Document Type

Article

Publication Date

1983

Center/Program

Center for Contract and Economic Organization

Center/Program

Program in the Law and Economics of Capital Markets

Abstract

The duty to mitigate is a universally accepted principle of contract law requiring that each party exert reasonable efforts to minimize losses whenever intervening events impede contractual objectives." Although applications of the mitigation principle pervade the specific rules of contract,2 it is startling how many questions remain unanswered as to precisely what efforts the mitigation duty requires and what point in time the obligation arises. For example, under what circumstances does mitigation require an injured party to deal with the contract breacher? Why does the duty to minimize losses mature only after the breach, even if the injured party became aware much earlier of a significant danger of breach and had a cost-effective opportunity to mitigate the prospective loss? Is the duty to communicate special or unforeseeable circumstances confined to the time of contracting, even where the communication of post-contract but pre-performance information might reduce costs? These and many similar questions remain unresolved because the relationship among the diverse rules of mitigation has not been systematically articulated.3

Recognizing that each party's mitigation responsibility is inextricably linked to the performance obligation of his contracting partner is the key step in fitting the mitigation principle into a general theory of contractual obligation.4 In recent years, a maturing theoretical scholarship has furthered understanding of the performance and remedial obligations of contracting parties.5 By focusing on particular performance problems, this scholarship has not only uncovered further questions but also heightened interest in a theoretical formulation that weaves the performance and remedial rules of contract into a single fabric.

Part I of this article develops an analytic model of optimal mitigation as a further step toward a general theory of contractual obligation. The model answers two questions: First, what general formulation of a mitigation principle best addresses the broad contractual goals of most parties? Second, what more specific rules are required to implement this mitigation principle? The mitigation principle derived from the model requires each bargainer to extend efforts to discover, share, and act on relevant information so as to minimize the joint costs of providing performance or its equivalent.

The major variable influencing the content of the specific rules that reduce the mitigation principle to actual practice is the market for substitute performances. Thus, in Part II, we first test the implications of our model in a transactional environment involving a well-developed market for substitute performances. In such environments, the standard categorical contract norms governing contract performance and mitigation provide appropriate rules for most bargainers. Indeed, the model clarifies a number of puzzles, including the uncertain relationship between perfect tender and cure," the reluctance to require injured parties to deal with breachers, 7 and the requirement that a clear and unequivocal repudiation precede any maturing duty to mitigate.8 In Part III, we consider the contrasting transactional environment of specialized contracts. There are peculiar problems affecting specialized contracts, especially those within a relational environment, that require different and more flexible rules., Although a number of common-law rules, such as the doctrine of substantial performance, respond in part to these special problems, the existing rules remain deficient in two respects. First, standard mitigation rules do not motivate optimal reduction of losses because they are not sufficiently precise to fit particular Situations. Second, the uncertain judicial treatment of provisions such as liquidated damages agreements and bonuses limits the contracting parties' ability to achieve unusual objectives through specially bargained arrangements.10

We argue that the traditional categorical rules of obligation and mitigation are inadequate for niany classes of specialized contractors. Moreover, broad discretionary standards of behavior, such as a general duty to use best efforts to mitigate, present acute enforcement difficulties in relational contexts. Individual bargainers, therefore, should be granted wide latitude to devise customized mechanisms to achieve their complex contractual objectives. We suggest that the state might appropriately assist this process by formulating a more complete and clearly defined menu of preformulated contract clauses. Parties could then select alternative subsets of contractual rules to govern their specific situation, choosing those best suited to the particular environment. In sum, although the traditional general rules of contractual obligation work well in contractual relationships in which there is a good market for substitute performances, only more finely tuned norms can accommodate the growing complexity of specialized arrangements.

Comments

Copyright is owned by the Virginia Law Review Association. The article is used with the permission of the Virginia Law Review Association.

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