Rules of proof, courts, and incentives.

We analyze the design of legal principles and procedures for court decision making in civil litigation. The objective is the provision of incentives for potential tort-feasors to exert care when evidence is imperfect and may be distorted by the parties. Efficiency is consistent with courts adjudicating on the basis of the preponderance of evidence standard together with common law exclusionary rules. Inefficient equilibria may nevertheless also arise under these rules. Burden of proof guidelines are then useful as a coordination device. Alternatively, guidelines are unnecessary if courts are allowed a more active or inquisitorial role in contrast to that of passive adjudicator

1. Introduction

* Court decision making is constrained by various rules and standards. In common law, exclusionary rules discard as inadmissible apparently relevant evidence. This includes evidence of similar facts (e.g., whether the defendant was previously involved in a similar case), evidence of character or of a reputation for behaving negligently or diligently, or evidence purporting to show that defendants of a particular type tend to behave in a particular way. In civil litigation, courts must decide on the basis of a preponderance of evidence, a standard of proof requirement. The preponderance standard means that a claim is deemed proved if, upon the evidence, it is more probably true than not true. There are also situations where the law imposes on courts the burden of proof assignment. For instance, rather than having the plaintiff bear the burden as is usually the case, statute law or jurisprudence may require that the defendant prove that he did not cause harm or did not act negligently. In some cases, burden of proof requirements may also refer to the type of evidence needed for proof. Finally, there are legal traditions where the court is allowed a more active or inquisitorial role, by contrast with that of passive adjudicator in the purely adversarial procedure of common law. We develop a model of tort litigation where the above legal principles and procedures can be analyzed on efficiency grounds.

To illustrate, consider a medical liability case. The plaintiffclaims that he suffered harm due to negligent oversight by his physician. Suppose all relevant evidence always becomes available to the court. The evidence may nevertheless be highly imperfect, that is, the court faces a risk of error whether it rules in favor of the patient or the physician. An important issue is therefore the "degree of certainty" or standard of proof required to reach a decision. Demougin and Fluet (2006) show that the preponderance standard has a remarkable property. If courts rule on the issue of negligence on a preponderance of evidence, there will be maximum ex ante incentives for physicians to act nonnegligently. The argument has a caveat: in applying the standard, courts must abide by exclusionary rules. Evidence pertaining to a "propensity" for the defendant to act a certain way should be discarded as inadmissible. There is therefore an efficiency justification for the standard of proof and exclusionary rules in common law. (1)

The above result was derived under the assumption that evidence exogenously becomes available to the court. This article extends the analysis to the case where verifiable evidence initially rests with the parties, who may attempt to shade the evidence. This introduces additional difficulties such as the weight that should be given to a testimony or the appropriate interpretation of the evidence submitted. If evidence can be manipulated, is a preponderance of evidence still the appropriate standard? And what does a preponderance mean?

The issue is straightforward if both litigants are known to have access to all verifiable evidence and if submission costs are small compared to the stakes. As evidence will necessarily favor one party or the other, one of the "interested parties" will find it useful to disclose it (Milgrom and Roberts, 1986). Equivalently, if all relevant evidence is not disclosed, a Bayesian judge or jury will draw the appropriate inferences. However, unraveling does not follow if the parties do not always have access to all the evidence and may be unequally informed. Shavell (1989) and Shin (1994, 1998) showed that the parties may then be successful in not revealing facts harmful to their case.

The court's problem is then to interpret partial and possibly distorted information. Should this affect the standard of proof and exclusionary rules described above? If plaintiffs in medical liability cases are known to be able on average to present only basic evidence, should the evidentiary standard they must meet be lower? Should some weight now be given to the physicians' general propensity to act negligently? We show that, even though the parties can manipulate the submitted evidence and may be unequally informed, courts should abide by exactly the same rules of proof as above.

We assume that, in applying these rules, courts are sophisticated decision makers, that is, they understand the parties' strategic incentives. As a result, they interpret limited evidence in a particular light. Suppose the plaintiff submits "mixed" evidence. By this we mean evidence which, under the preponderance standard, is consistent with either a decision for the plaintiff or against him, should additional evidence be forthcoming. Then it may be that, if the defendant does not come forward with countervailing evidence, the court will form a presumption against him. Such presumptions arise spontaneously, so to speak, in the manner courts interpret evidence under the preponderance standard.

So far, the implication seems to be that standard of proof and exclusionary rules are the only judicial tools needed to efficiently direct court decision making, that is, these principles are sufficient if the objective of tort law is to provide potential tort-feasors with the best ex ante incentives to exert care. There is nevertheless a sense in which the foregoing result does not necessarily follow. Although an efficient equilibrium exists when courts operate under the appropriate standard of proof and exclusionary rules, other equilibria may exist as well under the same set of rules.

To see this, suppose again the victim most likely has access to only limited evidence. Assume that efficiency requires that the defendant be held liable given this evidence on its own. If in equilibrium the court holds a presumption against the defendant when this evidence is the only one submitted, then the victim will sue on the basis of this evidence alone. Moreover, the court will be justified, under the preponderance standard, to find that there was negligence. The reason is that, owing to the presumption against him, the defendant would most probably have come forward with additional evidence if it was in his favor. The fact that he did not therefore justifies the presumption. Call this equilibrium A, which by assumption here is the efficient one.

Now, consider another possibility. In equilibrium B, the court does not find the defendant liable under the limited evidence alone. Hence, the victim does not sue on this basis alone. If he did, the defendant would have no incentive to come forward with additional costly evidence because he (correctly) expects the plaintiff to fail. Thus, the court will interpret the limited evidence differently from in equilibrium A, because the defendant's strategic incentives are different. As a result, the court concludes that the plaintiff's evidence does not meet the standard of proof, that is, that negligence has not been shown to be more probable than due care.

Because presumptions may be self-fulfilling, imposing on courts the burden of proof assignment helps select the better equilibrium. In the example, courts should be directed to put the burden of proof on the defendant. The purpose is to coordinate parties and courts on the good equilibrium, making sure that victims come forward even if it they have limited evidence. Such guidelines--for example, through statute law or jurisprudence from higher courts--are often observed. Although we formulated the example in terms of the need to put the burden of proof on the defendant, the reverse problem can also arise where courts are too lenient with plaintiffs. (2)

Burden of proof guidelines apply to large classes of cases, irrespective of the detailed information only available at the court level. Hence, guidelines cannot be expected to always ensure coordination on the efficient equilibrium. This leads us to inquire whether a modified court procedure can eliminate the need for guidelines. Up to now, our stylized court involved a purely "passive" adjudicator whose only role is to decide at the close of the proceedings. The modified procedure, as in the more "inquisitorial" trials of civil law countries, allows the adjudicator to intervene during the proceedings by interrogating the parties directly and purposely shifting the burden of proof. Specifically, the adjudicator announces how he will rule should no additional evidence be forthcoming (both binding and nonbinding announcements are considered). We show that the optimal liability assignment then obtains as the unique equilibrium if the active adjudicator abides by the preponderance standard and common law exclusionary rules. The interpretation is that, with a more active court, these rules of proof then suffice for an efficient "decentralization" of decisions regarding liability.