure that they take efficient precautions. (44) He concludes that the Hadley rule is not a penalty default either because it is majoritarian or because "it does not reflect the factors in Ayres and Gertner's model." (45) Turning to Ayres and Gertner's other examples of penalty defaults, Posner characterizes some as "legal formalit[ies]," others as "formation doctrines," and still others as "interpretive presumptions." (46) He contends principally that the rules in these distinct doctrinal categories are not defaults because they do not fill gaps in a preexisting contract. (47) Moreover, Posner offers an alternative majoritarian explanation for many of these contract doctrines.

In his response to Posner's criticisms, Ian Ayres observes that Posner's doctrinal formalism obscures the fact that contract formalities, formation doctrines, interpretive presumptions, and conventional default rules are often functionally equivalent. (48) Each of these types of rules selects terms to govern the contractual relationship between two parties. Yet those parties usually remain free to specify explicitly the contract terms that they prefer, or to reject contractual obligations altogether. Ayres maintains that, far from being majoritarian, rules such as contra proferentem, which Posner classifies as an interpretive presumption, operate as nonmajoritarian, information-forcing defaults. (49) Indeed, Ayres equates information-forcing and penalty defaults and offers a ten-page litany of quotes from scholars who have used one or both terms to describe a breathtaking variety of legal rules. (50)

Turning to Hadley itself, Ayres acknowledges that it "is not the cleanest example of a penalty default" because it does not "induc[e] a majority of contractors to contract around the default," (51) and thus can plausibly be seen as majoritarian. (52) After all, most contracting parties would want a rule that prevents an opportunistic minority from strategically withholding information. In terms of our earlier example, people shipping books have no interest in paying for precautions designed to protect the carrier from losses associated with misplacing the occasional shipment of diamonds. But Ayres argues that the Hadley rule remains a "powerful [example of penalty defaults] because its efficiency stems from its inducing some contractors to contract around the default, rather than from enabling parties to save on the costs of contracting around it." (53)

My own approach to the debate about Hadley depends on understanding the case in terms that I develop in the next Section, and thus I revisit Hadley immediately thereafter. For the moment, simply note that the information-forcing argument for limited consequential damages is a specific application of the more general principle of comparative advantage. (54) Efficiency-minded courts and commentators select contract default rules by asking which party can more cheaply perform or bear particular risks of nonperformance. The information-forcing argument extends this basic notion of comparative advantage and considers which party is in the best position to disclose information relevant to the transaction. In the context of the Hadley rule for consequential damages, it is information about factual circumstances, such as expected lost profits or alternative sources of supply, that the rule encourages one party to disclose. As we will see in the next Section, however, information about the legal rules that govern a transaction can also be the object of information-forcing rules.

B. Information-Forcing Theory Applied to Legal Ignorance

The hoary maxim "ignorance of the law is no excuse" expresses a strong presumption that individuals are adequately informed about prevailing legal rules. (55) Regardless of whether that presumption is justified in the criminal context from which it arises, abundant empirical evidence reveals widespread ignorance about many aspects of civil law. (56) People often lack basic information about the legal rules governing particular transactions in which they routinely participate. Ignorance about product warranties, termination standards, damage limitations, insurance exclusions, or pension provisions may potentially distort important economic decisions, and could produce serious allocative inefficiency. When people do not know important legal characteristics of the things they buy, their willingness to pay may not accurately reflect their true valuation of those products and services.

The argument for information-forcing default rules suggests a possible solution to this problem of legal ignorance: we could treat legal information just as we do information about the expected consequential damages resulting from a breach of contract. Lawmakers could determine whether one party has a comparative advantage in obtaining and communicating information about the law governing this transaction. If so, a legal-information-forcing rule would force the comparatively better informed party to choose between revealing the relevant legal information or accepting a default rule that favors the less informed party. Such a rule contrasts sharply with a conventional "majoritarian default" selected to mimic the terms that most parties would prefer for this type of transaction. Instead, lawmakers choose the default knowing that the overwhelming majority of well-informed parties will opt out.

A surprisingly large number of common law and statutory rules take this form. (57) They seem designed to force a legally sophisticated party to inform unsophisticated parties about the prevailing legal standard. Judicial opinions and legislation often make this legal-information-forcing objective explicit. (58) For other rules, however, an implicit legal-information-forcing rationale is the most plausible explanation for their structure.

All of these legal rules share two common characteristics. First, they are defaults because sophisticated parties may avoid the unfavorable rule by drafting express contract terms, which simultaneously provide legal information to their contractual partners. Second, the best evidence that a rule's primary purpose is to encourage one party to provide legal information to another is the empirical observation that the overwhelming majority of legally sophisticated parties choose to contract around it. Of course, a court might create such a rule in an unsuccessful attempt to identify a majoritarian default. (59) But a more plausible--and more charitable--explanation for default rules subject to routine opt-outs is that the rules aim, at least implicitly, to increase the amount of legal information contained in these contracts.

A legal-information-forcing justification for these default rules also sidesteps one problem that conventional information-forcing arguments must confront. As we saw earlier, the standard economic explanation for the Hadley foreseeability limitation rests on the rule's ability to elicit information about the costs of breach from the better informed party. (60) Critics have observed that parties engaged in strategic bargaining may legitimately object to revealing their private value of performance to prospective contractual partners. (61) Sophisticated parties, however, cannot plausibly claim that they have a right to conceal the legal terms governing a transaction. Nevertheless, a critic who sought to encourage self-reliance might contend that a principle of caveat emptor should shield parties from any duty to inform their transactional partners about the law. Although such an argument implies that we must decide how best to encourage uninformed parties to learn about the prevailing legal rules, it is difficult to argue that one party should have a right to conceal relevant legal information. An objection on these grounds thus requires us to compare alternative means of conveying legal information, but does not call into question the advisability of making this information available to all.

Despite this apparent advantage, a legal-information-forcing default could create other strategic problems. Sophisticated parties may be reluctant to call attention to exculpatory or self-serving rules by enshrining them in express contract terms. Potential contractual partners--at least those who read the terms before signing the agreement--could interpret such terms as a signal that the contract drafter plans to renege on his or her obligations, or otherwise behave in an uncooperative fashion. (62) However, the informational value of such a signal diminishes significantly when the law strongly encourages one party to contract expressly for any particular advantageous term. Indeed, if the practice of contracting around the default rule becomes nearly universal--as it is in the overwhelming majority of examples discussed below--then this signal no longer distinguishes among possible contractual partners. (63) The danger of adverse signaling thus plays little role in evaluating the costs and benefits of legal-information-forcing default rules.

C. The Hadley Rule Revisited

So what can the theory of legal-information-forcing defaults tell us about the venerable rule of Hadley v. Baxendale! To answer this question, recall our earlier example of shipping a box of books and a box of diamonds. (64) As we saw, the foreseeability limitation arguably "forces" you to reveal information about the damages you will suffer if the carrier loses your shipment of diamonds. It thus allows the carrier to take efficient precautions and charge you an efficient price for the service. (65) Our initial analysis, however, ignored important features of the legal rule and inaccurately described common contracting practices for transactions of this type.

The conventional economic analysis of the Hadley foreseeability limitation models the rule as one that awards the normal damages that a low-valuation shipper suffers in the event of breach. (66) In our example, foreseeable damages cover the cost of a box of books but not a box of diamonds. The stark contrast between books and diamonds (or between high-valuation and low-valuation shippers in the conventional model), however, obscures the fact that even the restrictive Hadley rule exposes the carrier to an uncertain distribution of damage liability in the event of breach. A fact-finder might conclude on the evidence in a particular case that "normal" or "ordinary" losses include a comparatively high value for the books themselves and perhaps additional consequential damages for any delay in obtaining replacement copies of the books. (67) In contrast, another case might place a comparatively low value on the books and exclude more remote consequential losses entirely. (68) The foreseeability rule is thus more "mud" than "crystal" in the evocative terminology often used to describe uncertain standards and precise rules. (69)

The conventional analysis of Hadley also presumes that carriers allow low-valuation shippers--those shipping a box of books---to remain silent and accept the default rule of foreseeable damages. Yet anyone who has dealt with UPS or FedEx is surely aware that many express "Terms and Conditions" become part of the written contract. Taking the FedEx "U.S. Airbill" as an example, the face of the form includes a space for "Total Declared Value," and a fine-print footnote that explains: "Our liability is limited to US$100 unless you declare a higher value. See back for details. By using this Airbill you agree to the service conditions on the back of this Airbill and in the current FedEx Service Guide, including terms that limit our liability." (70)

The summary of terms on the reverse side of the Airbill reiterates the $100 liability limitation and explains additional limits on the maximum allowable declared value. (71) Tellingly, these terms expressly disclaim liability for loss of any kind in excess of the declared value, and they also restrict the maximum declared value to $1,000 for packages containing "items of extraordinary value," such as "jewelry" and "precious metals." (72)

The Hadley rule undoubtedly shapes the prototypical modern carriage contract, but not through the mechanism that conventional information-forcing theory proposes. No sensible carrier relies on the foreseeability limitation to protect itself against the excessive damage claims of high-value shippers. Instead, like FedEx, all modern carriers contract expressly for a precise--and far lower--limit on their liability. (73) In addition, carriers offer a menu of options for shippers to cover more valuable items at additional cost. (74) For their part, low-value shippers never have an opportunity to accept the default rule of foreseeable damages for loss. Instead, carriers' uniform practice requires shippers either to accept a comparatively low fixed liability limitation or to declare a value and pay for greater coverage. (75)

Considering how thoroughly the Hadley example dominates the literature on information-forcing defaults, it may be somewhat surprising to learn that legal-information-forcing theory describes the practical consequences of the Hadley rule more accurately than the conventional account. Recall that a legal-information-forcing purpose is often the best explanation for unfavorable default rules from which sophisticated parties routinely opt out. (76) According to the conventional theory, the foreseeability limitation provides sufficient protection for promisors against unreasonable damage claims. (77) Carriers evidently do not share this assessment of the doctrine. Their standard contracting practices reveal that they consider the Hadley rule an unfavorable default. It exposes carriers to greater expected liability than they wish to bear, and the uncertainty inherent in a foreseeability analysis simply compounds the problem. Carriers have responded by contracting around this unfavorable default. (78) Nevertheless, no court or legislature has altered the default rule to match what standard industry practice reveals to be the preference of all sophisticated market participants.

What can possibly explain this persistent nonmajoritarian default rule? Ordinarily, carriers are better informed and more legally sophisticated than most of their clients. Thus, one plausible account is that lawmakers intend, or at the very least accept, that the default rule will induce legally sophisticated parties to provide information about the prevailing legal rules to their less knowledgeable contractual partners. Because express liability limitations are so pervasive, courts now rarely, if ever, have an opportunity to discuss how the Hadley rule applies to transactions of this type. Nevertheless, the legal-information-forcing theory fits the available facts far better than the conventional information-forcing story. It can explain why legally sophisticated parties routinely opt out, and why courts might believe that the resulting express contract terms are a socially beneficial consequence of this nonmajoritarian default. Moreover, judges have explicitly invoked a legal-information-forcing purpose in adopting other related contract doctrines--such as the contra proferentem presumption and unconscionability--that are designed, at least in part, to encourage companies to inform unsophisticated parties about their contractual rights. (79)

My claim is not that the Hadley court crafted foreseeability doctrine for its legal-information-forcing effect, nor do I argue that subsequent decisions necessarily rest on that rationale. Instead, I contend that if information-forcing effects explain the Hadley rule at all, then it is legal information that the rule itself is forcing. The doctrine induces sophisticated parties to draft express contract terms, and those terms in turn force shippers and other similar parties to disclose their expected loss from breach. The sophisticated parties then use this information to adjust their precautions and pricing according to the level of risk. In contrast, the conventional theory erroneously suggests that the rule itself separates high-valuation from low-valuation shippers. (80)

Finally, it is worth noting that the Hadley rule also supplies the default damage rule for transactions outside of the shipping context on which we have focused. But the rule itself, as opposed to the express liability limitations it engenders, determines damages in a surprisingly narrow set of circumstances. Consumer contracts of all kinds routinely exclude liability for consequential damages or impose a low, fixed limit on total liability. Commercial contracts for goods and services ordinarily contain a clause excluding consequential losses, and they also frequently specify liquidated damages in lieu of the default expectation measure. Construction contracts sometimes specify liquidated damages for delay, but they also routinely contain a clause expressly excluding liability for consequential losses. Nevertheless, the question of whether particular losses from breach were foreseeable occasionally arises, and the conventional information-forcing story may well apply to some of these cases. (81) My goal here has been simply to call attention to the surprising frequency of opt-outs and the plausibility of the legal-information-forcing theory as a potential justification for a rule that principally leads sophisticated parties to draft express terms that negate the default rule.

D. Some Additional Examples

As we have seen, the basic theoretical argument for information-forcing rules extends quite readily to rules designed to encourage parties to disclose legal information. It should perhaps be unsurprising then that courts and legislatures frequently adopt contract default rules for the apparent purpose of dispelling legal ignorance.

1. Implied Just-Cause Employment Contracts

Consider first the legal rules that determine the terms governing discharge from employment. Although the default rule in all but one major U.S. jurisdiction is employment at-will, (82) the willingness of courts to enforce implied agreements for just-cause protection strongly encourages employers to contract expressly for an at-will relationship. (83) In fact, many judicial decisions expressly invite employers to contract around courts' liberal construction of employee handbooks and other informal assurances. (84) Moreover, most courts appear willing, even eager, to enforce express at-will terms so long as they are phrased clearly and positioned prominently among the documents presented to new employees at the time of hiring. (85) These doctrines thus share the first characteristic of legal-information-forcing rules--they are default rules subject to opt-out.

These doctrines satisfy the second criterion as well. Empirical evidence of employment contract practices confirms that an overwhelming majority of legally sophisticated parties contract expressly for an at-will relationship. Most employers, and especially larger, more sophisticated firms, use written confirmations of at-will status. (86) Because the prevailing default rule is employment at will, these express terms are formally superfluous. Nevertheless, such provisions have practical value because they tend to inoculate employers against implied contract claims. A written confirmation of at-will status ordinarily defeats a worker's argument that she understood her employer's written or oral statements to imply a commitment to provide just-cause protection. (87) Employers commonly combine an at-will confirmation with additional terms that bar oral modification and specify that only specific corporate officers have authority to modify the contract. These provisions opt out of two other default rules--specifically the enforcement of oral agreements and the agency doctrine of apparent authority--and provide additional protection against implied contract claims. (88)

Implied contract doctrine thus serves a legal-information-forcing function in the employment setting. Courts reason that employers should be bound to a just-cause contract whenever informal assurances or company policies concerning job security would lead a reasonable employee to believe that he had legal protection against arbitrary discharge. (89) Just as readily, however, those same courts enforce formal disclaimers and confirmations of at-will status contained in employee handbooks and on separate forms signed at hiring. (90) Judges assert that any reasonable employees who have read or signed such statements must now understand their unprotected legal status. (91) By opting out of the implied contract doctrine, employers have thus provided what courts evidently consider valuable legal information. (92) Workers exposed to these disclaimers presumably learn the true nature of the legal terms governing discharge from employment.

Finally, notice that both the implied contract doctrine and the Hadley rule generate express exculpatory contract terms because sophisticated parties believe that an ostensibly favorable doctrine is insufficiently protective. We have already seen that carriers (and most other suppliers of consumer products and services) worry that the foreseeability standard is too generous and too vague. (93) Likewise, employers have no confidence that the at-will default will protect them from unjust discharge claims. (94) Modern erosions of the traditional employment-at-will doctrine invite litigation and encourage employers to confirm workers' at-will status just as uncertainty about foreseeability drives carriers to contract expressly for a more protective damage rule. (95)

2. ERISA Rules

Case law under the Employee Retirement Income Security Act (ERISA) similarly includes numerous instances in which a plan sponsor must include specific contract language in order to avoid an unfavorable construction of its benefit plan. The Supreme Court's decision in Firestone Tire & Rubber u. Bruch, for example, attached talismanic significance to highly specific terms found in the formal plan. (96) The Court opined that if, and only if, the employer includes language giving the plan administrator discretionary authority to interpret and construe the terms of the plan, then the administrator's decisions to deny benefits will be reviewed using a deferential "arbitrary and capricious" standard. (97) If the magical language is not present, however, courts are to conduct a de novo review of all benefit denials. (98) Predictably, all well-counseled employers have responded to this ruling by amending their benefit plans to include the necessary terms. (99)

The Court's opinion in Firestone never specifically invoked an information-forcing rationale for its rule. (100) Instead, Justice O'Connor applied formal doctrinal rules from the law of trusts. (101) Although this doctrinal analysis has been subject to withering criticism, (102) an alternative justification for the Court's ruling is that plan participants and beneficiaries should have some way of knowing what standard of review will apply to their disputes with plan administrators. The specific language required by Firestone thus might alert individuals that their plan administrator has significant discretion over benefit payments. The Court's decision establishing de novo review as the default rule clearly permits opt-outs, and virtually every plan now expressly grants the administrator discretionary authority to interpret and construe the terms of the plan. (103) In functional terms, the Firestone approach thus establishes a paradigmatic legal-information-forcing rule.

Other ERISA rules reveal a similar pattern. In some circuits at least, a default rule restricts a plan sponsor's right to make unilateral changes to the terms of the plan. (104) However, plans routinely include express language permitting amendment or termination of the plan. (105) The default rule thus has no practical effect other than inducing plan sponsors to provide information about the legal rule governing plan modifications.

At a more pedestrian level, lower court cases interpreting ERISA's requirement of a summary plan description (SPD) impose several contradictory standards that are curiously unified by their confident reliance on the informative value of express contract terms. Cases falling at one end of the spectrum require employers to include in the SPD extremely specific legal facts concerning the circumstances that might lead to a benefit denial. (106) Employers who fail to provide this legal information risk having to pay participants benefits to which they would not be entitled under the terms of the formal plan. In contrast, other cases give employers much wider latitude to omit information from the SPD so long as the SPD includes an express disclaimer directing beneficiaries to consult the formal plan documents to determine their rights and obligations. (107) Under both approaches, the default rule formally favors employees but seems designed solely to induce employers to include certain legal information in their SPD. As with the Firestone rule, the universal practice of plan sponsors is to opt out of the default by providing the required information.

3. Other Disclaimers, Waivers, and Limitations of Liability

Legal-information-forcing rules are equally common outside of the employment context. We have already seen how the Hadley rule "forces" carriers and other commercial parties to include liability limitations in their contracts. (108) Many other providers of products and services employ a similar strategy of disclaimer and liability limitation. Recall, for example, your last skydiving or hang-gliding lesson. Or think about the documents you signed before participating in a whitewater rafting adventure or when you registered your child to play youth soccer, lacrosse, or football. In each of these cases, the activity sponsor faces potential tort liability for any negligently caused injuries to participants. However, courts routinely give effect to prospective waivers of liability for ordinary negligence. (109) The barrage of exculpatory clauses that greet participants in these activities is the predictable consequence of these rules. The ubiquity and enforceability of these waivers transforms at least part of the ostensibly mandatory tort rule into a legal-information-forcing default.

Similarly, the Uniform Commercial Code contemplates--and product manufacturers routinely invoke--an express formula for disclaiming the Code's default warranty of merchantability and limiting consequential damages. (110) Credit card agreements always include a variety of exculpatory clauses designed to protect the credit card issuer from liability for refusing to authorize a particular credit transaction. (111) Contracts for services such as car rental agreements contain a host of clauses that place responsibility for certain losses on the rental customer and excuse the rental company from liability. (112) Computer software end-user license agreements (EULAs) uniformly include comprehensive disclaimers of virtually every form of liability that might be imposed on the software publisher and strictly limit the purchaser to the remedy of replacing defective disks. (113) Software downloaded from the Web similarly requires prior consent to a "click-wrap" license that contains a familiar litany of exculpatory clauses. (114) Finally, online communities and web-based services demand that participants agree to an exhaustive list of liability limitations and service restrictions. (115)

The common thread that runs through all of these examples is that sophisticated contracting parties respond to legal rules favoring their contractual partners by adopting express terms that shift the balance of legal rights in their own favor. Traditional majoritarian default rule analysis would criticize these doctrines for generating unnecessary transaction costs. (116) On this view, the rules cause wasteful efforts to draft disclaimers, liability limitations, and other exculpatory clauses that appear in virtually every contract. (117) The theory of legal-information-forcing defaults provides an alternative, potentially more constructive role for these doctrines. (118) According to this perspective, the routine practice of contracting around such rules conveys valuable legal information to comparatively unsophisticated parties. (119) It remains to be seen, however, whether express contract terms successfully dispel our widespread legal ignorance.
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Title Annotation:Abstract through I. The Pervasiveness of Information-Forcing Justifications, p. 899-931
Author:Verkerke, J.H.
Publication:William and Mary Law Review
Date:Feb 1, 2015
Words:7256
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