Risk, Security and Robust Solutions

The aim of this paper is to develop a decision-theoretic approach to security management of uncertain multi-agent systems. Security is defined as the ability to deal with intentional and unintentional threats generated by agents. The main concern of the paper is the protection of public goods from these threats allowing explicit treatment of inherent uncertainties and robust security management solutions. The paper shows that robust solutions can be properly designed by new stochastic optimization tools applicable for multicriteria problems with uncertain probability distributions and multivariate extreme events

Property\u27s Morale

A foundational argument long invoked to justify stable property rights is that property law must protect settled expectations. Respect for expectations unites otherwise disparate strands of property theory focused on ex ante incentives, individual identity, and community. It also privileges resistance to legal transitions that transgress reliance interests. When changes in law unsettle expectations, such changes are thought to generate disincentives that Frank Michelman famously labeled demoralization costs. Although rarely approached in these terms, arguments for legal certainty reflect underlying psychological assumptions about how people contemplate property rights when choosing whether and how to work, invest, create, bolster identity, join a community, and make other decisions at property’s core. More precisely, demoralization is predicated on a kind of paralysis flowing from anxieties about instability, unfair singling out, and majoritarian expropriation that can be sparked in legal transitions. This prevailing psychological portrait of expectations has considerable intuitive appeal and is widely influential. It is, however, distinctly incomplete. This Article offers an alternative picture of the expectations with which people approach property and the corresponding anxieties that might cause people to hesitate. From this perspective, stability is less important than assurances that the legal system will respond when external forces threaten to overwhelm the value owners create, that it will provide a fair process of adjustment over time, and that it will ensure inclusion. In short, property law can offer morale benefits that are every bit as critical as demoralization costs. Property theory and doctrine often juxtapose ex ante certainty against ex post flexibility; however, a morale lens underscores that legal transitions can signal responsiveness as easily as instability. Doctrinally, this understanding recalibrates property law’s approach to expectation. Normatively, property’s largely ignored, but absolutely vital, morale function provides a framework for understanding how the legal system can buoy confidence in greater balance, fostering all of the work with which property is so rightly associated

Economic Analysis of International Law

In this Article, Professors Dunoff and Trachtman explore the potential utility and limitations of economic analysis of international law. To date, the law and economics revolution has largely bypassed international law. The Article identifies the three reasons why international lawyers have not extensively used economic analysis and explains why none of these reasons is persuasive. Second, the Article provides a reason to believe that economic analysis will enrich our understanding of international law by detailing an analogy between the market of international relations and traditional markets for goods. Subsequent parts explore the applicability of economic analysis to three important international law topics: the allocation of prescriptive jurisdiction, the law of treaties, and the competences of international organizations. In each of these parts, the authors analogize the international legal issue to a domestic legal issue, and then explore whether the economic methodologies that have been used domestically can be used on the international plane. They further identify certain methodologies, such as the new institutional economics and public choice theory, as having much greater promise in international legal analysis than other economic approaches, including price theory (when employed without reference to transaction costs and strategic considerations). Next, the Article outlines some of the conceptual and practical difficulties associated with economic analysis of international law. Finally, the Article outlines a progressive research program in the economic analysis of international law. The Article\u27s larger purpose is to stimulate inquiry into the utility of applying various forms of economic analysis to international legal issues and, in so doing, to enrich international legal discourse and scholarship

Uniqueness Conditions for Point-Rationalizable

The unique point-rationalizable solution of a game is the unique Nash equilibrium. However, this solution has the additional advantage that it can be justified by the epistemic assumption that it is Common Knowledge of the players that only best responses are chosen. Thus, games with a unique point-rationalizable solution allow for a plausible explanation of equilibrium play in one-shot strategic situations, and it is therefore desireable to identify such games. In order to derive sufficient and necessary conditions for unique point-rationalizable solutions this paper adopts and generalizes the contraction-property approach of Moulin (1984) and of Bernheim (1984). Uniqueness results obtained in this paper are derived under fairly general assumptions such as games with arbitrary metrizable strategy sets and are especially useful for complete and bounded, for compact, as well as for finite strategy sets. As a mathematical side result existence of a unique fixed point is proved under conditions that generalize a fixed point theorem due to Edelstein (1962).

Economic Instruments and Induced Innovation: The Case of End-of-Life Vehicles European Policies

The paper addresses the dynamic-incentive effect of environmental policy instruments when innovation is uncertain and occurs in very complex industrial subsystems. The case of end-of-life vehicles (ELVs) is considered focusing predominantly on the effects of the European Directive adopted in 2000 which stipulated economic instruments as free take-back, and on the voluntary agreements in place in many EU countries. The ELV case study is an example of a framework where policy-making faces an intrinsic dynamic and systemic environment. Coherent sequences of single innovations taking place in both upstream (car making) and downstream (car recycling/recovery) of the ELV system can give rise to different “innovation paths”, in accordance with cost-benefit considerations, technological options and capabilities associated to the different industrial actors involved. The impact of economic instruments on innovation paths, in particular free take-back, is considered. Deficiencies or difficulties concerning the transmission of incentives between different industries can prevent the creation of new recycling/recovery/reuse markets, giving rise to other less preferable and unexpected outcomes. The implication for policy is a need for an integrated policy approach, as enforceable VAs, in order to create a shared interindustry interest for innovation and to reduce the possible adverse effects which economic instruments exert on innovation through cost benefit impacts on key industrial and waste-related agents involved in the ELV management system. These advantages should be taken into account vis à vis the emergence of Integrated Product Policy (IPP) as a leading concept of EU environmental policy and the associated shift from "extended producer responsibility" to "extended product responsibility".ELV, Induced innovation, Dynamic efficiency, Economic instruments, Recycling

Conflict and Cooperation in Long-Term Contracts

This Article uses the techniques of modern decision analysis and game theory to analyze the decisionmaking strategies of parties to long-term commercial contracts. Most parties to long-term contracts initially allocate the risks of future contingencies and agree – either explicitly or implicitly – to adjust this initial risk-allocation scheme if unanticipated events occur. Once contract risks are initially distributed, however, each party\u27s self-interest may compel them to evade their responsibility rather than adjust cooperatively as originally agreed. Visualizing the interactions between contracting parties as an iterated prisoner\u27s dilemma, the Author attempts to clarify the dynamics of this adjustment process. Professor Scott employs a game theoretic model to demonstrate that two polar behavioral patterns – either conflict or cooperation – would dominate if parties were unable to bargain over adjustment. However, this choice may not occur, he suggests, because even parties that are precluded from negotiating each adjustment option, nevertheless can communicate their intentions to each other. Under these conditions, a cooperative equilibrium will emerge so long as one of the parties commits to a strategy of conditional cooperation before the first adjustment is necessary. Professor Scott notes that in more realistic contractual situations, some breakdowns in patterns of mutual cooperation are inevitable. In actual contract settings, substantial problems of information and enforcement may threaten the parties\u27 efforts to realize a cooperative equilibrium. Nevertheless, he concludes that parties in continuing relationships can invoke various legal and extralegal mechanisms to reduce these information and enforcement deficits and strengthen the existing matrix of social and contractual norms

Legislative Threats

The Article presents a theory of legislative threats that pierces the fundamental concept of the legal system as a regulatory institution and more generally as a mechanism of social governance. It examines ten case studies that demonstrate the use of legislative threats in diverse areas of law and social policy. Conceptually, legislative threats encompass a variety of threats that legislators exert on firms and financial institutions, organizations and institutional shareholders, professions and industrial sectors, universities and public institutions, federal agencies, and possibly even U.S. states, according to which legislators will exercise their legislative mandate and enact adverse legislation in order to regulate the conduct or condition in question, unless the recipients of the threat alter their behavior so as to bring it in line with the legislators’ demands (Implicit in the threat is the inverse promise that the legislators will forgo the threatened legislation if, and only if the recipients of the threat comply with the demands). The Article also offers an analytic taxonomy of threats that includes explicit, implicit, and anticipatory legislative threats. Using non-cooperative game-theory, the Article models the strategic interaction between legislators and threat-recipients and generates predictions concerning the inducement effect of legislative threats on behavior. Specifically, the analysis considers conditions that may render threats credible, including (i) legislators’ pre-game commitment; (ii) legislators’ reputation; and (iii) legislators’ emotional motivations. The analysis also examines (i) the effects of the probabilistic nature of legislative threats; (ii) the effects of imperfect and asymmetric information on the threat’s inducement effects; (iii) the effects of legislative threats on the properties of regulatory bargaining in the shadow of the threat (e.g., the magnitude of transaction costs, information revelation, and degree of contractual incompleteness); and (iv) the effects of strategic interaction within homogenous and heterogeneous as well as organized and unorganized groups on threat-induced compliance. The Article considers the effects of legislative threats on (i) social control efficacy and (ii) democratic and constitutional legitimacy. To that end, the analysis highlights functional and institutional considerations pertaining, respectively, to the comparative capacity of legislative threats to effectively control behavior in an increasingly-complex and information-intensive social reality; and to various political, constitutional, and democratic implications arising from the use of legislative threats. Functional considerations include: (i) the asymmetric information of social planners and its effects on social control; (ii) the superiority of threat-induced self-regulation of conduct compared with “top down” regulation of conduct; (iii) the capacity of threat-induced self-regulation to accommodate rapidly-changing demands of social control; and (iv) the effects of threat-induced self-regulation on reducing the costs of law enforcement. In this respect, the analysis advances the following claim: legislative threats can be viewed as a spontaneous response to the institutionally-handicapped position of lawmakers and to the limits of the law in effectively controlling social activities; to that end, legislative threats are designed to reduce information and transaction costs of policy-making and regulatory bargaining. Institutional considerations encompass ways in which the use of legislative threats enables legislators and regulators to evade procedural safeguards, institutional constraints, and substantive controls designed to limit the power to make law and effect policy changes. These considerations are based upon the following observations: (i) using legislative threats, legislators opt-out of the “rules of the game,” disenfranchise fellow legislators, and are therefore able to effect policy changes notwithstanding a possible lack of majoritarian support; (ii) legislative threats disenfranchise the executive branch by preventing a possible presidential veto and by sidestepping the government’s role in law enforcement; (iii) legislative threats disenfranchise the states by redrawing the federal-state allocation of regulatory powers; (iv) legislative threats bypass constitutional safeguards by evading judicial review of statutes; and (v) legislative threats disenfranchise the judiciary by circumventing precedent-setting interpretation of statutes. The Article argues that notwithstanding the superior functional capacity of legislative threats to control behavior in an increasingly-complex and information-intensive society, the institutionally-unregulated and politically-unaccountable use of implicit and explicit threats poses formidable normative challenges for the most treasured attributes of American constitutional democracy. On balance, it seems that even though the benefits of legislative threats may exceed their short-term cost (thus becoming efficient in the short-term), in the long-term the reverse is true, thus suggesting that the best domain of legislative threats consists, in fact, of an empty set. For, any increase in individual well-being and aggregate social welfare—due to the improved efficacy of social control—is inevitably outweighed by a higher commensurate decrease in well-being and social welfare, reflecting in turn the toll of violating constitutional and democratic principles; the negative impact on societal stability and the disincentive on private investment; and the consequential decline in economic growth. In turn, the discussion develops a social control scheme that is rooted in the province of legislation and is designed to ensure the socially-optimal trade-off between regulatory efficacy and the toll on democratic accountability, namely: an outcome-oriented or risk-focused, deferred-implementation, contingent sunset legislation. Lastly, the Article argues that the exponential increase in the complexity of activities and the rapid changes in behavior across all social domains are two major sources of growth-driven social instability. Paradoxically, absent effective social control, the processes that drive well-developed market economies towards economic growth and social progress, may ultimately propel their economic decline, increase social instability, and lead to their gradual societal deterioration. Thus, the more advanced a society becomes the more demanding is the lawmakers’ role. Viewed from this perspective, the emergence of legislative threats—though institutionally illegitimate and socially unwarranted—demonstrates the limits of law and the severe limitations of lawmakers. Moreover, they underscore the growing incapacity of the legal system to deliver its pre-eminent promise: to maintain ordered liberty and to promote sound public policies. Viewed from an ever broader perspective, the widespread use of legislative threats demonstrates an increasing tendency towards (what I label) a second-order social control system, where legislators establish second-order rules designed to create the incentives necessary to induce entities and groups to adopt socially-desired rules of conduct. Inevitably, the trend toward second-order social control diminishes the traditionally-extensive role of the regulatory state, but increases the power of groups that, in shaping their regulatory environment, practically turn into islands of self-regulation

Noise Trading, Delegated Portfolio Management, and Economic Welfare

In 1992, turnover on the New York Stock Exchange was 48 percent. While there is no convincing theoretical prediction for assessing this number, observers may have the view that turnover is very high. The increase in turnover has been accompanied by a rise in institutional ownership. A regression of turnover on institutional ownership and real commissions per share shows that institutional ownership is still highlysignificant in explaining turnover. The available evidence is at least suggestive of a causal link between turnover and institutional control. It seems difficult to explain the level of trading activity purely on the basis of 'rational' motives for trade. The authors argue that the motive stems from a contracting problem between professional traders and their clients or employers. The contracting problem in the authors model is whether the delegated portfolio manager can convince the client/employer that inactivity was his best strategy. The difficulty is that the employer cannot distinguish "actively doing nothing" in this sense from "simply doing nothing." If the contract allows a reward for not trading, portfolio managers may simply do nothing; the contract may either attract incompetent managers or lead competent managers to shirk. If this makes it impossible to reward inactivity, and limited liability prevents punishing ex post incorrect decisions, then the optimal contract may induce trading by the portfolio manager which is simply a gamble to produce a satisfactory outcome by change. The authors call this noise trading or churning and show that the noise trade will occur in equilibrium. The paper then considers the implication of noise trading for agents welfare. Noise trading would appear to be costly for the employer since it lowers the expected rate of return on the portfolio. It will benefit hedgers; if managed portfolios earn lower rates of return, then uninformed hedgers earn higher returns. The higher return earned by the hedgers effectively reduces the cost of hedging; as a result they will trade larger amounts. In turn, this increase in volume can support a larger amount of investment by an informed fund manager. If the manager earns a smaller (percentage) return on a sufficiently increased investment, then he will be better off. The model is a general equilibrium model of portfolio management in a security market. The authors conclude that a portfolio manager will frequently find that the best investment policy is simply to hold the existing portfolio. The question is whether, in this situation, he will be able to credibly convince his client or employer that he is 'actively' doing nothing. The client may instead believe that he is simply doing nothing. He may think that the portfolio manager has not spent any effort on producing information or he has no talent. The paper describes a contractualrelationship, and its economic consequences, where actively doing nothing is indistinguishable from simply doing nothing. Ultimately it is an empirical question as to when these are indistinguishable. Designing a contractual relationship for portfolio management is to a large extent a matter of maximizing this distinction. Noise trade is a manifestation of this agency problem. Because all agents objectives are specified, the authors can examine the welfare implications of this agency problem. The example discussed shows that noise trade, by making the market more liquid, can benefit everyone. This illustrates that welfare effects can be more subtle and more complex than is allowed by standard models with exogenous noise traders.