insurance, see section 6 of chapter 22) 1.3 Fault-based liability for harm. Under this rule a party who causes harm is liable and bears a sanction equal to harm only if his act was undesirable, that is, only if the social authority finds that the expected harm exceeded his expected benefits. If, for example, the expected harm is $100 and the gain $60, the act would be found undesirable, so there would be liability for harm. a party would, however, not engage in such an undesirable act, for his expected sanction would equal the expected harm and thus exceed his benefit (his expected liability would equal $100 and exceed $60). If an act is desirable, however, a party will clearly commit it, for then he will not bear liability for any harm that comes about as a result Note again that if the sanction for an undesirable act is less than harm, then parties may sometimes commit such acts because their gain may exceed their expected sanction. If, however the sanction for an undesirable act exceeds harm there will not be an chilling effect on desirable acts, for these acts are not subject to sanctions under fault-based liability; hence, sanctions for undesirable acts that exceed harm will still lead to optimal outcomes Comments.(a) The information needed by the social authority to apply the fault-based liability rule is not only the level of harm, but also its likelihood and the benefit from the act, for to determine whether an act is desirable or not, the authority must compare the benefit to the expected harm (b)Again, the level of assets must in general be sufficient to pay for the harm, in order that the party be induced not to commit undesirable acts Risk-averse case. Parties will bear no risk under fault-based liability if fault is found without error; this is an advantage of the fault-based form of liability over strict liability(again assuming that insurance against sanctions is not sold ). Parties will, however, bear some risk of sanctions in the presence of uncertainty concerning findings of fault-- generated by errors in the determination of fault or by parties'imperfect ability to control their behavior. Thus, if parties to the extent that the parties bear risk due to uncertainty in findings of fault. Notably, aaai t are risk averse, the observations made in the case of strict liability carry over to the present rule, exceeding harm may well have a chilling effect on desirable acts g*(,s) It can be shown under fairly general conditions that the optimal s is less than h, the intuition being as stated in text. Of note that by lowering s from h, there is a gain in social welfare due to a reduction in risk-bearing by those who commit the act and might be sanctioned. This is so as long as the wealth of those who are sanctioned, y+g-S, tends to be lower than that of individuals in general (who have to pay higher taxes if s is lowered), for then the marginal utility of those who are sanctioned is higher than average marginal utility Finally, it should be observed that the expression for social welfare W reduces in the risk-neutral case to W==+ gfg)dg /(1/ F(gs))gh that is, a constant plus total gains minus total harms For in the risk-neutral case, we can take U()=y, so that g*U, s) reduces to qs, and substitution in the previous expression for w yields this expression To amplify, under fault-based liability, a party who commits an act and causes harm will be held liable if and nly if the act was undesirable, that is, if and only if g gh; otherwise he will not beheld liable If the sanction s= h, then party for whom g gh will face expected liability if he commits the act equal to gh, so will not commit the act; others will face no liability. Hence, if s= h, all undesirable acts will be deterred and all desirable acts will be committedChapter 20 – Page 3 insurance, see section 6 of chapter 22.) 1.3 Fault-based liability for harm. Under this rule a party who causes harm is liable and bears a sanction equal to harm only if his act was undesirable, that is, only if the social authority finds that the expected harm exceeded his expected benefits. If, for example, the expected harm is $100 and the gain $60, the act would be found undesirable, so there would be liability for harm. A party would, however, not engage in such an undesirable act, for his expected sanction would equal the expected harm and thus exceed his benefit (his expected liability would equal $100 and exceed $60). If an act is desirable, however, a party will clearly commit it, for then he will not bear liability for any harm that comes about as a result.4 Note again that if the sanction for an undesirable act is less than harm, then parties may sometimes commit such acts because their gain may exceed their expected sanction. If, however, the sanction for an undesirable act exceeds harm, there will not be an chilling effect on desirable acts, for these acts are not subject to sanctions under fault-based liability; hence, sanctions for undesirable acts that exceed harm will still lead to optimal outcomes. Comments. (a) The information needed by the social authority to apply the fault-based liability rule is not only the level of harm, but also its likelihood and the benefit from the act, for to determine whether an act is desirable or not, the authority must compare the benefit to the expected harm. (b) Again, the level of assets must in general be sufficient to pay for the harm, in order that the party be induced not to commit undesirable acts. Risk-averse case. Parties will bear no risk under fault-based liability if fault is found without error; this is an advantage of the fault-based form of liability over strict liability (again assuming that insurance against sanctions is not sold). Parties will, however, bear some risk of sanctions in the presence of uncertainty concerning findings of fault -- generated by errors in the determination of fault or by parties= imperfect ability to control their behavior. Thus, if parties are risk averse, the observations made in the case of strict liability carry over to the present rule, to the extent that the parties bear risk due to uncertainty in findings of fault. Notably, liability exceeding harm may well have a chilling effect on desirable acts. g*(y, s) It can be shown under fairly general conditions that the optimal s is less than h, the intuition being as stated in text. Of note is that by lowering s from h, there is a gain in social welfare due to a reduction in risk-bearing by those who commit the act and might be sanctioned. This is so as long as the wealth of those who are sanctioned, y + g – s, tends to be lower than that of individuals in general (who have to pay higher taxes if s is lowered), for then the marginal utility of those who are sanctioned is higher than average marginal utility. Finally, it should be observed that the expression for social welfare W reduces in the risk-neutral case to 4 W = z + Igf(g)dg ! (1 ! F(qs))qh, qs that is, a constant plus total gains minus total harms. For in the risk-neutral case, we can take U(y) = y, so that g*(y, s) reduces to qs, and substitution in the previous expression for W yields this expression. 4 To amplify, under fault-based liability, a party who commits an act and causes harm will be held liable if and only if the act was undesirable, that is, if and only if g < qh; otherwise he will not beheld liable. If the sanction s = h, then any party for whom g < qh will face expected liability if he commits the act equal to qh, so will not commit the act; others will face no liability. Hence, if s = h, all undesirable acts will be deterred and all desirable acts will be committed