Keith N. Hylton

Boston University School of Law Working Paper 99-3


As arbitration agreements have grown in use, they have become controversial, with many critics describing them as a disguised form of waiver. This paper presents an economic analysis of waiver and arbitration agreements. I examine the conditions under which parties have an incentive to enter into these types of agreement, and their welfare implications.

I show that if parties are well informed, they will enter into waiver agreements when (and only when) litigation is socially undesirable, in the sense that the deterrence benefits provided by the threat of litigation fall short of litigation costs. Under similar conditions, they will enter into arbitration agreements when (and only when) the margin between deterrence benefits and dispute resolution costs is larger under the arbitral regime. These results suggest a presumption in favor of enforcing these agreements, especially where parties are informed. I discuss exceptions to this presumption, largely based on informational disparities. I use the theory developed here to critically examine arguments against arbitration contracts, such as the claim that these agreements inhibit the development of new law, and to suggest a positive theory of the evolving arbitration case law.

Although the focus here is on waiver and arbitration agreements, the analysis has broader implications for the literature on the social desirability of litigation. The key implication is that the answer to socially undesirable litigation is not a wholesale reduction in the amount of litigation or the number of lawyers, but an expansion of markets in waiver and arbitration agreements.

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Keith N. Hylton Contact Information
Boston University School of Law
765 Commonwealth Ave
Boston, MA 02215
(617) 353-8959

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