The Law and Economics of Enforcing European Consumer Law

A Comparative Analysis of Package Travel and Misleading Advertising

Franziska Weber

• Publisher: Routledge
• Year: 2016
• Print ISBN: 9781472417046
• eBook ISBN: 9781317026136
• Topic: Law
• Subtopic: Commercial Law
• Index: Law

In the internet age, the need for effective consumer law enforcement has arguably never been greater. This timely book is a comparative law and economic analysis of the changing landscape of EU consumer law enforcement policy. EU member states are moving away from purely public or private law enforcement and now appear to be moving towards a more mixed approach, not least due to European legislation. This book reflects on the need for and creation of efficient enforcement designs. It examines the various economic factors according to which the efficiency of different enforcement mechanisms can be assessed. Hypothetical case scenarios within package travel and misleading advertising, dealing with substantial individual harm and trifling and widespread harm are used to illustrate various consumer law problems. Design suggestions on how to optimally mix enforcement mechanisms for these case scenarios are developed. The findings are then used as a benchmark to assess real life situations in countries with different enforcement traditions - the Netherlands, Sweden and England. The book is of value to both researchers and policy-makers working in the area of consumer protection.

1 Introduction

DOI: 10.4324/9781315556277-1

Context: The Need for Consumer Protection Laws and their Enforcement

The starting point for an economic analysis of consumer law enforcement is the existence of markets for consumer goods. Economic theory illustrates how these markets work. In perfectly working markets, no legal interventions (such as tax laws or subsidies) are necessary, as they can only lead to a reduction of economic efficiency. In economic terms, this situation is called a ‘first-best solution’, which is an ideal situation that does not exist in reality. The real world is full of market distortions and imperfections that necessitate legal intervention through consumer protection laws. Legal interventions are referred to as second or third-best solutions.

In the 1960s and 1970s, consumer movements strongly favoured strengthening the rights of the weak party, and pure legal literature today still includes the argument that the consumer primarily must be protected from powerful (superior) sellers. Law and economics scholars criticised this reasoning.¹ They analysed consumer protection rules in three different, consecutive streams, namely information economics, new institutional economics and behavioural economics.² In information economics, the consumer is regarded as exposed to certain constraints due to a lack of information. For instance, the consumer cannot appropriately perceive quality differences.³ Imperfect information and the resulting information costs prevent the consumer from making an informed choice. This first stream shows how information affects people’s ability to make choices, and, consequently, how an improvement in the information flow can solve problems in markets. Solutions do not necessarily have to come from governmental intervention, but can be achieved by internal market mechanisms.

1 See G.K. Hadfield, R. Howse and M.J. Trebilcock, ‘Information-Based Principles for Rethinking Consumer Protection Policy’, Journal of Consumer Policy 21 (1998): 131–69, p. 133. 2 See for an overview F. Rischkowsky and T. Döring, ‘Consumer Policy in a Market Economy: Considerations from the Perspective of the Economics of Information, the New Institutional Economics as well as Behavioural Economics’, Journal of Consumer Policy 31 (2008): 285–313. 3 See Rischkowsky and Döring (2008), p. 308; see J. Stiglitz, ‘The Contributions of the Economics of Information to the Twentieth Century Economics’, Quarterly Journal of Economics 114 (2000): 1441–78, G.J. Stigler, ‘The Economics of Information’, Journal of Political Economy 69 (1961): 213–25.

New institutional economics acknowledges that the pure provision of information is not sufficient and calls for regulation of certain institutions (contracts, for example). Apart from imperfect information and information costs, institutional economics is concerned with other transaction costs that impact market transparency and consumer behaviour. In addition to the requirement to provide consumers with information, regulating contract and liability law are discussed to reduce transaction costs.

Behavioural economics challenges the rational choice theory and states that the consumer – even when exposed to complete information – cannot process all this information. In a way, behavioural economics follows a similar direction as information economics: it provides insights on how consumers perceive and use available information and choice. Perception is dependent on consumers’ internal constraints in the form of cognitive, emotional and situational factors.⁴

4 For details, see H.A. Luth, Behavioural Economics in Consumer Policy – The Economic Analysis of Standard Terms in Consumer Contracts Revisited (Antwerp: Intersentia, 2010).

From an economic viewpoint, the general starting point for a legal intervention through consumer protection laws is the occurrence of market failures.⁵ There are four types of market failure, in which the market is unable to allocate resources efficiently: information asymmetries, market power, externalities and public goods.⁶ If markets do not work properly, consumer interests are assumed to be hurt.⁷ A commonly occurring market failure in relation to consumer law is an information asymmetry, such as quality uncertainty.⁸ Imperfect information about prices or quality affects individual decisions and the lack of information leads to inefficient negotiations and contracts. Any kind of market failure has to be cured to enable the market to work and to restore competition. Therefore, well-functioning markets generally rely on government as a rule-maker and possibly as an enforcer.⁹ Interventions can be more or less restrictive. Only some small, simple markets have a potential to cure themselves, for example in cases of minor distortions where a reputation mechanism might work and consumers will buy their products somewhere else.¹⁰ An issue worth considering is that any intervention in the market will lead to costs for the producer, such as adaptation costs of a product to new standards.¹¹ These costs are likely to be reflected in the product’s price. Thus, from an efficiency point of view, governmental intervention must be carefully designed because it forces consumers to buy ‘a safe product at a higher price’.

5 See R.J. Van den Bergh, ‘Should Consumer Protection Law be Publicly Enforced?’ Collective Enforcement of Consumer Law, eds W.H. Van Boom and M.B.M. Loos (Groningen: Europa Law Publishing, 2007) 179–203, p. 180. See also Luth (2010), pp. 1, 39 for economic rationales for consumer protection policy. 6 See Van den Bergh (2007), p. 180. According to Coase, in case of externalities, there is only a reason for governmental intervention when transaction costs are high; see R.H. Coase, ‘The Problem of Social Cost’, Journal of Law and Economics 3 (1960): 1–44; see E. Van Damme, ‘Toekomst van de consument Concurrentiebeleid en consumentenbeleid’, ESB Dossier (2007): 36–42, p. 39 about monopolies and information asymmetries. 7 See S. Issacharoff and I. Samuel, ‘The Institutional Dimension of Consumer Protection’, New Frontiers of Consumer Protection – The Interplay between Private and Public Enforcement, eds F. Cafaggi and H-W. Micklitz (Antwerp; Oxford; Portland: Intersentia, 2009) 47–62, p. 47; for a recent study on consumer detriment, see Europe Economics, An analysis of the Issue of Consumer Detriment and the Most Appropriate Methodologies to Estimate it (Final Report for DG SANCO, 2007), http://ec.europa.eu/consumers/strategy/docs/study_consumer_detriment.pdf, last accessed: 31 March 2013, p. 124. 8 See G. Akerlof, ‘The Market for Lemons: Qualitative Uncertainty and the Market Mechanism’, Quarterly Journal of Economics 84.3 (1979): 488–500; Van den Bergh (2007), p. 180. 9 See S.D. Soderlind, Consumer Economics – A Practical Overview (Armonk, New York/London, England: M.E. Sharpe, 2001), p. 233. 10 See G. Howells and S. Weatherill, Consumer Protection Law, 2nd ed. (Aldershot: Ashgate Publishing, 2005), p. 2. 11 See Howells and Weatherill (2005), p. 39.

From a legal viewpoint, consumer protection rules serve to protect (the weak) consumers; however, these laws not only protect the private interests of individual consumers, but also are indispensable for proper market functioning. It is particular to the nature of consumer problems that they lie at the borderline of private/public problems and social/commercial ones, and, therefore, a wide range of legal knowledge of different areas is necessary to successfully engage in this field of law.¹² Because substantive consumer laws encompass public and private law, redress is necessarily made to both public and private enforcement instruments. Among the options are private (civil courts) or consumer alternative dispute resolution (ADR) bodies, administrative/public agencies and criminal courts. Likewise, self-regulation is a consideration. Apart from classical, individual lawsuits, forms of group litigation are available as procedural tools. For the remainder of this book, these different ways to enforce consumer law are labelled ‘enforcement mechanisms’.

12 See Howells and Weatherill (2005), p. 660; I. Ramsay, ‘Consumer Redress and Access to Justice’, International Perspectives on Consumers’ Access to Justice, eds C.E.F. Rickett and T.G.W. Telfer (Cambridge: Cambridge University Press, 2003) 17–45, p. 25.

The starting point for solving conflicts is private negotiation; therefore, a valid question among law and economics scholars is why formal bodies need to be involved in enforcement. According to Coase’s framework, under the condition of negligible transaction costs, bargaining between parties will lead to an efficient outcome irrespective of the legal rule in place.¹³ But when transaction costs exist, Coasan bargaining might not work. When these costs are high, efficient outcomes might not be reached and individuals might be prevented from entering into welfare-enhancing transactions. Therefore, starting with private or other out-of-court settlements is preferred over litigation because lower enforcement costs are assumed.¹⁴ However, in some instances, transaction costs require the involvement of a formal dispute resolution body, like a court, to reduce these costs. Negotiations between two parties are often characterised by information asymmetries, which influence people’s decision-making, particularly if one party has private, factual information. In these cases, formal litigation, lawyers, judges, public enforcers and so on serve to produce information regarding the uncertainties of a case or that may be lacking on one side or the other.¹⁵ Furthermore, each party may have opposing prior expectations, or may engage in strategic bargaining.¹⁶ Litigation serves to reduce uncertainty about a trading partner’s reliability. An unequal distribution of information is an important reason why parties litigate before formal enforcement bodies.

13 On the notion of optimal outcomes in negotiations, see Coase (1960); Market transaction costs include searching and investigating parties, negotiations, the process of reaching an agreement. 14 Among the standard models of settlement is the well-known Priest-Klein model, see G.L. Priest, ‘Reexamining the Selection Hypothesis: Learning from Wittman’s Mistakes’, Journal of Legal Studies 14 (1985): 215–43; G.L. Priest and B. Klein, ‘The Selection of Disputes for Litigation’, Journal of Legal Studies 13 (1984): 1–55. 15 See L.A. Bebchuk, ‘Litigation and Settlement under Imperfect Information’, RAND Journal ...

Table of contents

• Cover Page
• Half Title Page
• Title Page
• Copyright Page
• Table of Contents
• List of Cases
• List of Legislation
• List of Abbreviations
• Foreword
• Preface
• 1 Introduction
• Part I Optimal Enforcement Mixes (Analysis)
• Part II Country Studies (Comparison)
• Part III Conclusions
• Bibliography
• Index