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General NewsRead the fine print!

November 1, 2016

When you get an app or update your operating system, do you get an annoying agreement to read? Do you pay attention to it, or do you just click, “I agree?” This agreement is a type of contract and it has many words, or “fine print.”

Most people don’t take the time to read the fine print, but two friends, Oliver Hart at Harvard University and Bengt Holmstrom at the Massachusetts Institute of Technology have just won the 2016 Nobel Prize in Economics for reading that fine print and studying the impact of contracts in modern life. Their theories of how contracts work are now guiding businesses and governments to write more effective contracts.

A contract is a business agreement between two or more parties for the doing or not doing of a clearly detailed action. A well-designed contract ensures that both parties are treated fairly under the law.

Hart and Holmstrom researched different contract types, for example, what happens when CEO (Chief Executive Officer) pay is tied to company profits. They concluded that this contractual agreement has the negative effect of high company officials focusing on short-term profits rather than long-term growth.

Their work has also improved insurance company contracts.  For instance, adding deductibles to insurance policies (contracts) make people more responsible for filing legitimate claims for repair or replacement.

They also researched whether some jobs are contractually better done by the government or private business.

Hart and Holmstrom caution that contracts cannot address every detail in a disagreement, especially in a future situation. Therefore, a well-designed contact will “specify who has the right to decide what to do when the parties cannot agree.”

More information: click here and here

Published November 2016

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