TKP, SL&Neg

A New Perspective on an Old Problem: Negligence,

Strict Liability, and Non-Legal Sanctions
Tsachi Keren-Paz∗

Abstract
In this article, I compare negligence and strict liability regimes with respect to
their different abilities to generate the imposition of non-legal sanctions on defendants
in torts. I evaluate the relative desirability of the two regimes from the perspectives of
efficiency, distributive justice, and other justice considerations, while distinguishing
between reputation loss produced by the litigation process and that produced by the
defendant’s underlying activity that caused the accident.
My analytical framework is grounded in the following insights: First, non-legal
sanctions can be value-destroying, value-preserving, or value-creating. However, it is
hard to empirically determine the extent to which a given finding of liability produces
any of these effects. This difficulty affects the ability to normatively evaluate the two
regimes. Second, non-legal sanctions have a dual character—on the one hand, as a
type of sanction imposed in response to the damage caused by the defendant and, on
the other hand, as possibly an undesirable social cost (when the non-legal sanctions
are value-destroying) or a desirable social benefit (when the non-legal sanctions are
value-creating). In its capacity as a sanction for damage caused, the non-legal sanction
increases the ex-ante level of care taken by potential defendants and the ex-post
incentives to actual defendants to fight liability and to both parties to settle. In
evaluating the regimes, therefore, it is necessary to determine whether tort damages

∗
City Solicitors Educational Trust Lecturer in Commercial Torts, Keele Law School.
I owe special thanks to Ariel Porat for both triggering my initial interest in the topic
and for his elaborate comments on previous drafts of this article. I would like to thank
Nili Cohen, Daniel Friedmann, Oren Gazal, Yifat Gazit-Holtsman, Shai Lavi, Tali
Margalit, Annelise Riles, Dana Rotman, Ron Shapira, the participants of the Colman
Law School and UBC Law School faculty seminars and the participants of the
Canadian Law and Society Annual Meeting, Halifax, 2003 for useful discussions and
comments on previous drafts, and to Shlomi Bahri, Ram Gamliel, and Avi Zanco for
excellent research assistance. I would like to thank Colman Law School for its
financial support of this project.

Electronic copy available at: http://ssrn.com/abstract=1115345

 TKP, SL&Neg

currently awarded by courts over-deter, under-deter, or optimally deter. Similarly,

when reputation loss is viewed as constituting either a cost or a benefit in itself,
determining which regime is superior given the regimes’ different abilities to generate
non-legal sanctions should hinge on the answers to several empirical questions,
including to what extent tort damages deter.
Third, and most important, the analysis in this paper is based on the basic
assumption that any given finding of a defendant as liable in torts is likely to subject
him or her to greater non-legal sanctions if reached under a negligence regime than if
reached under a strict liability regime. However, it is not clear which regime will
produce greater non-legal sanctions overall, since a strict liability regime is likely to
produce more findings of liability. The main distinction between the rival regimes’
respective potential to generate non-legal sanctions derives from the fact that, in
findings of liability, a strict liability regime pools together negligent and non-
negligent defendants. At both the allocative and distributive levels, this pooling effect
is likely to lead to a reduction in the investment made by high-risk professionals in
precaution costs. Low-risk professionals might either increase their investment in
precaution (as the flip-side of this adverse selection coin) or, like the high-risk
professionals, reduce that investment in a tragedy-of-the-commons. A strict liability
regime might serve as a hedging mechanism for low-risk professionals against the
significant reputation loss involved in being found liable under a negligence regime.
At the aggregate level, a strict liability regime will produce greater non-legal
sanctions if market participants overestimate the proportion of faulty defendants out
of the pool of defendants found liable under that regime.
Finally, the paper critically examines the assumption that a negligence regime is
superior to strict liability in that it better signals to potential victims the inadequacy of
the professionals being found liable and, in so doing, channels potential victims from
higher-risk to lower-risk professionals and reduces the likelihood of occurrence of
future accidents.

Electronic copy available at: http://ssrn.com/abstract=1115345

 TKP, SL&Neg

Table of Contents
Introduction

I. Litigation as a Source of Non-Legal Sanctions

A Assumptions
B What Triggers Non-Legal Sanctions
1. Non-Marginal Non-Legal Sanctions (The Underlying Event)
2. Marginal Non-Legal Sanctions (Litigation, Settlement, Decision)
3. The Relative Magnitudes of Non-Legal Sanctions
4. Which Regime Produces Overall Greater Non-Legal Sanctions?

C Necessary Empirical Data

1. Do Tort Damages Awards Over-deter, Under-deter, or Optimally
Deter?
2. Are Non-Legal Sanctions Value-Destroying, Value-Preserving, or
Value-Creating?

II. Reputation Loss as a Social Cost or Benefit

A Reputation Loss as a Deadweight Loss
1. Defining Social Cost
2. A Court Finding of Negligence as a Deadweight Loss
B Reputation Loss as Value-Creating

III. Fighting Reputation Loss

A Increasing Investment in Precaution
1. Why Reputation Loss Should Not Be Deducted from Damages
2. Court Errors and the Non-Linear Nature of Liability under a Negligence
Regime

B Excessive Fighting of Liability and the Effect on the Incentive to Settle

1. Incentive to Settle
2. Excessive Fighting of Liability

IV. The Effects of Pooling

A Under-Deterrence of High-Risk Professionals (Adverse Selection)
B Low-Risk Professionals: Over-Deterrence (Adverse Selection) or Under-
Deterrence (Tragedy of the Commons/Moral Hazard)
1. Over-Deterrence
2. Under-Deterrence
C The Choice of Regime Given the Pooling Effect

V. Signaling (Shifting).
A Is Signaling Reliable?
1. Can Past Negligence Reliably Predict Future Negligence?

3
 TKP, SL&Neg

2. Biases in Imposing Reputation Loss

3. Signaling Effect might Simply Substitute Less for More Informed Patients
B Comparing the Two Regimes in Terms of Their Signaling Effect

Conclusion

Introduction
The objective of this article is to compare the two basic competing tort liability
regimes, negligence and strict liability,in terms of their respective abilities to generate
non-legal sanctions in the form of reputation loss.1 While there is an abundance of
literature comparing the two regimes and literature analyzing non-legal sanctions,
little has been written on the intersection of these two fields of inquiry. The
methodology I apply draws mainly on law and economics; however, I attach much
less importance to the goal of wealth maximization than do most law and economic
scholars. Therefore, I will attempt to evaluate the two regimes not only from an
efficiency perspective, but also based on the distributive effects of the two regimes as
well as on other justice criteria.
A major distinction between the two regimes relates to the symbolic meaning of
being found liable. Robert Cooter associates a negligence regime with a sanction and
a strict liability regime with a price.2 The duty to compensate under a negligence
regime hinges upon a prior normative evaluation that the defendant has acted
improperly. Therefore, in order to deter her and others (under Cooter’s economic
framework), or rectify the wrong done to the plaintiff (under a corrective justice
framework), or punish the defendant (under a retributive justice framework and,
possibly, some versions of a distributive justice framework), the defendant is saddled
with the duty to compensate the plaintiff. A finding of liability under a negligence
rule, therefore, is necessarily based on a negative normative evaluation of the
defendant’s conduct. By contrast, a strict liability regime is based on the premise that
the activity performed by the defendant, with its accompanying level of risk, was

1
My focus in this article is on the reputation loss suffered by defendants due to the
prospect of being found liable in torts. While non-legal sanctions include more than
reputation loss, I use the terms interchangeably and limit my argument to non-legal
sanctions that are imposed by third parties on defendants due to the latter’s being
found liable in torts or being involved in tort litigation.
2
Robert Cooter, Prices and Sanctions, 84 Colum. L.R. 1523 (1984) at 1538-44.

4
 TKP, SL&Neg

reasonable and permissible; however, it would be inequitable for the defendant not to
pay for the harm caused by that activity.3 While some theories of strict liability (such
as Richard Epstein’s) can be understood as assigning moral responsibility for the
harm resulting from the defendant’s conduct and, as such, as predicting the justified
imposition of a non-legal sanction following a finding of strict liability, the dominant
understanding of strict liability views it as the price extracted for engaging in
legitimate activity that causes harm. Indeed, scholars as divergent as Cooter, Prosser
& Keeton, Gregory Keating, and John Fleming understand strict liability as just such
a price.4
This distinction has obvious relevance for my research agenda. If, indeed, a
finding of negligence necessarily triggers the conclusion that the defendant’s behavior
was antisocial, whereas a finding of strict liability necessarily triggers a conclusion
that the defendant’s behavior was permissible, negligence liability should generate a
non-legal sanction, whereas strict liability should not. Yet, a finding of liability under
a strict liability rule is likely to generate non-legal sanctions, for several reasons. The
principal reason is that under a strict liability rule, some of the defendants found
liable acted in a socially undesirable way. They acted negligently according to the
negligence regime standard of care and, accordingly, would have been found liable
even under a negligence regime. A second reason is that the public might not catch
the distinction between the two regimes and will assume that any tortious liability
connotes improper conduct by the defendant. A third reason why a finding of liability
under a strict liability regime might generate non-legal sanctions is that potential
clients might avoid the defendant for fear – rational or not – that the defendant might
be implicated in future accidents. Note that such avoidance by a client does not

3
Cooter defines price as “money extracted for doing what is permitted,” id. at 1523,
and characterizes strict liability as imposing a price, id. at 1524.
4
Cooter id.; W. Page Keeton et al., Prosser & Keeton on the Law of Torts, 5th ed.
(1984) at 536-38 (characterizing strict liability as imposed, despite the fact that
defendant “has not even departed in any way from a reasonable standard of intent or
care,” and as based on the idea that defendant’s activity, while tolerated, must pay its
way, founded on ideas of social justice and loss spreading, and, at times, in cases of
abnormally dangerous activities, based on a middle ground); Gregory Keating,
Distributive and Corrective Justice in the Tort Law of Accidents, 74 S. Cal. L. Rev.
(2000) 193 at 200 (characterizing strict liability as liability imposed for harm
reasonably inflicted); John G. Fleming, The Law of Torts, 9th ed. (Sydney: LBC
Information Services, 1998) at 369 (“the hallmark of strict liability therefore is that it
is imposed on lawful, not reprehensible activities”).

5
 TKP, SL&Neg

depend on his or her believing that the defendant was, indeed, at fault (or is likely to
be at fault in the future). Rather, while avoiding the services of a misfortunate loser
might or might not be a rational decision, it is definitely a prudent one. As I argue
below, the pooling together of negligent and non-negligent defendants under a strict
liability regime has significant ramifications for the evaluation of the two regimes.
For now, it is sufficient to observe that a finding of liability under a strict liability rule
does not necessarily suggest that the defendant is liable despite the absence of fault on
her part, but, rather, that the defendant is liable despite the possible absence of fault
on her part.
My analytical framework is based on the following insights: First, as observed
by Robert Cooter and Ariel Porat, a non-legal sanction can be value-destroying,
value-preserving, or value-creating. It is value-destroying when it is a deadweight loss
(i.e., when there is no one enjoys a corresponding gain to the sanction imposed on the
defendant). It is value-preserving when the defendant’s loss is accompanied by a
corresponding gain to a third party, such as the shift of patients from a physician who
incurs a reputation loss to another physician. It is value-creating when its imposition
prevents future accidents by generating an increase in the level of care taken by
potential defendants and by serving as a channeling/signaling mechanism.5 Level of
care will increase since non-legal sanctions add to the total amount of sanctions borne
by those found liable.6 In addition, non-legal sanctions arguably decrease the
incidence of future accidents by channeling potential victims from high-risk
professionals to low-risk professionals, thereby reducing high-risk professionals’
market share and, consequently, the total number of accidents. A finding of liability in
torts arguably signals to potential victims that contact with the liable defendant should
be avoided and should be directed instead to third parties.
Second, non-legal sanctions have a dual character: as a sanction imposed in
response to the damage caused by the defendant and as either inherently undesirable
as a social cost (when they are a deadweight loss) or as inherently desirable as a social
benefit (when they are value-creating). When non-legal sanctions are either a cost or a
benefit from a social perspective, a question arises as to which liability regime

5
Robert Cooter & Ariel Porat, Should Courts Deduct Nonlegal Sanctions from
Damages?, 30 J. Legal Stud. 401 (2001).
6
For another reason for increase in level of care triggered by the possibility of
imposition of non-legal sanctions, see id. at 406 (awareness-raising).

6
 TKP, SL&Neg

produces greater such sanctions: strict liability or negligence. As a sanction, non-legal

sanctions are part of the deterrence provided by tort law and thus influence the level
of precaution taken by potential defendants. Therefore, even when, from a social
perspective, non-legal sanctions are neither desirable nor undesirable, their effect on
potential defendants’ behavior – increasing their levels of precaution, on the one hand,
and attempting to either fight liability or settle, on the other – should be considered.
Third, non-legal sanctions are asymmetrical: they typically harm the defendant
without benefiting the plaintiff. Fourth, and finally, strict liability pools together
negligent and non-negligent defendants.
The analysis continues as follows. Part I explores the role litigation has in
generating reputation loss. Part II explores reputation loss as either inherently
undesirable (in line with the assumption that it is a deadweight loss) or, alternatively,
inherently desirable (in line with the assumption that it is value-creating). Part III
focuses on reputation loss as a sanction and on the way it affects potential defendants’
behavior. Part IV then analyzes the different deterrent effects of reputation loss under
the two regimes, given the pooling effect caused by strict liability with its
concomitant adverse selection and tragedy-of-the-commons effects. Finally, Part V
compares the respective signaling effects of the two regimes.
The argument in this article applies especially to professionals’ liability, as they
operate under market constraints and have much at stake in terms of avoiding
reputation loss. However, the argument is not limited only to professional liability.
Throughout the article, I use physician liability as my principal illustration of my
argument, since reputation loss seems patently significant and relevant to the careers
of physicians and a relatively great deal of empirical data is available in this area.7

7
Massachusetts and Florida, for example, have passed legislation creating physician
profile databases, which are open to the public and include data on malpractice
findings of liability and settlements. This and similar legislation triggered discussions
in the literature, which, in part, inform my analysis. See, e.g., Elisabeth Ryzen, The
National Practitioner Data Bank: Problems and Proposed Reforms, 13 J. Legal Med.
409 (1992); Steven K. Berenson, Is it Time for Lawyer Profiles?, 70 Fordham L. Rev.
645 (2001); Mark J. Greenwood, The Physician Profile Database, 21 J. Legal. Med. 4
(2000); Julie Barker Pape, Physician Data Banks: The Public's Right To Know Versus
the Physician's Right To Privacy, 66 Fordham L. Rev. 975 (1997).

7
 TKP, SL&Neg

This, too, should not detract from the general applicability of the conclusions deriving
from the analysis.8

I. Litigation as a Source of Non-Legal Sanctions

This Part explores the role litigation has in generating reputation loss. Section A
introduces the assumptions underlying my analysis; Section B distinguishes between
non-litigation-based and litigation-based types of reputation loss and explains in
which ways a finding of liability and the litigation process can generate reputation
loss. This Section also proposes a ranking of the magnitude of reputation loss
generated by different events, under the two competing regimes. Finally, it suggests
guidelines for responding to the question of which of the two regimes generates more
overall reputation loss. Section C then outlines the empirical data necessary for
determining which of the two regimes is preferable in light of their different potential
to generate non-legal sanctions.

A. Assumptions
My analysis in this article is based on six assumptions. One, finding a defendant
liable in tort (under either regime) will increase the total amount of non-legal
sanctions borne by her. As the discussion below demonstrates, in addition to a finding
of liability, there are other sources that produce non-legal sanctions, mainly: the actual
occurrence of the underlying activity (the accident); the litigation process (initiating
and proceeding with a lawsuit); and a settlement reached by the parties. My basic
assumption is that a positive finding of liability against the defendant adds to the total
magnitude of non-legal sanctions she incurs. It should be borne in mind, however, that
this assumption is in dispute, and the significance of the reputation loss generated by
court findings of liability will vary. First, several social scientists have questioned the
extent to which members of the public are aware of court rulings in general and in the

8
I will not attempt in this article to demarcate the boundaries of physician (or other
professional) strict liability. For one such attempt, see Frank J. Vandall, Applying
Strict Liability to Professionals: Economic and Legal Analysis, 59 Ind. L.J. 25 (1983)
at 44-60.

8
 TKP, SL&Neg

area of torts in particular.9 Second, such rulings, even if the public is aware of them,
can generate non-legal sanctions only if the courts enjoy legitimacy within the
community and if the rulings are perceived as accurate, professional, reliable, and
unbiased.10 Nonetheless, I assume that court rulings in the area of torts have a certain
capacity to generate non-legal sanctions, but the degree and significance of this effect
vary with the context and, ideally, should be examined empirically by social
scientists. Thus, the analysis below can be understood as contingent on the capacity of
court determinations of liability in tort to produce non-legal sanctions.11 I term non-
legal sanctions borne by the defendant as a result of the litigation process marginal
non-legal sanctions or marginal reputation loss; reputation loss borne by the defendant
regardless of the litigation process is termed non-marginal reputation loss.
Two, the magnitude of the non-legal sanctions borne by a given defendant
depends on the relevant structure of the market. In addition to general questions

9
See, e.g., Marc Galanter, An Oil Strike in Hell: Contemporary Legends About the
Civil Justice System, 1998 Ariz. L. Rev. 717; Stephen D. Sugarman, Doing Away
with Tort Law, 73 Cal. L. Rev. 555 (1985) at 565-69; Stewart Macaulay, Law and the
Behavioral Sciences: Is There Any There There? 6:2 Law & Policy 149, 168 (1984).
10
See, e.g. Marc Galanter, "The Radiating Effects of Courts," in Keith D. Boyum &
Lynn Mather eds., Empirical Theories of Courts (New York: Longman, 1983) 123 at
132, 135-136, 138; Dan M. Kahan, Social Influence, Social Meaning, and Deterrence,
83 Va. L. Rev. 349, 352-61 (1997).
11
In fact, the analysis is based not only on the (in my opinion, realistic) assumption
that court rulings can generate non-legal sanctions, but also on the more contested
assumption that market participants will be able to appreciate the distinction between
negligence-based liability versus strict liability-based liability. The dispute
surrounding it notwithstanding, I would like to make the following observations about
the latter assumption: First, even though in many cases market participants are
unlikely to appreciate the distinction between the regimes, it is nonetheless possible to
conceive of situations in which consumers are sophisticated enough to appreciate this
distinction. Moreover, even if consumers are generally unable to make the distinction,
some relevant market participants, such as employers, are likely to be able to
distinguish between the two forms of liability regimes. Furthermore, consumer
awareness of the difference between the regimes might develop with time due to
either instructions they receive (such as in data profiles, see supra note 7) or when
strict liability for professionals becomes more prevalent. Second, even if market
participants are unlikely to be able to appreciate the distinction between the regimes,
awareness of this inability by policymakers is important when choosing one regime
over the other. For example, as elaborated below, if market participants are likely to
mistakenly understand liability under a strict liability regime as fault-based, that
regime will produce more non-legal sanctions than a negligence regime will. If more
deterrence is socially desirable, then strict liability is likely to be preferred, or
conversely, if over-deterrence is prevalent, then a negligence regime will be preferred.
See Section B.4 below.

9
 TKP, SL&Neg

regarding the elasticity of demand and supply curves, we must consider the question
of to what degree consumers are free to shift between competing suppliers. For
example, in the medical context, consumers’ choice of physician might be constrained
by the conditions imposed by HMOs or equivalent institutions. The following analysis
assumes a high degree of consumer choice.
Three, my most basic and strongest assumption is that almost always a finding
of liability will generate greater non-legal sanctions if the finding is under a
negligence regime than if it is under a strict liability regime. This assumption is
grounded in the understanding that negligence-based liability necessarily connotes
improper behavior on the part of the defendant, whereas a finding of liability under a
strict liability regime does not necessarily indicate improper behavior.
Four, a defendant found liable under a strict liability regime will bear greater
non-legal sanctions than she would were she found not liable under a negligence
regime. This is, in a way, the flip-side of my previous assumption. If we ignore for the
moment the possibility of judicial error, a finding of no-liability under a negligence
regime necessarily indicates that the defendant’s activity was faultless.12 By contrast,
a finding of liability under a strict liability regime leaves open the possibility that the
defendant was negligent and would have been found as such under a negligence
regime.
My fifth assumption is that the law of damages is not going to undergo a change
that will allow courts to deduct non-legal sanctions from the damages owed to the
victim by the tortfeasor. Such a suggestion recently was made by Robert Cooter and
Ariel Porat.13 I ignore this possibility, both because I predict that it is not likely to be
adopted any time soon and because I believe it to be normatively undesirable.14
Finally, I ignore the fact that judicial decisions might cause reputation loss to
the plaintiff. I intend to deal with this relevant possibility in future research.

B What Triggers Non-Legal Sanctions?

1 Non-Marginal Non-Legal Sanctions (the Underlying Event)

12
I refine this statement in Section I.B.3 below.
13
Cooter & Porat, supra note 5.
14
I intend to explain why I oppose such a suggestion in a different piece. For a short
discussion of this point, see Part III.A.1 below.

10
 TKP, SL&Neg

It is important to note that a court finding of liability and, more generally, the
litigation process are only one source of non-legal sanctions. Another source of such
sanctions is any publicity surrounding the underlying conduct that triggered (or will
trigger at some point) legal liability. For example, a surgeon who lost a patient on the
operating table might be suspected of committing malpractice. A physician who
constantly loses patients (has lost, say, 80% of her hernia patients) is very likely to
endure significant reputation loss even if no malpractice suit is ever filed against her
and probably even if she manages to always win any negligence suits brought against
her.15

2 Marginal Non-Legal Sanctions (Litigation, Settlement, Decision)

In addition to the reputation loss produced by the underlying accident, the
litigation itself and two of its possible three results – out-of-court settlement and a
finding of liability – might trigger additional reputation loss,16 in three different ways:
First, they might result in increased publicity for the case. The mere initiation of a
lawsuit and proceeding with litigation might augment the loss to reputation even
absent a negative finding by a court or the possibly negative implications of a
defendant’s willingness to settle.
Second, the litigation’s outcome provides a fact-finding service for third parties.
Only with the court’s ruling as to the facts of a case does the entire picture unfold for
third parties. For example, was the patient injured due to the physician’s malpractice
(as the plaintiff contends) or in spite of the optimal care provided by the physician (as
the defendant maintains)? A court ruling increases the amount of relevant information
available to future potential patients of the defendant physician.17 Note that the
significance of the information provided by the ruling varies from case to case. A
malpractice suit might fail due to a positive determination that the professional acted

15
For the “exonerating” potential of courts’ decisions and the limits of that potential,
see Section B.3 below.
16
In exceptional cases, a ruling finding the defendant liable might, nonetheless,
diminish her reputation loss. For example, if a physician was initially suspected of
intentionally harming a patient, the initial reputation loss will have been significant
but might be mitigated pursuant to a ruling that there was no intentional wrongdoing
but, rather, merely negligence.
17
Cf. Lisa Bernstein, Private Commercial Law in the Cotton Industry: Creating
Cooperation Through Rules, Norms, and Institutions, 99 Mich. L. Rev. 1724 (2001)
at 1761 n.154.

11
 TKP, SL&Neg

properly or due to the plaintiff lacking information necessary for proving her case.
However, even in the latter case, a ruling of no-liability provides relevant information
to interested third parties: that, according to the court, it is more probable than not that
the defendant was not negligent. Prior to such a ruling, this information (about the
probability that the defendant was negligent) was not available.
Whereas a court ruling has clear fact-finding capacity, this is not the case with
respect to out-of-court settlements.18 Rarely do settlement agreements clarify the facts
of the underlying event. They commonly include a clause in which the defendant
states that she is paying the compensation despite the absence of liability, and often
the terms of the settlement are kept confidential. Moreover, the common-sense
conclusion “If the defendant agreed to settle she probably did something-wrong”19
should be called into question for at least two reasons. First, the willingness of the
plaintiff to settle might be the result of the nuisance value of the suit. For example, in
the medical arena, this value is estimated to be in the range of $25,000 to $30,000,20
which might lead a non-negligent defendant to agree to settle. Second, turning again
to the medical context, at times physicians do not have veto power over their insurer’s
decision to settle a case.21 Given that there might be a conflict of interests between the
insurer and the physician (partially due to the fact that the latter, and not the former,
will bear any reputation loss ensuing from a settlement), it is imprudent to deduce
from a decision to settle an admission of negligence on the part of the defendant.22
Nonetheless, agreement to settle might provide third parties with the relevant piece of
information that the defendant estimated there was a chance she would be found liable

18
Cf. David Charny, Illusions of Spontaneous Order: Norms in Contractual
Relationships, 144 U. Pa. L. Rev. 1841 at 1852 (1996) (citing Owen M. Fiss, Against
Settlement, 93 Yale L.J. 1073 (1984)); Cooter & Porat, supra note 5, at 416.
19
This conclusion is likely to result in some reputation loss even if the agreement
includes a liability-disputing clause.
20
See Greenwood, supra note 7, at 513 n197-198; Pape, supra note 7, at 1001.
21
See Ryzen, supra note 7, at 438-39, 441-42.
22
See, e.g., Troyen Brennan et al., Relation Between Negligent Adverse Events and
the Outcomes of Medical-Malpractice Litigation, 335 New. Eng. J. Med. 1963,
1966-67 (1996) (concluding, based on interviews with insurers, that the “art” of
litigation can affect malpractice claims, such as in cases where a substantial
settlement is agreed to only because the physician in question would have made a
poor witness and despite the insurer’s belief that the physician met the required
standard of care).

12
 TKP, SL&Neg

by the court.23 One of the conclusions presented below is that the magnitude of the
non-legal sanction produced by the actual settlement as well as the extent to which
parties are willing to settle will vary under the two liability regimes.24
In addition to intensifying the publicity already generated by the underlying
event and providing fact-finding services, a court ruling (but not the mere conducting
of the litigation process and almost never an out-of-court settlement) might result in
non-legal sanctions in a third way: by clarifying the social meaning of the disputed
conduct and providing normative guidelines for its evaluation. At times, the dispute is
not over the facts but over their (legal) meaning. For example, is it negligent to cease
anti-coagulant treatment three days after a patient with a certain condition has
undergone surgery?25 In this example, the facts are not disputed but, rather, their
meaning. In medical cases, any course of action (ceasing/continuing treatment)
typically entails certain risks, and the question is always whether the physician
balanced those risks properly. The layperson cannot know the answer to this question.
The court ruling (assuming courts are qualified to make such evaluations) might give
potential patients relevant information as to whether the physician acted properly.

3 The Relative Magnitudes of Non-Legal Sanctions

Questions arise as to the different magnitude of the loss to reputation produced
by the different stages of an accident and the ensuing litigation. I will rank the
different events in what I claim to be descending order according to the magnitude of
reputation loss each is likely to generate. I will note whenever I think reasonable
assumptions, alternative to mine, can be made regarding this order. One should bear
in mind, though, that the correct ranking of the different stages according to the
relative magnitudes of non-legal sanctions generated by them is essentially an
empirical question, but, to the best of my knowledge, there are no empirical answers

23
However, a settlement in an amount not exceeding the nuisance value of the suit
would not provide even this limited information. Therefore, the amount agreed upon
in the settlement as well as the nuisance value of a suit are relevant factors in
evaluating whether the agreement to settle provides reliable information regarding the
defendant’s likelihood of having been found liable in court. Note that the defendant’s
reputation loss as the result of a lawsuit increases the nuisance value of the suit.
24
See Part III.B.1 below.
25
I draw here from C.A. 2989/95, Kurnatz v. Medical Center Sapir – Meir Hospital,
P.D. 51(4) 687 (Israel). A two-to-one majority determined that there had been no
negligence. In the discussion that follows, I assume a reverse decision.

13
 TKP, SL&Neg

to this question. Furthermore, we should distinguish between the questions of (1)

which of any two stages produces greater non-legal sanctions (ranking) and (2) by
how much does one stage produce greater non-legal sanctions than the other
(quantification). Even if I do rank the stages correctly, quantifying the magnitude of
the sanctions triggered by the different events is also important to the analysis.
Unfortunately, there are, likewise, no empirical data to guide us in quantifying
correctly.
This said, Table 1 below summarizes the events likely to trigger non-legal
sanctions in descending order:

Table 1: Magnitude of Reputation Loss Triggered by Different Events

D found liable under a negligence regime
D found liable under a regime that shifts the burden of proof
A settlement reached under a negligence regime
D found liable under strict liability; settlement reached under strict liability
lawsuit filed under a negligence regime
lawsuit filed under strict liability
occurrence of the underlying event
D found not liable under a negligence regime and a strict liability regime

The event likely to generate the most reputation loss is a finding of liability
under a negligence regime. Next in line would be a finding of liability under a regime
that shifts the burden of proof to the defendant to disprove his or her negligence. In
this event, the defendant is still found negligent, but an evidentiary gap could account
for this result, whereas a finding of liability under the preponderance of the evidence
rule positively determines that the defendant was negligent. Third is a settlement
reached under a negligence regime, and fourth a finding of liability under a strict
liability regime as well as a settlement reached under that regime.26 Further down in
ranking is reputation loss created by the filing of a lawsuit under a negligence regime.

26
As explained in Part III.B.1 below, I believe the reputation loss triggered by a
finding of liability and that produced by a settlement to be nearly identical under a
strict liability regime. There are other possible assumptions, such as that either of the
two – a finding of liability or a settlement - under a strict liability regime would
trigger, on average, more reputation loss than the other one.

14
 TKP, SL&Neg

Here, an allegation has been made by the plaintiff that the defendant was negligent,
but there is neither a court ruling affirming this nor indication that the defendant
admits this fact. What makes this event likely to lead to greater reputation loss than a
mere allegation by the plaintiff of the defendant’s negligence is the former’s
willingness to spend money based on this allegation. Therefore, there is a certain
amount of relevant data for evaluating the credibility of the information provided by
filing a suit—i.e., that the plaintiff has reasonable grounds to believe that the
defendant will be found negligent. These data include the nuisance value of the
lawsuit, the rules governing legal costs, including payment of the court fee, and
considerations relating to possibly strategic behavior on the part of the plaintiff. Data
on the ratio of the number of suits filed to the number of cases either settled or in
which the defendant was found liable also could influence the reputation loss
triggered by the filing of a lawsuit. Note that, in contrast to the ranking just suggested,
the reputation loss produced by the filing of a lawsuit under a negligence regime
might be more significant than that produced by a finding of liability under a strict
liability regime. Note also that both events pool together negligent defendants with
non-negligent defendants.
Even less reputation loss would be triggered by the filing of a suit under a strict
liability regime. Here we will find a pooling of defendants who would have been
found liable under a negligence regime, defendants who would have been found liable
without any fault on their part, and defendants who would be found not liable even
under a strict liability rule. Further down the line is the reputation loss generated by
the publicity surrounding the underlying event. In this category, even the weak
information that the plaintiff seems to believe that the defendant was negligent (in the
sense that the latter is willing to spend money on filing a suit) is absent.27 Finally, the
least reputation loss would appear to be generated by a finding of no-liability for the
defendant (under either regime), since such a finding would rule out the possibility of
any negligence on the part of the defendant. Here, too, the existence and magnitude of
residual reputation loss would depend on the reasoning the court gave in reaching its
decision. In this context, one might further distinguish between different liability
regimes, including different negligence regimes, on the basis of the defenses available

27
Cf. Bernstein, supra note 17, at 1778 n214 (noting that low-cost access to
arbitration serves as a soft check on the extent to which baseless gossip can damage a
transactor's reputation).

15
 TKP, SL&Neg

thereunder. For example, a defendant who was negligent but is found not liable under
a regime that includes contributory negligence as a full defense might still incur
reputation loss if the finding is based on the plaintiff’s contributory negligence.
Similarly, there may be a finding of no-liability despite the defendant’s behavior
having been proven to have been negligent, due to the absence of a duty of care or of
causation (or uncertainty regarding the existence of causation).
In theory, a positive finding by the court that the defendant was not negligent
should reduce the reputation loss produced by the publicity surrounding the accident
itself, since prior to the ruling, there was a possibility that the accident was the result
of, say, malpractice, whereas after the ruling, this possibility is eliminated. The matter
of whether the court’s “exonerating” ruling could, indeed, reduce the reputation loss
to the defendant depends on several factors, all of which relate to the more general
matter of the skepticism regarding the ability of court rulings to generate non-legal
sanctions. I briefly touched upon this issue in Section A above. The fallibility of
courts, problems with their legitimacy in the community, and skepticism regarding
their competence to correctly decide disputes involving extra-legal expertise, might,
amongst other factors, account for the residual reputation loss incurred by the
defendant, despite a ruling determining that he or she was not negligent. In addition,
even if a ruling of no-liability eliminates completely the prospect of reputation loss
from the time of the decision onwards, only seldom will it result in positive reputation
gain so as to compensate the defendant for the reputation loss she incurred due to the
publicity surrounding the underlying event and the ensuing lawsuit.

4 Which Regime Produces Overall Greater Non-Legal Sanctions?

While it is clear that any individual finding of liability triggers greater non-legal
sanctions if produced under a negligence regime than if produced under a strict
liability regime and that, on average, a finding of liability under negligence will
generate more reputation loss than a finding under strict liability, it is not known
which regime produces greater non-legal sanctions overall. Since, under a strict
liability regime, there would be more findings of liability and since a finding of
liability under such a regime triggers non-legal sanctions, the answer to this question
rests on a combination of two factors. One is the ratio of the size of the average
reputation loss created by a single finding of liability under a negligence regime to the
size of that loss under a strict liability regime. The second factor is the number of

16
 TKP, SL&Neg

findings of liability under the two regimes respectively. In fact, the calculation of
which regime produces overall greater non-legal sanctions should include a
comparison of the number of settlements reached under the two regimes and the
magnitude of the average non-legal sanction each produces.28
I first will compare the two regimes under the assumption that market
participants are highly informed. By highly informed I mean that the only relevant
information that market participants do not possess is whether any individual
defendant found liable under a strict liability regime was in fact negligent or not.
Under this assumption that participants are highly informed, courts do not err in
determining liability, and market participants know the incidence of liability under a
strict liability regime, the ratio of negligent defendants to all defendants found liable
under strict liability, and the reputation loss that would have resulted from a finding of
liability under a negligence regime. It seems plausible that were market participants
highly informed, the total size of reputation loss generated by each regime would be
identical. The reason for this is that, absent judicial error and given the ability of
potential victims to gather relevant information and evaluate it correctly, there is no
reason for a finding of liability under a strict liability rule to generate reputation loss
except as an effect of pooling negligent and non-negligent defendants together. If
there were a guarantee that a defendant found liable under a strict liability rule was
not negligent (so that liability is imposed despite the absence of fault), there would be
no reason for the defendant to suffer reputation loss. However, since the market
cannot sort out negligent defendants from non-negligent ones when defendants are
found liable under a strict liability regime, the market spreads equally the reputation
loss generated by instances of negligence across all defendants, attributing to them
equal statistical chances of having been negligent.29

28
See Part III.B.1 below.
29
To illustrate: Let us assume that in a highly informed market, out of 100 cases of
medical treatment resulting in adverse consequences, 10 cases are the result of
medical negligence. A shift to a strict liability rule would result in 30 additional
findings of liability of physicians who were not in fact negligent. Under a negligence
regime, all negligent physicians (who were all found liable) and only those physicians
would incur reputation loss. With a shift to a strict liability rule, 40 physicians would
be found liable and the market would not be able to tell which 10 of them were
actually negligent. However, the market is informed in that its participants understand
that the only valid reason for imposing reputation loss on a physician is negligence on
his or her part. Market participants also know that in10 out of 40 findings of liability,
there was negligence. Therefore, future patients will assume a 25% probability that

17
 TKP, SL&Neg

It is hard to know how a real market, whose participants are not highly
informed, would react in response to findings of liability under a strict liability
regime. Such a market is fraught with biases when imposing reputation loss;
moreover, it might be suspicious of court findings and is likely not to know the
incidence of findings of liability under a strict liability rule and the ratio of negligent
defendants to non-negligent defendants. In a real market, would a shift to a strict
liability regime produce overall more or less reputation loss than would a negligence
regime? The single most crucial factor in responding to this question is the accuracy
of the estimation made by market participants regarding the proportion of negligent
instances relative to all rulings of liability under a strict liability regime. If that
estimation is too high, then strict liability will produce more reputation loss in total; if
too low, negligence liability will produce more overall reputation loss. Plausible
uneducated guesses regarding whether that estimation is too high or too low can be
made in either direction. On the one hand, it is possible that the higher visibility of
and greater publicity given to negligent instances,30 coupled with the entrenched
understanding of tort liability as fault-based, would cause the estimation to be
excessively high. On the other hand, if the belief that liability under a strict liability
regime is really and truly strict is widespread, while there is no similar widespread
understanding of the pooling effect, the estimation might be overly low. My hunch is
that the market’s estimation would likely be too high. However, even an educated
guess is still merely a guess, and empirical data are necessary to accurately respond to
the question of which regime produces overall greater non-legal sanctions.

C Necessary Empirical Data

In addition to the assumptions noted in Section A and the matter of the relative
magnitudes of marginal and non-marginal non-legal sanctions and which regime
produces greater such sanctions overall, the evaluation of the two regimes rests also

each defendant had been negligent. If a finding of negligence causes each defendant
to lose, on average, 4 patients to competitors (a total of 40 patients shifting to
competitors), each of the 40 defendants found liable under a strict liability rule would
lose 1 patient (a total of 40 patients shifting to competitors).
30
Cf. Galanter, supra note 9, at 744-49. For a review of cognitive biases, including the
availability of heuristics and anchoring, see Behavioral Law and Economics, Cass
Sunstein ed. (Cambridge: Cambridge UP, 2000) (BLE) at 1-11; C. Jolls, C. Sunstein
& R. Thaler “A Behavioral Approach to Law and Economics” in BLE 13-58.

18
 TKP, SL&Neg

on empirical data that currently are unavailable or in dispute. The following are some
of the most relevant issues that require empirical data.

1 Do Tort Damages Awards Over-Deter, Under-Deter, or Optimally

Deter?
Marginal non-legal sanctions increase the deterrence produced by tort law.
Therefore, in order to evaluate which regime is preferable in terms of deterrence, we
need to know not only which regime produces greater non-legal sanctions, but also
whether the deterrence generated by tort damages awards is optimal, insufficient, or
excessive. If damages awarded under tort law result in optimal deterrence, then the
added deterrence generated by non-legal sanctions will result in over-deterrence. Of
course, if tort damages already create over-deterrence, the existence of non-legal
sanctions will only exacerbate the problem. If, in contrast, tort damages under-deter,
then the additional deterrence resulting from the imposition of non-legal sanctions
might bring us closer towards optimal deterrence.31
The question of whether tort law suffers more from under-deterrence or over-
deterrence is a disputed issue in the literature. Some, like Stephen Sugarman, believe
that tort law systematically under-deters;32 others, like George Priest, believe that tort
law over-deters;33 and still others, like Michael Saks, believe that tort law
systematically under-deters vis-à-vis situations involving major injuries and over-
31
Whether additional deterrence will improve matters depends on which state of
deterrence is closer to optimal deterrence. The level of under-deterrence when non-
legal sanctions are not taken into account or the overall deterrence when non-legal
sanctions are taken into account? Some efficiency-oriented scholars might maintain
that if non-legal sanctions are a deadweight loss, then they should be avoided even if
there is a general problem of under-deterrence. I disagree. This situation clearly
illustrates the tension between reputation loss as an immediate social cost - from the
accident-costs side of the equation - and as an instrument for preventing future loss by
inducing increased care -from the precaution-costs side of the equation. Despite its
being a deadweight loss, as long as the reputation loss is cost effective (i.e., it
prevents future loss whose size exceeds the deadweight loss generated by the
reputation loss), I support its imposition. Still, as Cooter & Porat note, from an
efficiency perspective, reputation loss in the form of a transfer payment is preferable
to reputation loss that is a deadweight loss. Cooter & Porat, supra note 5, at 403.
32
See, e.g., Sugarman, supra note 9, at 593-94; W. Kip Viscusi, Product Liability and
Regulation: Establishing the Appropriate Institutional Division of Labor, 78 Am.
Econ. Rev. Papers & Proceedings 300, 303 (1988).
33
See, e.g., George L. Priest, The Current Insurance Crisis and Modern Tort Law, 96
Yale L.J. 1521, 1546-48, 1553-58 (1987). Cf. Patrick S. Atiyah, The Damages Lottery
(Oxford: Hart Publishing, 1997) at 162-65.

19
 TKP, SL&Neg

deters vis-à-vis situations involving minor injuries.34 While I tend to believe that tort
law, on the whole, under-deters, the question, as noted, remains unresolved, and this
ambiguity limits our ability to compare between negligence regime and strict liability
regime in terms of the level of deterrence they produce.

2 Are Non-Legal Sanctions Value-Destroying, Value-Preserving, or Value-

Creating?
The extent to which reputation loss is a deadweight loss, a transfer payment, or
value-creating is unknown, and no sweeping and general answer can be ever given.
The information that would be provided by such an answer is important for the
analysis, however, since, if we do not know whether non-legal sanctions create,
destroy, or transfer value, we cannot know whether producing greater such sanctions
is desirable. The following discussion, therefore, limits its recommendations to the
different fact situations. Given that, in many cases, reputation loss will be partially a
deadweight loss, partially a transfer payment, and partially value-creating, the choice
of regime might need to be based also on data about the relative weights of the three
effects in the given situation. Possibly, relevant information regarding their relative
weights can be gathered, or safely assumed, in a number of paradigmatic tort cases,
thereby enabling a concrete evaluation of the preferability of each regime.
The fallibility of courts, the extent of community trust in court rulings, the
exposure given to the judicial process, the actual rulings and reasonings, the ratio of
deadweight loss to transfer payment in the mix that comprises reputation loss, and the
accuracy of the signaling mechanism—all these factors influence the comparison of
the two regimes. Some of the data are contingent on the facts of the situation, whereas
other data might be theoretically universal but are not currently known. The extent to
which an assessment of the regimes rests on missing relevant data will be mentioned
whenever of significance.

34
See, e.g., Michael J. Saks, Do We Really Know Anything About the Behavior of
the Tort Litigation System—and Why Not?, 140 U. Pa. L. Rev. 1147 (1992) at 1217-
18; Catharine Pierce Wells, Tort Law as Corrective Justice: A Pragmatic Justification
for Jury Adjudication, 88 Mich. L. Rev 2348 (1990) at 2352; Richard L. Abel, A
Critique of Torts, 37 UCLA L. Rev. 785, at 797-98 (1990).

20
 TKP, SL&Neg

II. Reputation Loss as a Social Cost or a Benefit in Itself

As was mentioned in Section I.C.2, in different situations, reputation loss might
be value-destroying, value-creating, or a combination of both. This Part will disregard
the fact that reputation loss can also transfer value (and, in fact, will almost always do
so with respect to professionals’ liability). The analysis in Section A pertains to
situations in which reputation loss destroys value and does not create value. I believe
it is applicable also to situations in which the net effect of reputation loss is negative
(that is, it destroys value more than it creates value). The reverse is true with regard to
the analysis in Section B.

A. Reputation Loss as a Deadweight Loss

1. Defining Social Cost
As my starting point for the analysis in this Section, I am willing to accept the
law and economics credo that social costs should be minimized. Therefore, when
reputation loss is a deadweight loss, and hence, apparently a social cost, the regime
creating overall less reputation loss should seemingly be preferred, since it minimizes
social waste.35 In this respect, however, one should be clear about just what
constitutes those social costs that legal rules should try and minimize. Is it loss of
aggregate wealth in society (regardless of the fact that the person who created the loss
bears it) or the infliction of negative externalities on third parties? While many law
and economics scholars might dispute the distinction between the two, I argue that it
is the prevention of negative externalities that should be the legal system’s goal from
an efficiency perspective. If one accepts this distinction, then from an efficiency
perspective, there is stronger justification to deter activity that externalizes losses to
third parties than activity that does not involve such negative externalization, even
though both activities are equally cost-ineffective (i.e., in the aggregate their costs
exceed their benefits). Indeed, existing tort and property rules support precisely such a
distinction. Typically, there is no legal sanction for cost-ineffective activity that does
not externalize losses to third parties. From a legal standpoint, one might destroy

35
For qualifications of this starting point that are based on allocative and distributive
effects of pooling, see Part IV below. More generally, I do not support always giving
efficiency priority over distributive considerations.

21
 TKP, SL&Neg

one’s new and expensive car with impunity (as long one does so safely), despite the
fact that the aggregate wealth in society is reduced.
Defining social costs in this restrictive way challenges the starting point for the
analysis, namely, that from an efficiency perspective, if reputation loss is a
deadweight loss, the regime producing overall less reputation loss should be
preferred, the reason being that reputation loss typically does not involve negative
externalities. When reputation loss is a deadweight loss (when the defendant’s loss is
not matched with a corresponding a gain to anyone else in society), it is the defendant
who bears the loss—the same actor who created the initial, reputation-loss-producing
accident. Thus, the argument would be that just as there is no justification for a rule
prohibiting an individual from destroying her own property, so the legal system
should not seek to prevent the imposition of reputation loss on the very person whose
activity triggered that reputation loss. In both cases, the individual’s activity was
value-destroying. Yet, the legal system should not strive to prevent the activity, since
it does not lead to any negative externalization to third parties. Under this view, the
fact that one regime produces overall more reputation loss is not a cogent prima facie
reason to oppose such a regime, even if reputation loss is a deadweight loss, since
there is no negative externalization.
This approach, which, admittedly, is unorthodox within the economic analysis
of law framework, can be supported from several justice perspectives. The greater
one’s predilection for retributive,36 corrective, or distributive justice, the less
minimizing social costs is crucial. For example, to a retributivist, the fact that a faulty
defendant bears a penalty is desirable rather than cause for concern (as long as the
sanction is proportional to the misconduct) and the fact that such a penalty is a
deadweight loss is irrelevant. This retributive approach, however, might be limited
only to intentional misconduct and is utterly misplaced when liability is imposed in
the absence of fault. The discussion in Section A2 below will take into account both
the traditional law and economic approach—which views deadweight loss borne by
the defendant as a social cost that should be avoided—and the critique of that
approach that was outlined above in this Section.

36
Defending the normative relevance of retributive justice to the comparison of the
rival regimes in terms of the reputation loss they generate (and, more generally, to tort
law) is not trivial, but this article is not the proper forum to do so.

22
 TKP, SL&Neg

2 A Court Finding of Negligence as a Deadweight Loss37

When reputation loss is a deadweight loss, the question arises as to whether
courts should take this fact into account when determining issues of liability, since the
mere determination of liability generates reputation loss. This dilemma is seemingly
not a new phenomenon, arising whenever courts impose a sanction that amounts to a
deadweight loss (such as incarceration) in order to further ex-ante deterrence. And yet
our question is somewhat different, since in our context, the mere determination of
liability (determining the social meaning of a defendant’s behavior, as opposed to
imposing a sanction for behavior already deemed anti-social) produces social cost.
Given this reality, one might wonder whether there is room for courts to decide that a
given conduct was not negligent, in order to prevent the deadweight loss that such a
determination creates. While in some cases, it is clear that the paramount
consideration is deterring anti-social behavior and compensating the victim (even
though the cost of achieving these goals is the production of deadweight loss), in
other instances, the decision to impose a deadweight loss sanction as a response to
arguably negligent conduct might be more open to dispute.
Consider the following example: Ruth engages in an activity that causes Dan a
loss of 20. The loss could have been prevented had Ruth invested 30 in precautionary
measures. The reputation loss to Ruth due to the underlying event (the non-marginal
non-legal sanction) is 20. If we disregard reputation loss, we will come to the
conclusion that Ruth was not negligent (there is no need to spend 30 to prevent a loss
of 20). Since, in determining optimal level of care, self-risk should be taken into
account,38 Ruth should be regarded as having been negligent for not investing 30 to
prevent a loss of 40. Note that this finding in itself is likely to trigger additional
reputation loss to Ruth. Let us assume that this marginal reputation loss is in the
amount of 20. Tension exists between the need to take into account self-risk, if we
seek to set an optimal standard of care, and the economist’s fiat of minimizing social
waste. The mere finding of negligence by a court causes a deadweight loss. If the
court were to find the defendant not negligent, it would save Ruth and society a
marginal loss in the amount of 20. Doing so, however, would have a price:

37
Cf. Cooter & Porat, supra note 5, at 417-19.
38
The point was made clear by Robert Cooter & Ariel Porat, Does Risk to Oneself
Increase the Care Owed to Others? Law and Economics in Conflict, 29 J. Legal Stud.
19 (2000).

23
 TKP, SL&Neg

compromising the accuracy in setting the correct standard of care, loss of deterrence
(people in Ruth’s shoes would not invest in precautions when they should), and
denying compensation to plaintiffs who deserve it even under the standard set by the
economic analysis of law. Perhaps this tension can be avoided by shifting to a strict
liability regime: since, on average, the marginal reputation loss created under a strict
liability regime in any given finding of liability is significantly less than that created
by a finding of negligence, application of a strict liability rule would compensate Dan,
while triggering less deadweight loss. However, if, overall, a strict liability regime
generates more reputation loss (and more administrative costs) than a negligence
regime does, such a move might not be warranted under a wealth-maximization
approach.39

B. Reputation Loss as Value-Creating

Since the analysis in this Section seems to mirror in great part the analysis of
reputation loss as a deadweight loss, the discussion will be brief. Whereas in the
previous analysis, reputation loss was assumed to be undesirable, here it is assumed to
be desirable. The fact that, typically, the social benefits resulting from reputation loss
are captured by third parties eliminates the need to discuss the parallel question to that
posed in Section A1, namely, whether benefits captured by a faulty defendant should
count as a social benefit.40 Therefore, we need to know which regime produces more

39
The reason, I think, this example raises doubts as to whether the defendant should
be found negligent is connected to the intuition discussed in Section A1, namely, that
losses suffered by a wrongdoer do not warrant the same concern as those suffered by
innocent parties. Since half of the social cost of 40 caused by Ruth’s activity is borne
by her, we might be less concerned that she did not invest 30 in order to prevent a loss
of 20 to Dan. There are two difficulties, however, with this line of reasoning. First, it
leaves Dan uncompensated for his loss. Second, a determination that Ruth is negligent
would impose the consequent additional deadweight loss (the marginal reputation
loss) on the faulty party: Ruth. This result is less problematic than letting an innocent
party – Dan – bear the immediate loss created by Ruth’s activity.
40
Here, as well, my tentative view might be somewhat at odds with that of traditional
law and economics. Following a retributive instinct, I submit that benefits derived by
seriously faulty defendants due to their misconduct are socially undesirable, even if
they are wealth maximizing. The relevant question is what kind of faulty conduct
should trigger this retributive instinct.

24
 TKP, SL&Neg

reputation loss overall. In contrast to the previous analysis, our starting point here
should be that the regime producing greater reputation loss is preferable.41

III. Fighting Reputation Loss

From the perspective of each individual potential defendant, marginal reputation
loss is part of the total sanction she will bear if found liable. Therefore, its possibility
is likely to induce two strategies on her part. First, it will induce her to increase her
investment in precaution, in order to prevent the underlying event – the accident – that
triggers the liability. In this sense, the prospect of reputation loss is part of the
deterrence provided by tort liability. A second strategy will be to try and reduce the
extent of marginal reputation loss borne by the potential defendant after the accident
has already occurred, either by fighting the liability (investing in litigation and
engaging in tactics aimed at reducing the chances of being found liable by a court) or
by reaching a settlement, which presumably will reduce the magnitude of the
marginal reputation loss borne by the defendant. To what extent these strategies are
desirable from a social perspective depends on the question of whether reputation loss
is a social cost or a private loss.
Under the assumption that reputation loss is a deadweight loss, two objectives
are sought in choosing between the two tort regimes from the perspective of
efficiency. One goal, which was explained in Part II, is to choose the regime that
minimizes aggregate reputation loss. The other goal is to prevent inefficiencies in
investments in precaution made by potential defendants in order to prevent a finding
of liability with its resulting reputation loss. In short, investment in precaution should
be cost-effective. From the different justice perspectives, only the second objective is
of relevance, for under these perspectives, a defendant bearing a loss resulting from
her own faulty activity is not problematic, even if that loss is a deadweight loss.
Under the assumption that reputation loss is a transfer payment, the first goal is
irrelevant from the perspective of efficiency. Reputation loss per se should not be
avoided. However, reputation loss might trigger fencing costs, which are undesirable.
Under the latter assumption, any amount spent by a defendant to prevent reputation

41
However, a complete analysis should take into accounts the effects of pooling. See
Part IV below.

25
 TKP, SL&Neg

loss, be it a negligent defendant or a non-negligent one, is facially42 social waste. The

discussion that follows will compare the regimes in light of this insight.
Section A below examines the ex-ante strategy of increasing investment in
precaution. Section B examines the ex-post strategy of fighting liability or,
alternatively, reaching a settlement.

A. Increasing Investment in Precaution

1. Why Reputation Loss Should Not Be Deducted from Damages
From an optimal deterrence perspective, when the sanction imposed on a
tortfeasor exceeds the net social cost her activity renders (negative externalities minus
positive externalities), over-deterrence results. In cases where reputation loss is only a
private cost borne by the defendant—when the loss is manifested in a transfer
payment to third parties—the total amount of sanction borne by the tortfeasor
(damages to victim plus reputation loss) is excessive, since it ignores the positive
externalities produced by the tortfeasor’s activity.43
Robert Cooter and Ariel Porat suggest solving this over-deterrence problem by
deducting the non-legal sanctions (which are not a deadweight loss) borne by the
defendant from the damages owed to the plaintiff.44 This proposition is in line with
Cooter’s model of double liability in the margins.45 The Cooter & Porat model
deducts the non-legal sanctions that are transfer payments as a proxy for the positive
externalities to third parties created by the defendant’s activity. They seem to argue
that if the amount of the positive externalities is known, that figure should be
deducted from the damages paid to the plaintiff, even if this amount exceeds the
reputation loss suffered by the defendant.46 If, indeed, this is their claim, it should be
observed that their solution would lead to greater inefficiencies when the defendant is
the cheaper cost-avoider relative to the victim. In such cases, under a deduction rule,
the victim would be induced to invest in precaution even more than she or he would
under a no-deduction rule. From an efficiency perspective, the defendant’s investment

42
But see note 31 above and Part IV.C below.
43
Cooter & Porat, supra note 5.
44
Id.
45
Robert Cooter, Unity in Torts, Contracts and Property: The Model of Precaution, 73
Cal. L. Rev. 1 (1985).
46
Cooter & Porat, supra note 5, at 403.

26
 TKP, SL&Neg

in precaution under a no-deduction rule would already be excessive, and a deduction

rule would only further exacerbate this problem.
Consider the following example: The Garbagefield Municipality is responsible
for the functioning of the town’s sewage line. Due to negligence in maintaining the
line, there is spillover of sewage into the sea. This causes a serious hit to the local fish
restaurant business (“fishermen”), since some of the hungry fish consumers shift to
steakhouses. Let us assume that: the damage to fishermen is 100; the gain to
steakhouses is 80; the reputation loss to the Municipality if found liable is 20; the
Municipality can prevent the damage by spending 45; and the fishermen can prevent
the damage by spending 70.47 Cooter & Porat rightfully argue that ignoring positive
externalities would result in excessive investment in precaution by the tortfeasor. In
my example, the Municipality is likely to invest 45 in order to prevent a social harm
of 2048 (failure to invest in precaution would result in a private loss of 100 (damages)
+ 20 (reputation loss) to the Municipality). However, the Cooter & Porat model
would induce the victim to invest even more inefficiently in precaution. The private
loss for fishermen from the spillover is 100. They derive no solace from the boost to
steakhouses, nor from the Municipality’s reputation loss; moreover, transaction costs
prevent any kind of efficient bargaining. Since under Cooter & Porat’s proposed rule,
the fishermen know that the Municipality will not invest in precaution (since the
Municipality would not be found negligent for not investing in precaution), the
fishermen will spend 70 in order to prevent a social cost of 2049 (rather than the
Municipality spending 45 in order to prevent the same loss).50

47
It is important to understand that the assumption that the Municipality is the
cheaper cost-avoider in such cases is a strong one. The Municipality, relative to the
fishermen, has better access to the sewage line and is better positioned to inspect it in
terms of manpower and the required expertise. The fishermen’s attempts to prevent
the damage – by inducing the Municipality to properly inspect the line, by trying to
inspect the line themselves, by investing in spillover-damage-reducing techniques,
and by trying to diversify their businesses in order to reduce the loss when a spillover
does occur – would likely be prohibitively more costly than the Municipality’s
prevention costs.
48
Even if the Municipality’s reputation loss in this case is a deadweight loss,
investing 45 in order to prevent a social loss of 40 is excessive.
49
Or 40, if the reputation loss is a deadweight loss.
50
The result would be similar under a strict liability rule. According to Cooter &
Porat, the Municipality would be liable for 20 in damages to fishermen and would
bear a reputation loss of 20 or less (marginal reputation loss under strict liability is
likely to be less than that under negligence). The Municipality would prefer to bear 40

27
 TKP, SL&Neg

I will conclude this discussion with the following observations: First, my

analysis is based on a binary model of precaution, whereas the Cooter & Porat
analysis is based on a model of continuous investment in precaution.51 Accordingly,
my critique is limited to situations in which a binary model of precaution is likely to
be appropriate for analyzing the interaction between potential victim and tortfeasor.
Second, at the theoretical level, while deducting reputation loss that is a transfer
payment (as opposed to deducting positive externalities exceeding the defendant’s
reputation loss) might be desirable from an efficiency perspective, it is still open to a
host of objections and doubts from corrective, retributive, and distributive justice
perspectives. Third, the Cooter & Porat model seems to assume that a defendant’s
reputation loss is a positive externality since she has lost some of her business to third
parties. In my example, the Municipality’s reputation loss is not part of this positive
externality, and indeed, whether it can be classified as a deadweight loss or transfer
payment is unclear. Of course, either assumption regarding the classification of the
reputation loss—as deadweight loss or a transfer payment—might affect the analysis.
Finally, and more generally, given the fact that, at times, a defendant’s reputation loss
will be a deadweight loss, whereas in other circumstances (and, at times, even
simultaneously) it might be lower than the positive externalities produced by the
defendant’s activity, the proposal to deduct non-legal sanctions from damages
awarded seems to be unworkable, even if desirable theoretically, from an efficiency
perspective.

2. Court Error and the Non-Linear Nature of Liability under a Negligence

Regime
Liability under a negligence rule is not linear. As long as the defendant is not
found negligent, she does not bear the costs of the accident. A move into the zone of
liability will abruptly impose on her the full cost of the accident. Since decreasing

in accident loss than 45 in precaution. Since the remaining loss to the fishermen
would be 80, they would prefer to spend 70 in precaution rather than losing 80 in
uncompensated-for damage.
51
This binary model of precaution, in contrast to the continuous model, is founded on
the assumption that simultaneous investment in precautionary measures by both
potential defendants and plaintiffs does not reduce the expected loss from the
accident.

28
 TKP, SL&Neg

slightly her precaution costs might lead to the defendant being held liable and having
to pay a significant amount of damages and since she will fear judicial error in
determining the required standard of care, the defendant will invest excessively in
precaution in order to avoid the risk of being found liable. This insight was originally
made with respect to the sharp jump in costs borne by the defendant resulting from
the obligation to pay damages to the victim.52 Reputation loss seems to exacerbate this
problem. A finding of liability under a negligence rule is likely to significantly
increase the defendant’s reputation loss. By contrast, not only is the marginal
reputation loss produced by a finding of liability under a strict liability regime smaller
than that produced by a finding of negligence, but that reputation loss will be borne by
the defendant regardless of the court’s determination as to the required standard of
care. Therefore, there is seemingly no incentive to invest excessively in precaution
under a strict liability rule, even when reputation loss enters into the equation. The
incentive to over-invest in precaution under a negligence regime seems to be more
significant when reputation loss is added to the analysis equation.53 The prospect of
judicial error appears to make a strict liability rule superior to a negligence regime in
terms of preventing excessive investment in precaution, regardless of whether
reputation loss is a deadweight loss or a transfer payment. From the traditional law
and economics perspective, when reputation loss is a deadweight loss, a cost-effective
attempt to prevent it is desirable. Nevertheless, the prospect of judicial error is likely
to trigger excessive investment in precaution. When reputation loss is a transfer
payment, any investment to prevent it is a social waste.

B Excessive Fighting of Liability and the Effect on the Incentive to Settle

A prominent characteristic of non-legal sanctions, including reputation loss, is
their asymmetric effect: they harm the defendant without rendering corresponding
benefit to the plaintiff.54 This fundamental asymmetry gives defendants two opposing

52
See Cooter, supra note.
53
However, an increase in investment in precaution at times will reduce the likelihood
and severity of an accident. Therefore, a strict liability rule might provide defendants
with the incentive of investing excessively in precaution due to problems caused by
pooling. See Part IV below.
54
See Bernstein, supra note 17, at 1783-85. Cf. David Charny, Nonlegal Sanctions in
Commercial Relationships, 104 Harv. L. Rev. 373 (1990) at 401.

29
 TKP, SL&Neg

incentives: on the one hand, to settle and, on the other hand, to fight liability
excessively.

1 Incentive to Settle
Assuming that the marginal reputation loss from settling a case is less than that
resulting from a finding of liability, a settlement enables the parties to split this
difference between them.55 The fear of reputation loss might cause a defendant to
“buy off” the victim by settling the dispute quickly and quietly, provided the
underlying event has not already garnered a significant amount of publicity. While
this might be problematic from a signaling perspective56 and when it is assumed that
reputation loss is value-creating, reducing reputation loss is, arguably, desirable when
reputation loss is a deadweight loss. When reputation loss is a transfer payment, the
result of reducing reputation loss is in itself neither problematic nor commendable
from the perspectives of efficiency, corrective justice, or distributive justice, although
it might be problematic from a retributive justice perspective. From an efficiency
perspective, if reputation loss is a transfer payment, its extent is irrelevant. From a
corrective justice perspective, rectifying the victim’s injury is what matters, and if the
victim is pleased with the settlement agreement, so be it. From a distributive justice
perspective, there is no a-priori reason to prefer the tortfeasor over third parties, or
vice versa. Different situations might merit different evaluations as to the desirability
of such a transfer payment in accordance with different criteria for distribution.
Moreover, reaching a settlement might be desirable from an efficiency perspective,
since it would reduce the amount the defendant spends in fighting liability in order to
prevent (private) reputation loss.
Since the reputation loss to a defendant found liable is more significant under a
negligence regime than under a strict liability regime, a negligence regime provides a
stronger incentive for the parties to settle. Specifically, a defendant’s incentive to
settle is influenced by the relative size of the reputation loss triggered by the
underlying event itself, by settling the case, by being found liable, and by being found
not liable. If the size of the reputation loss produced by a settlement is close to that
produced by a finding of liability and both are significantly higher than that produced
by a finding of no-liability, the defendant will have a strong incentive to fight the case
55
Bernstein id.
56
See Part V.B below.

30
 TKP, SL&Neg

rather than settle (at least if she believes that her chances of fighting liability
successfully are not low). If a finding of liability will produce significantly greater
reputation loss than settling the case will, there will be a strong incentive to settle.
Moreover, if the reputation loss produced by the underlying event is significant,
settling the case will not seem a promising strategy. Indeed, it might be better for the
defendant to fight liability in the hope that a finding of no-liability will reduce the
reputation loss she has already incurred. Conversely, if a demand for compensation
arrives before the underlying event is publicized, a dominant strategy for the
defendant might be to settle immediately and quietly. This is a good illustration of the
reporting problem created by settlements: the settlement, a private arrangement
between the parties, results in a withholding of relevant information from interested
third parties.57
Moreover, defendants who are more confident of their chances of not being
found negligent might choose to fight in court, whereas those who are less confident
might prefer to settle. If such confidence is positively correlated with defendants’
professional quality (an implausible assumption in my opinion), a willingness to settle
might signal negligence, and therefore, with time, the size of reputation loss produced
by settlements will approach that produced by a finding of liability. However, as
noted above, one should be cautious in assuming that willingness to settle is a reliable
signal of fault.58
In contrast, the reputation loss generated by a settlement reached under a strict
liability regime should be very similar in size to that generated by a court ruling. In
both cases, the question of fault remains unresolved. Furthermore, since the stakes in
litigation are lower (in terms of both compensation to the plaintiff and extent of
reputation loss triggered by a finding of liability), the risk-aversion of the plaintiff will
diminish the incentive to settle. A negligence regime, therefore, is likely to have two
effects with respect to settlements. One, it might increase the incentive to settle. Two,
a settlement reached under a negligence regime is likely to trigger more reputation

57
See sources in supra note 18. In order to solve this problem, some states require in
their physician profile data legislation that all settlements be included as part of the
data provided. It has been argued that such a requirement hampers the incentive to
settle and, rather, induces excessive fighting of liability, as well as evasive tactics.
See, e.g., Ryzen, supra note 7, at 434-38; Greenwood, supra note 7, at 515-17; Pape,
supra note 7, at 989-90.
58
See Part I.B.2. above, and notes 18-24 and accompanying text.

31
 TKP, SL&Neg

loss than a settlement reached under a strict liability regime (as well as than the
reputation loss produced by a finding of liability under a strict liability regime).

2 Excessive Fighting of Liability

The asymmetrical nature of reputation loss might cause defendants to fight
liability excessively rather than settle. The reputation loss triggered by a finding of
liability raises the stakes of being found liable. Given the fact that a settlement in
itself entails reputation loss, the fear of such a loss might lead a defendant to engage
in delay and concealment tactics. In his critique of tort law’s deterrent effect, Stephen
Sugarman has observed that the fear of a finding of liability (and this is true especially
with regard to fault-based liability) induces defendants to fight liability rather than
invest optimally in precaution. Moreover, the fear of being found liable might
perversely impede taking a course of action that, at least at the stage of the trial, is
perceived as safer, in order to avoid admitting that the litigated conduct was
negligent.59 In addition, the fear of a finding of liability affects not only ex-post
accident behavior but also ex-ante behavior insofar as it encourages the use of
defensive tactics aimed at reducing the potential of being found liable rather than
optimally reducing the expected accident costs.60 These problems, which initially
were thought to be a response to the risk of legal liability (damages), are exacerbated
by the fear of incurring marginal non-legal sanctions.
Fighting liability excessively might create yet another, less obvious, distortion:
it might increase the chances of judicial error. If we assume that the asymmetrical
nature of reputation loss will induce a defendant to pour more resources into the
litigation process (since the stakes are higher for her if she is found liable than they
are for the plaintiff if he fails in his suit) and if we further assume that the risk of
judicial error increases correlatively with the increase in the disparity in the resources
invested by the litigating parties, then reputation loss might lead to too many findings
of no-liability.61

59
Sugarman, supra note 9, at 583-84.
60
Id. at 582-83; Ryzen, supra note 7, at 447-48; Berenson, supra note 7, at 666.
61
Judges, on rare occasions, express the concern that a finding of liability will tarnish
the defendant’s reputation and that they therefore regard it a consideration in favor of
finding the defendant not liable. See C.A. 4839/92, Ganz v. Katz, 48(4) P.D. 749, 766
(Justice Zamir); Civil Further Discussion 7794/98, Moshe v. Clifford ** (unpublished)

32
 TKP, SL&Neg

In assessing the desirability from the social perspective of fighting liability

tactics, once again an important factor is whether reputation loss is value-destroying,
value-preserving, or value-creating. If reputation loss is a deadweight loss, the
additional resources invested by the defendant to fight liability should be considered
precaution costs spent to prevent accident costs (the reputation loss) and should be
evaluated as desirable if cost effective. If reputation loss is value-preserving and, even
more, if it is value-creating, any additional expense invested in fighting that loss is a
social waste.
There is no clear answer to the question of which regime induces defendants to
invest more overall in fighting liability, since this matter too is contingent on knowing
the missing information of which regime produces more reputation loss overall.
However, we can reasonably surmise that a negligence regime triggers more fighting
of liability, due to the combination of the possible high degree of risk aversion on the
part of the defendant to bearing reputation loss and the reputation-loss loss-spreading
effect strict liability produces. 62

IV. The Effects of Pooling

The prospect of suffering reputation loss following a finding of liability will
induce potential defendants (inter alia) to invest in precautions in order to prevent
accidents and their resulting losses to those defendants. As the discussion in Part III
clarified, whether or not such investment is desirable depends, in part, on whether the
reputation loss is a social cost or a private loss. If the former, investment in precaution

(Israel) (Justice Englard’s dissent, para. 21). This judicial sensitivity to the parties’
respective reputations might account for a possible judicial tendency to resolve cases
on the least reputation-damaging ground possible. See, e.g., C.A. 323/98, Sharon v.
Benziman, 56(3) P.D. 245. This sensitivity can also explain the otherwise apparent
anomaly in American tort law when the Supreme Court upheld the validity of statutes
holding railroad companies strictly liable for damages caused by them, while
invalidating a statute shifting the burden of proof to the railroad companies to
disprove negligence. Compare Minneapolis & St. Louis Ry. Co. v. Beckwith, 129 U.S.
26 (1889) (upholding a strict liability statute), with Western & Atlantic R.R. v.
Henderson, 279 U.S. 639 (1929) (invalidating a presumption-of-fault statute). For
such an explanation of this anomaly, see Dale A. Nance, Civility and the Burden of
Proof, 17 Harv. J.L. & Pub. Pol'y 647 (1994) at 677, 681 n.107.
62
The comments made in Part IV.C below in the text accompanying notes 73-74 are
relevant also here.

33
 TKP, SL&Neg

is seemingly desirable (provided it is cost effective); if the latter, it is a social waste.63

The following discussion will examine the effect on my analysis of the fact that strict
liability pools together negligent and non-negligent defendants. I propose the
following as relevant considerations in evaluating the two regimes: 1) Do tort
damages awards under-deter, over-deter, or optimally deter? 2) What is the likelihood
of judicial error in setting the standard of care? 3) What is the average size of the
reputation loss produced under each regime?
It is imperative to note from the outset that under both regimes, we have two
groups of potential defendants: high-risk (negligent) defendants, namely, those
defendants who do not invest enough in precaution, and low-risk (non-negligent)
defendants, namely, those defendants who invest adequately in precaution (in fact,
some of them might even over-invest). Note that even if damages awards generally
over-deter, there will still be potential defendants who are negligent. Similarly, even if
damages awards generally under-deter, there will still be some potential defendants
who invest excessively in precaution. Increasing or decreasing the incentive to take
care, then, will often work in opposite directions on high-risk professionals and low-
risk professionals. Whether the incentive is desirable from a social perspective
depends on which problem is more acute: over-investment or under-investment in
precaution. It is also useful to observe that as far as the ex-ante incentive to invest in
precaution is concerned (as opposed to the ex-post incentive to fight liability64), the
matter of whether reputation loss is, in itself, a social cost is insignificant, given the
question of the adequacy of deterrence produced by damages awards and the fact that
defendants care about the total size of the sanctions they bear. The problems that
might be created by pooling could exacerbate any initial problem of over-investment
in precaution where reputation loss is a private loss. Alternatively, pooling might
distort the desirable level of investment in precaution even when reputation loss is a
social cost, and hence fighting reputation loss is not a social waste per se.

63
The adequacy of the deterrence rendered by damages awards is another relevant
factor. See note 31 above and Part IV.C. below.
64
The pooling effect is likely to affect also defendants’ incentives to fight liability or
settle. Both incentives are stronger under a negligence regime. See Part III.B. above.
Since these incentives operate after the accident has already occurred, determining
whether reputation loss is a social cost or a private loss becomes crucial for evaluating
the desirability of fighting liability.

34
 TKP, SL&Neg

In short, my prediction as to the effects of pooling is as follows: When the risk

of judicial error in setting the correct standard of care is low, strict liability will cause
high-risk professionals to under-invest in precaution; low-risk professionals will
either over-invest (the adverse selection problem) or under-invest as well (the
tragedy-of-the-commons problem). When the risk of judicial error increases, strict
liability might serve as a loss-spreading mechanism for low-risk professionals to
mitigate the risk of incurring significant reputation loss under a negligence regime.65

A. Under-Deterrence of High-Risk Professionals (Adverse Selection)

A potential defendant’s fear of reputation loss is likely to cause her to invest in
preventing the underlying accident. Although such an investment is not necessarily a
social waste when reputation loss is value-destroying, it should, nonetheless, be
neither excessive nor deficient. Both negative and positive externalities are
undesirable. If a negligent defendant internalizes only partially the losses her activity
generates, she will not invest enough in precaution. Similarly, if non-negligent actors
bear some of the costs created by the negligent defendant’s activities (in our context,
this would be some of the reputation loss created by her), inefficiencies will result.
From the perspective of each individual defendant, it seems at first that a finding
of liability under a negligence regime is much more disastrous than liability under a
strict liability regime. First, if the defendant is found liable, she will face greater
reputation loss than that produced by a finding of liability under a strict liability
regime.66 Second, there is the comparative aspect to consider. A finding of liability
under a negligence regime signals (rightfully or not) that the defendant is less
competent than defendants who are not sued and defendants who are found not
negligent. When liability is imposed under a strict liability regime, not only is the
signaling regarding the defendant’s fault less significant, but, moreover, more of the
defendant’s business competitors will be found liable (in comparison to findings of

65
In fact, risk aversion suggests that low-risk professionals might prefer a strict
liability regime even if the probability of judicial error is low.
66
My assumption is that an equal amount of damages would be paid to the victim in
each instance of a finding of liability under either regime. Therefore, the total sanction
imposed under each instance of liability under a negligence regime would be higher
than the total imposed under a strict liability rule. A second corollary is that since,
under a strict liability regime, there would be more instances of liability, the total
amount paid in damages would be higher than that paid under a negligence regime.

35
 TKP, SL&Neg

liability under a negligence regime), and therefore, the relative disadvantage to the
defendant from being found liable might be less.
However, this is only part of the picture. Under a strict liability regime, the
likelihood of any professional being found liable is greater than under a negligence
regime. Beyond increasing the total expected amount of damages, the marginal
instances of being found liable would entail their own reputation loss. While, on
average, the reputation loss inflicted by any given finding of liability will be less
under a strict liability rule than under a negligence rule, it is not clear which regime
will maximize the total expected reputation loss borne by each individual defendant.
The answer to this depends, in part, on which liability regime generates in total
more reputation loss. Tossing aside, for the moment, the important fact that the
likelihood of different defendants being found negligent varies from individual to
individual, if the aggregate reputation loss produced by one regime is higher than that
produced by the other, then, on average, each actor is likely to incur more reputation
loss under the former regime. As discussed above, there is no known answer to the
question of which regime produces overall more reputation loss.67
In any event, the fact that the professional quality of potential defendants varies
renders an analysis that examines only aggregate effects incomplete, even from an
efficiency perspective, let alone from distributive, corrective, and retributive justice
perspectives. For example, a cautious physician who is not likely to be found liable
under a negligence regime is more likely to be found liable under a strict liability
regime and, consequently, to suffer some of the reputation loss caused by her
negligent colleague. The negligent physician, on the other hand, will bear only part of
the reputation loss her negligent act produced. Here we encounter an inefficiency
resulting from cautious defendants subsidizing negligent ones.68 This phenomenon is
a variation on the well-known adverse-selection problem created by pooling high-risk
insured and low-risk insured together under the same category due to asymmetric

67
See Part I.B.4 above.
68
This problem arises even when we take into account the following two facts: (1)
under a strict liability regime, the chances of a negligent physician being found liable
are higher than the chances of a non-negligent physician being found liable; and (2)
over-investment in precaution by non-negligent physicians might further reduce their
chances of being found liable.

36
 TKP, SL&Neg

information.69 One result of adverse selection caused by strict liability’s pooling effect
is that the high-risk professional will be under-deterred since she is subsidized by the
low-risk professional. For example, a negligent physician might choose to take an
unduly risky course of action, since she will internalize in full its success but will
share the reputation loss triggered by its failure with all other physicians found liable
under strict liability.

B. Low-Risk Professionals: Over-Deterrence (Adverse Selection) or Under-

Deterrence (Tragedy-of-the-Commons/Moral Hazard)?
As the following discussion will suggest, pooling might lead low-risk
professionals to either over-invest in precaution, in order to avoid bearing reputation
loss that is due to the conduct of negligent defendants, or, alternatively, to increase the
level of risk they take, since they will internalize in full the success of a risky course
of action but will externalize part of the costs of its failure – the reputation loss – to
non-negligent defendants found liable under strict liability.

1 Over-Deterrence
In the insurance market, the flip-side of the problem of under-deterrence of
high-risk insured caused by adverse selection is the over-deterrence of low-risk
insured whose premium payments are calculated according to the average expected
liability of all those insured, which is higher than the expected liability of low-risk
insured. The way in which reputation loss is spread under a strict liability rule
seemingly poses the same problem. Cautious defendants bear some of the non-legal
sanction triggered by the negligent acts of other defendants, due to information
asymmetry. Not only will this negative externality cause negligent defendants to
invest too little in precaution, it might also cause cautious defendants to invest too
much in precaution.
In Part III.A.2, I suggested that the non-linear nature of negligence liability
might render a negligence regime even more inferior to a strict liability regime when
reputation loss is taken into account, in that it induces excessive investment in
69
A classic analysis of this phenomenon is presented by Priest, supra note 33, at
1540-48, 1557-61. By increasing the aggregate amount of damages paid to victims, a
shift to strict liability would exacerbate the adverse-selection problem that is endemic
to tort law. This problem is the result of the combined effect of the principle of full
compensation and the practice of liability insurance.

37
 TKP, SL&Neg

precaution. However, when the following two conditions are met, strict liability, and
not negligence, is likely to induce excessive investment in precaution (at least by low-
risk professionals):
1. Precaution costs are higher than accident costs (unavoidable accidents) and
the reputation loss borne by defendants found liable under strict liability is greater
than the difference between precaution costs and accident costs. When this condition
is met, the non-negligent defendant will prefer to spend on precaution (despite the fact
that, from a social perspective, she should not do so), since the cost to her of bearing
the difference between precaution costs and accident costs is lower than the cost of
bearing the reputation loss resulting from a finding of liability if the unavoidable
accident occurs.
Note that when this condition is met, the problem of excessive investment in
precaution will result regardless of whether reputation loss is a private loss or a social
cost (albeit the problem will be more acute where reputation loss is merely a private
loss). When reputation loss is a private loss, any expenditure to prevent that loss is a
social waste; therefore, over-investment in precaution to prevent an unavoidable
accident is plainly undesirable. However, even when reputation loss is a social cost
and, therefore, a cost-effective attempt to fight it is desirable, pooling causes low-risk
professionals to invest in precaution in order to guard against a sanction that is due, in
fact, to the negligent activity of high-risk professionals and not to the non-negligent
activity of the low-risk professionals. Low-risk professionals, then, subsidize high-
risk professionals. In contrast, under a negligence regime and disregarding the
likelihood of judicial error and risk-aversion, low-risk professionals will not invest to
avoid accidents that are, in essence, not worth preventing.
2. The likelihood of judicial error in setting the required standard of care is low.
(If this is not the case, the non-linear nature of negligence liability is likely to induce
more excessive investment relative to strict liability.) Alternatively, when reputation
loss significantly exceeds the amount of compensation paid to the victim, even a low
likelihood of error in setting the standard of care might make negligence inferior to
strict liability in terms of inducing excessive investment in precaution.

2. Under-Deterrence
The previous discussion suggested that low-risk professionals might over-invest in
precaution in order to prevent bearing reputation loss. Alternatively, low-risk

38
 TKP, SL&Neg

professionals, like high-risk professionals, might excessively undertake risky courses

of action in a tragedy-of-the-commons-dynamics. In its original sense, tragedy of the
commons refers to the overuse of common property.70 As such, it represents a
problem of cooperation caused when property is pooled together. In the insurance
market context, an equivalent problem of overuse (behaving in an excessively risky
manner), due to pooling together the risks-of-loss all insured face, is termed “moral
hazard.”71 Similarly, in our context, low-risk professionals (as well as high-risk
professionals) can benefit from embarking on high-risk courses of action since they
will internalize in full the fruits of their success and only bear a share of the costs of
failure with all professionals found liable.

C. The Choice of Regime Given the Pooling Effect

At first glance, a negligence regime seems superior to a strict liability regime
since it averts the problem of cautious professionals subsidizing negligent
professionals, something that appears problematic on both efficiency and justice
grounds and might lead to under-deterrence of high-risk professionals and either
under-deterrence or over-deterrence of low-risk professionals. However, any attempt
to evaluate the alternative regimes given the pooling effect must take into account the
matter of the deterrent effect of damages awards and the related matter of the
likelihood of judicial error in determining whether a given defendant met the required
standard of care. In addition, the analysis should distinguish between potential
negligent defendants and potential cautious defendants.
(1) High-risk professionals (negligent defendants) are likely to under-invest in
precaution under a strict liability rule. Since, by definition, potential negligent
defendants do not invest enough in precaution, a shift to a strict liability regime is
seemingly problematic in terms of providing adequate incentives for high-risk
professionals to invest in precaution, even if damages awards generally over-deter.
Similarly, strict liability might lead to under-deterrence of high-risk professionals
even where reputation loss is only a private cost. Let me briefly explain this
proposition. When reputation loss is a private cost, fighting the loss amounts to social
waste. Therefore, a shift to strict liability would seem desirable, since it provides
high-risk professionals with less of an incentive to over-invest in precaution.
70
See Garrett Hardin, The Tragedy of the Commons, 162 Science 1243 (1968).
71
See Priest, supra note 33, at 1547.

39
 TKP, SL&Neg

However, since high-risk professionals are under-deterred by the total size of the mix
of sanctions they face, the diluted incentive to invest in precaution under a strict
liability regime is undesirable. Put differently, when the total amount of deterrence
provided by the tort system (damages + reputation loss) is insufficient to deter high-
risk professionals, lessening this total deterrence is obviously undesirable (even
though part of the total deterrence is manifested in reputation loss which is only a
private cost).
However, a shift to a strict liability regime can be justified provided its benefits
in terms of preventing over-investment in precaution by low-risk professionals
outweigh the loss caused by the diluted incentive to high-risk professionals to invest
in precaution. Furthermore, it is possible that whereas the prospect of damages awards
alone under-deters high-risk professionals, the combined effect of damages awards
and reputation loss under a negligence regime is over-deterrence of even high-risk
professionals (or some of them). I will term this possibility “the swinging hypothesis.”
If this is the case, a strict liability regime might come closer to optimal deterrence
than a negligence regime will, by reducing the size of reputation loss borne by
negligent defendants.
(2) Low-risk professionals might either increase or decrease investment in
precaution given the pooling effect. Whether either of these results is desirable
depends on whether damages awards alone or the aggregate deterrent effect of
damages and reputation loss under a negligence regime over-deters or under-deters.
For example, in the medical context, if courts are relatively error proof and the
deterrent effect of damages awards is close to optimal, a shift to strict liability will
probably over-deter cautious physicians (and under-deter high-risk physicians). The
pooling effect of a strict liability rule might lead those cautious physicians to engage
in defensive medicine tactics aimed at reducing their chances of being found liable
under a strict liability rule compared to those chances under the alternative of
providing optimal care.72 The reason for this is that if they are found liable, the market
will attribute to them the statistical chance of having been negligent.

72
The adverse-selection literature suggests that pooling might result in market
collapse. There would be a vicious cycle of lower-risk insurers dropping out of the
market and rising insurance premiums. It is not clear whether this result is likely in
our context, since the reputation loss borne by defendants, unlike insurance premiums,
is non-voluntary. However, the decision whether to stay in the market is voluntary, so
such a result is certainly a possibility. Even if market collapse is not likely to occur,

40
 TKP, SL&Neg

In contrast, if, for example, negligence liability results in over-deterrence of

physicians (partially due to the risk of judicial error) and a shift to strict liability
would result in a decreased investment in precaution, strict liability is preferable to
negligence. It is possible that the fear of negligence liability with its concomitant
debilitating reputation loss currently stifles risky, yet socially desirable initiatives. If
this is the case, pooling the risks of being found negligent by shifting to a strict
liability regime might bring about the efficient result of increased risky but desirable
activity.
Previously, the analysis assumed that the pooling effect is unfair towards
cautious defendants and results in inefficiencies, but this is not the only possible
conclusion. The pooling effect serves as a loss-spreading mechanism. Whereas the
likelihood of cautious defendants suffering reputation loss under a strict liability
regime is higher than that likelihood under a negligence regime, the size of the
reputation loss suffered in the event that they are found liable will be lower under
strict liability. In the liability insurance market, as long as the premium paid by the
low-risk insured is not too high, the advantages of insurance in terms of loss-
spreading exceed its inefficiencies and the inequities caused by adverse selection.
Given information asymmetry, adverse selection might be a price worth paying in
order to spread the risk of liability. Prevalence of liability insurance attests to the fact
that many low-risk insured believe the advantages of insurance to outweigh its
disadvantages. Similarly, the combination of the following factors suggests that low-
risk professionals might prefer a strict liability regime due to its loss-spreading
potential and in spite of the problem of adverse selection.
First, it is possible for even a cautious high-risk professional to commit a
negligent act (indeed, this is the rationale behind purchasing liability insurance).
Second, low-risk professionals might fear judicial error and a finding of negligence
when in fact there was none.73 Third, even an unmerited claim by a client that the

the efficiency losses as well as the deficiency of the result from different justice
perspectives still arise.
73
The technical expertise needed to solve questions of medical malpractice and the
bias courts might have towards a misfortunate patient who would be left without
compensation if there is no finding of liability might make this apprehension a serious
one in this context. See infra note 85. See also Justice Englard’s dissent in Moshe v
Cliford, supra note 61.

41
 TKP, SL&Neg

given professional was negligent is likely to trigger reputation loss.74 And finally,
fourth, all professionals are likely to be especially risk-averse regarding reputation
loss, since they are not likely to be able to insure themselves against such a loss. To
the best of my knowledge, there are no insurance policies covering future loss of
income due to reputation loss following an adverse legal finding. A strict liability
regime, then, might function as a form of insurance against reputation loss.
The matter of which regime cautious defendants will prefer depends on their
degree of risk aversion and on the size of the premium they have to pay for the shift to
a strict liability regime. If, for example, the reputation loss triggered by a finding of
liability under strict liability is relatively close to that produced by a finding of
negligence,75 cautious defendants are likely to prefer taking their chances under a
negligence regime in the belief that they are not likely to be found negligent. If, in
contrast, the reputation loss pursuant to a finding under a strict liability regime is
small (since the vast majority of those found liable are not negligent), cautious
defendants might want to insure themselves against the risk of being found negligent.
Whether low-risk professionals will increase or decrease their investments in
precaution under a strict liability regime relative to that investment under a negligence
rule is similarly unclear. The answer to this question should depend on the relevant
market structure and factors such as these professionals’ level of risk aversion, the
level of deterrence produced by damages awards, and the relative sizes of the
reputation loss under a strict liability regime and a negligence regime.
The following table summarizes the effects of the choice of regime on the
behavior of high-risk professionals and low-risk professionals under each of the two
regimes and under alternative assumptions regarding the deterrent effect of damages
awards and the absence or presence of court error with respect to setting the optimal
standard of care. It should be borne in mind that when pooling will result in decreased
care on the part of all professionals, the desirability of the overall effect of pooling
hangs on whether over-deterrence or under-deterrence is more dominant. If over-
deterrence is the prevalent problem, a move to strict liability will be desirable; if
under-deterrence is prevalent, a negligence regime will be preferable. When pooling
74
Recall that the reputation loss triggered by initiating a claim under a negligence
regime is likely to be higher than that produced by initiating a claim under a strict
liability regime.
75
When the market is highly informed, this suggests that the ratio of negligent
defendants to all those found liable is high.

42
 TKP, SL&Neg

increases the level of care taken by low-risk professionals, a negligence regime seems
to be superior to a strict liability regime in terms of the respective overall deterrent
effects of two regimes, regardless of whether damages awards over-deter or under-
deter.76 The exception to this apparent advantage of the negligence regime to strict
liability would be when the likelihood of judicial error is high and, therefore, the
problem of over-deterrence of low-risk professionals will apparently be more acute
under a negligence regime.

Table 2: The Deterrent Effect Created by the Prospect of Reputation Loss

Type of Negligence Negligence SL SL
Regime
Deterrence Type of High-Risk Low-Risk High-Risk Low-Risk
Produced Professional
by Damages

76
High-risk professionals, by definition, are under-deterred. Therefore, shifting to
strict liability, which would decrease their incentives to take measures of care, will
always be problematic. Where damages awards over-deter or optimally deter, low-risk
professionals are likely to have adequate incentive to take precautions, and therefore,
the shift to strict liability will produce over-investment in precaution on their part.
Where damages awards under-deter, the lack of adequate deterrence of high-risk
professionals is the acute problem. Since this problem is aggravated under a strict
liability regime, that regime is likely to be inferior to a negligence regime, even if we
make the non-trivial assumption that increased care by low-risk professionals is
desirable in and of itself (an assumption that contradicts the classification of low-risk
professionals as those who take adequate care).

43
 TKP, SL&Neg

Awards
Under- Increased Absent Reduced
Deterrence investment judicial incentive to Either
in error: no invest in under-
precaution effect precaution investment
77
(+) (compared (tragedy of
Assuming with the
judicial incentive commons)
error: under or over-
increase in negligence investment
investment regime) (adverse
in (-) selection)
precaution (-)
78
(-)

77
Increasing the level of care taken by high-risk professionals is seemingly a
desirable result. However, the prospect of reputation loss might turn otherwise
negligent professionals into over-deterred professionals (the swinging hypothesis).
78
Under the assumption that low-risk professionals do not under-invest in precaution
(even though there is a general problem of under-deterrence), the risk of judicial error
will cause them to over-invest.

44
 TKP, SL&Neg

Negligence Negligence SL SL
High-Risk Low-Risk High-Risk Low-Risk
Optimal Increased Same as Less Problem of
Deterrence investment in above investment over-
precaution; in deterrence
might create a precaution more
problem than would likely80
of over- have been
deterrence under a
negligence
regime 79
Over- Same as Absent Dilution of Unclear
Deterrence above judicial error: the effect of effect
(perhaps even no over-
more effect deterrence Probably
so) created by a will reduce
Assuming negligence the problem
judicial error: regime81 of over-
exacerbates deterrence82
problem of
over-
deterrence

79
The desirability of this result depends on the feasibility of the swinging hypothesis.
80
Assuming adequate deterrence (which, in turn, suggests low-risk of judicial error),
the shift to strict liability would likely cause over-investment in precaution by low-
risk professionals.
81
The desirability of this result depends on the feasibility of the swinging hypothesis.
82
The problem of over-deterrence will be aggravated if low-risk professionals
increase their levels of precaution. Decreasing their levels of precaution will mitigate
the problem. The result will depend on the likelihood of judicial error and the extent
of reputation loss borne under a strict liability regime, which is the premium that has
to be paid by low-risk professionals in order to hedge against the risk of being found
liable under a negligence regime (the risk is affected partially by the chance of
judicial error).

45
 TKP, SL&Neg

V. Signaling (Shifting)
This Part compares the respective signaling effects of the two alternative tort
regimes. Section A calls into question the common wisdom that the signaling
generated by a fault-based finding of liability is reliable, while Section B compares
the signaling effects of the two regimes under both the common wisdom and the more
skeptical view proposed in Section A.

A. Is Signaling Reliable?
The assumption underlying the discussion in this Part is that reputation loss
helps to sort out high-quality professionals from low-quality professionals. The
reputation loss incurred as a result of being found liable in tort works as a signal that
the professional is more likely to cause harm in the future than a professional not
found liable. This will shift potential clients from that professional to others. If,
indeed, being held liable is a reliable indicator of future findings of liability and if
those found liable are lower-quality professionals than those not found liable, then
fewer future accidents should occur since potential victims will shift from high-risk to
low-risk professionals. Note that this sorting effect assumes (inter alia) a constant
level of care by each individual professional. If we take as our paradigmatic case
medical malpractice, this would mean that fewer future accidents would occur not
because otherwise negligent physicians would become more cautious, but, rather,
because negligent physicians would treat fewer patients due to patients shifting to
higher-quality physicians. The assumption that the sanction imposed would reduce
future accident losses due to the signaling effect has been suggested by, among others,
Robert Cooter and Ariel Porat83 and, in a different context, Lisa Bernstein.84 It would
be fair to assume that at the core of the Cooter & Porat analysis lies the assumption
that only liability that is an indicator of fault is a reliable signal of future fault. Taking
fault out of the equation makes the strategy of shifting from one professional to
another a very bad move. For example, if Ruth and Rebecca are two physicians who

83
Cooter & Porat, supra note 5, at 405-406.
84
Bernstein, supra note 17, at 1783 n.226 (discussing sorting and quality effects
resulting from unilateral imposition of non-legal sanctions in the cotton market).

46
 TKP, SL&Neg

provide the same level of care, but Ruth performs 10 times more operations than
Rebecca, statistically Ruth will damage her patients 10 times more than Rebecca will.
However, a patient shifting from Ruth to Rebecca will not decrease his or her chances
of being injured during a procedure.
In the following discussion, I attempt to cast some doubt on the credibility and
usefulness of the signaling phenomenon in reducing future harm. It is important,
however, not to overstate this claim. While I do not deny that a finding of negligence
against a professional does provide some relevant information regarding the
likelihood of his or her being found negligent in the future, I believe this signal to be
less uniformly reliable than what might seem to be the case upon first impression.
Moreover, it is important to understand under what conditions the signal’s reliability
increases and decreases. Finally, it is important to be aware of the problems created
by the signaling process, even when it works properly.
The relevant concerns are as follows: First, doubt can always be raised as to
judicial accuracy in determining liability. It is not always clear that someone found
liable under a negligence rule was, indeed, negligent and that someone found not
negligent was, indeed, not negligent.85 Second, non-legal sanctions imposed for
retributive rather than preventive motives further reduce the significance of signaling
in preventing future harm.86 Third, even if we were certain that all and only
defendants found liable under a negligence regime were, indeed, negligent, I would
question the validity of the conclusion that they are more likely to be negligent in the
future (or, more accurately, that they are likely to pose a higher risk than professionals
85
For example, a Harvard study comparing the incidence of negligence with the
number of malpractice claims made by lawsuit or written or oral demand concluded
that the number of negligent adverse events was eight times the number of tort claims;
at the same time, of those malpractice claims that were filed, less than 20% were
actually justified. See Pape, supra note 7, at 1025 n.327. See also Greenwood, supra
note 7, at 513 n.197 (citing Congressional testimony asserting that only 23.8% of
claims closed with an indemnity payment that was the result of negligent care).
86
For example, many men presumably would boycott a heterosexual physician
convicted of sexually assaulting female patients, despite the fact that they do not fear
being sexually assaulted by him and even assuming that, in all other respects, he
provides optimal care. It is clear that such a boycott, which is not supported by
prevention motives, would not reduce the incidence of malpractice (nor the incidence
of sexual harassment) due to shifting. (However, the boycott might reduce instances
of sexual harassment by increasing deterrence). By this I do not wish to be understood
as arguing that such a reputation loss is unwarranted. In fact, I strongly believe it to be
justified. However, what supports this reaction is a deontological consideration of
retribution, rather than a consequential consideration of value creation.

47
 TKP, SL&Neg

not yet found liable under a negligence regime). Fourth, the accuracy of signaling
might be distorted by biases inherent to the imposition of reputation loss. Finally,
given the fact that not all consumers are equally informed, it is not clear that signaling
will reduce the total number of future victims even if “once-negligent-always-
negligent” is true. Rather, it might merely change only the identity of the victims. I
would like to elaborate on the last three points of skepticism.

1 Can Past Negligence Reliably Predict Future Negligence?

A decision motivated by self-preservation not to be treated by a physician who
was found negligent in the past makes sense only if past instances of negligence
predict future negligence. In what follows, I will argue, based on both theoretical
considerations and empirical research that such a prediction is of only limited validity.
From a theoretical perspective, no logical or necessary connection exists between past
and future behavior. Negligence liability evaluates conduct, not character; it is based
on discrete activity rather than on status. Moreover, assuming that past negligence
predicts future negligence ironically undercuts the rationality premise of law and
economics (as well as the agency premise of corrective justice). If the sanctions (both
legal and non-legal) imposed on a negligent physician will not deter her (or similarly-
situated negligent physicians), then why bother imposing a sanction at all?87 The
prediction of future negligence based on past negligence underestimates individuals’
capacity for self-improvement. Moreover, still on the theoretical level but more
grounded, we are all fallible and even an expert can err. Deducing lack of expertise
from a single instance of past negligence is, therefore, questionable.88 Furthermore, if

87
Indeed, Fleming James and John Dickinson, who believe in the somewhat
deterministic accident proneness thesis explained in the text below, draw doctrinal
conclusions from the limited ability of tort sanctions to change the behavior of
individuals, in contrast to the ability of organizations to respond to the threat of
liability. See Fleming James, Jr. & John J. Dickinson, Accident Proneness and
Accident Law, 63 Harv. L. Rev. 769 (1950) at 779-81 (suggesting a shift to strict
liability).
88
For a similar approach, see Greenwood, supra note 7, at 525. There is a weak
indication that the Israeli Supreme Court refuses to deduce present negligence from
past instances of negligence. See C.A. 502/78, State v. Nisim, P.D. 35(4) 748, 760. It
seems that such data are usually inadmissible in the United States. See James &
Dickinson, id. at 792. The Massachusetts Physician Profile regulating body instructs
consumers that “[s]ome studies have shown that there is no significant correlation
between malpractice history and a doctor's competence.” See Massachusetts Board of

48
 TKP, SL&Neg

I am correct in assuming that any professional can err, the “once-negligent-always-

negligent” conclusion might result in a shift from one professional to another that, in
fact, increases the risk of harm to the shifting client, at least in a relatively
homogenous market (in terms of differences in the quality of the various competitors
therein). For example, deducing future negligence from past instances of negligence is
problematic since being negligent and, even more, being found negligent might
correlate with experience. Since physicians gain experience with time and since there
might be a long delay between the alleged instance of negligence and the finding of
liability, the reputation loss might reflect factors that are no longer relevant.89
Yet it could be argued that since professionals’ levels of competence do vary
significantly, a finding of negligence signals that statistically the liable professional is
more likely to be a member of the less-qualified group of professionals in his field.
This proposition is supported by the accident proneness theory. The theory is based on
the statistical observation that a disproportionate share of the accidents that occur in
society can be attributed to a small number of people, implying that a greater
propensity to be in an accident stems from some personality trait or other
characteristic of the given individual.90 However, for the signal to be reliable, a
pattern of previous instances of negligence must be established. Relying on a single
instance of negligence (or even a very small number thereof) as a predictor of
belonging to the low-quality group of professionals, although possible under Bayesian
analysis, is statistically insignificant and, therefore, unsound.91 Arguably, if there are
high-quality and low-quality physicians in the market, even a single instance of

Registration in Medicine Physician Profile System

<www.docboard.org/ma/df/masearch.htm>.
89
To illustrate: If, in a small town, a physician who has been in practice for 15 years
is found liable for malpractice committed 12 years ago, she might lose her patients to
her younger competitor who has 3 years of practical experience, despite the fact that
(at least now) the more experienced physician is more qualified than her colleague.
Indeed, at times, physician profile databases include a disclaimer regarding relevance
of time-lapse and experience. See Physician Profile, id. ("[The] incident causing the
malpractice claim may have happened years before a payment is made. Sometimes it
takes a long time for a malpractice lawsuit to move through the legal system.").
90
See James Reason, Human Error (Cambridge, 1990) 198-99; James &
Dickinson, supra note 87.
91
In a similar vein, Stephen Sugarman has argued that the practice of insurers to
adjust premiums following an accident is inefficient, since being involved in an
accident does not identify the insured as a higher risk in a statistically significant way.
See Sugarman, supra note 9, at 576, 578 & n.91.

49
 TKP, SL&Neg

negligence might statistically signal that a given physician belongs to the low-quality
group. However, the effectivity of a shifting strategy will still be limited due to the
statistical insignificance of drawing a conclusion based on a small number of cases.
Moreover, even if a shifting strategy is still efficient in toto, there would be many
cases in which it would not work and some cases in which it would even expose the
patient to a greater risk (as well as harming the business of qualified physicians).92 Put
differently, even if such a strategy is efficient overall, it still yields results that are
distributively problematic from the perspectives of both physicians and patients.
Indeed, at times, it will shift patients from more-qualified professionals to less-
qualified ones.
These theoretical considerations are supported by empirical research that
generally failed to find any correlation between malpractice history and quality of
care provided by physicians.93 One correlation that was found – that physicians who
were sued in the past were more likely to be sued in the future94 – does not offer any
support for the shifting strategy. It is usually explained as indicating the relevant
physicians’ problems with communication and interrelating, rather than professional
incompetence,95 and these deficiencies do not predict a higher likelihood of
malpractice in the future.96 Even more problematic is that this correlation might

92
In this context, the other difficulties with the signaling effect discussed in this
Section also should be recalled.
93
See, e.g., Rolph et al., Malpractice Claims Data as a Quality Improvement Tool, II:
Is Targeting Effective?, 266 JAMA 2093 (1991) at 2093-97 (no demonstration that
malpractice claims data predict future physician performance); Entman et al., The
Relationship Between Malpractice Claims History and Subsequent Obstetric Care,
272 JAMA 1588 (1994) at 1588-91 (no relationship was found between prior
malpractice claims experience and the technical quality of practice by Florida
obstetricians).
94
See Bovbjerg & Petronis, The Relationship Between Physicians’ Malpractice
Claims History and Later Claims, Does the Past Predict the Future?, 272 JAMA 1421
(1994) at 1421-26; Greenwood, supra note 7, at 502 n.144, quoting Alexander F.
Fleming, Executive Director of the Massachusetts Board of Registration in Medicine
(a physician who has been sued frequently in the past is likely to be sued again).
95
Hickson et al., Factors that Prompted Families to File Medical Malpractice Claims
Following Perinatal Injuries, 267 JAMA 1359 (1992) at 1359-63 (different claims
experience might be associated with communications skills); Wendy Levinson,
Physician-Patient Communication: The Relationship with Malpractice Claims Among
Primary Care Physicians and Surgeons, 277 JAMA 553 (1997) (malpractice rate was
dependent on the physicians’ ability to communicate with patients).
96
A possible exception is a malpractice claim that is based on a physician’s failure to
provide the information required under the informed consent doctrine. Here, a

50
 TKP, SL&Neg

suggest that patients will sue these physicians in the future based on the ungrounded
belief that they were negligent and, in so doing, will feed a vicious cycle of harm to
the physician without the benefit of providing a beneficial signal to potential patients.

2 Biases in Imposing Reputation Loss

The reliability of the signaling effect of a finding of fault-based liability depends
also on the accuracy of the mechanism creating the reputation loss. In order for
signaling to be accurate, similar malpractice events must get similar publicity and the
response to the negative publicity must be uniform. It is clear that none of these two
conditions is met.97 The publicity a case generates depends on numerous factors, most
of which have nothing to do with the degree of fault or the extent of the damage
caused. It is affected by the identities of both the defendant (a famous or high-ranking
physician will receive more publicity than her less-known colleague) and the plaintiff
(a celebrity’s malpractice suit will garner more publicity than a suit brought by an
unknown individual). The publicity surrounding a case is also affected by geography
(a malpractice event is less likely to be reported when it occurs in a small town than
one occurring in a metropolis98) and class and demography (an affluent plaintiff can
raise more publicity for his case than can a poor plaintiff). The reputation loss
produced as a result of negative publicity likewise depends on factors bearing no
relevance to fault or damage. For example, in a racist society, the reputation loss
suffered by a physician belonging to an ethnic minority is likely to be more significant
than that incurred by a physician from the majority ethnic group.99 Or the sanction for
malpractice when the victim is a popular artist might be greater than warranted. Such
factors reduce the reliability of the signaling effect; they likewise impede the
deterrence capacity of reputation loss by making it less predictable and more
serendipitous. Even if we put aside these biases, effective signaling requires the
existence of sufficient information to enable potential victims to put the data into
context, and this information will not always be available or understood. Rates of

communications failure might be considered as one relevant factor in assessing the

physician’s competence and seems to be relevant for assessment of quality of future
care.
97
Cf. Greenwood, supra note 7, at 521-22; Galanter, supra note 9, at 744-49
(reviewing empirical findings showing systematic media bias in reporting tort cases).
98
See, e.g., Ryzen, supra note 7, at 430.
99
In addition, in a racist society, both the likelihood of being found liable for
malpractice and the publicity the event receives might be more significant.

51
 TKP, SL&Neg

malpractice are contingent not only on volume of practice and length of practice, they
vary also with demography and areas of specialty.100 When crucial information is
missing, or misunderstood, the partial information that does exist, such as the
occasional report of a malpractice finding, might lead to a patient making an
uninformed and erroneous decision.101

3 The Signaling Effect Might Simply Substitute Less-Informed Patients for

More-Informed Patients
Even if we disregard the noted difficulties with the assumption that reputation
loss deriving from tort liability can be a reliable signal that physicians found liable for
negligence pose a higher risk than their colleagues who are not found liable, the
question remains as to who benefits from this signal. The assumption that the liable
negligent physician’s turnover will be reduced due to reputation loss and that potential
patients will either shift to competitors or else refuse treatment from the liable
physician (or demand a reduction in the price of that treatment) is grounded in the
underlying presumption of an informed market. However, much of the effect of
signaling might be lost due to variances in the information possessed by different
patients. Indeed, a shift of informed patients from “bad” physicians to “good”
physicians might be offset by a shift from “good” to “bad” physicians by less-
informed patients. A less-informed patient might prefer the “bad” physician because
he can get an appointment with the latter faster than with a “good” physician or
because the “bad” physician charges a slightly reduced price (which might be less
than the reduction she would be offered were all patients fully informed). In the
extreme case, reputation loss might, in the end run, result in no real shifting effect
(i.e., no fewer instances of malpractice by negligent physicians), but, rather, in a
change in the identities of those patients (the less-informed) receiving sub-optimal
care. Of course, the fact that the less-informed are typically the less well-off might
contribute to the sense of unease this result engenders.102 Moreover, reputation loss

100
See, e.g., Ryzen, supra note 7, at 430; Greenwood, supra note 7, at 503, 512.
101
Cf. Berenson, supra note 7, at 663-65; Pape, supra note 7, at 1000-01; Greenwood,
id., at 526.
102
While the less-informed will not always be the less well-off, the fact that it is
costly to procure information makes this correlation sufficiently valid as a general
statement. Moreover, even if such a correlation is ignored, information asymmetry
might lead only to a change in the identity of the victims – substituting the less

52
 TKP, SL&Neg

might simply result in the negligent physician reducing her price, thereby enabling
marginal poor patients to receive risky treatment at a cheaper price. Whether this is a
desirable result can be disputed. For those who maintain that health is a basic human
right and a fundamental good that should be provided according to a criterion of need
rather than by the market, the notion of two levels of medical care—one for the rich
and one for the poor—is a disturbing one—and the fact that this is already the reality
in many developed countries does not make the idea any less troubling.

B. Comparing the Two Regimes in Terms of Their Signaling

Effects
If, despite the doubts raised above, a finding of fault-based liability is a good
indication that the defendant is likely to pose a higher-than-average risk in the future,
then, due to the pooling effect of strict liability, negligence is the superior regime. The
possible advantage of a negligence regime over strict liability insofar as signaling is
concerned provides the strongest support for preferring the former to the latter regime.
Were courts error proof, one would expect physicians who are confident in their
professionalism to prefer a negligence regime since it enables them to distinguish
themselves from their less-qualified colleagues. If the skepticism of the discussion in
Section A above is founded, much of the argued-for advantage of negligence over
strict liability is more apparent than real. Furthermore, if a past finding of negligence
is not a reliable indicator of the variance in physicians’ professional quality, perhaps it
is better to shift to the regime that does not presume to give reliable signals, rather
than remaining with a regime that does so presume but, in fact, gives unreliable
signals. No information at all might be better than erroneous information. The choice
between the regimes should, therefore, depend in part on the extent to which the
signaling is accurate, significant, and fair.
If signaling is reliable and fair, some (perhaps even most) of its effect might be
lost under a negligence regime, due to the strong incentive that regime gives
defendants to settle quietly.103 This notwithstanding and despite the fact that the
signaling effect of a settlement is less reliable than that produced by a court ruling, it

informed for the more informed - rather than reducing the incidence of future
accidents.
103
See Part III.B.1 above.

53
 TKP, SL&Neg

nonetheless has some limited value.104 Even though all settlements pool together
negligent and non-negligent defendants, some relevant information can be derived
from a decision to settle, but the accuracy of the signal will depend on such factors as
the nuisance value of the suit and the amount paid. The signaling effect of a
settlement reached under a negligence regime is more significant than that of a
settlement reached under a strict liability regime. In the former case, the defendant is
sending a signal that she thinks she might be found liable for being negligent. In the
latter case, the signal being sent is merely that the defendant believes she might be
found liable, which does not necessarily connote fault.

Conclusion
My main doctrinal conclusions from the analysis presented in this article are as
follows:
1. A determination as to which regime is more desirable when reputation loss is
taken into account cannot be made when important data are missing. The main
questions to be responded to are which regime will produce overall more reputation
loss and to what extent damages paid under the current tort system under-deter, over-
deter, or optimally deter. Other relevant data are fact-dependent: how informed the
market is; to what extent courts are error-prone and/or perceived as such; the ratio of
non-marginal reputation loss to marginal reputation loss; the relative size of the
reputation loss generated by the different stages of litigation; and to what degree
reputation loss is value-destroying, value-preserving, or value-creating.
2. When reputation loss is value-creating or value-destroying, the regime that
produces overall more reputation loss, when it creates value, or less reputation loss,
when it destroys value, presumably should be preferred. One caveat to this
proposition is that the pooling effect of strict liability and the adverse-selection and
tragedy-of-the-commons phenomena also influence the preference of one regime to
the other. A second caveat is that the fact that reputation loss that is a deadweight loss
does not involve negative externalization might serve to refine the conclusion that the
regime minimizing reputation loss should be preferred.

104
See Part I.B.2 above, note 23 and accompanying text.

54
 TKP, SL&Neg

3. Reputation loss is likely to increase potential defendants’ investments in

precaution. The extent to which this is desirable depends on the level of deterrence
generated by damages awards and on whether reputation loss creates, preserves, or
destroys value. If damages payments under-deter, the regime producing overall more
reputation loss might be preferable, although the effects of pooling might alter this
conclusion.
4. Reputation loss might induce defendants to fight liability excessively or,
alternatively, to settle their case, and settling hampers signaling.
5. The main reason for the variance between the two regimes in terms of
generating reputation loss is the pooling effect of strict liability – pooling together
negligent and non-negligent defendants. It seems that this pooling effect might under-
deter negligent professionals under a strict liability regime.
6. As far as low-risk professionals are concerned, it is hard to know whether the
pooling effect would cause too much or too little investment in precaution. In
situations in which professionals are risk-averse, a shift to strict liability might solve
the problem of over-deterrence prevalent under a negligence regime, by spreading the
risk of being found negligent. In other circumstances, the pooling effect might
exacerbate problems of excessive investment in precaution under a negligence
regime. The decision as to whether to invest less or more in precaution under a strict
liability regime would depend, in part, on the likelihood of judicial error and on the
relative size of reputation loss under each regime.
7. When courts tend to set an erroneous standard of care, reputation loss
aggravates the problem of over-investment in precaution created by the non-linear
nature of negligence liability.
8. When the likelihood of judicial error in setting the standard of care is not
high, when reputation loss is not significantly greater than expected damages, when
the cost of the reputation loss produced by a finding of liability under strict liability is
greater than the difference between precaution costs and accident costs, and when
precaution costs exceed accident costs—a strict liability rule might lead to over-
investment in precaution by low-risk professionals.
9. A negligence regime is superior to a strict liability regime in terms of the
signaling effect. However, this advantage disappears if signaling is suspected to be
ineffective or unfair. Due to the problems of bounded rationality and imperfect

55
 TKP, SL&Neg

information, signaling might be less reliable than usually believed, and in any event, it
is somewhat problematic from a distributive perspective.
10. If reputation loss is a transfer payment, the defendant might waste resources
in fencing that loss. However, deducting reputation loss from damages to the plaintiff
would encounter practical and normative difficulties.
11. Since reputation loss is asymmetric, it is likely to induce settlements.
Whether such a result is desirable depends on the significance of signaling (which is
hampered by a settlement), as opposed to the potential of settlements to reducing
fencing costs.
12. A negligence regime is likely to induce more settlements than a strict
liability regime. The reputation loss from settling a case under a negligence regime
will be more significant than the reputation loss produced from settling under a strict
liability regime.

56