The basic remedy for breach of a bargain contract is expectation damages, which puts the injured party in the position she would have been in if the contract had been performed. It is generally accepted that the expectation measure provides efficient incentives to a promisor. Beginning about twenty years ago, however, lawand- economics scholars developed a model of damages which showed that the expectation measure can provide inefficient incentives to a promisee. The theory is that the expectation measure insures the promisee's reliance, and may thereby cause the promisee to overrely-that is, to invest more heavily in reliance than efficiency requires.
The model upon which the theory of overreliance is based provides an important insight into the theory of contract damages. As time went on, however, law-and-economics scholars started to lose sight of the fact that the model only showed that under certain conditions the expectation measure can provide inefficient incentives to promisees. Instead, they began to widely assume, explicitly or implicitly, that the expectation measure actually normally does provide inefficient incentives to promisees. The objective of this Article is to rehabilitate the expectation measure by showing that when institutional considerations are taken into account, expectation damages normally do not provide inefficient incentives to the promisee. In particular, we show that as a result of institutional considerations: (1) In most cases, overreliance normally cannot occur. (2) Even in cases in which overreliance can occur, it is unlikely to occur, and in any event the expectation measure does not in fact fully insure the promisee's reliance. (3) Although the expectation measure could be modified to address the few residual problems that might remain, the costs of such a modification would almost certainly exceed the benefits. Indeed, given the limits on the manner in which expectation damages are actually determinedsuch as the requirement of certainty, the principle of Hadley v. Baxendale, and the lack of compensation for the costs of successful litigation-and the litigation risks and costs to which those limits give rise, it is likely that in practice, rather than overinvesting in reliance, which in most cases cannot or will not be done, promisees will tend to underinvest in reliance.
Melvin A. Eisenberg and Brett H. McDonnell,
Expectation Damages and the Theory of Overreliance,
54 Hastings L.J. 1335
Available at: https://repository.uchastings.edu/hastings_law_journal/vol54/iss5/2