国际法相关参考资料：国际法的经济分析

April 20, 1998 Economic Analysis of International Law: An Invitation and a Caveat Jeffrey L. Dunoff* Joel P. Trachtman** Introduction Richard Posner wrote in 1986 that the law and economics movement is “perhaps the most important development in legal thought in the last quarter century.”0 Through its application of economic theories and methodologies to legal issues, this movement has revolutionized our understanding of many areas of common law and statutory regulation. Curiously, however, the law and economics revolution has, with few exceptions (see the Appendix), bypassed international law,1 perhaps for some of the same reasons that realist political scientists ignore international law, or perhaps because of a concern that economic analysis is somehow less useful in the international context than in the domestic context. The purpose of this paper is to begin an inquiry into the actual and potential application of law and economics to international law. With the rejection of both natural law theory and state-centered positivism as sources of * Visiting Fellow at the Woodrow Wilson School of International Affairs and Associate Professor of Law, Temple University School of Law. ** Professor of International Law, The Fletcher School of Law and Diplomacy. Portions of this article were presented at the Harvard Law School Graduate Legal Studies Thesis Writing Workshop, the 1996 Conference of the American Society of International Law International Economic Law Group, the Harvard Law School Research Workshop on the World Trading System and the George Mason University Conference on the Economic Analysis of International Law. We are grateful for comments from participants. We are also grateful for guidance on these subjects, and in some cases comments on earlier drafts, from Ken Abbott, Jeff Atik, Dan Farber, David Kennedy, David Skeel, Paul Stephan, Al Sykes [others], but we retain full responsibility for this paper. Prof. Dunoff’s research for this project was supported by a summer research grant awarded by Temple University School of Law. 0 RICHARD A. POSNER, ECONOMIC ANALYSIS OF LAW xix (1986). 1 But see ECONOMIC DIMENSIONS IN INTERNATIONAL LAW: COMPARATIVE AND EMPIRICAL PERSPECTIVES (Jagdeep S. Bhandari & Alan O. Sykes, eds. 1997), and especially the introduction by Ronald A. Cass. 1 theory for international law, international lawyers seek both theory and methodology.2 As a result, international legal scholarship too often combines careful doctrinal description--here is what the law is--with unfounded prescription: here is what the law should be. This scholarship often lacks any persuasively articulated connection between description and prescription, undermining the prescription. International legal scholarship lacks a progressive research program.3 In response, several international law scholars have turned to other disciplines. Some, such as Kenneth Abbott and Anne-Marie Slaughter have led the way into international political theory, including international political economy, and have begun a thoughtful arbitrage.4 At the same time, the international political scientists were engaged in their own rationalist arbitrage, borrowing from various components of economic theory and game theory. While there are valuable tools to be borrowed from political scientists, our focus here is on the rationalist tools that are in turn largely borrowed from economics, and in several cases from law and economics. Economics is the study of rational choice. As such, it plays a leading role in evaluating the effects of rational maximizing behavior under conditions of scarcity. Economics enjoys a comparative advantage over other disciplines in rationality-based analysis, simply because this analysis is central to economics, and economics has developed this analysis extensively. The development has largely been in the mathematical realm, the so-called “blackboard economics.”5 However, at this point in the development of economics--and of international law--the more mathematical models do not seem to engage the core issues of international law. Economics as practiced by lawyer-economists often involves complex cost-benefit analysis. This approach is often useful, but has important limitations due to problems of administrability, commensurability and interpersonal comparison of utility. However, the more promising economic methodologies, in terms of their capacity to generate a progressive research program that might usefully address persistent international law problems, are not those that teach us to balance the costs and benefits of any particular policy, but 2 For one account of this search, see Anne-Marie Slaughter Burley, International Law and International Relations Theory: A Dual Agenda, 87 AM. J. INT’L L. 205 (1993). 3 See Imre Lakatos, Falsification and the Methodology of Scientific Research Programmes, in CRITICISM AND THE GROWTH OF KNOWLEDGE 91 (Imre Lakatos & Alan Musgrave eds., 1970); Jason S. Johnston, Law, Economics and Post-Realist Explanation, 24 L. & SOC' Y REV. 1217 (1990). 4 See, e.g., Kenneth W. Abbott, Modern International Relations Theory: A Prospectus for International Lawyers, 14 YALE J. INT’L L. 335 (1989); Slaughter, supra note 2. 5 See, e.g., Ronald Coase, The Institutional Structure of Production, 82 AM. ECON. REV. 713, 719 (1992): My remarks have sometimes been interpreted as implying that I am hostile to the mathematization of economic theory. This is untrue. Indeed, once we begin to uncover the real factors affecting the performance of the economic system, the complicated inter- relations between them will clearly necessitate a mathematical treatment, as in the natural sciences, and economists like myself, who write in prose, will take their bow. May this period soon come. 2 rather those that focus on the balancers: international institutions (including the general international legal system). Indeed, the threshold issue in many, if not all, international legal problems is that of institutional choice. What institution -- market, domestic legislature, adjudicatory body or international rule-making body -- ought to decide, for example, if one state’s intellectual property standards are too low, or another’s environmental standards are too high? The answer to questions like these ought to be informed by an understanding of the relative institutional competences and capacities of the various alternatives, as well as an appreciation of the strategic interactions among the various institutions. We believe that economic analysis may be able to shed substantial light on precisely these sorts of inquiries. Significantly, this form of analysis is not limited to questions of wealth maximization. As we note below, if economic analysis were limited to wealth maximization, this would be reason alone to reject, or at least sharply limit the domain of, economic analysis of law. In fact, the extension of economic analysis to fields beyond traditional markets requires economics to revise its approach to maximize additional values, or more accurately, to maximize multiple values simultaneously. In this sense, the insights generated by the intersection of international law and law and economics run in two directions: just as economic analysis can deepen our understanding of international law, the application of law and economics to the unique features of the international system helps identify the uses and limitations of economic analysis. To develop this thesis, this paper proceeds in seven parts. In Part I, we identify three reasons why international lawyers have not, to date, extensively used economic analysis, and demonstrate that none of these reasons is persuasive. This, “negative” argument does not, of course, establish that international lawyers should use economic analysis. In Part II, we provide a reason to believe that economic analysis will enrich our understanding of international law by outlining the analogy between the market of international relations and traditional markets for goods. While others have alluded to this analogy before, we provide a typology of the ways in which “transactions” in international relations resemble market interactions. Those who reject the analogy between international relations and private markets need not reject the economic analysis of international law. In the next three parts of the article, we test the hypothesis that economic analysis will be useful in understanding international law topics that are similar to domestic law topics where economic analysis has been fruitful. Thus, parts III, IV and V 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 section, we analogize the international legal issue to a domestic legal issue, and then explore whether the economic methodologies that have been useful domestically can be used on the international plane. Thus, in Part III, we outline an analogy between prescriptive jurisdiction and property, and then apply transaction cost economics and economic analysis regarding the design and protection of entitlements to jurisdictional issues. In Part IV, we outline the analogy between treaties and contracts, and explore whether the efficient breach hypothesis and the game theoretic analysis of default rules illuminate our understanding of treaty law. In Part V, we analogize international organizations to business firms, and examine whether the theory of the firm can inform current debates over international organizations. To anticipate our conclusions, we will identify certain methodologies included in the new institutional economics and in the public choice branch of economics, such as game theory and transaction cost economics, as having much greater promise than other economic approaches, including price theory used without reference to transaction costs and strategic considerations. Of course, like all theoretical approaches, economic analysis has its limitations. In Part VI we outline some of the problems associated with this type of analysis. Some of these problems are 3 also present, although not as starkly, in the economic analysis of domestic law. Other difficulties arise from the particular features of the international legal system. We believe that our identification of these difficulties can inform a research agenda to further our understanding of the appropriate domain of economic analysis of law. Finally, in Part VII, we briefly set forth some ideas about a future research program. We provide, in an Appendix, a bibliography of articles that use economic tools to analyze international legal issues. We emphasize that our analysis and examples are intended to be illustrative and suggestive rather than exhaustive. We by no means attempt to explore every international legal issue that can be informed by economic analysis, or to apply every possible economic methodology to the international legal problems we do address. Instead, the paper represents an "invitation": we hope to stimulate a series of inquiries into the utility of different forms of economic analysis to analyze a variety of international legal norms and institutions, and, in so doing, to enrich international legal discourse and scholarship. I. Why Have International Lawyers Avoided Law and Economics? While there may be many explanations for why international legal scholars have not participated in the law and economics ("L&E") revolution, we believe that many international lawyers would identify at least one of the following three concerns: (1) L&E’s seemingly inaccessible methodologies; (2) L&E’s supposedly conservative political prejudices; and (3) L&E’s positivism and its presumed denigration of international law. However, we believe that each of these concerns rests upon a misunderstanding of relevant law and economics methodologies. In this section, we try to clear up the confusions underlying each of these objections, and to explain why they provide no rationale for declining to investigate whether L&E methodologies can illuminate international legal problems.6 A. Inaccessible Methodologies As George Stigler explains, there are two roles that economics may play in law. The first, traditional, role of economics is to answer particular questions. For example, economics can speak to the question of market definition in antitrust or anti-dumping, or to the question of whether two products are “like,” with the result that discrimination between them is prohibited,7 by reference to cross-elasticities of demand. In this first role, economic analysis supplies inputs to a legal rule. We might refer to this role as "economic analysis in law." This role, which requires the full tools of the professional economist, and can be undertaken without any help from lawyers, is not the focus of our paper. “A second, more controversial role for economics is in the study of legal institutions and 6 In Part VI, infra, we identify more serious difficulties associated with the economic analysis of international legal issues. 7 E.g., under art. III of GATT, The General Agreement on Tariffs and Trade, Final Act Embodying the Results of the Uruguay round of Multilateral Trade Negotiations (Marrakesh, as signed on April 15, 1994), reprinted in H.R. Doc. No. 316, 103d Cong., 2d Sess. 1381 (1994) (“GATT”). 4 doctrines.”8 This is "economic analysis of law," and is the domain we explore below. Many of us are uncomfortable with economics, both because we distrust its theory and methodology, and, more embarrassingly, because we are uncertain that we have the quantitative or other skills needed to use these tools. Complex graphs, charts and multivariable equations do not often appear to be particularly inviting to those trained in the law. However, it does not appear that these tools are necessary for all types of economic analysis of law, and in fact, the highly mathematical formal analysis that economists often use has, to date, shed little light on the issues that most interest international lawyers. Many of the most relevant and useful tools of analysis for our issues do not require great mathematical skill. International legal scholars should find few obstacles to the use of the new institutional economics. “Modern institutional economics is economics as it ought to be.”9 New institutional economics seeks to integrate neo-classical economics, which has concentrated on the workings of the price system (in fields amenable to pricing), with institutional analysis. Institutions, by definition, are entities in which decisions are made outside the formal price system. In order to study institutions, it is necessary to add consideration of the cost of transactions (transaction costs) and of the effects of strategic behavior (game theory); both are areas that international lawyers are already familiar with. In brief, new institutional economics incorporates price theory, transaction cost economizing and game theory.10 It incorporates, and is also incorporated in, economic analysis of property rights,11 public choice theory12 and positive political economy.13 A primary tool of this approach is comparative institutional analysis14 -- a form of analysis already at the heart of much 8 George Stigler, Law or Economics?, 35 J.L.& ECON. 455, 467 (1992). See also Guido Calabresi, The New Economic Analysis of Law: Scholarship, Sophistry, or Self-Indulgence, 68 PROC. BRIT. ACAD. (1982). 9 Ronald Coase, The New Institutional Economics, 140 J. INST. & THEO. ECON. 229, 231 (1984). 10 See, e.g., Douglass C. North, The New Institutional Economics, 142 J. INST. & THEO. ECON. 230 (1986). 11 See YORAM BARZEL, ECONOMIC ANALYSIS OF PROPERTY RIGHTS (1997). 12 See, e.g., DENNIS MUELLER, PUBLIC CHOICE II (1979); MAXWELL STEARNS, PUBLIC CHOICE AND PUBLIC LAW: READINGS AND COMMENTARY (1996). 13 See, e.g., Daniel A. Farber and Philip P. Frickey, Positive Political Theory in the Nineties, 80 GEO. L.J. 457 (1992). 14 See, e.g., Ronald Coase, The New Institutional Economics, 140 J. INST. & THEO. ECON. 229 (1984); Bruno S. Frey, Institutions Matter: The Comparative Analysis of Institutions, 34 EUR. ECON REV. 443 (1990); NEIL KOMESAR, IMPERFECT ALTERNATIVES: CHOOSING INSTITUTIONS IN LAW, ECONOMICS AND PUBLIC POLICY (1994); Douglass North, Institutions, Transaction Costs and 5 international legal scholarship. In fact, like Moliere’s Bourgeois Gentilhomme, international lawyers may find to their surprise that they have always spoken new institutional economics, as one of our principal tools of analysis is comparison. On the other hand, we would not be writing this paper if we did not feel that the new institutional economics offers substantial counterintuitive insights. B. Political Prejudices and the Subordination of Non-Economic Values Much criticism of economic analysis on the domestic level focuses on the alleged political biases inherent in this form of analysis.15 Thus, critics have objected to economics’ alleged commitment to laissez-faire economic policy, or supposed ideological allegiance to libertarian or conservative political positions. Stated most broadly, economic analysis is often dismissed as providing an ideological justification for the unconsidered rejection of government intervention. Similarly, economic analysis may be rejected for its supposed elevation of the market, and the economic values that are maximized in market settings, at the expense of other important values. This argument would suggest that economic analysis cannot adequately account for difficult to quantify or incommensurable social values, and necessarily devalues or subordinates those values to economic values. Again, however, we believe that these related objections do not fatally undermine efforts to apply all L&E methodologies to international legal issues. First, the methodologies that we find most promising do not have a “bias” against government regulation and/or in favor of the market. Rather, the methodologies we focus on presupppose the potential validity -- both the legitimacy and the efficiency -- of government processes.16 Contrary to the claims of the critics, in the methodologies we focus on “neither market nor nonmarket forms of organization are primary.”17 Instead, under this understanding, legislation -- no less than the market -- is a mechanism for preference revelation. However, both the market and the law (the state) are imperfect as such mechanisms. The methologies we explore take as central (and open) the question of which Economic Growth 25 ECON. INQUIRY 419 (1987); Douglass North, The New Institutional Economics, 142 J. INST. & THEORETICAL ECON. 230 (1986); Oliver Williamson, Comparative Economic Organization: The Analysis of Discrete Structural Alternatives, 36 ADMIN. SCI. Q. 219 (1994). 15 Scholars from across the political spectrum share this view. See, e.g, George J. Stigler, The Politics of Political Economists, in ESSAYS IN THE HISTORY OF ECONOMICS 51, 52 (1965) (“the professional study of economics makes one politically conservative”); Morton J. Horowitz, Law and Economics: Science or Politics?, 8 HOFSTRA L. REV. 905 (1980) (same). We understand this to be a claim that economists tend to support decentralized markets over other institutions. See Russell Hardin, Magic on the Frontier: The Norm of Efficiency, 144 U. PA. L. REV. 1987, 2014 (1996). As explained more fully in text, we think this charge of conservative bias cannot fairly be levelled against the methodologies we find most promising. 16 See DONALD WITTMAN, THE MYTH OF DEMOCRATIC FAILURE (1995). 17 Guido Calabresi, The Pointlessness of Pareto: Carrying Coase Further, 100 YALE L.J. 1211, 1214 (1991). 6 “institution,” including potentially the market, ought to be used in any particular context. To be sure, the government processes that might be used are not necessarily efficient in monetary or monetized terms: they might not pass a cost-benefit analysis that has regard only for monetary or monetized benefits. But this cannot be the measure of validity, as there are many values that are not readily monetizable, but are worthy of expression, either in private conduct or in political action.18 They are also worthy of being traded for monetary or monetized values, and such “trade” is presumptively efficient. We emphasize these points to reach out to those who reject law and economics as politically doctrinaire or ignorant of non-monetized values, and we argue that any dogma or ignorance is a political prejudice that is not necessitated by economic analysis itself. While we believe, as explained below, that L&E analysis has much to say about questions of institutional choice, the actual decisions are, of course, made through political processes. It is in this sense that politics is the leading mechanism, as it still retains kompetenz-kompetenz to determine the border between its domain and that of the market, and the methods we examine do not question this priority of the political over the economic. C. Positivism and the Denigration of International Law A fundamental tenet of law and economics is its positivism, meaning its emphasis on empiricism and analysis of the world as it is, as opposed to a “normative” perspective on the world as it should be. The line between positive and normative economics is often unclear, as positive analysis is often motivated by or used to support a normative critique.19 While positivism is the sine qua non of social science, international lawyers have long done battle with a brand of international legal theory that is called positivist. Many international lawyers criticize this international legal positivist approach, as it tends to be skeptical of the effectiveness of international law, and has often enshrined state sovereignty as a kind of summum bonum. Those critical of international legal positivism might see little reason to expect economic positivist methodologies to illuminate international legal issues. Again, however, we think this objection to the use of L&E methodologies lacks force. In particular, it confuses the positivism of law and economics with other forms of positivism. To the extent that international lawyers confront positivism, it is often in the context of the Westphalian20 positivist view of the world: a world of billiard ball states that interact only with one 18 “Maximum national income, however, is not the only goal of our nation as judged by policies adopted by our government--and government’s goals as revealed by actual practice are more authoritative than those pronounced by professors of law or economics.” Stigler, supra note 9, at 459. See also AVINASH DIXIT, THE MAKING OF ECONOMIC POLICY: A TRANSACTION-COST POLITICS PERSPECTIVE (1996). 19 See Daniel A. Farber, Positive Theory as Normative Critique, 68 S. CAL. L. REV. 1565 (1995). Indeed, many deny a strong distinction between positive and normative discourse, arguing that a strong distinction takes inadequate account of the relationship between the observer and the observation. See, e.g., ROGER TRIGG, UNDERSTANDING SOCIAL SCIENCE: A PHILOSOPHICAL INTRODUCTION TO THE SOCIAL SCIENCES (1985) 20 Leo Gross, The Peace of Westphalia, 1648-1948, 42 AM. J. INT' L L. 20 (1948) 7 another. Moreover, this Westphalian positivist view is often associated with the dominant anarchic, self-styled “realist” perspective on international relations that holds that these states are not bound by law, as they themselves maintain a monopoly on coercive force. However, this perspective is neither truly realist nor truly positivist. This is why many international lawyers and international legal scholars reject the Westphalian positivist model. They argue that the model either ignores -- or cannot explain -- many of the most important phenomena on the international legal scene, including the rise of non- state actors, the importance and, at times, relative independence, of international organizations, and the binding force of international law. Thus, there is little room in Westphalian positivism for binding treaties to allocate regulatory authority, or for the pooling of regulatory authority in international organizations. In this model, these agreements only last as long as the short-term interests that motivated them; they are epiphenomenal to the power and interest equation that explains egotistical state action of the moment.21 There is little room for the incursions on sovereignty experienced in the European Union, or for the strengthened dispute resolution of the World Trade Organization (“WTO”), or for many of the other institutions that constitute the core of what international lawyers do and study. In this sense, international lawyers rightly understand positivism to turn a blind eye to precisely those phenomena that interest them the most. But “positivism” has different meanings in different disciplines, and the positivism of L&E is very different from the positivism associated with Westphalian realism. While Westphalian positivism is state centric, L&E positivism rests upon methodological individualism.22 Methodological individualism assumes that each person is in charge of his or her own utility function and is a rational evaluative maximizer.23 It posits no values other than that of individual choice. Methodological individualism, otherwise known as consumer sovereignty (perhaps more felicitously termed “individual sovereignty” in a world in which markets are not the sole forum for revelation of preferences), is a cosmopolitan concept that stands in opposition to the state sovereignty erected by Westphalian positivism. Methodological individualism easily lends itself to contractarian approaches to issues involving cooperation and/or conflict. Analogizing from the domestic to the international, the 21 See James E. Alt & Lisa L. Martin, Contracting and the Possibility of Multilateral Enforcement, 150 J. INST. & THEO. ECON. 265 (1994): In a Realist framework, institutions have no power to bind states or even significantly change the constraints in which they operate. . . . Hegemonic stability theory would predict that institutions will only be stable and effective as long as the distribution of power underlying their construction remains stable. Id. at 265-66. 22 See, e.g., JAMES M. BUCHANAN, EXPLORATIONS INTO CONSTITUTIONAL ECONOMICS (1989). 23 Although economists and other social scientists are studying the limits and domain of this assumption, it still provides the basis for most models. This rationalism entails self-interest, although neither the definition of “self” nor the definition of “interest” is uncontested. Rather, self- interest is being re-examined, to accommodate behavior that seems or is normative, altruistic or self-abnegating. 8 positivism associated with economic analysis easily lends itself to treaty-based or institutional responses to international issues involving cooperation and/or conflict. For this reason, the positivism associated with economic analysis tends to highlight -- rather than ignore -- the treaties, institutions and other international legal phenomena that are most interesting to international legal scholars.24 In short, the most common reasons advanced for not exploring whether L&E might enrich our understanding of international law are not persuasive. The L&E methodologies most likely to be useful are not terribly exotic and, in fact, have a structure and focus that should be familiar to international lawyers. In addition, these methodologies do not have a bias in favor of the market as opposed to the state, or for economic values as opposed to other values. To the contrary, these methodologies take as central and contingent the question whether market or non-market mechanisms are appropriate in any particular instance. Finally, these methodologies do not deny a role for, or the reality of, international law. Instead, they direct us towards the very phenomena that are already at the center of the international legal agenda.25 Of course, demonstrating that arguments against the use of L&E analysis lack force is not, in itself, any reason to believe that L&E analysis will be useful to international lawyers. It is to this task we now turn. II. The Structural Analogy: The Supra-Market of International Relations and Gains From Trade Before engaging in the economic analysis of international legal problems, it is useful to explore whether international legal problems have some characteristics in common with those already addressed by law and economics. While it is not necessary for our purposes that the analogy be perfect, relevant similarities facilitate the transfer of tools from the domestic sphere to the international. Hence, we outline here the argument that transactions in international relations are analogous to transactions in private markets. In subsequent sections, we outline arguments for more specific analogies between particular international legal problems and particular domestic 24 Many lawyers may also object to another attribute of law and economics’ positivism: its insistence on the distinction between things as they are and things as they ought to be, between “is” and “ought.” While there is a general epistemological critique of this form of positivism, see, e.g., TRIGG, supra note 20 (explaining widespread rejection of positivism in many social science and philosophical traditions), lawyers have advanced arguments grounded in the claim that law necessarily entails a normative dimension. As these debates have been thoroughly explored elsewhere, we do not revisit them here. See, e.g., Avery Weiner Katz, Positivism and the Separation of Law and Economics, 94 MICH. L. REV. 2229 (1996); Anthony J. Sebok, Misunderstanding Positivism, 93 MICH. L. REV. 2054 (1995); Herbert Hovenkamp, Positivism in Law and Economics, 78 CAL. L. REV. 815 (1990). 25 We do not intend these arguments as a defense of economic theory and methodology generally, including the utility of abstract modelling, the assumption of rationality and the use of the efficiency criterion. For more on these issues, see generally Milton Friedman, The Methodology of Positive Economics, in ESSAYS IN POSITIVE ECONOMICS 3 (1953). 9 legal problems.26 At its core, the relevant similarity is that international society, like any society, is a place where individual actors or groups of actors encounter one another and sometimes have occasion to cooperate, to engage in what may broadly be termed “transactions.” 27 This analogy has been developed by, inter alia, Abbott, Keohane, Krasner and Waltz. In this literature, markets are understood to arise out of the activities of individual persons or firms. These individuals seek to further their self-defined interests through the most efficacious means available. While each individual acts for himself, “[f]rom the action of like units emerges a structure that affects and constrains all of them. Once formed, a market becomes a force in itself, and a force that the consitutive units acting singly or in small numbers cannot control.”28 So too for the international system. Like economic markets, the international system is formed by the interactions of self-regarding units -- largely, but not exclusively, states. These utilitarian states interact to “overcome the deficiencies that make it impossible to consummate . . . mutually beneficial agreements.”29 Actors in each system are willing--to some extent--to relinquish autonomy in order to obtain certain benefits.30 Both the international and the domestic systems, then, are individualist in origin, spontaneously generated and unintended products of self-interested behavior.31 The assets traded in this international “market” are not goods or services per se, but assets peculiar to states: components of power. In a legal context, power is jurisdiction, including jurisdiction to prescribe, jurisdiction to adjudicate and jurisdiction to enforce. In international society, the equivalent of the market is simply the place where states interact to cooperate on particular issues--to trade in power--in order to maximize their baskets of preferences. States enter the market of international relations in order to obtain gains from exchange. For present purposes, we can understand the structure of this market as follows: Beginning from the state of nature, the first level of "trade" is that which establishes constitutional rules: rules about 26 In drawing these analogies, we do not intend to participate in larger international legal debates over appropriateness of the “domestic analogy.” See, e.g., HIDEMI SUGANAMI, THE DOMESTIC ANALOGY AND WORLD ORDER PROPOSALS (1989); Burley, supra note 2, at 239 n. 13. 27 "The most fundamental unit of analysis in economic organization theory is the transaction-- the transfer of goods or services from one individual to another." PAUL MILGROM & JOHN ROBERTS, ECONOMICS, ORGANIZATION AND MANAGEMENT 21 (1992) 28 KENNETH N. WALTZ, THEORY OF INTERNATIONAL POLITICS xxx (1979). 29 ROBERT O. KEOHANE, AFTER HEGEMONY: COOPERATION AND DISCORD IN THE WORLD POLITICAL ECONOMY 83 (1984). 30 In fact, the contractarian model is more easily applicable to the international system than to the domestic, as the international system has more viable exit options. 31 KEOHANE, supra note 30, at 83. 10 how subsequent and subordinate rules will be made. The next level of trade is that which allows departure from the state of nature: establishment of market-organizing rules of non-coercion, property rights and contract. These rules facilitate additional transactions among states. Finally, institutions can be established to constrain (positively or negatively) transaction choices in the future.32 Of course, in contexts where there are no gains from trade, there should be no trade: no cooperation, no treaty and no integration. This is implicit in price theory-based neo-classical economics. We identify below some of the sources of gains from exchange. A. Externalities and Exchange. Actions or inactions of states may have positive or negative "effects" on other states. Thus, for example, the environmental law (or deficiencies therein) in one state may be associated with adverse or beneficial effects (negative or positive externalities) in other states, for example, because the first state's law permits pollution that flows to other states. Domestic environmental laws may also "cause" adverse effects in other states by being too strict regarding the entry of foreign goods into the national market, or too lax with respect to domestic industries, resulting in competitiveness effects (pecuniary externalities). Externalization through regulation that fails to protect foreign interests, pecuniary externalization through strict regulation that has protectionist effects or through lax regulation that may be viewed as a subsidy, and subsidization itself may all be viewed as questions of prescriptive jurisdiction: which state -- or international body -- will have power to regulate which actions? These external effects may cause other states to wish to alter some of these activities, through their own regulation, or through changes in the first state's regulation. There are two main ways to do so. The first is bilateral persuasion. The second is through institutionalization. Bilateral persuasion may involve force, exchange or implicit reciprocities (either specific or diffuse);33 it occurs in the "spot market." Institutionalization involves the transfer of power over time through a treaty or an international organization. Both are transactions. However, externalization cannot be the lone touchstone for determining when local legislation must fall to integrationist goals.34 First, externalities are notoriously difficult to define.35 More importantly, the identification of externalities presupposes established property rights. That is, economists take property rights as givens, and define externalities based on the 32 For an analysis of spillovers of public goods, and the consequent market for agreement constraining or facilitating spillovers, see Albert Breton, Public Goods and the Stability of Federalism, 23 KYKLOS 882 (1970). 33 See Robert O. Keohane, Reciprocity in International Relations, 40 INT' L ORG. 1 (1986). 34 But see Jacques Leboeuf, The Economics of Federalism and the Proper Scope of the Federal Commerce Power, 31 SAN DIEGO L. REV. 555 (1994) (arguing that externalization is the appropriate touchstone). 35 Demsetz recognizes that "[e]xternality is an ambiguous concept," that includes external costs, external benefits, and non-pecuniary as well as pecuniary externalities. Harold Demsetz, Toward a Theory of Property Rights, 57 AM. ECON. REV. PAPERS AND PROCEEDINGS 347, 348 (1967). 11 effects of one person's actions on the property rights of another, although the latter may not have any legal recourse.36 But in the regulatory contexts identified above, it is precisely the scope of each state's power -- its jurisdiction -- that is at issue. This must be defined before we can properly speak of externalities.37 We might expect that "property rights develop to internalize externalities only when the gains of internalization become larger than the cost of internalization."38 Of course, the creation of such rights -- and rules regarding the allocation of jurisdiction to prescribe -- raise a host of other issues. Power and wealth are, of course, central to this process. Different distributions of power would likely produce different patterns of property rights; and these property rights then become the framework within which wealth is created and distributed.39 Economic analysis, primarily through the Coase Theorem,40 exposes the distributive ramifications, and inescapably value-laden nature, of the decision to create property rights and to “internalize” externalities.41 Moreover, to the extent that these property rights represent public goods, we might expect them to be underproduced by the market, acting alone. We return to these issues below. B. Economies of Scale and Scope Related potential sources of gains from trade are economies of scale and economies of 36 To a realist lawyer, this is a strange formulation: if the harm can be done with impunity, the property rights bundle must not include the relevant stick. This leads us to a recognition that the entire concept of externality begs the question of legal rights. Therefore, arguments that we should design legal rights to internalize externalities are circular. 37 See Joel P. Trachtman, Externalities and Extraterritoriality: The Law and Economics of Prescriptive Jurisdiction, in JAGDEEP BHANDARI & ALAN O. SYKES, ECONOMIC DIMENSIONS IN INTERNATIONAL LAW 642, 655-57 (1997) (analogizing rules of prescriptive jurisdiction in international society to rules of property in domestic society). 38 Demsetz, supra note 36, at 350. It is also plausible to expect that the costs of establishing and enforcing property rights would decline, and the benefits would increase, as population density increases. Greater functional economic integration would presumably yield similar results in the international arena. 39 KEOHANE, supra note 30, at 18. 40 For a summary of the Coase Theorem and references to further literature, see Robert D. Cooter, The Coase Theorem, in THE NEW PALGRAVE: A DICTIONARY OF ECONOMICS 457, 457-60 (1987). See also Elizabeth Hoffman & Matthew Spitzer, The Coase Theorem: Some Experimental Tests, 25 J. L. & ECON. 73 (1982); Robert D. Cooter, The Cost of Coase, 11 J. LEG. STUD. 1 (1982). 41 See BRUCE ACKERMAN, RECONSTRUCTING AMERICAN LAW 46-60 (1984). 12 scope.42 Given the increasingly global nature of society, and of problems such as environmental degradation and trade, it seems likely that there would be economies of scale, under some circumstances, in regulation of these matters.43 Economies of scale have a number of components. First, states may enjoy economies of scale in contexts where they regulate transnational actors. For example, there may be efficiencies gained through coordinated rulemaking, surveillance and enforcement activities. In the absence of these transactions, states face heightened risks of evasion, detrimental regulatory competition (which can be driven by externalization) and unnecessary regulatory disharmony, all resulting in inefficiencies.44 Second, there may be technological economies of scale, relating to equipment, acquisition of specialized skills or organization. Economies of scale may provide a motivation for integration, in order to capture these economies. Economies of scope are reductions in cost resulting from centralized production of a group of products, especially where the products share a common component.45 Once several areas of international regulation are established, economies of scope may be realized by regulating other areas. The Uruguay Round Agreements provide a good example of the utility both ex ante and ex post of expanding the subject matter of coverage. Ex ante, the expanded coverage of these Agreements allowed the grand bargain among those seeking liberalized trade in agriculture and textiles and those seeking new rules in intellectual property rights and services. Ex post, it added the possibility for cross-retaliation among these areas in WTO dispute resolution.46 Finally, economies of scale and scope may arise from increased frequency of transactions, or from longer duration of transactions. Given greater numbers of transactions in international relations, one would expect greater economies of scale. In addition, learning curve effects may, over time, give rise to economies of experience.47 42 The dividing line between externalities, on the one hand, and uncaptured economies of scale, on the other hand, is not clear. 43 Of course, the fact that it is efficient to regulate activity from a global perspective does not mean that only one regulator should exist; rather it is a problem of contracting and establishing the most efficient institutional structure in response to technical or contextual factors. A similar caveat applies with respect to "economies of scope." 44 See Joel P. Trachtman, International Regulatory Competition, Externalization and Jurisdiction, 34 HARV. INT' L L.J. 47 (1993). 45 See J. Panzar & R. Willig, Economies of Scope, 71 AM. ECON. REV. 268 (1981). 46 Ex post tradeoffs can be compared to "relational contracting" where multiple relationships give rise to greater protection against opportunism. See KEOHANE, supra note 30, at 103-104. 47 See Kenneth Arrow, Economic Welfare and the Allocation of Research for Invention, in THE RATE AND DIRECTION OF INVENTIVE ACTIVITY (R. Nelson, ed. 1981). All of these economies may be related to the phenomenon of "spillover" often considered in connection with neo-functional approaches to international integration. ERNST HAAS, BEYOND THE NATION STATE 48 (1964). 13 C. Types and Locations of Transactions in Power The new institutional economics assumes a dichotomy between transactions and institutions. But between the spot market transaction and the formal organization there exist many types of formal contracts and informal arrangements, and even the formal organization is a nexus of contracts. Thus, the supposed dichotomy is, in fact, a continuum: the boundary between the transaction and the institution is blurred.48 The metric of this continuum is the relative scope of retained individual discretion: where the individual retains greater discretion, she is closer to the pole of the market; where the individual retains less discretion--and assigns more discretion through contract or organization--she is closer to the pole of the firm.49 This continuum is translated in international economic relations to the continuum running from intergovernmentalism to integration, where integration denotes a pooling of authority. Indeed, Coase's dichotomy of firm and market may usefully be compared to Albert Hirschman's dichotomy of voice and exit.50 The main difference between the market and the firm is in the duration of relations and in how decisions are made. In the (spot) market, decisions are binary: one either enters (buy) or exits (sell). The firm entails longer-term relationships, requiring that one exercise voice. Voice is heterogeneous, including various mechanisms that may amount to selective or partial exit, such as the ability to vote out a government. D. Limits of the Structural Analogy It is not necessary to fully analogize the world of international relations to a private market to apply the tools of law and economics to the international realm. Indeed, we appreciate that the structural analogy described above has significant limitations when applied to international relations.51 Some of the limitations of the analogy are also limitations of the scope of applicability 48 See Benjamin Klein, Contracting Costs and Residual Claims: The Separation of Ownership and Control, 26 J. L. & ECON. 367, 373 (1983) ("Coase mistakenly made a sharp distinction between intrafirm and interfirm transactions, claiming that while the latter represented market contracts the former represented planned direction.”). 49 In this context, discretion means residual discretion to be exercised in the future. This formulation can be further refined. Through decentralization within the firm, the amount of individual discretion within the firm may be made to equal the amount of discretion an individual might retain outside the firm. Thus, the continuum has two parameters. The first parameter is the degree of integration into the firm (or other integration structure, including contract). The second parameter is the degree of centralization within the firm. 50 ALBERT O. HIRSCHMAN, EXIT, VOICE AND LOYALTY: RESPONSES TO DECLINE IN FIRMS, ORGANIZATIONS AND STATES (1970). See Joseph Weiler's use of this dichotomy to analyze European constitutionalization in Joseph Weiler, The Transformation of Europe 100 YALE L.J. 2403 (1991). 51 A number of the most obvious disanalogies -- say, between the role that elimination through competition plays in the economic and international political spheres -- are not discussed in text because they are less relevant to our analysis. 14 of economic analysis. We believe that these limitations of economic analysis also exist, in less obvious form, in many of the areas in which law and economics has become dominant, and develop this idea -- of a bi-directional critique -- in section VI below. 1. The Problem of Nonmonetized Exchange The international market for power is different from the market for private goods along many dimensions, some of which are discussed above. While there may well be exchange in the market of international relations, this market is not normally a cash market. Rather, it is most often a barter market, with all the difficulties and transaction costs of barter. For example, agreements within the European Community to engage in mutual recognition of regulation are a kind of barter. Similarly, all trade negotiations are essentially complex, usually multi-party, barter. Trade negotiators try to value the concessions they make and receive, but this is done in an extremely inexact manner. The fact that this market for state power is not extensively monetized does not block its economic analysis. Economists have increasingly turned their attention to the analysis of social phenomena where value is exchanged but not valued in money terms.52 While price theory-based economic analysis is rendered more difficult in nonmonetized contexts, the type of institutional analysis described in this paper does not rely on monetization, and is very similar in its application to the private firm and to the international organization. Finally, even preferences that are monetized, and money itself, may not be commensurable or fungible.53 Again, however, this is much less an argument against the institutional analysis suggested here, but an argument about the limitations of price-theory based mathematical economics. The theoretical perspective of this paper would clearly be incomplete if it failed to take all preferences into account, including both those that are easily monetized, and those subject to greater problems of commensurability.54 2. The Problem of State Rationality Another potential problem with this model is that it assumes that states are rational utility maximizers.55 While the assumption of rationality of individuals is under sustained attack, an 52 For example, the public choice analysis of politics systematically applies economic analysis to exchanges of value in the political system, and outside the normal monetized market for private goods. 53 See VIVIANA A. ZEILIZER, THE SOCIAL MEANING OF MONEY (1994); Cass R. Sunstein, Behavorial Analysis of Law, 64 U.CHI. L. REV. 1175, 1192 (1997) (arguing that money is not fungible); Herbert Hovenkamp, The Limits of Preference-Based Legal Policy, 89 NW. U. L. REV. 4 (1994). 54 We return to the problem of incommensurability in Part VI, infra. 55 While rationalist international relations theory does not attempt to explain these preferences, liberal institutionalism recognizes the need to get inside the “billiard ball,” and understand how state preferences are formed and expressed. 15 assumption of rationality may be even less acceptable as applied to states -- as suggested by the literature on social choice and public choice. Arrow and Buchanan suggest that organizations have no rationality of their own, but intermediate, imperfectly, for individuals.56 At present, we are more interested in identifying this problem than in resolving it; for present purposes, we believe that [w]hether it makes pragmatic theoretical sense to impute interests, expectations, and the other paraphernalia of coherent intelligence to an institution is neither more nor less problematic, a priori, than whether it makes sense to impute them to an individual. The pragmatic answer appears to be that the coherence of institutions varies but is sometimes substantial enough to justify viewing a collectivity as acting coherently.57 3. The Problem of Endogenous Preferences A final problem to be acknowledged here is that the structural analogy takes state preferences as exogenous. That is, state preferences are simply “given,” and then strategies are developed to maximize these preferences. But preferences depend on context, and in particular, on existing political, legal and institutional arrangements. This suggests a logical difficulty with attempts to explain legal rules or institutions as a simple aggregation of preferences; when preferences are a function of legal rules, these rules cannot, without circularity, be justified by reference to the preferences. It also suggests a dynamic element that is missing from the structural analogy. Since international institutions modify state preferences, the very preferences that might lead, in a particular context, to institutionalization may be changed by the presence of that institution. We do not seek to minimize these theoretical difficulties. However, while these problems are worthy of sustained analysis, and receive further attention below, they do not fatally undermine the effort to apply economic analysis to international legal phenomena. Thus, we turn to an economic analysis of three particular international legal issues: jurisdiction to prescribe, the rules of treaty, and international organizations. I. Jurisdiction to Prescribe and Property Rights The discussion above implicitly analogizes (domestic) property to (international prescriptive) jurisdiction. In this section, we pursue this analogy; in particular we explore whether law and economics methodologies that have proven useful in the analysis of property law can be usefully applied to questions of international jurisdiction. Economists often refer to property rights as the “ability to enjoy a piece of property,” or “the individual’s ability to directly consume the services of the asset, or to consume it indirectly 56 See, e.g., KENNETH ARROW, SOCIAL CHOICE AND INDIVIDUAL VALUES (1951); JAMES M. BUCHANAN, EXPLORATIONS INTO CONSTITUTIONAL ECONOMICS (1989). 57 James G. March & Johan P. Olsen, The New Institutionalism: Organizational Factors in Political Life, 78 AM. POLIT. SCI. REV. 734, 739 (1984). 16 through exchange,” in contrast to the “bundle of rights” approach more often used by lawyers.58 From an economic perspective, the legal recognition of property interests is viewed as a means for the protection of the economic value of property. More importantly, the economic conception of property is broader than the legal conception, encompassing those interests in property that arise by non-legal custom or comity.59 While neo-classical economics, based on price theory, has often limited itself to the study of market transactions, the initial establishment of property rights is a meta-market phenomenon, and is in a general sense, pre-transactional.60 In this sense, property rights form a substructure on which further transactions may be built; transactions then are exchanges of property rights. Recall our analogy to prescriptive jurisdiction: in the world of prescriptive jurisdiction, custom, treaty or other international legislation would form the substructure on which further transactions in prescriptive jurisdiction could be built. These further transactions might themselves also be effected through treaties or other devices. A. Transaction Cost Economics Prior to Coase, economics presumed property rights, but did not analyze them. Coase revolutionized our thinking about assignments of property rights.61 While Coase showed that under zero transaction costs, the allocation of property rights does not affect efficiency, under positive transaction costs -- the world as it is -- it is appropriate to consider the design of property rights, and rules of prescriptive jurisdiction. Often, law and economics scholars call simply for clear property rights, as often, international legal scholars call for clarification of international legal rules regulating prescriptive jurisdiction. But these calls are often based either on a misreading of the Coase Theorem, or on an assumption that clarity invariably minimizes transaction costs. 58 For more on the “bundle of rights” approach to property, see, e.g., J.E. Penner, The “Bundle of Rights” Picture of Property, 43 U.C.L.A. L. REV. 711 (1996); Thomas C. Grey, The Disintegration of Property, 22 NOMOS 69 (1980). See also BARZEL, supra note 19, at 90. The classic articulation of this conception of property remains A.M Honore, Ownership, in OXFORD ESSAYS IN JURISPRUDENCE 107 (A.G. Guest ed., 1961) (identifying standard bundle of rights that constitutes ownership of property). 59 See ROBERT C. ELLICKSON, ORDER WITHOUT LAW (1991). A broader point is that either of these concepts can be made to include not only traditional property rights, but also tort, contract and regulatory assignments of rights. In fact, the better way to describe the domestic analog of prescriptive jurisdiction is in terms of "entitlements," in the sense used by Calabresi and Melamed. Guido Calabresi and A. Douglas Melamed, Property Rules, Liability Rules, and Inalienability: One View of the Cathedral, 85 HARV. L. REV. 1089, 1090 (1972). 60 Demsetz, supra note 36. On the other hand, beginning from a state of nature, or in circumstances where property rights have not been developed, they may themselves be formulated as part of an exchange: "you recognize my exclusive rights to harvest the field that I cultivate, and I will not take game from the traps that you set." This type of exchange may be generalized to form part of a "social contract," and may result in property law. See Barzel, supra note 19, at 85- 104. 61 For more on the Coase Theorem, see sources cited in note 41, supra. 17 However, it is not necessarily true that clarity always solves the problem of property rights. For example, even “clear” property rules may inappropriately distribute the “bundle of rights,” leading to an inefficient underuse of resources;62 in other contexts, “muddy” rules may be appropriate even in the absence of high transaction costs.63 Similarly, it is not clear that clarity solves the problem of jurisdiction. Clarity is thought to reduce transaction costs. But the simple minimization of transaction costs is an inappropriate goal; this perspective is incomplete without examining transaction gains.64 Moreover, the transaction gain component is also incomplete without considering those gains in net terms: subtracting transaction losses (including opportunity costs) from transaction gains.65 Thus, when there are opportunity costs, including "interdependence costs,"66 associated with agreed allocation of authority, or international organization, these must enter the calculation.67 While clarity is not necessarily the solution, we can formulate a rough guide to identifying solutions in particular circumstances. The most efficient rule of prescriptive jurisdiction will maximize the sum of (x) efficiency gains from allocation or reallocation to the state that values the right to exercise jurisdiction the most, and (y) transaction costs of such allocation and of reallocation following from an initial allocation to a state other than that which values the jurisdiction the most. Of course, this equation raises tremendous problems of evaluation, commensurability and interpersonal comparison of utility. 62 Michael A. Heller, The Tragedy of the Anticommons: Property in the Transition from Marx to Markets, 111 HARV. L. REV. 621 (1998) (clear rules that disaggregate traditional bundle of ownership rights render effective use of property nearly impossible in some economies in transition). 63 Carol Rose, Crystals and Mud in Property Law, 40 STAN. L. REV. 577 (1988). 64 Komesar, supra note 15. 65 "The more divergent national policies are to begin with, the greater the costs of co-operation. Nonetheless, where these costs are outweighed by the interest in reducing negative policy externalities, international policy co-ordination can help governments reach an optimal balance between increased market access and the maintenance of regulatory standards." Andrew Moravcsik, Preferences and Power in the European Community: A Liberal Intergovernmentalist Approach, 31 J. COMM.MKT. STUDS. 473 492-93 (1993). 66 Buchanan and Tullock refer to the sum of costs incurred through the actions of others in the organization and decision-making costs. JAMES M. BUCHANAN & GORDON TULLOCK, THE CALCULUS OF CONSENT (1962). John Ruggie uses this term "to mean a more general loss of control over one's own activities, resulting from the accumulation of collective constraints." John G. Ruggie, Collective Goods and Future International Collaboration, 66 AM. POL. SCI. REV. 874, 878, n. 24 (1972). From an economic perspective, this relates to opportunity costs ex post, or the costs of foreclosed options (assuming some valuation of options) ex ante. 67 See RICHARD N. COOPER, THE ECONOMICS OF INTERDEPENDENCE (1968). 18 Thus clarity may be the solution where it is difficult to make the initial allocation accurately by virtue of property rules, and where transaction costs are low, allowing reallocation to the most efficient uses through transactions. Thus, if it were easy for the U.S. to sell, barter or otherwise transfer for value to the European Union exclusive jurisdiction over the Boeing/McDonnell Douglas merger, or for the European Union to sell it to the U.S., then perhaps a clear rule of exclusive jurisdiction would be the efficient solution (leaving aside for the moment the distributive question of where jurisdiction is initially assigned). On the other hand, if transaction costs are high, perhaps it is better to maintain concurrent jurisdiction, or muddy jurisdiction, which amounts to a kind of institutionalization by virtue of the fact that the contending states must somehow share control of these assets (more or less cooperatively). Of course, the institutionalization between the European Union and the U.S., by virtue of the agreement on cooperation in competition law between the two jurisdictions, trans-Atlantic intergovernmental ties, and the general international law system is insufficient to bind the parties to an immediate and complete solution. However, it will no doubt be sufficient, after some period of contention, to allow a resolution. As we will discuss below, then, one of several potential solutions to the problem of allocation of jurisdiction is more complete institutionalization, or more extensive transfer of competences to an integrative institution, such as an ad hoc bilateral dispute resolution tribunal, or a multilateral body such as the World Trade Organization. Of course, the availability of relatively strong dispute resolution under the WTO has served as a magnet to draw in many types of claims that otherwise would have lacked strong institutional contexts. It is in this connection that both the legal rules themselves and the institutional framework for applying the legal rules must be evaluated in order to assess the binding nature of legal structures. A shift in the analysis began with Calabresi and Melamed’s 68 analysis of entitlements in terms both of the party who is assigned the entitlement, and also in terms of the remedies available, beginning with the different remedies available for violation of a property right (injunction) and violation of a duty in tort (damages).69 They suggested that property rules may be used to promote efficient exchange where transaction costs are low, while liability rules may be appropriate where transaction costs are high.70 In the latter case, courts set the price of transfer, and the “owner” may be forced to accept the price so set. Thus, the choice between property and liability is a partial choice between the market and the state as the institution for effecting transfers of the 68 Calabresi & Melamed, supra note 60. For comments on the literature spawned by Calabresi and Melamed, see, e.g., Symposium: Property Rules, Liability Rules and Inalienability: A Twenty Five Year Retrospecive, 106 YALE L.J. 2083 (1997) (containing articles by Guido Calabresi, Richard Epstein, Saul Levmore, A. Douglas Melamed, Carol Rose and James Krier and Stewart Schwab). 69 As Calabresi and Melamed correctly note, most domestic entitlements are partially protected by property rules, and partially protected by liability rules. Calabresi & Melamed, supra note 60, at 1093. Calabresi and Melamed also note that entitlements are, at times, protected by inalienability rules. Id. at 1111-15. For present purposes, it is sufficient to discuss the two primary ways of protecting entitlements, property and liability rules . 70 These claims have been subject to sustained scrutiny. See, e.g., James E. Krier & Stewart J. Schwab, Property Rules and Liability Rules: The Cathedral in Another Light, 70 N.Y.U. L. REV. 440 (1995) (noting that liability rules may be inefficient, even in high transaction cost settings, if costs of assessing damages are higher still). 19 relevant asset. We might ask why, in international society where transaction costs seem high, do we not see more liability rules, as opposed to the dominance of property-type rules. This suggests an even more puzzling question: What would a rule of liability, as opposed to property, look like in international law? First, the move to liability provides a license to the person invading the property to do so. In more advanced economic terms, it assigns an option to the invader to invade, at a specified exercise price. Second, the move to liability implicates more judgement on the part of a court or centralized institution, which must determine what the invaded right was worth to the complainant.71 But, as we’ve seen, the international legal system lacks extensive institutionalization or tribunals for assessing damages, and where such bodies exist they often lack compulsory jurisdiction. Moreover, even the major recent exception to this generalization -- the WTO dispute resolution system -- leaves it to the parties, at least in the first instance, to determine “damages.”72 Why, then, does the international system utilize property and not liability rules? At least two “law and economics” answers suggest themselves. Perhaps institutions that could apply liability rules do not exist because either (1) the cost of creating a property-rights system that would allocate jurisdictional power; or (2) the cost of setting up a complex dispute resolution system to handle the inevitable disputes that would arise; or (3) the costs of determining and assessing damages in the specific case that would arise, or the aggregate of these costs, exceed the benefits to be gained by such a system. If this were true, then it is appropriate that the international system does not have such a system.73 Alternatively, even if such a system existed, if there were high costs associated with determining exactly who possessed the rights (i.e., determining the content of the law), and high costs associated with enforcing formal legal rights, states might be reluctant to employ the system.74 Alternatively, an international law “liability” system may possess many of the 71 Neo-classical economics eschews interpersonal comparison of utility by institutions other than markets, but legislatures and courts are non-market mechanisms for interpersonal comparison of utility. 72 Understanding on Rules and Procedures Governing the Settlement of Disputes, Apr. 15, 1994, WTO Agreement, Annex 2, art. 22, 33 I.L.M. 114 (1994) [hereinafter DSU]. 73 This “excessive cost” explanation finds some support in the history of international efforts to create “liability” rules in other contexts. For example, while formal efforts to draft a treaty setting out the law of state responsibility began during the first session of the International Law Commission in 1949, no treaty has yet been produced. See UNITED NATIONS CODIFICATION OF STATE RESPONSIBILITY (Marina Spinedi & Bruno Simma eds., 1987); John K. Setear, Responses to Breach of a Treaty and Rationalist International Relatons Theory: The Rules of Release and Remediation in the Law of Treaties and the Law of State Responsibility, 83 VA. L. REV. 1, 49 & n. 88 (1997). 74 The domestic analog here would be Robert Ellickson’s classic investigation of the behavior of cattle ranchers in Northern California, Robert C. Ellickson, Of Coase and Cattle: Dispute Resolution Among Neighbors in Shasta County, 38 STAN. L. REV. 623 (1986). 20 characteristics of a “public good.” Even if the community of states would be better off with a “liability” system, and the institutional apparatus to enforce it, individual states might rationally believe that they would enjoy the benefits of this system without contributing to the costs of setting it up. But if every state thought this way, none would contribute towards the creation of the liability system, and the system would never come into existence. Our interest here is less in resolving questions regarding the rules governing the exercise of prescriptive jurisdiction than in suggesting that economic analyses can shed substantial light on these questions. We’ve tried to show how transaction cost economics can inform discussions about the appropriate allocation of jurisdiction to prescribe and various ways to resolve conflicts over prescriptive jurisdiction. Other methodologies, including game theory, can shed light on these issues as well. B. Game Theory and Economics of Information The design of property rights, and of rules of jurisdiction, implicates not only the maximization formula described above. As intimated above, there is also much room for strategic behavior, and therefore, the jurisdictional rules should take the possibility of strategic behavior into account, and seek to minimize the costs attendant thereto. Ian Ayres and others have evaluated the effects of strategic behavior on the design of efficient entitlements.75 They have extended the Calabresi/Melamed approach by suggesting the possible efficiency of “second order” rights. Ayres and Talley examine the possibility that strategic behavior by a buyer and seller of property rights would inhibit transactions more than strategic behavior by two co-owners of an asset. They argue that “divided entitlements”--co- ownership--facilitate trade by providing incentives for the two parties to reveal information regarding their valuation of the asset. This proposition is based on the Coasean insight that transactions are possible without property: that liability rules or co-ownership rules might give rise to one party seeking to “purchase” the rights of the other party. The traditional assumption in law and economics is that transaction costs are reduced by clear property rights. By focussing on the transaction costs occasioned by strategic behavior, and more specifically on the costs of information, Ayres and Talley argue that there are circumstances--where private information is the predominant source of transaction costs--in which transaction costs are reduced by divided entitlements: by the most unclear types of allocation. While Ayres and Talley’s specific results have been contested,76 the larger point here is that a game theoretic analysis may add a substantial dimension to the transaction costs analysis described above. II. Treaty and Contract Treaties have long been analogized to contract. L&E scholarship has been enormously influential in the contract area; it is now commonplace to understand contracts -- and contract 75 Ian Ayres & Eric Talley, Solomonic Bargaining: Dividing a Legal Entitlement to Facilitate Coasean Trade, 104 YALE L.J. 1027 (1995); Louis Kaplow & Steven Shavell, Do Liability Rules Facilitate Bargaining? A Reply to Ayres and Talley, 105 YALE L.J. 221 (1995) [hereinafter A Reply]; Ian Ayres & J.M. Balkin, Legal Entitlements as Auctions: Property Rules, Liability Rules, and Beyond, 106 YALE L.J. 703 (1996). See also Louis Kaplow & Steven Shavell, Property Rules Versus Liability Rules: An Economic Analysis, 109 HARV. L. Rev. 713 (1996). 76 Kaplow & Shavell, A Reply, supra note 76. 21 doctrine -- in economic terms. While the most influential work has been done using the tools of price theory, there are also substantial literatures using the tools of game theory and transaction cost economics. In this section, we explore whether this scholarship can be usefully applied to the treaty context. A. Problematizing Treaties Treaties are the principal source of international rights and obligations. But despite substantial treaty practice, and a well-developed law of treaties, a number of doctrinal dilemmas -- such as how to harmonize conflicting treaty obligations, and how to resolve the tension between the principles of pacta sunt servanda and rebus sic stantibus -- remain problematic. This doctrinal confusion is symptomatic of deeper conceptual uncertainties: why are treaties binding? Do states, in fact, comply with their treaty obligations and, if so, why? Questions like these will assume heightened importance as treaties are increasingly used to address complex economic, political and social problems that cannot be solved unilaterally. Past efforts to identify an underlying structure for the law of treaties have proven unsatisfactory. While the traditional, consent-oriented view of the law of treaties has been subject to sustained attack,77 no alternative explanation has gained widespread acceptance. Recent alternatives to consent based-theories of international law -- such as Professor Thomas Franck’s legitimacy-oriented approach,78 or Professor Harold Koh’s transnational legal process approach79 -- pay little attention to the law of treaties, and a leading book on contemporary treaty practice largely ignores doctrinal issues.80 We read this silence as an implicit commentary on the relevance of recent scholarship on treaty law and doctrine. Might the methodologies of law and economics reinvigorate this field? Recent attempts to use rational choice and international relations models to address particular issues in treaty law represent promising efforts in this direction. But rather than focus on discrete problems in treaty law, as others have done, we wish to pose the more generalized question of whether law and economics approaches that have proven useful in the area of contracts are likely to be similarly useful in the treaty context.81 77 See, e.g., John L. Brierly, THE LAW OF NATIONS: AN INTRODUCTION TO THE INTERNATIONAL LAW OF PEACE 51-54 (H. Waldock ed., 6th ed. 1963). 78 See THOMAS M. FRANCK, THE POWER OF LEGITIMACY AMONG NATIONS (1990). 79 See Harold Hongju Koh, Why Do Nations Obey International Law?, 106 YALE L.J. 2599 (1997) [hereinafter Nations Obey]; Harold Hongju Koh, Transnational Legal Process, 75 NEB. L. REV. 181 (1996) [hereinafter Legal Process]. 80 ABRAM CHAYES & ANTONIA HANDLER CHAYES, THE NEW SOVEREIGNTY: COMPLIANCE WITH INTERNATIONAL REGULATORY AGREEMENTS (1995) 81 Treaties have also been analogized to legislation, and we believe that public choice analysis - - which has been very influential in the analysis of legislation -- could also be usefully applied to treaties. 22 B. Domestic Analogies and Disanalogies International tribunals, and commentators, have long noted the domestic law analogies to treaty.82 Rather than reproduce these discussions, we simply summarize below a number of the relevant analogies and disanalogies between treaty and contract. This discussion provides a background for our consideration of whether the law and economics methods of analyzing contracts can be usefully applied to treaties. As an agreement intended to be legally binding, a treaty is often considered to be “a form of contract.”83 Like contracts, treaties are intended to serve as a source of rights and obligations between parties. Both are anchored in the mutual exchange of promises about future behavior, and, as a general matter, both create law for the contracting parties only.84 Moreover, treaties are analogized to contract because both “derive their validity from the agreement of the parties.”85 The law of treaties and the law of contracts exhibit a similar structure, as both “establish rules about the making and interpretation of agreements, their observation, modification and termination.”86 Thus, the bodies of law of both treaty and contract address a number of similar questions, including questions about capacity, formation, validity, breach, remedy and termination. However, the analogy with contract is far from complete.87 Some disanalogies result from structural differences between the domestic and international legal orders. Other differences are doctrinal. As explained below, we believe that exploration of these differences could give rise to a fruitful research agenda. For example, a number of contract doctrines find no analog in the treaty context. A classic example is the doctrine of consideration. Long required by contract law, the doctrine helps distinguish agreements that are legally binding from those that are not, and is used to 82 For example, a recent WTO Appellate Body Report states that: “The WTO Agreement is a treaty -- the international equivalent of a contract.” Japan -- Taxes on Alcoholic Beverages, WT/DS8/AB/R (Oct. 4, 1996). The U.S. Supreme Court has likewise long noted this analogy. See Trans World Airlines, Inc. v. Franklin Mint Corp. 466 U.S. 243, 253 (1984) (treaty is “in the nature of a contract between states); Fong Yue Ting v. United States, 149 U.S. 698, 720 (1893)(same); Chae Chan Ping v. United States, 130 U.S. 581, 600 (1889) (The Chinese Exclusion Case) (same). 83 H.W. Malkin, Reservations to Multilateral Conventions, 7 BRIT. Y.B. INT’L L. 141 (1926). See also MARK JANIS, INTERNATIONAL LAW 9 (“However styled, [treaties] are in the first place essentially contracts between states.”) 84 See Vienna Convention, Art. 36; Free Zones of Upper Savoy and the District of Gex (France v. Switzerland), P.C.I.J., ser. A/B, No. 46. 85 PHILIP C. JESSUP, A MODERN LAW OF NATIONS 124 (1949). 86 MARK JANIS & JOHN NOYES, INTERNATIONAL LAW 39 (1997). 87 See, e.g., EVANGELOS RAFTOPOULOS, THE INADEQUACY OF THE CONTRACTUAL ANALOGY IN THE LAW OF TREATIES (1990); SHABTAI ROSENNE, DEVELOPMENTS IN THE LAW OF TREATIES 1945-1986 at 128 (1989) (analogy between treaty and contract is "simply false"). 23 help prevent opportunistic behavior.88 Although the law of treaties also distinguishes between binding and nonbinding agreements, and disfavors opportunistic behavior, there is no corresponding requirement for consideration. Conversely, a number of treaty doctrines find no counterpart in the law of contracts.89 Finally, even where contract and treaty law address similar issues, doctrine tends to diverge. For example, contract doctrine on defenses to performance due to impossibility, frustration and the like differ from ostensibly similar defenses to treaty performance.90 C. Price Theory and the Efficient Breach Hypothesis. Law and economics begins to approach contract with price theory. This alone is a powerful tool by which to address the enduring problem of compliance in international law. From this perspective, the key to compliance is the price of breach: where the price of a breach is sufficiently high, compliance will result. The price of breach must be measured in terms both of the measure of damages and the extent to which institutions exist mandatorily to require the payment of damages. With this simple theoretical proposition, a research program could descriptively evaluate the relative binding nature of international treaties, and could normatively suggest changes to treaty structures to enhance their binding nature, where enhanced compliance is in fact desired.91 Among the most influential -- and controversial -- claims made by law and economics scholars is the theory of efficient breach: there are circumstances where breach of contract is more efficient than performance, and that the law ought to facilitate breach in such circumstances.92 While this theory has been enormously influential at the domestic level, its potential transferability 88 POSNER, supra note 1, at 87. 89 The well-developed treaty doctrine regarding the use and status of reservations, for example, has no counterpart in contract law. 90 Finally, the analogy with contract is closer for some treaties than for others. While some treaties are quite similar to contracts -- consider, for example, airline landing rights agreements, bilateral investment treaties, cultural exchange agreements, and the like -- other treaties can be more closely analogized to legislation. Other treaties -- such as the United Nations Charter -- or clusters of treaties -- such as those regulating world trade -- can be usefully analogized to corporate charters or to constitutions, which create and define the powers of new organizations. 91 For a provocative essay questioning whether compliance is the appropriate touchstone, see George W. Downs, et al., Is the Good News About Compliance Good News About Cooperation?, 50 INT’L ORG. 579 (1996). For sophisticated surveys of the topic of compliance with international legal obligations, see, e.g., Koh, Nations Obey, supra note 80; Benedict W. Kingsbury, The Concept of Compliance as a Function of Competing Conceptions of International Law, in INTERNATIONAL LAW AND INTERNATIONAL RELATIONS: THE STATE OF THE DIALOGUE (Harold Hongju Koh ed., forthcoming). 92 See, e.g., POSNER, supra note 1, at 19; John H. Barton, The Economic Basis of Damages in Breach of Contract, 1 J. LEGAL STUD. 277 (1972); Robert L. Birmingham, Breach of Contract, Damage Measures and Economic Efficiency, 24 RUTGERS L. REV. 273 (1970). 24 to the international context is problematic; the different structural and institutional elements of the domestic and international legal orders suggest caution here. The efficient breach theory presupposes effective adjudicatory and enforcement mechanisms that can determine and compel payment of the appropriate level of damages in the event of a breach. That is, where there are no institutions that can provide for payment of damages, a rule of damages cannot work. But such mechanisms are largely absent from the international context. The theory also presupposes a commensurability between the damages suffered from the breach and a monetary payment, a presupposition that requires interpersonal (or, in this case, interstate) comparison of utility and is problematic not only in contract, but also in the context of arms control, human rights, national security, environmental and other treaties. These structural differences may help explain why questions of remedies -- which are central to law and economics contract scholarship -- occupy a relatively small role in treaty doctrine and scholarship.93 They are also relevant to the discussion, above, about the relationship between property and liability rules protecting entitlements. The efficient breach hypothesis would turn a contract damages rule into, in the language of Calabresi and Melamed, a liability rule. But liability rules have certain drawbacks that are especially pertinent in the international realm. First, liability rules impose on the wider community the collective expense of determining an “objective” cost of a breach. While domestic societies typically provide the “public good” of well-functioning, compulsory dispute resolution systems, the international community, as noted above, has often declined to do so.94 Second, liability rules represent only an approximation of the value of the breach to the promisee. Even assuming such monetization is objectively possible for the types of “goods” exchanged by treaty -- and it often is not -- states may be more reluctant than individuals to subordinate their subjective valuations to the judgments of others.95 Some international lawyers will reject the concept of efficient breach on a normative basis. They might argue that accepting the efficient breach hypothesis would threaten precisely the feature that renders treaties the “major instrument of international cooperation in international relations”96 - - the belief that treaties will be obeyed, even when contrary to a state’s immediate, short-term interest. Encouraging, through law, “efficient” breaches of these treaties would undermine the fundamental rule of pacta sunt servanda, and likely render more difficult the possibility of sustained cooperation in an international community through treaty regimes. Of course, the same objection may be raised in the domestic context. Contract is important 93 But see Setear, supra note 74 (sophisticated discussion of international legal doctrine and international relations theory on “rules of release” and “rules of remediation” that apply in event of treaty breach). 94 See text accompanying note 75, supra. 95 Perhaps this explains some of the concerns over the “democracy deficit” in the WTO, EU and other international bodies: these bodies are increasingly making the sorts of tradeoffs that are frequently made by national governments, but many question whether these bodies can appropriately make such decisions without greater democratic representation. 96 MICHAEL AKEHURST, A MODERN INTRODUCTION TO INTERNATIONAL LAW 25 (6th ed. 1987). 25 because of the belief that contracts will be obeyed, but it is still efficient to allow breach under certain circumstances. In fact, entry into contract may be facilitated by the understanding of parties that breach may be permitted under certain circumstances. Alan Sykes has made a similar argument regarding the GATT escape clause.97 This raises the question of whether a liability rule, and the implicit permission for efficient breach, gives rise to incentives for inefficient strategic conduct.98 This analysis suggests that, where effective dispute resolution exists and damages can be relatively easily monetized, states are more likely to adopt an “efficient breach” rule. One context in which mandatory dispute resolution now exists, and in which something akin to efficient breach is permitted is the GATT/WTO system.99 Under the current WTO Dispute Settlement Understanding, when a WTO dispute settlement panel or the Standing Appellate Body concludes that a measure is GATT-inconsistent, “it shall recommend” that the measure be brought into conformity with the GATT.100 Once this determination is adopted by the DSB, the state can, and should, comply with the ruling by amending or withdrawing the offending measure. Alternatively, the state may retain the offending measure and, instead, provide compensatory benefits to restore the balance of negotiated concessions disturbed by the noncomplying measure. Finally, the state may choose not to change its law or provide compensation, and, instead, suffer likely retaliation against its exports authorized by the WTO for the purpose of restoring the balance of negotiated concessions. Thus, we might usefully understand the WTO system as authorizing a Member to choose to “breach” an obligation, and pay compensation to the injured party.101 D. Game Theory, Default Rules and Strategic Interaction While game theoretic concepts have been widely used in the analysis of contract law, their 97 Alan O. Sykes, Protectionism as a "Safeguard": A Positive Analysis of the GATT "Escape Clause" with Normative Speculations, 58 U. CHI. L. REV. 255 (1991). 98 We identify game theoretic strategies for dealing with inefficient strategic behavior in the treaty context in part D, infra. 99 In fact, as noted above, efficient breach exists in GATT in two respects. First, the escape clause provides for a type of efficient breach, available in limited circumstances. Sykes, supra note 98. Second, as described in the text, the dispute resolution features of GATT allow for compensation for breach. 100 GATT, Art. 19:1. 101 However, it is clear that this efficient breach, although permitted, is disfavored: “neither compensation nor the suspension of concessions or other obligations is preferred to full implementation of a recommendation to bring a measure into conformity with the covered agreements.” GATT, Art. 22:1. The argument that the DSU creates a strong preference for changing the offending measure over compensation is developed in John H. Jackson, The WTO Dispute Settlement Understanding -- Misunderstandings on the Nature of Legal Obligation, 91 AM.J. INT’L L. 60 (1997). 26 application to treaties has been rather limited.102 To explore whether fruitful analysis is likely, we briefly survey the area where game theoretic accounts of contract doctrine have been, perhaps, the most influential--the analysis of default rules--and then return to treaty.103 The game theoretic analysis of default rules begins with the premise that all contracts are necessarily incomplete. When disputes arise, courts use “default” rules to fill these contractual gaps. These default rules thus govern various aspects of the parties’ relationship, unless the parties contract around them. But what default rule should a court apply? Law and economics scholars attempt to answer this question, in part, by identifying the causes of contract incompleteness. One cause is inadequate knowledge; parties cannot possibly foresee every future contingency that might arise, and the contract will be silent as to these matters. Incompleteness can also result from strategic calculation. For example, when the cost of negotiating contract terms is high, parties may choose not to negotiate terms, ex ante, to cover low probability or low magnitude contingencies.104 Law and economics scholars have argued that when transaction costs make an explicit agreement too costly, the court should apply a “default” rule that the parties would have reached had the costs of negotiating not made their doing so inefficient.105 Alternatively, for opportunistic reasons, one party may not reveal information it alone possesses, precluding negotiation over particular issues. For example, one party might withhold 102 Perhaps the most prominent application of game theory to treaty has been John Setear’s efforts to demonstrate how certain aspects of “Institutionalist” theory -- particularly aspects concerned with the notion of iteration -- help explain and justify the law of treaties. John K. Setear, An Iterative Perspective on Treaties: A Synthesis of International Relations Theory and International Law, 37 HARV. INT’L L. J. 139 (1996). More recently, Setear has attempted to apply a rationalist perspective to the issue of remedies resulting from a breach of treaty. Setear, supra note 74. 103 Leading contributions to the literature on default rules include Jason Scott Johnston, Strategic Bargaining and the Economic theory of Contract Default Rules, 100 YALE L.J. 615 (1990); Ian Ayres & Robert Gertner, Filling Gaps in Incomplete Contracts: An Economic Theory of Default Rules, 99 YALE L.J. 87 (1989) [hereinafter Filling Gaps]; Ian Ayres & Robert Gertner, Strategic Contractual Inefficiency and the Optimal Choice of Legal Rules, 101 YALE L.J. 729 (1992). For a game theoretic account of contract formation rules, see Avery Katz, The Strategic Structure of Offer and Acceptance: Game Theory and the Law of Contract Formation, 89 MICH. L. REV. 215 (1990). 104 See, e.g., Steven Shavell, Damage Measures for Breach of Contract, 11 BELL J. ECON. 466, 468 (1980) (“[B]ecause of the costs involved in enumerating and bargaining over contractual obligations under the full range of relevant contingencies, it is normally impractical to make contracts which approach completeness”). Thus, transaction cost analysis can be usefully applied to default rules. See supra at text accompanying notes 62 to 91. 105 This argument is more fully explained in JULES COLEMAN, RISKS AND WRONGS (1992). The argument appears to assume, perhaps inappropriately in some cases, that the transaction costs and inaccuracy costs of a court decision are less than the costs of explicit agreement. 27 information that would increase the aggregate gains from contracting in order to increase its own share of those benefits. In situations like these -- where the cost of filling a gap ex post is greater than the cost of negotiating an explicit bargain ex ante -- some law and economics scholars suggest “penalty” defaults that are “purposefully set at what the parties would not want” in order to “give at least one party to the contract an incentive to bargain around the default rule.”106 Given that parties can always bargain their way around default rules, why study them in the first place? Law and economics scholars point out that if the gains from bargaining around the default rule are less than the costs of bargaining, then the default rule will govern the transaction. In these cases, the “initial entitlement” -- provided by the default rules -- will end up being the “final entitlement.” Moreover, even in those cases where the gains from bargaining exceed the costs of negotiation, the default entitlement still matters because it determines who will bargain and at what cost. Given various structural factors that increase the transaction costs of negotiating treaties -- including (often) multiple contracting parties and the need for subsequent domestic ratification -- we might expect high transaction costs to play at least as large a role on the international as the domestic plane. Thus, default rules -- in treaty as in contract -- are not simply neutral background rules designed to facilitate agreements; rather, they have important distributional implications. Moreover, these distributional implications are strongest when, as in the treaty context, transaction costs are high.107 Many Vienna Convention provisions are default rules. Ironically, while legal scholars have devoted substantial attention to the distributional consequences of particular treaties, as far as we are aware, to date no-one has studied the distributional implications of the Vienna Convention’s provisions -- even though these provisions are generally applicable to all treaties. If the Vienna Convention is the “contract law” of international law, why is there not a body of literature analyzing its distributional effects? Game theory could inform a rich research agenda in the treaty area. At a general level, game theory literature implicitly invites international legal scholars to focus on the strategic incentives present in treaty negotiation -- a topic largely ignored in writings about the law of treaties -- and provides a set of methodological tools for doing so. For those inclined to more discrete inquiries, the game theoretic contracts literature suggests a number of narrower questions about the structure and content of particular provisions of the Vienna Convention. For example, why is it that some Vienna Convention default rules -- such as those on dispute resolution -- are quite frequently contracted around, while others -- for example, the provisions regarding treaty breach -- are rarely contracted around?108 Do either of these rules minimize transaction or strategic behavior costs? Are these, or other Vienna Convention rules, designed to maximize the benefits states gain from entering into treaties? Finally, by suggesting that the default rules will determine what types of information will be exchanged during bargaining, this scholarship invites us to focus on the process of information exchange during negotiations. Law and economics scholars argue that when communication is costly and information incomplete -- as is often true in the treaty context -- parties will fail to realize 106 Ayres & Gertner, Filling Gaps, supra note 104. 107 Harold Demsetz, When Does the Rule of Liability Matter?, 1 J. LEGAL STUD. 13 (1972). 108 See Setear, supra note 74, at 23; Setear, supra note 103, at 139. 28 the full potential gains from exchange. The amount of this loss depends, in part, on the institutions and rules governing bargaining. This suggests that the Convention’s rules have important consequences for the efficiency of exchange.109 Thus, game theoretic analysis can be helpful in illuminating the efficiency and distributional consequences of particular Vienna Convention rules, the law of treaties generally, and various particular treaties. We also believe that other fruitful inquiries might be possible using further refinements introduced by a transaction cost approach, as used in the section on jurisdiction, above, and on international organizations, below. III. Firms and International Organizations As discussed above, conflicting jurisdictional claims can be resolved through transactions in jurisdiction (through treaty or otherwise); they may also be addressed by pooling jurisdiction in international organizations. Shared ownership may be the best approach to dealing with the allocation of some types of rights. Often, shared ownership will be associated with particular types of “public goods,” 110 or with “constitutional” rules governing how future decisions will be made regarding the disposition of such assets. To the extent that jurisdiction is shared or pooled, integration occurs. All students of international law are familiar with the debate regarding the formation of, and allocation of competences to, international organizations. Why are these organizations created, and how should they be designed? The response to this question has implications for sovereignty, for in asking what competences shall be accorded to international organizations, we implicitly ask what competences shall be left to states, and in asking how decisions shall be made in international organizations, we ask how states may retain power despite the relegation of competences. We may ask the same fundamental question about the international organization that Ronald Coase asked about the business firm: why does it exist, and if its existence is justified, why is there not just one big one? Coase developed the theory of the firm to answer his own question. The theory of the firm relies, implicitly, on the Coase theorem, which focuses attention on transaction costs as the central determinant of the organization of production: the choice between organizing production within the firm or organizing production through purchases in the market, or contract, depends on the relative transaction costs of these alternate structures. A. Domestic Analogies and Disanalogies The utility of applying the theory of the firm to international organizations does not depend on a perfect analogy between firms and international organizations. Nevertheless, it is useful, in considering this analogy, to address two related questions: First, who are the real parties in interest in international organizations -- the member states or their citizens? Second, assuming that citizens are the real parties in interest, how does the intermediation of their national governments affect the applicability of the theory of the firm? 109 See Avery Katz, The Strategic Structure of Offer and Acceptance: Game Theory and the Law of Contract Formation, 89 MICH. L. REV. 215 (1990) (setting out these arguments and urging game theoretic attention to law of contract formation). 110 Carol Rose, The Comedy of the Commons: Custom, Commerce, and Inherently Public Property, 53 U. CHI. L. REV. 711, 723, 743-44 (1986). 29 While a normative contractarian, liberal or cosmopolitan perspective suggests that the citizens of the member states are the real parties in interest, traditional realists would deny this. In practice, the answer ultimately depends on the responsiveness of the relevant state government or, perhaps more accurately, its representatives. Hence the real party in interest is indeterminate: states are neither billiard balls nor simple conduits but, like other institutions, are complex mediating prisms that transmit the interests of individuals at varying speeds, with varying intensities and with varying degrees of distortion. As states intermediate -- and since state governments generally control the exercise of states' rights in international organizations (subject to successful claims of a democracy deficit) -- there are important implications for the maximization that they effect. The values maximized through transactions are not directly those of individuals, but are the values expressed through state governments. While corporations and international organizations have different structures, both allocate competences and rights to make decisions in various ways. Indeed, as both types of bodies constitute means of establishing artificial persons to act on behalf of constituents, it is not surprising that they confront common issues. Thus, while the corporate governance literature explores the problem of agency costs and conflicts of interest -- and seeks ways to ensure the fidelity of corporate managers to shareholder welfare -- public choice writings on international organizations explore similar concerns regarding the pursuit by national governments -- or their delegates to international organizations -- of their own respective interests, rather than citizen interests. The comparative institutional perspective suggests the desirability of reducing these agency- type costs, but we must be mindful of the costs of reduction, and of the availability of institutional substitutes. Thus, while the corporation creates agency costs, corporations exist, Coase argued, because the agency costs are smaller than the alternative transaction costs of the same allocation through the market. Thus, just as economic actors may find that integration of a production process is superior to episodic agreements, or even long-term contracting, so states may find that they can better produce certain goods -- say, international security or expanded international trade - - by joining together in international organizations. Obviously an international organization is not a business firm and does not have profit maximization as a goal. The international organization's purposes and the quality of its relationships with its constituencies are quite different from those of a business firm. Yet the point of this section is not that international organizations are business firms, but that the method of analyzing the relationships and constituencies comprising business firms can be applied to analyze the relationships and constituencies comprising international organizations. Even more fundamentally, international organizations can be explained in the same currency as business firms: the currency of comparative institutional analysis using transaction costs economizing. B. Price Theory Traditional price theory, and traditional neo-classical economics, largely ignores institutions, particularly the firm. The microeconomic perspective on international trade has also largely ignored institutions, assuming perfect competition and zero transaction costs.111 This 111 See Beth V. Yarbrough & Robert M. Yarbrough, International Institutions and the New Economics of Organization, 44 INT' L ORG. 240 (1990). Neo-classical economics has more recently emphasized imperfect competition. See ELHANAN HELPMAN & PAUL R. KRUGMAN, MARKET STRUCTURE AND FOREIGN TRADE: INCREASING RETURNS, IMPERFECT COMPETITION, AND THE 30 world of perfect competition has no need for any institutional cooperation. But this economic perspective ignores the cost of pursuit of the gains from trade. As pointed out by Beth Yarbrough and Robert Yarbrough, neither the realist political science vision of unmitigated conflict, nor the neo-classical economics vision of a perfect market, fits the facts well.112 One does not believe institutions could help, the other does not believe they are needed. C. Transaction Costs and the Theory of the Firm Given the possible gains from exchange in some circumstances, a transaction costs focus explains institutionalization in the form of the firm, as well as in the form of government regulation at local, national and international levels. It frames the problem as one of comparative institutional analysis, considering all alternative institutions. Coase posited that people use the market (including contract) or the firm to organize their productive activities, depending on which allows people to obtain the maximum benefits at the minimum cost in terms of transaction costs. More precisely, the "best" organization is the one that maximizes the positive sum of transaction gains, transaction losses and transaction costs. D. Operationalizing the Theory of the Firm in the Context of International Organizations Coase's theory of the firm has been expounded, extended and critiqued by a host of scholars. Much of the work has sought, unsuccessfully, to operationalize the theory of the firm. We focus here on the work of the leading exponent of the theory of the firm, Oliver Williamson. Williamson focuses on asset specificity as a basis for integration. For Williamson, an asset specific investment is one that can only realize its full value in the context of continued relations with another party.113 Such investments may provide incentives for opportunistic behavior by the other party after economic relations are entered into. Williamson claims that asset specificity distinguishes the market and firm models; the market works well where asset specificity is negligible, but as asset specificity increases, transactions are more likely to be vertically integrated than carried out in the market. But Williamson’s understanding of asset specificity is too narrow, for it excludes otherwise indistinguishable reasons why parties might decide to contract or enter into firms or other organizations. Williamson uses as examples of asset specificity the worker who obtains special training that is only useful in the employer's business. But what of the worker who declines one job, which will not be available later, to accept another where she is employed at will? Perhaps the opportunity cost is also seen as an asset specific investment, but the concept soon becomes broad enough to encompass the giving, or giving up, of anything of value at an earlier stage, where INTERNATIONAL ECONOMY (1985). 112 Yarbrough & Yarbrough, supra note 112. 113 Asset specificity may take several forms. For example, physicial asset specificity may refer to unique machinery, and human asset specificity may refer to training and skills that are not readily transferrable to alternative uses. See, e.g, Oliver E. Williamson, Vertical Merger Guidelines: Interpreting the 1982 Reforms, 71 CALIF. L. REV. 604, 613 (1983). Different types of asset specificity have different ramifications for governance. Id. 31 corresponding value has not yet been received in return. The concept of asset specificity then becomes precisely congruent with the distinction between market and institutions developed above: with the need to bind another person over time. Whenever this type of asset specificity exists, it may be useful to seek an institutional solution, either in contract or in hierarchy. What makes a particular transaction in international relations "asset specific" in the broader sense used here? Again, any transaction where one state advances consideration at a particular point in time, and must rely on one or more other states to carry out their end of the bargain at a later point in time, or experience a significant loss in its expected value, is "asset specific." Consider, for example, recent attempts to harmonize regulation in the EU and elsewhere. Where a state modifies its domestic regulatory system pursuant to a harmonization plan, it is difficult to reverse this course due to defection by another state. On the other hand, it is relatively easy for another state to defect, and it may be difficult to identify and evaluate defection. Or consider an agreement to reduce trade barriers. While it might be argued that this is the kind of self-enforcing transaction in which the consideration can be withdrawn, reestablishing trade barriers is often difficult. Frequently the domestic political costs of reducing trade barriers are incurred at the time they are reduced, and cannot be fully recouped later by re-establishment of the barriers. Moreover, to the extent that the barriers are reduced on a multilateral basis withdrawal may be made more difficult as a matter of international law, not to mention customs administration. In addition, the entry into an international organization itself may have high political costs, again at the outset, which are not fully recoverable. Moreover, Williamson's model does not satisfactorily distinguish among various types of institutionalization. While there is a broad continuum of "hybrid" structures between market and hierarchy, Williamson does not establish a predictive relationship between degree of asset specificity, on the one hand, and type of institutionalization, on the other. Instead, he directs our attention to three transactional features: asset specificity, uncertainty and frequency. Asset specificity, as we’ve seen, gives rise to potential opportunism; in turn, this gives rise to the need for binding mechanisms or institutions, which involve transaction costs. The choice of binding mechanism depends also on the degree of uncertainty involved: the lesser the uncertainty, the greater the ability to write specific or relatively "complete" contracts to address any uncertainty. In contrast, increasing uncertainty --and complexity --combine with "asset specificity" to make it increasingly difficult to write complete contracts. Finally, the more frequent the transactions, the greater economies of scale there will be in creating governance structures that address its governance needs. Thus, asset specificity indicates the potential utility of institutions, but does not alone indicate the kind of institutions needed. However, with higher magnitudes of asset specificity, and with greater uncertainty and complexity, there are greater incentives and possibilities for opportunism. More complete contracts are required to prevent opportunism. Given positive transaction costs, it is impossible to write explicit complete contracts. Therefore, as asset specificity, uncertainty and complexity increase, the need to define and transfer categories of authority to bureaucratic, legislative or dispute resolution type bodies, to establish hierarchy, also increases. In other words, greater integration is necessary. These institutional mechanisms are needed in order to determine how standards established by the parties should be applied in future when particular issues arise. From the standpoint of the history of international economic integration, it might be theorized that states will first engage in integrative transactions in areas characterized by low asset specificity. Once gains from trade in low asset specificity areas are exhausted (and experience of 32 trust is developed), there are greater possibilities for integration in higher asset specificity areas. From a broad standpoint, this pattern may be discerned in the history of the WTO or European Union. Thus far, this section has been concerned largely with the delegation of responsibilities to international organizations from the perspective of a sovereign state that, until such delegation, retains plenary power. There appears to be little difference in theory between this question and the question of subsidiarity: once an international organization exists, and has plenary power (albeit cabined within limited authorizations), what powers should it exercise at the center, and what powers should it devolve to decentralized units? All other things being equal, the question remains, where should responsibility be lodged? Thus, the transaction costs approach described above is applicable to the question of centralization or decentralization within an international organization. Of course, we know that all other things are not often equal, and the question of where plenary authority is initially lodged and how it is transferred will often make important design differences. There is a subtle difference between top-down design and bottom-up design. The less subtle distinction, however, relates to the location of residual authority. 114 Indeed, the question of centralization versus decentralization must be answered in tandem with the question of intergovernmentalism versus integration. That is, as a state delegates responsibility to an international organization, it must consider how the international organization will carry out that responsibility, in terms of centralization or decentralization. "In a system with both centralized and decentralized decisions, the centralized decisions serve to define the parameters of the decentralized ones and to put constraints on the local decision makers."115 Finally, when authority is delegated to an international organization, it is necessary to ask how that authority will be exercised: what is the decision-making process within the international organization? International organizations may be delegated authority, but the internal decision- making process may, for example by requiring unanimity prior to action, recreate the "market" of international relations. Hence, there are two types of intergovernmentalism: intergovernmentalism outside the walls of an institution and intergovernmentalism within an institution. In a more complex way, the possibility for various internal decision processes makes the choice between integration and intergovernmentalism a choice along a continuum, instead of a stark 114 Interestingly, from the transaction cost perspective, the location of residual authority is somewhat blurred in both the United States federal system and the European Community. In the United States federal system, the blur is generated by the tension between the Tenth Amendment of the Constitution and other notions of state sovereignty, on the one hand, and the Commerce Clause and Supremacy Clause, on the other hand. In the European Union, the blur is generated by the tension between the limited purposes of the European Union, and the rather unlimited legislative authority needed to achieve those purposes. Textually, we can look to the provisions of the Treaty on European Union requiring subsidiarity analysis, and, for example, at the Solange opinions of the German Constitutional Court. For a recent transaction cost economics approach to the relations between hierarchical levels of government, see Clayton P. Gillette, The Exercise of Trumps by Decentralized Governments, 83 VA. L. REV. 1347 (1997). 115 PAUL MILGROM & JOHN ROBERTS, ECONOMICS, ORGANIZATION AND MANAGEMENT at 114 (1992). 33 binary choice. Thus, an international organization may be accorded responsibility for a particular issue area as a whole, while the decision-making structure preserves intergovernmentalism in some respects, and allows greater integration in other respects. In this sense, the structure of horizontal federalism--relations between legislatures, executives and judiciaries--may replicate or complement vertical federalism: relations between the center and the components. E. Game Theory Just as our understanding of property and contract are informed by the study of strategic interaction, so is the analysis of the firm extended by game theoretic analysis. Game theory may provide insight into the strategic interaction horizontally among states parties to an international organization, as well as vertically between the states and the international organization itself.116 The strategic perspective rejects the assumption that principals and agents, or states and international organizations, have a joint goal of reducing transaction costs, or of reaching efficient outcomes. “Even in a costless environment, information asymmetries may cause parties to fail to bargain their way to an efficient term.”117 Rather, each seeks to maximize its own outcomes regardless of the cost to the other. The prisoner’s dilemma is one game theoretic model for this bargaining context.118 IV. Limitations on the Economic Analysis of International Legal Issues This is not the place to provide a general critique of L&E.119 We believe that while it is 116 See, generally, MASAHIKO AOKI, THE CO-OPERATIVE GAME THEORY OF THE FIRM (1984); Manuel A. Utset, Toward a Bargaining Theory of the Firm, 80 CORNELL L. REV. 540 (1995); Gary J. Miller, Managerial Dilemmas: The Political Economy of Hierarchy (1992) Douglas G. Baird & Randal C. Picker, A Simple Noncooperative Bargaining Model of Corporate Reorganizations, 20 J. LEGAL STUD. 311 (1991); William Bratton, Game Theory and the Restoration of Honor to Corporate Law’s Duty of Loyalty, in PROGRESSIVE CORPORATE Law (Lawrence E. Mitchell, ed. 1995); John C. Coffee, Jr., Unstable Coalitions: Corporate Governance as a Multi-Player Game, 78 GEO. L.J. 1495 (1990) Harvey Leibenstein, The Prisoners' Dilemma in the Invisible Hand: An Analysis of Intrafirm Productivity, 72 AM. ECON. REV. 92 (Papers & Proceedings, May 1982) (bargaining between employees and managers); Martin Shubik, Game Theory, Law, and the Concept of Competition, 60 U. CINN. L. REV. 285 (1991). 117 Bratton, supra note 117, at 153. 118 David M. Kreps, Corporate Culture and Economic Theory, in PERSPECTIVES ON POSITIVE POLITICAL ECONOMY (James Alt & Kenneth Shepsle, eds. 1990). See also Utset, supra note 117, at 569. 119 A “technical” critique argues that legal analysis is invariably flawed by measurement problems, such as the problem of accurately assigning shadow prices to “goods” not traded in markets or the “offer/asking” problem. A “distributional” critique notes L&E’s emphasis on efficiency, to the exclusion of important questions of equity in distribution. For representative articulations of these critiques, see MARK KELMAN, A GUIDE TO CRITICAL LEGAL STUDIES (1987); Bruce Ackerman, Law, Economics and the Problem of Legal Culture, 1986 DUKE L.J. 929; 34 critical to identify the limitations of economic analysis, L&E provides extremely useful tools. Here, however, we attempt to suggest ways in which economic analysis may be especially problematic in the international legal field, while also suggesting that these problems also apply in domestic L&E analysis. Hence, just as law and economics provides a powerful new tool to enrich our understanding of international law, the international legal order poses a new set of challenges that can enrich our understanding of law and economics. We focus on three areas that seem to raise greater concerns in the international legal context. All three have been adumbrated in the domestic critique of law and economics, but we believe that they become more powerful when considered in relation to international law. In turn, their application to international law exaggerates and highlights concerns raised in the domestic sphere. The issues we address here are the constructed nature of the rules sometimes considered to be background assumptions, the problem of interpersonal comparison of utility and the problem of incommensurable values. A. Even the Most Fundamental Background Rules are Constructed and Contingent: the Thin Background Rules and Weak Legislative Capacity of the International Legal System Much L&E analysis of domestic law, either alone or combined with public choice analysis, is used to argue against most forms of government regulation of commercial activity. We think this may often result from the choice of research agenda and methods of the researchers, and may reflect a policy prejudice that is not necessitated by L&E itself. Interestingly, however, this style of law and economics does not reject contract or property law. But, as the international system highlights, it is clear (as realists and critical legal scholars have long argued) that contract and property are as constructed, and as "regulatory," as taxation, securities regulation and antitrust law.120 This observation seems sufficient to refute a claim often made by committed Chicago School law and economics analysts: that regulatory law beyond the common law should be eliminated, reverting to a supposed nirvana of freedom of contract. The international legal system provides a more graphic illustration of the contingent nature of contract and property than the domestic system. Compared to the domestic system, the international legal system lacks cognates to the more complete domestic systems of property law (territory and jurisdiction), contract (treaty and custom) and tort (state responsibility for harm to Duncan Kennedy, Cost-Benefit Analysis of Entitlement Problems: A Critique, 33 STAN. L. REV. 387 (1981); Symposium: Efficiency as a Legal Concern, 8 HOFSTRA L. REV. 485 (1980); Arthur Leff, Economic Analysis of Law: Some Realism About Nominalism, 60 VA. L. REV. 451 (1974). A number of legal scholars have also articulated a “moral” critique of the economic analysis of law. See generally Jane B. Baron & Jeffrey L. Dunoff, Against Market Rationality: Moral Critiques of Economic Analysis in Legal Theory, 17 CARDOZO L. REV. 431 (1996) (discussing this critique as articulated in various areas of domestic law). 120 See generally Jeffrey L. Dunoff, The Death of the Trade Regime (forthcoming); Jeffrey L. Dunoff, Rethinking International Trade, xxx U. PA. J. INT’L ECON. L. xxx (1998) (forthcoming). 35 others).121 Hence, we might begin to inquire as to what accounts for the modest binding nature of the international legal order compared to the domestic legal order?122 And would conventional law and economics analysts declare this attenuated nature efficient? If property and contract are the background of any well-functioning system for mutually beneficial exchange, why are they so rudimentary in the international legal system? While we begin to address these questions above, further economic analysis should provide additional insights into the relatively rudimentary structure of the international legal system. One way to approach the international legal system, sympathetic to law and economics tools, is as a system where the social contractarian, and constructed, nature of law is more readily apparent. In this world stripped to a more fundamental social contract, there is little reason to argue that we should stop constructing rules once we have finished constructing treaty law, or the law of jurisdiction--the cognates of contract and property. Rather, as shown above, the regulatory and distributive character of these rules is made clear, destroying arguments that they are somehow natural or that they are the appropriate stopping places for the state’s activities. This social contracting process has no natural beginning or end in either domestic or international society, but imposes requirements for continuing structural analysis in both spheres. B. The International Legal System Lacks the Solidarity that May Make Tradeoffs Possible: The Problem of Interpersonal Comparison of Utility in Kaldor-Hicks Efficiency Analysis In addition, the international legal order highlights the real problem with the method of efficiency analysis often used in law and economics analysis. Kaldor-Hicks efficiency analysis, otherwise known as potential Pareto efficiency analysis, and equivalent to cost-benefit analysis, inquires whether a change would make someone better off without making anyone else worse off, assuming the ability to compensate others for harm. That is, it inquires whether the change would create a sufficient surplus to compensate those harmed. In order to make this inquiry, it must determine the value to those harmed of the injury imposed upon them. This determination requires that the analyst set the value to the harmed person of the injury. But the very possibility of such interpersonal comparisons of utility have bedeviled economic theory, and there is no widely accepted method for one to determine the value of a harm (or benefit) to another. In fact the answer to this problem is a call to comparative institutional analysis: the best we can do in cost-benefit analysis is to devise institutions that seem to reflect, as well as possible, constituent utility. Here, again, the market competes with legislatures and courts, as institutions devised to engage in interpersonal comparison of utility. Economists generally believe that decisions made in the market are actually Pareto efficient, in accordance with the principle of consumer sovereignty, as the consumer contracting willingly is in the best position to know when she is better off. However, this perspective elides the more fundamental question of 121 Of course, the combination of the rule and the institutional support for the rule must be analyzed to assess its social effects, and here, while international law exists and has social effects, it is significantly less effective than most domestic law. 122 See Paul B. Stephan, Institutions for International Economic Integration: Accountability and International Lawmaking: Rules, Rents and Legitimacy, 17 NORTHW. J. INT’L L. BUS. 681 (1997) (adducing arguments for retaining national control over international institutions). 36 whether these issues are best addressed by the market, or by other institutions. What makes these institutions satisfactory is that they are accepted, again in a social contractarian sense. As legal analysts, we can only seek to add light to the determination of which institution to use. In the domestic system, we assume a high degree of social solidarity. One facet of this solidarity may be the willingness to accord authority to make allocational decisions to institutions, such as legislatures, courts and the market. In international society, this solidarity may be less firm: there is less of a sense of shared values, and less of a sense of being willing to accept the costs of an adverse decision in the short run for the benefits of living in society, and later receiving favorable decisions, in the long run.123 There is less of a sense of living in a constitutional moment, with a limited Rawlsian veil of ignorance, that allows acceptance of constitutional rules. Part of the reason for this lack of solidarity is the relative thinness of the international system noted above: fewer transactions means fewer opportunities for things to “work out in the long run.” C. The Incommensurability of Diverse Social Goods Much of the analysis above presupposes the ability to measure and compare the "costs" and "benefits" of various types of transactions and institutional frameworks. But this assumption masks several difficulties. First, as noted above, the lack of a monetized market for the "goods" at issue in interstate transactions -- such as jurisdictional authority, environmental amenities, national security -- significantly complicates all attempts at measurement. More importantly, many argue that it is not possible to reduce all relevant considerations to a single metric, assign them quantitative values, and weigh them against each other as if on a scale. This is the incommensurability thesis.124 This thesis has several variants, all of which are potentially applicable to the economic analysis of international law. One variant of the incommensurability thesis is that to ask for the economic value of certain social goods is to make a category error -- like asking what color is the square root of one. Another variant is that, while it may be possible to calculate economic tradeoffs between different goods, to understand tradeoffs simply in economic terms is to “do violence” to our understandings of these goods.125 Another variant is that by comparing diverse goods in economic terms we transform our understanding of these goods in objectionable ways; we commodify these goods and thereby debase them.126 123 For a review of the concept of solidarity in international legal discourse, see Ronald St.J. McDonald, Solidarity in the Practice and Discourse of Public International Law, 8 PACE INT’L L. REV. 259 (1996). 124 For more on incommensurability in the domestic context, see Baron & Dunoff, supra note 120; Cass R. Sunstein, Incommensurability and Valuation in Law, 92 MICH. L. REV. 779 (1994). 125 Sunstein, supra note 125, at 797. 126 For example, if babies or body parts were routinely bought and sold, we might begin to think of people as nothing more than commodities. See Margaret Jane Radin, Market- Inalienability, 100 HARV. L. REV. 1849(1987); Sunstein, supra note 125, at 797. This “moral” dimension of the use of economic analysis is analyzed in Baron & Dunoff, supra note 120, at 447- 451, 470-71. 37 Each of these critiques of economic analysis raises serious issues. Again, however, we see these issues as problems to be solved, rather than as reasons to abandon the economic analysis of international law. For example, the thinness of international legal rules and institutions should be the starting point of analysis, rather than a stopping point; it suggests a rich research agenda. Similarly, if the “goods” valued by the international community are commensurable in certain respects but incommensurable in other respects, this raises the fundamental question of what is the appropriate measuring rod. We believe that, as in the domestic sphere, further work on these issues will illuminate not only the international legal order, but also the appropriate domain of economic analysis of law. V. Conclusion: Toward a Research Program in the Law and Economics of International Law Imre Lakatos noted that scholarship tends to proceed by constructing a research program.127 With this article, we seek to expand theoretical discourse in international law scholarship, and to suggest an international law research program. Our ultimate goal, of course, is to stimulate research that will expand the boundaries of our knowledge of the international legal system. Working within the suggested research program, a scholar could identify an international legal problem, and use the theoretical perspectives of law and economics to generate a hypothesis. If this is an operational theory, then the hypothesis could be empirically tested. Here again, we point toward comparative institutional analysis. For the lawyer’s laboratory is not simply the library, but is the world of institutional contingency. We can compare actual institutional structures in place, or compare actual institutions with hypothetical ones. To be sure, comparison is difficult given the number of variables to account for -- but there is little alternative. Our expectation is that, once a more refined body of theory is developed, through greater theorizing and empirical testing, this research program may progress. Scholars utilizing law and economics in international law can build “a chain of ever more complicated models simulating reality,”128 rather than continually rehash the same inconclusive arguments. In this regard, we understand our proposed research program as a cooperative endeavor, in which scholars build upon the work of others, together building an edifice of greater knowledge. This endeavor will require greater coordination and modesty, in which scholars understand and agree on the next steps in building the edifice. A. Elements of a Progressive Research Program in International Law We have mentioned above a number of international law subjects that could be addressed using law and economics. In fact, we believe that almost every international law research subject could be illuminated, to some degree, by these research methods. Below, we very briefly list a few additional applications, by way of additional illustration. This list is by no means exhaustive. 1. Positive Political Theory and Transnationalism 127 IMRE LAKATOS, THE METHOLODOGY OF SCIENTIFIC RESEARCH PROGRAMMES 47-52 (John Worell & Gregory Cerrie eds., 1978). 128 Lakatos, supra note 4, at __. 38 Positive political theory may be extremely relevant to the institutional issues that interest international lawyers and scholars. This approach uses game theoretic concepts to explore relationships among various institutions. It directs our attention to the strategic interactions among different bodies and is thus a useful vehicle for the investigation of dynamic, rather than static, systems. On the domestic level, positive political theory has been used to explore, for example, the strategic interactions among Congress, administrative bodies and the courts. While to our knowledge, the tools and analysis of positive political theory have not been applied to international law, we believe this analysis may inform the increasingly important focus on intra-institutional interactions, as explored in the recent writings of scholars such as Harold Koh and Anne-Marie Slaughter.129 While Koh and Slaughter often explore the international legal implications of interactions among domestic institutions, we believe that positive political economy may well shed light on interactions among international institutions. One possible area of focus would be on the interactions among particular types of international bodies; for example, how might we expect the legal and policy issues arising from the recent and rapid increase in the number of international adjudicatory fora to be resolved?130 Another possible area inquiry would be the interactions among international organizations that share responsibility for a particular issue area; for example, how will the WTO and WIPO interact over intellectual property issues? Or, how do the OECD and regional trade organizations change their behavior when they are simultaneously working on, for example, international investment issues? What are the dynamics when UNIDROIT and UNCITRAL are simultaneously drafting comparable treaty regimes? Alternatively, positive political theory could inform research into interactions among different bodies within the same international organization, for example the European Commission and the European Court of Justice, or the Security Council and the ICJ. While international legal scholars have begun to explore these types of issues, we believe that the proliferation of international bodies makes this likely to be a particularly fruitful area of inquiry. 2. Norms and Customary International Law. L&E scholars have recently turned their attention to “norms,” the rules and practices that govern relations in private groups.131 Much of the debate concerns whether and when norms 129 See, e.g., Koh, Nations Obey, supra note 80; Koh, Legal Process, supra note 80; Anne- Marie Slaughter, The Real New World Order, 76 FOR. AFF. 183 (1997) (“The state is not disappearing, it is disaggregating into separate, functionally distinct parties. These parties -- courts, regulatory agencies, executives, and even legislatures -- are networking with their counterparts abroad, creating a dense web of relations that constitutes a new, transgovernmental order); Anne-Marie Slaughter, A Typology of Transjudicial Communication, 29 U. OF RICH. L. REV. 99 (1994). See also Symposium: The Interaction Between National Courts and International Tribunals, 28 N.Y.U. J. INT’L L. & POL 1 (1996). 130 See, e.g., Jonathan Charney, The Implications of Expanding International Dispute Settlement Systems, 90 AM. J. INT’L L. 69 (1996) (urging “competition” among international tribunals); Shigeru Oda, The International Court of Justice from the Bench, 244 RECUEIL DES COURS 9, 139-55 (1993 VII) (multiple fora detract from role of ICJ). 131 For an introduction to the literature, see Symposium, Law, Economics, & Norms, 144 U. PA. L. REV. 1643 (1996). 39 created by private groups are likely to be efficient, and whether and when the state should incorporate these norms into positive law, or defer to these norms in a dispute resolution context. Some have analogized lawmaking to state economic planning, and norms to the market.132 Others are more skeptical, pointing to externalities, strategic behavior, imperfect information and other reasons why private norms will often be inefficient.133 The norms literature typically identifies several features that distinguish “norms” from “law.” Significantly, while law is the product of centralized, hierarchical bodies (legislatures and courts), norms arise out of through a decentralized process involved horizontally situated actors. Similarly, while law is enforced through centralized, hierarchical bodies, norms are enforced through non-legal, decentralized mechanisms. In particular, it appears that norms are often obeyed when they become "internalized," or as a result of reputational concerns.134 Some of the early scholarship on norms emphasized their importance in underdeveloped legal systems.135 Interestingly, one of the leading L&E scholars of “norms,” Eric Posner, has recently co- authored an article on customary international law. Somewhat surprizingly, this paper analyzes custom from a game theoretic perspective. While this game theoretic approach to custom is fully consistent with our call for L&E analyses of international legal issues, we hope that those interested in norms might begin to explore issues such as the conditions under which we might expect customary norms to serve broader community interests, when customary norms might be preferable to treaty, and various strategies for dealing with the breach of customary norms. 3. Regulatory Competition--Regulatory Competition Regulatory competition has become an important issue in international relations, despite the fact that we have little data showing that such competition actually occurs. There is a growing law and economics literature addressing regulatory competition, increasingly linked to the issue of regulatory jurisdiction. This literature began in U.S. domestic analysis of fiscal competition, utilizing the Tiebout theorem, has addressed the “Delaware phenomenon” in U.S. corporate law, 132 See Robert D. Cooter, Decentralized Law for a Complex Economy: The Structural Approach to Adjudiating the New Law Merchant, 144 U. PA. L. REV. 1643 (1996). 133 See Eric A. Posner, Law, Economics and Inefficient Norms, 144 U. PA. L. REV. 1697 (1996). For a comment on the Cooter and Posner papers, see Avery Katz, Taking Private Ordering Seriously, 144 U. PA. L. REV. 1745 (1996). 134 Cass R. Sunstein, Social Norms and Social Roles, 96 COLUM. L. REV. 903 (1996); Richard H. McAdams, The Origin, Development and Regulation of Norms, 96 MICH. L. REV. 338 (1997) (outlining an "esteem" theory to describe origin and enforcement of norms, where "esteem" turns, in part, on individuals caring how they are perceived by others). 135 See, e.g., Robert Cooter & Janet T. Landa, Personal Versus Impersonal Trade: The Size of Trading Groups and Contract Law, 4 INT' L REV. L. & ECON. 15 (1984); Janet T. Landa, A Theory of the Ethnically Homogeneous Middleman Group: An Institutional Alternative to Contract Law, 10 J. LEGAL STUD. 349 (1981). 40 and is beginning to address international regulatory competition.136 As we note below, some of these themes are beginning to appear in international environmental law scholarship, and we believe that could usefully be applied to other areas as well. 4. Fiscal Federalism--International Organizations The fiscal federalism literature addresses how to distribute responsibilities among different levels of government. The general argument is that government services should be provided by the smallest jurisdiction that encompasses the geographical expanse of the benefits and costs associated with the service. Under this approach, all the relevant costs and benefits are internalized. In addition, this approach permits the tailoring of service levels to the particular tastes and other circumstances found in individual jurisdictions. The underlying ideas is that, instead of providing a uniform level of public outputs over a large area, social welfare can be increased by differentiating these outputs according to local preferences and conditions.137 The literature of fiscal federalism is only beginning to be imported from economics to law. It has been applied to many issues related to the European Union, including the principle of subsidiarity and European Monetary Union.138 This literature shows promise for application to international legal issues of coordination among governments, not only in the tax area, but in other regulatory fields. It may also shed light on the difficulties surrounding the powers and competencies afforded international organizations, as discussed above. 5. Domestic environmental law--international environmental law L&E analysis has been very influential in domestic environmental discourse. These economic arguments are increasingly being used in various international environmental law contexts. For example, the law and economics critique of “command and control” legislation has helped prompt significant changes in the structure of domestic environmental statutes. Similar effects are starting to be seen in the international context, as evidenced by the various “market mechanisms” included in the recently concluded Kyoto Protocol. 139 Economic rhetoric has also entered ICJ opinions on international environmental matters.140 136 See, e.g., Joel P. Trachtman, International Regulatory Competition, Externalization and Jurisdiction, 34 HARV. INT’L L. J. 47 (1993). 137 See generally WALLACE E. OATES, FISCAL FEDERALISM 31-38 (1972); Wallace Oates, On Environmental Federalism, 83 VA. L. REV. 1321, 1322-23 (1997). 138 See, e.g., Robert P. Inman & Daniel L. Rubinfeld, The EMU and Fiscal Policy in the New European Community: An Issue for Economic Federalism, 14 INT’L REV. L. & ECON.147 (1994). 139 The Protocol can be accessed at <http://www.unfccc.de/index.html>. 140 See Request for an Examination of the Situation in Accordance with Paragraph 63 of the Court’s Judgment of 20 December 1974 in the Nuclear Tests Case (N.Z. v. Fr.), 1995 I.C.J. 288, 383 (Sept. 22) (opinion of Judge ad hoc Palmer). 41 Economic analysis can also be helpful in clarifying the very justifications for international environmental law. At times, these rules are justified by fears of a “race to the bottom,” in which nations would compete for investment and industry by progressively lowering their environmental standards.141 The robust debate over ‘race to the bottom’ theory in the domestic context142 has started to spill over into the international domain. Significantly, this debate has paid careful attention to the differences between domestic and international legal systems.143 We also believe that public choice and other L&E methodologies that have been influential in the domestic realm will likewise prove fruitful in the international context.144 6. Comparative Law/ Law and Development/ Harmonization--Comparative Institutional Analysis Comparative law has suffered to an even greater degree than international law from lack of a theoretical and methodological base. The new institutional economics, with its emphasis on comparative institutional analysis, is a natural source of theory and methodology for comparative law. This approach may be applied to today’s two leading uses for comparative law: structuring of laws for emerging and developing countries,145 and analysis of various national legal regimes toward harmonization. 141 This rationale was likewise an important argument in favor of federal environmental law in the 1970s. The classic articulation of this rationale is in Richard B. Stewart, Pyramids of Sacrifice: Problems of Federalism in Mandating State Implementation of National Environmental Policy, 86 YALE L.J. 1196 (1977). 142 Richard L. Revesz, Rehabilitation Interstate Competition: Rethinking the Race-to-the- Bottom Rationale for Federal Environmental Regulation, 67 N.Y.U. L. REV. 1210 (1992); Kirsten H. Engel, State Environmental Standard Setting: Is there a “Race” and Is it “to the Bottom”?, 48 HASTINGS L. J. 271 (1997); Daniel C. Esty, Revitalizing Environmental Federalism, 95 MICH. L. REV. 570 (1996); Peter P. Swire, The Race to Laxity and the Race to Undesirability: Explaining Failures in Competition Among Jurisdictions in Environmental Law, 14 YALE L. & POL’Y REV. 67 (1996). 143 See, e.g., Daniel A. Farber, Environmental Federalism in a Global Economy, 83 VA. L. REV. 1283 (1997); Richard L. Revesz, Federalism and Environmental Regulation: Lessons for the European Union and the International Community, 83 VA. L. REV. 1331 (1997). 144 See DANIEL C. ESTY, GREENING THE GATT: TRADE, ENVIRONMENT AND THE FUTURE (1994) (detailing public choice explanation of environmental and trade policies); Jeffrey L. Dunoff, From Green to Global: Toward the Transformation of International Environmental Law, 19 HARV. ENV. L. REV. 241 (1995) (suggesting refinements to public choice model). 145 See, e.g., UGO MATTEI, COMPARATIVE LAW AND ECONOMICS (1997); Symposium: Economic Analysis of Law in Civil Law Countries: Past, Present, Future, 11 INT’L REV. L & ECON. 261 (1991); Joel P. Trachtman, The Applicability of Law and Economics to Law and Development: The Case of Financial Law, in INTERNATIONAL FINANCIAL INSTITUTIONS AND THE EMERGING MARKETS (Joseph J. Norton and Mads Andenas, eds. 1996). 42 Appendix: A Literature Survey of Law and Economics of International Law 1. General a. ECONOMIC DIMENSIONS OF INTERNATIONAL LAW: COMPARATIVE AND EMPIRICAL PERSPECTIVES (Jagdeep S. Bhandari & Alan O. Sykes, eds. 1997). 2. Territory and Jurisdiction a. Howard Chang, An Economic Analysis of Trade Measures to Protect the Global Environment, 83 GEO. L.J. 2131 (1995). b. Stephen J. Choi & Andrew T. Guzman, National Laws, International Money: Regulation in a Global Capital Market, 65 FORDHAM L. REV. 1855 (1997). c. John A.C. Coneybeare, Public Goods, Prisoners' Dilemmas and the International Political Economy, 28 INT' L STUD. Q. 5-8 (1984). d. Daniel C. Esty, Revitalizing Environmental Federalism, 95 MICH. L. REV. 570 (1996). e. Richard Herring & Friedrich Kubler, The Allocation of Risk in Cross-Border Deposit Transactions, 89 NW. U.L. REV. 942 (1995). f. Jose Ibietatorremendia, Comment: Exchange Control Risk in Eurodollar Deposits: A Law and Economics Perspective, 141 U. PA. L. REV. 591 (1992). g. Thomas W. Merrill, Golden Rules for Transboundary Pollution, 46 DUKE L.J. 931 (1997). h. Henry H. Perritt, Property and Innovation in the Global Information Infrastructure, 1996 U. CHI. LEGAL F. 261 (1996). i. Robert K. Rasmusen, A New Approach to Transnational Insolvencies, 19 MICH. J. INT’L L. 1 (1997). j. Gunnar Schuster, Extraterritoriality of Securities Laws: An Economic Analysis of Jurisdictional Conflicts, 26 L. & POL’Y INT’L BUS. 165 (1995). k. Candice Stevens, Interpreting the Polluter Pays Principle in the Trade and Environment Context, 27 CORNELL INT' L L.J. 577 (1994). l. Joel P. Trachtman, Externalities and Extraterritoriality: The Law and Economics of Prescriptive Jurisdiction, chap. 17 in ECONOMIC DIMENSIONS OF INTERNATIONAL LAW: COMPARATIVE AND EMPIRICAL PERSPECTIVES (Jagdeep S. Bhandari & Alan O. Sykes, eds. 1997). 3. Treaty 1 a. Kenneth W. Abbott, Trust but Verify: The Production of Information in Arms Control Treaties and Other International Agreements, 26 CORNELL INT’L L. J. 1 (1993). b. Richard Morrison, Efficient Breach of International Agreements, 23 DENV. J. INT' L L. & POL' Y 183 (1994). c. Georg Ress, Ex Ante Safeguards Against Ex Post Opportunism in International Treaties: Theory and Practice of International Public Law, 150 J. INST. & THEO. ECON.279 (1994). d. John K. Setear, Responses to Breach of a Treaty and Rationalist International Relations Theory: The Rules of Release and Remediation in the Law of Treaties and the Law of State Responsibility, 83 VA. L. REV. 1 (1997). e. John K. Setear, Law in the Service of Politics:Moving Neo-Liberal Institutionalism from Metaphor to Theory by Using the International Treaty Process To Define "Iteration", 37 VA. J. INT' L. L. 641 (1997). f. John K. Setear, An Iterative Perspective on Treaties: A Synthesis of International Relations Theory and International Law, 37 HARV. INT’L L. J. 139 (1996). g. John K. Setear, The Barrister and the Bomb: The Dynamics of Cooperation, Nuclear Deterrence, and Discovery Abuse, 69 B.U. L. REV. 569(1989). h. Alan O. Sykes, Constructive Unilateral Threats in International Commercial Relations: The Limited Case for Section 301, 23 LAW & POL' Y INT' L BUS. 263 (1992). i. Alan O. Sykes, "Mandatory Retaliation" for Breach of Trade Agreements: Some Thoughts on the Strategic Design of Section 301, 8 B.U. INT' L L.J. 301, 324 (1990). j. Alan O. Sykes, Protectionism as a "Safeguard": A Positive Analysis of the GATT "Escape Clause" with Normative Speculations, 58 U. CHI. L. REV. 255 (1991). 4. Custom a. William J. Aceves, The Economic Analysis of International Law: Transaction Cost Economics and the Concept of State Practice, 17 U. PA. J. INT' L ECON. L. 995 (1996). b. Robert D. Cooter, Symposium: Law, Economics & Norms: Decentralized Law for a Complex Economy: The Structural Approach to Adjudicating the New Law Merchant, 144 U. PA. L. REV. 1643 (1996). c. Robert D. Cooter, Structural Adjudication and the New Law Merchant: A Model of Decentralized law, 14 INT’L REV. L. & ECON. 215 (1994). d. Eric Posner & Jack Goldsmith, xxxx (forthcoming) 2 5. Organization a. Eyal Benvenisti, Collective Action in the Utilization of Shared Freshwater: The Challenges of International Water Resources Law, 90 AM. J. INT’L L. 384 (1996). b. William Aceves, Institutionalist Theory and International Legal Scholarship, 12 AM. U.J. INT' L L. & POL' Y 227 (1997). c. Robert Cooter & Josef Drexl, The Logic of Power in the Emerging European Constitution: Game Theory and the Division of Powers, 14 INT' L REV. L. & ECON. 307 (1994). d. Jeffrey L. Dunoff, From Green to Global: Toward the Transformation of International Environmental Law, 19 HARV. ENV. L. REV. 241 (1995) e. Jeffrey L. Dunoff, Institutional Misfits: The GATT, the ICJ & Trade-Environment Dispute, 15 MICH. J. INT’L L. 1043 (1994). f. DANIEL C. ESTY, GREENING THE GATT: TRADE, ENVIRONMENT AND THE FUTURE (1994). g. ELINOR OSTROM, GOVERNING THE COMMONS: THE EVOLUTION OF INSTITUTIONS FOR COLLECTIVE ACTION (1990). h. E.U. Petersmann, Constitutionalism and International Organizations, 17 NORTHW. J. INT’L L. & BUS. 398 (1997). i. Marla Radinsky, Retaliation: The Genesis of a Law and the Evolution Toward International Cooperation: An Application of Game Theory to Modern International Conflicts, 2 GEO. MASON L. REV. 53 (1994). j. Duncan Snidal, Political Economy and International Institutions, 17 INT' L REV. L. & ECON. 3 (1996). k. Paul B. Stephan, Institutions for International Economic Integration: Accountability and International Lawmaking: Rules, Rents and Legitimacy, 17 NORTHW. J. INT’L L. BUS. 681 (1997). l. Paul B. Stephan, Barbarians Inside the Gate: Public Choice Theory and International Economic Law, 10 AM. U.J. INT’L L. & POL’Y 745 (1995). m. Joel P. Trachtman, Trade and . . . Problems, Cost-Benefit Analysis and Subsidiarity, Harvard Jean Monnet Working Paper 1/97, and forthcoming in EUR. J. INT’L L. (1998). n. Joel P. Trachtman, The Theory of the Firm and the Theory of the International Economic Organization: Toward Comparative Institutional Analysis, 17 NORTHW. J. 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