Chapter 8
Economic arguments

Analysis in New Zealand

8.4The Law Commission recognised the relevance of economic arguments when it conducted its 1990s Review. Two New Zealand economists were commissioned to provide analysis to the Law Commission. Professors Blyth and Sharp reported to the Commission in 1995, and later published a slightly less technical version of their findings.119

8.5The authors approached their task by hypothesizing a “market for care”. Potential plaintiffs are consumers demanding services, including a satisfactory level of care in their delivery. Potential defendants supply services including the required care. The varying standards of care imposed under the law of negligence are presumed to be efficient for the purposes of analysis. Based on these parameters the authors develop hypothetical supply and demand curves and analyse which liability rule produces the lowest total costs in a range of situations including no missing defendants; with the likelihood of missing defendants; with or without a “deep pocket” such as an insurer or a territorial authority in a building case. The total costs being measured are the costs of precaution or cost of taking care, plus the sum of the possible loss if there is breach and damage.

8.6The study found, with important qualifications, that proportionate liability and joint and several liability are broadly equivalent in terms of efficiency in many expected situations. The authors found that proportionate liability is likely to be efficient:120

Proportionate liability coupled with contributory negligence, provided damages are correctly assessed and allocated according to relative fault, provides the incentive necessary for overall cost minimisation.

However joint and several liability will often be efficient:121

In the absence of uncollectible shares or deep pockets it is not clear a priori that there are important efficiency arguments in favour of proportionate liability vis-à-vis [joint and several] liability with contribution. In reaching this conclusion we have assumed that courts develop and apply rules that approximate cost-minimising standards of precaution.

Even where there is a strong possibility of uncollectable shares, joint and several liability and proportionate liability may be similar in terms of relative efficiency depending on the subsidiary rule that determines how or if the uncollected share is redistributed. The authors noted that proportionate liability with the ability to redistribute uncollected shares to other defendants is similar in terms of efficiency to joint and several liability with contribution. They also pointed out that both are consistent with the courts’ dominant concern with compensating the plaintiff – the plaintiff is fully compensated subject to any fault on their part, which is dealt with as contributory negligence.122
8.7The one situation where the authors find joint and several liability less efficient is where there is a deep pocket. They conclude that: “[joint and several] liability applied to an industry with deep pockets does not provide the incentives that produce an efficient outcome.”123  The authors reason that other potential defendants will lower their standards to inefficient levels because there is less risk that they rather than the deep pocket will face a claim. Plaintiffs may also reduce their level of care, and the deep pocket may create inefficiencies by taking unnecessary care or by withdrawing services.
8.8The authors therefore prefer proportionate liability over joint and several liability and characterise the latter as effectively insurance for plaintiffs against missing negligent defendants. They recognise that any reform must address the common law concern to compensate the injured party. Their proposed solution is that plaintiffs insure themselves against missing, negligent defendants. They speculate that this “may well be” less expensive than the cost of joint and several liability once additional precautionary costs encouraged by the risk of missing defendants are taken into account.124 They also acknowledge as a potential alternative to adopting proportionate liability that it may be possible to address circumstances in some industries that have led to deep pockets.125
8.9The authors’ final comment is instructive. They say that proportionate liability’s principal advantage, which means it contributes to economic efficiency, is that each defendant’s liability for damage is measured by and does not exceed “his or her personal responsibility” – liability is based on degree of fault, “i.e. the extent to which the actual level of care departs from the economically optimal level.”126 At first glance this appears a very attractive proposition – defendants must pay for “what they are responsible for”, and no more. There are two obvious counter-arguments however. First, the proposition runs counter to the orthodox view of causation and liability, where the defendant is liable for all the damage they have caused the plaintiff. On a simple “but for” analysis if a defendant has caused a particular harm they are liable for all of it because they are responsible for all of it. By implication, the authors may be suggesting that damages be moved from compensating for all damage caused, to punishing the assessed level of fault in each case. This would be a truly revolutionary change in legal principle.

8.10Secondly, even if the “only what the defendant is responsible for” measure is just another way of saying “their just and equitable share of the damage done, based on their actions” this outcome is an assessment not a measurement. It is unlikely, in practice, that what they are held liable for is the amount or proportion by which their level of care fell short. There is no regular or predictable link between defendants’ wrongful actions (fault) and the harms that actually occur. Given the uncertainty of assessment and the unpredictability of harm it is doubtful that the prospect of proportionate liability for failure to take care provides any better or more efficient incentive to take due care.

8.11The economic case made for proportionate liability plus insurance did not persuade the Law Commission in 1998. The Commission said:127

The Commission accepts the authors’ conclusion … that the imposition of liability upon “deeper pockets” creates economic inefficiencies because they then adopt excessive levels of care… We are not, however persuaded by the further conclusion that, where there is a “deep pocket’, the adoption of a proportionate liability rule would be economically beneficial because it would have the effect of increasing the care undertaken by the claimant. We think this is an unproven assumption. Can it really be suggested that a result of proportionate liability would be second-guessing of auditors by creditors or shareholders present or potential of a company?

8.12A more recent contribution in New Zealand has contested a number of Blyth and Sharp’s conclusions. In 2004 in a review of the relevant law and economics literature David Goddard QC and Liesle Theron concluded that there is no clear case for adopting proportionate liability in place of joint and several liability.128 They concluded that the two rules create similar incentives to take care, with neither being more or less efficient. A particular system of proportionate responsibility constructed for a particular industry or set of circumstances may provide some efficiencies, but the potential is unclear. It is likely that a particular system of joint and several liability tailored for a particular case could produce similar results, but perhaps less often or in fewer circumstances. The authors suggested that the best approach would be to allow potential defendants to limit their liability by contract or disclaimers.129
8.13Goddard and Theron suggest that Blyth and Sharp’s analysis overlooked an accepted law and economics conclusion or assumption that incentives to take care and expected care levels are not affected by errors by courts in assessing damages, unless the errors are very large and that the same is true regarding uncertainty as to quantum of damages. Effects are felt however where courts err when setting the standard of care, or there is uncertainty as to the required standard.130
8.14In terms of the risk of absent defendants, Goddard and Theron conclude that “both liability rules create incentives for parties to take the same level of care, if liability is fault-based (i.e. not strict liability) and the Court sets an efficient standard of care where the cost of precaution plus expected harm is minimised overall, for each injurer”.131 While this conclusion might seem counter-intuitive, Goddard and Theron explain it in the step change that exists for most potential defendants between sufficient care and no liability, and lack of care and liability. The incentive to avoid liability is strong and should be sufficient for most potential defendants. Other commentators have pointed out that the costs or efforts required by a potential defendant to avoid liability are identical, whether or not there is risk of insolvent co-defendants or there is a deep pocket.132 Goddard and Theron do agree that the presence of additional factors, such as solvent potential defendants who are risk averse and who expect that others may be insolvent, may lead to excessive increase in precaution.133
8.15This last point has been echoed recently regarding the New Zealand housing sector. In its report on housing affordability in New Zealand the Productivity Commission has noted that territorial authorities, as deep pockets, may have strong incentives to become risk-averse and indulge in excessive care in the shape of over-regulation and over-inspection to avoid disproportionate liability as seen in leaky homes cases.134

8.16There is therefore reasonable consensus in New Zealand that the combination of joint and several liability and a deep pocket is one situation that may lead to inefficiency. It is also the case, however, that the analysis predicts that this result is not inevitable, and inefficiencies from deep pockets can be controlled in other ways. Possibilities include encouraging deep pockets to be risk neutral rather than risk-averse. Actual methods would depend on the particular case, but ensuring clear information in advance about the required standard of care, for instance by a territorial authority with inspection responsibilities, could encourage efficient levels of care not only from the inspector/regulator but also from other participants. Others would not be inclined to be careless and let the regulator/inspector take up the slack if it is clear that the regulator will most likely have taken care and not be liable.

119C A Blyth and B M H Sharp “Solidary and Proportionate Liability: an Economic Analysis” (Unpublished paper, 1995); C A Blyth and B M H Sharp “The Rules of Liability and the Economics of Care” (1996) 26 VUWLR at 91.
120Blyth and Sharp “The Rules of Liability and the Economics of Care”, above n 119 at 107.
121Blyth and Sharp “Solidary and Proportionate Liability” above n 119 at 30.
122Blyth and Sharp “Solidary and Proportionate Liability” above n 119 at 30.
123Blyth and Sharp “The Rules of Liability and the Economics of Care”, above n 119 at 107.
124Blyth and Sharp “Solidary and Proportionate Liability” above n 119 at 31.
125Blyth and Sharp “The Rules of Liability and the Economics of Care”, above n 119 at 108.
126Blyth and Sharp “Solidary and Proportionate Liability” above n 119 at 31; Blyth and Sharp “The Rules of Liability and the Economics of Care”, above n 119 at 108.
127Apportionment of Civil Liability (1998), above n 4 at [4].
128D Goddard and L Theron Joint and several Liability: Literature Review (Ministry of Economic Development, Draft Memorandum, 2004).
129A more detailed summary of Goddard and Theron’s analysis is provided in the Sapere Report, Appendix 7, 134 to 135.
130See Sapere Report at 134.
131Goddard and Theron, above n 128 at [9], quoted in the Sapere Report at 135.
132M Richardson “Report on the Economics of Joint and Several Liability versus Proportionate Liability” (Victorian Attorney-General’s Law Reform Council, Expert Report 3, Melbourne, 1998).
133Goddard and Theron, above n 128 at 135.
134Housing Affordability Inquiry above n 80 at [ 9.6].