The Evolution and Persistence of Optimism in Litigation: JLEO, V22 N2

490 JLEO, V22 N2
The Evolution and Persistence of Optimism in

Litigation
Oren Bar-Gill*
New York University School of Law
Empirical evidence suggests that lawyers and litigants are systematically opti-
Downloaded from http://jleo.oxfordjournals.org/ at Pennsylvania State University on February 20, 2016

mistic with respect to the outcome at trial. Using evolutionary game theory, this
article seeks to provide a theoretical explanation for the persistence of the opti-
mism bias. The adaptive force of optimism derives from its function as a commit-
ment device in the pretrial bargaining stage. Optimistic lawyers, by credibly
threatening to resort to costly litigation, succeed in extracting more favorable set-
tlements. Therefore, market-selection forces and cultural transmission dynamics
dictate an equilibrium with a positive level of optimism. Understanding the dynam-
ics leading to optimism provides new insight regarding the different factors that
influence the level of this cognitive bias. In particular, it is shown that the design of
legal rules affects the equilibrium level of optimism, which in turn affects the rel-
ative efficiency of the different legal designs. Methodologically, by enabling a
more systematic exploration of the perception-shaping role of the law, this article
seeks to expand the conventional boundaries of behavioral law and economics.
1. Introduction
Over 90% of all legal proceedings end up outside the courtroom, via settle-
ment. Still, in a large number of cases, settlement negotiations fail, and con-
siderable amounts of litigation costs are incurred at trial. These facts have lead
to an extensive literature regarding the prerequisites for settlement and the
terms of settlements reached through pretrial negotiations (for recent surveys,
see Daughety, 2000; and Hay and Spier, 1998). In particular, uncertainty and
asymmetric information—both common in the pretrial environment—have
been invoked to explain bargaining impasse (see for example Cooter, Marks,
and Mnookin, 1982; Priest and Klein, 1984; Bebchuk, 1984; Reinganum and
Wilde, 1986; Nalebuff, 1987; Spier, 1992, 1994; and Farmer and Pecorino, 1996).
*New York University School of Law. Email: bargill@nyu.edu.

I wish to thank Jennifer Arlen, Lucian Bebchuk, Bernard Black, Eddie Dekel, Chaim
Fershtman, David Gilo, Louis Kaplow, Jennifer Reinganum, Steven Shavell, Eric Van Damme,
Omri Yadlin, and seminar and conference participants at the 2002 American Law and Economics
Association conference, the 2002 Israeli Law and Economics Association conference, Tilburg
University (CentER), Harvard Law School, and Tel-Aviv University for their valuable comments
and suggestions. The Olin Center for Law, Economics, and Business at Harvard Law School, the
William F. Milton Fund of Harvard University, and the Cegla Center for Interdisciplinary Research
of the Law at Tel-Aviv University provided generous financial support.
The Journal of Law, Economics, & Organization, Vol. 22, No. 2,

doi:10.1093/jleo/ewj016
Advance Access publication December 8, 2005
The Author 2005. Published by Oxford University Press on behalf of Yale University.
All rights reserved. For permissions, please email: journals.permissions@oxfordjournals.org
The Evolution and Persistence of Optimism in Litigation 491
In addition, breakdowns in settlement negotiations are often attributed to

an optimism bias shared by many lawyers and litigants (see for example
Lowenstein et al., 1993; Mnookin, 1993; Birke and Fox, 1999; and Shavell,
2004:405). The prevalence of optimism generally, and in bargaining games
and legal settings specifically, is well documented (see for example Birke
and Fox, 1999; Bottom and Paese, 1999; and Neale and Bazerman, 1991
(emphasizing the prevalence of optimism among experts, including lawyers)).
Using evolutionary game theory, the present study traces the forces that
sustain this cognitive bias.
When lawyers with a variety of bias levels, ranging from pessimism to

extreme optimism, interact with each other in the litigation and settlement
setting, some bias levels will prove to be more successful than others. The
successful biases, which earn high payoffs, will survive in the long run.
A lawyer with an unsuccessful bias will enjoy little or no business and will
eventually be forced out of the market (compare Alchian, 1950; Friedman,
1953; Camerer, 1992; and Dutta and Radner, 1999). Alternatively, in focusing
on intra-firm selection, rather than on inter-firm competition, only associates
with a successful bias level will be promoted to partnership positions within
a law firm. Finally, successful lawyers will pass on their bias levels, through
the training process of legal interns, judicial clerks, and junior associates,
and through their general influence on the legal profession (see Bowles,
1998:82: ‘‘The cultural transmission process translates economic well-being,
exposure to role models, and other influences into replication of traits, and
thus intervenes between payoffs and replication.’’).1
But why will these quasi-evolutionary forces select optimism? The adaptive
force of optimism derives from its function as a commitment device in the
pretrial bargaining stage. Optimistic lawyers, by credibly threatening to resort
to costly litigation, succeed in extracting more favorable settlements.2 The ad-
vantage of irrational commitment in strategic contexts generally and in bar-
gaining games specifically is well known (see for example Schelling, 1960;
and Frank, 1988). The potential advantage of optimism in such settings has
also been noted (see Kahneman and Tversky, 1995).3
1. The evolutionary methodology links the present study to articles that attempt to explain
seemingly irrational behavior as the result of an evolutionary selection process. See for example
Kyle and Wang (1997), Waldman (1994), and Heifetz and Spiegel (1999). See also Frank (1988),
Güth and Yaari (1992), Fershtman and Weiss (1997, 1998), Huck and Oechssler (1998), Bester and
Güth (1998), Dekel and Scotchmer (1999), and Possajennikov (2000). Specifically, the evolution-
ary methodology has been utilized to study the emergence of various elements of bargaining be-
havior. See for example Huck, Kirchsteiger, and Oechssler (1997), Heifetz and Segev (2001),
Young (1993), and Ellingsen (1997).
2. The present analysis argues that cautious optimism provides for higher expected returns.
There are alternative explanations for the success and survival of optimism. For instance, even
if optimists do poorly on average, a few lucky optimists may do better than their realist or pessimist
rivals (if optimism leads players to choose lower mean but higher variance projects or cases).
Compare Majumdar and Radner (1991) on the success and survival of risk-loving behavior.
3. In fact, while focusing on pretrial bargaining, the present analysis can be readily extended to
more general bargaining settings. Any cognitive bias that renders a party’s outside option more
favorable than it actually is may enjoy an adaptive advantage.
492 The Journal of Law, Economics, & Organization, V22 N2
Understanding the dynamics leading to optimism provides new insight

regarding the different factors that influence the level of this cognitive bias.
In particular, it is shown that the design of legal rules may affect the equilibrium
level of optimism. Focusing on the legal rules that determine the allocation of
litigation costs between the parties, it is shown that the American rule, under
which each party bears her own litigation costs, induces a greater level of op-
timism compared with the British rule, under which the loser at trial bears also
the winner’s litigation costs.4 Since the implications of victory at trial are greater
under the British rule,5 the adverse consequences of optimism regarding the
probability of victory, in terms of preventing settlement, are more severe under

this rule. Since optimism is detrimental to settlement, the effect of the legal rules
on the equilibrium level of optimism has welfare implications. Other things
equal, a rule that induces a higher level of optimism is less efficient.
This article demonstrates that the equilibrium level of optimism depends on
the legal environment in a systematic way. This result is indicative of a much
broader theme. The law can play an important perception-shaping role. Behav-
ioral law and economics is a two-way street. Not only do cognitive biases af-
fect the operation of legal rules, but the legal rules themselves influence the
type and magnitude of the prevailing cognitive biases. Both effects should be
considered in the evaluation of legal policy.
Methodologically, this article joins recent attempts to introduce evolution-
ary game theory into law and economics. Specifically, Huck (1998), Bohnet
et al. (2001), and Bar-Gill and Fershtman (2004) have applied this methodol-
ogy to study the preference-shaping role of the law. This article extends the
scope of inquiry from preferences to perceptions. Quasi-evolutionary dynamic
forces shape people’s preferences and perceptions and thus indirectly affect
their behavior in many legal settings. A better understanding of these dynamic
forces promises to provide new insight into the operation of legal rules and
institutions.
The remainder of the article is organized as follows. Section 2 presents the
model and establishes the evolutionary stability of cautious optimism. Section 3
studies the different factors influencing the equilibrium level of optimism,
focusing on the perception-shaping role of the law. Section 4 offers concluding
remarks and discusses possible extensions.
2. Model
2.1 Framework
Let p represent the true probability of a judgment in favor of the plaintiff. If the
plaintiff is victorious, the defendant is ordered to pay him a sum W. The plain-
tiff and the defendant incur litigation costs of cp and cd, respectively, if
4. The analysis considers other rules as well. See Proposition 3 below.

5. Under the British rule, the allocation of litigation costs as well as the judgment amount itself
depends on the outcome at trial. Under the American rule, each party bears its own litigation costs
regardless of the outcome at trial.
negotiations fail and trial commences. Let C ¼ cp þ cd represent the total costs
of going to trial.
The players in the model are the attorneys, who represent the plaintiff and
the defendant, rather than the litigants themselves, since attorneys as repeat
players are more susceptible to the quasi-evolutionary forces studied in this
article. The attorneys, however, are assumed to be perfect agents for the lit-
igants (but see Section 4.5 below).
The optimism, realism, or pessimism of the attorneys is with regard to the
probability of the plaintiff’s victory at trial. Let pp ¼ p ð1 þ xp Þ represent the
probability that the plaintiff succeeds at trial, as perceived by the plaintiff’s

attorney. Correspondingly, let pd ¼ p ð1 xd Þ represent the probability
that the plaintiff succeeds at trial, as perceived by the defendant’s attorney.
Therefore, the players are considered realists if x ¼ 0, optimists if x > 0,
and pessimists if x < 0. While the level of optimism (or pessimism) evolves
endogenously in this model, some exogenous bounds are assumed, mainly for
technical convenience; specifically, x 2 bmaxð1; 1 1pÞ; minð1p 1; 1Þc.6 It
should be emphasized that optimism, realism, and pessimism are viewed as
intrinsic characteristics of the individual, such that the individual is unaware
of the bias (if one exists).
The assumption that players do not learn their bias level, even when they
engage in repeat interactions over time, needs some justification. This assump-
tion seems reasonable in the basic model, where at equilibrium, cases never
proceed to trial, so that players do not have a chance to compare their sub-
jective assessments of p with the actual p. When imperfect information is in-
troduced (see Section 2.4 below), a small percentage of cases do proceed to
trial, but then the noisy signal derived from the outcome at trial makes it dif-
ficult (i.e., it takes a very long time) for a player to learn her bias level. More-
over, empirical evidence suggests that such learning is at best partial (see
Neale and Bazerman, 1991; Kahneman and Tversky, 1982, in summarizing
the relevant literature, emphasize that these biases are ‘‘reliable, systematic,
and difficult to eliminate’’). Some learning clearly takes place, and this learn-
ing process constrains the departure from the zero bias benchmark. But to the
extent that learning is imperfect, it may be useful to explore the sources and
implications of the optimism bias.
Under the American rule, each player bears her own litigation costs regard-
less of the outcome at trial. Hence, in pretrial negotiations, the plaintiff’s res-
ervation price is Rp ¼ pp W cp ,7 and the defendant’s reservation price is
6. This constraint ensures that pp ; pd 2 ½0; 1: Alternatively, the perceived probabilities would
have to be defined as pp ¼ maxð0; minðp ð1 þ xp Þ; 1ÞÞ and pd ¼ minðmaxð0; p ð1 xd ÞÞ; 1Þ;
which unnecessarily complicates the analysis. The main results regarding the emergence of cau-
tious optimism do not depend on the imposed constraint.
7. The analysis assumes positive present value suits, i.e., pW cp > 0: It is further assumed
that Rp ¼ pp W cp > 0: These assumptions focus the analysis on the effects of optimism on
pretrial settlement negotiations, as they ensure that suit will be brought regardless of the plaintiff’s
perceptional bias. It should be noted, however, that optimism may also affect the plaintiff’s de-
cision whether to file suit in the first place. This and related effects are discussed in section 4.1.
Rd ¼ pd W þ cd : In other words, the plaintiff will reject any settlement below

Rp, and the defendant will reject any settlement above Rd. This framework can
be readily extended to study different rules for the allocation of litigation costs,
specifically the British rule, the pro-plaintiff rule, and the pro-defendant rule.
The outcomes under these different rules are compared in Section 3 below.
2.2 The Pretrial Bargaining Game: Settlement or Trial

Following Shavell (1982), it is assumed that if Rp > Rd, there will be no set-
tlement and the parties will proceed to trial, where the plaintiff obtains
p W cp and the defendant pays p W þ cd : If Rp Rd, the parties will reach

a settlement agreement according to which the defendant pays the plaintiff an
amount S ¼ 12 ðRp þ Rd Þ:8
This account of the pretrial bargaining game assumes that each player
observes the other player’s reservation price. In fact, it suffices to assume
that during some preliminary negotiations stage, the two parties learn (per-
haps imperfectly) each other’s reservation price (see Güth and Peleg, 2001;
see also Huck, 1998).9 The observability of a player’s level of optimism—
although possibly indirect and imperfect—is critical for the commitment role
of optimism.
There is some tension between the observability assumption and the as-
sumption that a player is unaware of her level of optimism. This tension, how-
ever, should not be overstated. As emphasized above, optimism is not observed
directly. Only the reservation price is observable. In a simple deterministic
model, the level of optimism can be readily inferred from the reservation price,
but this is clearly not the case in more realistic models. An optimistic party will
project a tougher bargaining stance, without being aware of her optimism, and
it is this tougher stance that her opponent will observe.
The distinction between direct observability of a party’s level of optimism
and observability of a reservation price or bargaining stance raises a different
objection. If a player’s type, i.e., her level of optimism, is not directly observ-
able, then non-optimistic types can try to mimic optimistic types when opti-
mism is advantageous, thus eliminating any potential advantage of optimism.
While valid, this objection also is not as powerful as it initially appears. It is
not so easy to credibly fake optimism, or any other form of irrationality for
that matter (Frank, 1988; Kahneman and Tversky, 1995). Bluffing is clearly
common in any type of negotiation. This does not mean, however, that the
implications of genuine optimism can be perfectly reproduced by a sophisti-
cated realist.
8. This account of the pretrial bargaining game is consistent with the Nash bargaining solution.
It is also consistent with the explicit bargaining protocol, in which each player has a 50% prob-
ability of making a take-it-or-leave-it offer. The equal bargaining power assumption implied by
this formulation can be relaxed (e.g., assume that the plaintiff makes a take-it-or-leave-it offer with
probability h and the defendant makes a take-it-or-leave-it offer with probability 1 h) without
qualitatively affecting the analysis.
9. During this learning process the parties would also update their own beliefs regarding the
probability of victory at trial. The assumption is that Rp and Rd incorporate these updated beliefs.
The chosen account of the pretrial bargaining game is admittedly simplistic.

It abstracts from many important dimensions of settlement negotiations. Yet
it facilitates the focus on another arguably important piece of the puzzle—
endogenous optimism.
2.3 The Evolution of Cautious Optimism

The levels of optimism in a given population of lawyers are subject to market
selection and to cultural transmission dynamics, as discussed in the introduc-
tion. These quasi-evolutionary forces lead to the success and survival of cau-

tious optimism.
In particular, consider a single population of lawyers. Let xi represent the
level of optimism (or pessimism) of a type i lawyer in this population.10 The
distribution of optimists, realists, and pessimists in the population is repre-
sented by the probability density function (pdf) – g(x).11 Each period, these
lawyers are randomly divided into two groups of equal size—a plaintiff law-
yers group and a defense lawyers group. Each member of the plaintiff group is
randomly matched with a member of the defendant group.12
Let m(xi, x) denote the (average) payoff to a type i lawyer, with optimism xi,
when matched with a lawyer with optimism x.13 In the present framework,
1
ðxi xÞ pW ; xi þ x C=ðpW Þ
mðxi ; xÞ ¼ 21 :
2 ðCÞ; xi þ x > C=ðpW Þ
When the sum of the parties’ optimism is not too high, i.e., when
xi þ x C=ðpW Þ; the parties will settle and the average payoff will be
1
2 ðxi xÞ pW : When the sum of the parties’ optimism is too high, i.e., when
xi þ x > C=ðpW Þ; settlement negotiations will fail and a costly trial will fol-
low, generating an average payoff of 12 ðCÞ:
10. As is common in evolutionary models, heterogeneity is confined to a single dimension—

here, the level of optimism. Accordingly, the equilibrium derived below may not be robust to
the introduction of different, more complex types of players. For instance, a realist that can cred-
ibly pose as an optimist, depending on the identity of her opponent, would likely do better than
any of the one-dimensional types considered here. Similarly, even if optimism persists in the one-
dimensional model, the advantage of optimism may disappear if optimists can be exploited by
third-party realists (who can make money by selling lotteries to the optimistic litigants or lawyers,
i.e., by engaging in costless arbitrage). While there is reason to doubt the real-world importance of
these more sophisticated types (see Section 2.2 above), the implications of their potential existence
must be acknowledged.
11. I refer to the distribution of types as continuous for expositional simplicity. Technically,
I consider a very large but finite discrete distribution, so that the ESS concept can be safely used
to characterize evolutionary stability. See Oechssler and Riedel (2002).
12. This single-population model better describes lawyers who represent both plaintiffs and
defendants. A different model can assume two distinct populations—a population of plaintiff at-
torneys and a population of defense attorneys. This alternative model yields qualitatively similar
results (specifically, cautious optimism evolves in the two-population model as well).
13. This is an average payoff in the sense that lawyer i will meet lawyer j either when i is on the
plaintiff side and j is on the defendant’s side (50% of the time) or when i is on the defendant’s side
and j is on the plaintiff side (50% of the time).
Ð
The expected fitness of type i is defined as Uðxi Þ ¼ x mðxi ; xÞgðxÞdx: The
relative fitness of type i, as compared with the average fitness in the population,
determines how the distribution of optimism g(x) changes from one period to
the next. Specifically, assuming a payoff/fitness-monotonic dynamic pro-
cess,14 if type i enjoys an above average fitness in period t, this type will
be represented in the population with greater frequency in period t þ 1; con-
versely, if type i enjoys a below average fitness in period t, this type will be
represented in the population with lower frequency in period t þ 1. This pro-
cess converges to an evolutionary stable distribution of optimism.15
The preceding dynamic characterization formalizes the notions of market

selection and culture transmission that motivated the endogenous optimism
model. In studying the evolutionary stable equilibria in this model it will, how-
ever, be more convenient to use the equivalent static solution concept of an
Evolutionary Stable Strategy (ESS) or, in the present context, an evolutionary
stable bias distribution.16 The ESS concept identifies bias distributions that are
stable in the sense that they cannot be invaded by ‘‘mutants’’ with different bias
levels; i.e., such a mutant will earn a payoff that is smaller than the payoff
earned by members of the evolutionary stable population.17 (For a formal def-
inition of the ESS concept, and for an excellent discussion of the relationship
between static and dynamic solution concepts, see Weibull, 1995.)
Before characterizing the evolutionary stable distributions of optimism, it is
useful to highlight the advantage of cautious optimism, as revealed from even
a preliminary examination of the best-response correspondence characterizing
the evolutionary game.
Lemma 1.
(i) Against a rival who is pessimistic, realistic, or cautiously optimistic,
i.e., a rival with xj < C=ðpW Þ; a cautiously optimistic lawyer with
xi ¼ C=ðpW Þ xj ð> 0Þ will do better than a realistic lawyer with
xi ¼ 0. In fact, a lawyer with xi ¼ C=ðpW Þ xj will do better than a law-
yer with any other level of optimism xi 6¼ C=ðpW Þ xj :
(ii) Against an excessively optimistic rival, i.e., a rival with xj C=ðpW Þ;
an optimistic lawyer with xi > 0 will do as well as a realistic lawyer with
xi ¼ 0. In fact, all lawyers with a level of optimism xi > C=ðpW Þ xj
14. See Weibull (1995) for examples of commonly used payoff-monotonic dynamic processes.
15. As discussed below, in the present context the dynamic process indeed converges to a stable
distribution, although such a convergence is not generally guaranteed.
16. The numeric simulations invoked in note 19 below employ a dynamic asymptotic conver-
gence criterion. It should be emphasized that dynamic convergence and the ESS solution concept
are not generally equivalent. See Oechssler and Riedel (2002).
17. Focusing on homogeneous populations (see Section 3 below), an ESS is defined as follows:
Suppose that every individual in a large population shares the same incumbent bias. Suppose also
that a sufficiently small number of individuals sharing some other, mutant bias level enter the
population. Pairs of individuals in the postentry population are repeatedly drawn at random to
play the game, each individual being drawn with equal probability. The incumbent bias level
is evolutionarily stable, an ESS, if and only if its postentry payoff (fitness) is greater than that
of the mutant bias level. See Weibull, 1995:36.
will do similarly well, and these lawyers will do better than any lawyer
with a level of optimism xi C=ðpW Þ xj :
The intuition for this result, whose detailed proof is omitted, is as follows:
(i) When facing a rival with xj < C=ðpW Þ; any lawyer with xi
C=ðpW Þ xj ; including both realists and cautious optimists, will reach
a settlement and avoid costly litigation. Given that a costly trial is
avoided, the goal is to obtain the most favorable settlement. A higher
level of optimism serves this goal, by providing a commitment device

that strengthens the lawyer’s bargaining position.18
(ii) When facing a rival with xj C=ðpW Þ; all realists and optimists (and
some pessimists) will go to trial and incur litigation costs.19 Only suf-
ficiently pessimistic lawyers (with xi C=ðpW Þ xj ) will settle with
such a rival, but the settlement reached will be worse than the expected
outcome at trial (including litigation costs).
Proposition 1 characterizes the properties of the evolutionary stable distri-

butions of optimism and demonstrates that cautious optimism will prevail.
Proposition 1.
(i) A population of realists is evolutionary unstable.
(ii) In any evolutionary equilibrium, lawyers exhibit cautious optimism,
i.e., "x;½0; C=ðpW Þ gðxÞ ¼ 0:
The intuition for this result, which is proved in the appendix, follows from
the advantage of cautious optimism as established in Lemma 1. In particular,
a population of realists is unstable, since a cautiously optimistic lawyer will
obtain more favorable settlements and outperform the rest of the population.
Pessimism is unstable, since it increases the range of possible settlements only
to include settlements that are worse than the expected outcome at trial. And
excessive optimism is unstable, since after the disappearance of all pessimistic
rivals, excessive optimists always go to trial, incurring high litigation costs.
2.4 Adding Uncertainty

To demonstrate the robustness of the cautious optimism result, I now introduce
noise to the basic deterministic model. Specifically, assume that there is some
uncertainty regarding the magnitude of the parties’ litigation costs: the plain-
tiff’s litigation costs are cp þ 12e; and the defendant’s litigation costs are
cd þ 12e; with the noise element, e, distributed according to f(e) (with the
18. The plaintiff’s reservation price is p ð1 þ xÞ W cp ; therefore, a more optimistic plain-

tiff will shift the settlement range toward higher settlements. The defendant’s reservation price is
p ð1 xÞ W þ cd ; therefore, a more optimistic defendant will shift the settlement range toward
lower settlements. See also Bottom and Paese (1999) and Cooter, Marks, and Mnookin (1982).
19. When facing a rival with xj ¼ C=ðpW Þ; a realist will settle, but the settlement payoff will be
exactly equal to the expected outcome at trial (including litigation costs).
cdf F(e)) and where the degree of uncertainty is measured by the standard
deviation of the noise distribution, re . The uncertainty is case-specific rather
than litigant-specific. For example, a specific case can turn out to be more com-
plicated, thus increasing both parties’ litigation costs. In this stochastic model,
the (average) payoff to a type i lawyer, with optimism xi, when matched with
a lawyer with optimism x, is
1
mðxi ; xÞ ¼ ½1 Fððxi þ xÞ pW CÞ ðxi xÞ pW
2
1
þ Fððxi þ xÞ pW CÞ ðCÞ:
2

The two countervailing effects of optimism are clearly represented in the pay-
off function. On the one hand, optimism increases the expected settlement
value, 12 ðxi xÞ pW : On the other hand, optimism increases the probability
of impasse, Fððxi þ xÞ pW CÞ: The results stated in Proposition 1 for the
deterministic model can be replicated in the stochastic model (with appropriate
adjustments to the boundaries of the cautious optimism range).
3. The Determinants of Optimism

After establishing the evolutionary stability of an optimism bias, I now turn to
study the various factors that influence the equilibrium level of optimism.
3.1 Case Type

I first examine how different types of legal cases—characterized by the param-
eters W, C, and p—can lead to different levels of optimism in equilibrium. For
clarity of exposition, I return to the basic deterministic model and restrict at-
tention to homogeneous populations, where everyone shares the same level of
optimism at equilibrium.20 I begin by stating the following proposition.
Proposition 2. Under the American rule, the unique evolutionary stable

homogeneous population shares the level of optimism x̂ ¼ C=ð2pW Þ:
The intuition for this result, which is proved in the appendix, is as follows:
In a homogeneous x̂ ¼ C=ð2pW Þ-population, the plaintiff’s reservation value
20. Apart from the expositional clarity it provides, the unique evolutionary stable homogenous
population (see Proposition 2) has the following desirable features. First, numeric calculations
suggest that the stable homogenous population has a particularly large basin of attraction. Spe-
cifically, if the initial distribution of optimism in the population is not ‘‘too concentrated’’ outside
the ½0; C=ðpW Þ range, the dynamic process will converge to the stable homogenous population
(see Bar-Gill, 2002). Second, professional norms within the legal profession foster such homoge-
neity. Third, the x̂ ¼ C=ð2pW Þ result (see Proposition 2) emerges also via a completely different
approach to the pretrial bargaining game, where litigants (indirectly) observe lawyers’ optimism,
and thus may choose a lawyer, and consequently a level of optimism, as if it were a strategy in
a bargaining game (see note 23 below). In such a two-player game between a plaintiff and a de-
fendant, xp ¼ xd ¼ C=ð2pW Þ is the unique symmetric Nash equilibrium, and it is also supported by
the Nash bargaining solution.
always equals the defendant’s reservation value, i.e., Rp ¼ Rd ¼ pW þ

1
2ðcd cp Þ (the perceived bargaining range collapses to a singleton at the
midpoint of the actual bargaining range), all claims settle out of court, and
litigation costs are avoided. A lawyer with a higher level of optimism, when
facing x̂ ¼ C=ð2pW Þ-rivals, would end up going to trial and wasting money on
litigation costs. A lawyer with a lower level of optimism will always settle,
but for less favorable terms. Therefore, the homogeneous x̂ ¼ C=ð2pW Þ-
population is evolutionary stable (i.e., immune to ‘‘invasion’’ by other levels
of optimism).
A homogeneous population sharing a level of optimism other than C/(2pW)

is unstable. If the shared level of optimism is x̂ < C=ð2pW Þ; a lawyer with
a higher level of optimism will obtain more favorable settlements. If the shared
level of optimism is x̂ > C=ð2pW Þ; a lawyer with a lower level of optimism
will avoid the bargaining impasse from which the rest of the population suffers.
Based on Proposition 2, I can now state the effects of litigation costs, the
judgment at trial, and the strength of the plaintiff’s case on the equilibrium
level of optimism.
Corollary 1. The equilibrium level of optimism is

(i) increasing in the total cost of litigation, C;
(ii) decreasing in the magnitude of the judgment, W; and
(iii) decreasing in the strength of the plaintiff’s case, p.
The intuition for this result, which follows immediately from Proposition 2,
is as follows:
(i) When the cost of litigation is high, a party will be more inclined to
settle, even with an optimistic rival who demands a harsh settlement.
Put differently, when litigation costs are higher, it will take a higher
level of optimism to induce breakdown in the settlement negotiations.
Consequently, the equilibrium level of optimism will be higher.
(ii) When the stakes at trial are higher, the adverse consequences of op-
timism regarding the probability of victory, in terms of preventing set-
tlement, are more severe. Consequently, the equilibrium level of
optimism will be lower.
(iii) When the plaintiff’s case is stronger, i.e., when the probability of plain-
tiff victory is higher, the absolute effect of optimism on the perceived
probabilities, pp and pd, is larger. Consequently, the equilibrium level
of optimism will be lower.
Corollary 1 suggests the following testable predictions:
(i) Assuming that the ratio C/(pW) is smaller for ‘‘big’’ cases, lawyers who
routinely handle these ‘‘big’’ cases will tend to be less optimistic than
their colleagues who routinely handle ‘‘smaller’’ cases.
(ii) Lawyers who routinely handle cases in which the likelihood of plaintiff
victory is higher will tend to be less optimistic.
3.2 The Cost-Allocation Rule

I now turn to one of the main goals of this article—to demonstrate the role of
legal rules in determining the equilibrium level of optimism. Proposition 2
derived the stable level of optimism under the American rule for the allocation
of litigation costs: x̂ ¼ C=ð2pW Þ: The equilibrium levels of optimism under
alternative rules can be readily calculated by using well-known transforma-
tions between the different rules (see Bebchuk, 1984). The following propo-
sition summarizes the equilibrium levels of optimism under the four
prototypical rules for the allocation of litigation costs.

Proposition 3.
(i) Under the American rule, where each party bears its own litigation
costs, the equilibrium level of optimism is x̂ ¼ C=ð2pW Þ:
(ii) Under the British rule, where the loser pays also the winner’s litigation
costs, the equilibrium level of optimism is x̂ ¼ C=½2pðW þ CÞ:
(iii) Under the pro-plaintiff rule, where a losing defendant pays also the
plaintiff’s litigation costs, the equilibrium level of optimism is
x̂ ¼ C=b2pðW þ cp Þc:
(iv) Under the pro-defendant rule, where a losing plaintiff pays also the
defendant’s litigation costs, the equilibrium level of optimism is
x̂ ¼ C=½2pðW þ cd Þ:
The intuition for this result, whose detailed proof is omitted, is as follows:
The equilibrium level of optimism is inversely related to the consequences of
optimism. The consequences of an optimism bias with respect to the proba-
bility of victory at trial are a function of the stakes that depend on the judgment
at trial. Under the American rule, these stakes are only W. Under the British
rule, the stakes include also both parties’ litigation costs and thus equal W þ C.
Under the two intermediate rules, the pro-plaintiff rule and the pro-defendant
rule, the stakes are W þ cp and W þ cd, respectively.
Proposition 3 predicts a higher level of optimism (or toughness—see Sec-
tion 4.2 below) under the American rule, as compared with the British rule.
This prediction is in line with the prominence of the ‘‘zealous advocacy’’ norm
in the United States.21 In contrast, the ethical rules of conduct in England sub-
stantially qualify the reach of the zealous advocacy norm (see Osiel, 1990; and
Kagan, 1994).
The American rule is commonly considered to be a better promoter of settle-
ments (see for example Shavell, 1982; and Bebchuk, 1984). Since a greater level
of optimism increases the likelihood of a bargaining impasse, Proposition 3 sug-
gests that when optimism is allowed to evolve endogenously according to the
prevailing legal regime, this advantage of the American rule is reduced. It should
be noted that in the present deterministic setting, all pretrial negotiations, under
both rules, result in settlement, rendering any welfare comparison meaningless.
21. See Canon 7 of the 1969 Model Code of Professional Responsibility: ‘‘A Lawyer Should
Represent a Client Zealously Within the Bounds of Law.’’
Nevertheless, the basic insight of Proposition 3, that the equilibrium level of

optimism is higher under the American rule, persists in more realistic stochastic
models (see Section 2.4 above, Section 3.3 below, and Bar-Gill, 2002).
The preceding analysis demonstrated that legal rules can influence the equi-
librium level of optimism. Behavioral law and economics has taught us that
cognitive biases affect the operation of legal rules. Proposition 3 suggests that
legal rules may influence the type and magnitude of the prevailing cognitive
biases.

3.3 Uncertainty
The equilibrium level of optimism is also influenced by the degree of uncer-
tainty (noise) surrounding the litigation and settlement process. To explore the
role of uncertainty, consider again the stochastic model developed in Section
2.4. Still focusing on evolutionary stable homogeneous populations, the equi-
librium level of optimism must satisfy the FOC @mðxi ; xÞ=@xi ¼ 0 (and the
SOC @ 2 mðxi ; xÞ=@x2i < 0) at x ¼ xi. This FOC reduces to
hð2xi pW CÞ C ¼ 1;
where hðeÞ [ f ðeÞ=ð1 FðeÞÞ is the hazard rate of the noise distribution. Note
that, contrary to the result obtained in the basic deterministic model, in the
more realistic stochastic model, bargaining failures arise in equilibrium.
The equilibrium level of optimism in the stochastic model clearly depends
on the shape of the noise distribution. Nevertheless, the following general re-
sult can be obtained.
Proposition 4. If the noise distribution is symmetric and single-peaked and

the hazard rate, h(), is monotonically increasing in the relevant range, there
exists a threshold level of uncertainty, re ; such that "r re ; the equilibrium
level of optimism, is lower than the equilibrium level of optimism in the no
uncertainty case, i.e., x̂ C=ð2pW Þ; and "r re ; the equilibrium level of
optimism, is higher than the equilibrium level of optimism in the no uncer-
tainty case, i.e., x̂ C=ð2pW Þ:
This result, whose detailed proof is omitted, can be illustrated through

ee=B
an example. Consider the logistic noise distribution, f ðeÞ ¼ B1 ð1þe e=B Þ2
;
with EðeÞ ¼ 0 and re ¼ pffiffi3B; which satisfies the conditions stated in Proposi-
p
tion 4. With this noise distribution, the equilibrium level of optimism is

C BlnðB=ðC BÞÞ
x̂ ¼ þ :
2pW 2pW
Figure 1 depicts the functional relationship between the degree of uncertainty
and the equilibrium level of optimism.
Interestingly, the equilibrium level of optimism is not monotonic in the de-
gree of uncertainty. The intuition for this non-monotonicity can be traced back
to the FOC @mðxi ; xÞ=@xi ¼ 0 (evaluated at x ¼ xi ), which can be written as
0.5
0.45
Equilibrium Level of Optimism

0.4
0.35
0.3
0.25

0.2
0.15
0.1
0 10 20 30 40 50 60 70 80
Degree of Uncertainty
Figure 1. The effects of uncertainty on the equilibrium level of optimism.

1 1
½1 Fð2xi pW CÞ pW ¼ f ð2xi pW CÞ C :
2 2
The equilibrium level of optimism balances the positive effect of optimism,
securing more favorable settlements, and the negative effect of optimism, in-
creasing the probability of impasse. Starting with the no uncertainty bench-
mark and the corresponding C/(2pW) equilibrium, introducing uncertainty
initially reduces the equilibrium level of optimism. The lower optimism guards
against the risk of impasse created by the noise element. When the degree of
uncertainty increases, however, reducing optimism becomes less effective in
preventing impasse, and the equilibrium level of optimism begins to rise in
order to secure better settlement terms in the cases that do settle. (Compare
Calfee and Craswell, 1986, who demonstrate a similarly non-monotonic re-
sponse to uncertainty in a tort law context.)
4. Concluding Remarks and Proposed Extensions

4.1 Optimism in the Decision to Bring Suit
Focusing on settlement negotiations, rather than on the decision to file suit, the
preceding analysis has assumed that all claims are perceived to have (and in-
deed do have) a positive net present value, regardless of the plaintiff’s level of
optimism. However, optimism may also affect the decision to bring suit. In
particular, an optimistic plaintiff may decide to file a negative present value
(NPV) suit. This NPV suit may settle, thus providing another advantage of
optimism. On the other hand, the NPV suit might lead to a trial that by def-
inition will impose a net loss on the plaintiff—another disadvantage of opti-
mism. A complete analysis of the ‘‘decision to bring suit’’ extension is beyond
the scope of the present study. Still, the preceding observations suggest that the
‘‘cautious optimism’’ result is robust to such an extension.
4.2 Other Self-Serving Biases, Toughness, and Fairness

The preceding analysis focused on the optimism bias. Optimism, however, is
not the only cognitive bias that may influence the pretrial bargaining process.
In particular, the psychology literature has identified a class of self-serving
biases (optimism can be characterized as one member of this class) that have
been shown to exist in the pretrial environment (see Lowenstein et al., 1993).
The model studied in this article can be readily adjusted to analyze any of these
self-serving biases. Related to the self-serving biases is the notion of toughness
in bargaining, namely that ‘‘individuals enter a tough state of mind when they
have to make a stand vis-à-vis somebody else’’ (see Heifetz and Segev, 2001).

The proposed model can also be adjusted to study the evolutionary stable de-
gree of toughness. Moreover, the framework developed in this article can be
used to study the evolution of norms and preferences. Consider, for example,
a preference for fairness that affects the terms of settlement deemed acceptable
by a lawyer or litigant.22 Such a preference may have an adaptive advantage,
akin to that of the optimism bias.
4.3 Lawyers and Other Repeat Players

The model studied in this article assumes a single group of players who re-
peatedly interact with each other in litigation and settlement games. This sim-
plifying assumption seems especially appealing for lawyers and other repeat
players (e.g., insurance companies). The multiple interactions within this
group guarantee a relatively quick convergence to the evolutionary equilib-
rium. In addition, the model suggests a new explanation for the commonly
observed advantage of repeat players in litigation. Presumably, these repeat
players will be quicker to adopt an efficient bias level and consequently will
perform better than one-time litigants. Still, these conjectures need to be ver-
ified and possibly refined within an explicit model of both repeat and one-shot
players.
4.4 Optimism vs. Reputation

The evolutionary approach adopted in the present study requires a dynamic
setting with repeated interactions. The repeated interactions assumption, in
turn, suggests the possibility that lawyers develop a reputation for toughness
in bargaining. In the present context, optimism and reputation may be viewed
as substitutes. They both serve as commitment devices in the negotiation
game. This article’s analysis sheds light on the type of reputation that a lawyer
would like to develop. On the one hand, a reputation for ‘‘soft’’ bargaining is
undesirable. On the other hand, a reputation for stubbornness or excessive ag-
gression at the bargaining table should also prove to be counterproductive.
22. Farmer and Pecorino (2004) study the effects of a preference for fairness in the context of
pretrial settlement negotiations. These authors, however, consider only the possibility of an ex-
ogenous, predetermined preference for fairness.
In analogy to the ‘‘cautious optimism’’ result, a reputation for some limited

degree of toughness in bargaining would seem to be a popular trait.23
The relative importance of the optimism effect and the reputation effect is
context dependent. For a reputation to develop, information regarding the bar-
gaining behavior of one lawyer in a specific case must be transmitted to other
lawyers. While clearly plausible in certain close-knit communities, the infor-
mational requirements for the development of substantial reputation effects are
often not satisfied. Consider a more-or-less competitive market for litigation
services, where interactions between lawyers are practically anonymous. In
such a market, it will be more difficult for an individual lawyer to develop

the desired reputation. Anonymity, however, need not hinder the operation
of market-selection forces of the type invoked in the optimism model. A pes-
simistic or excessively optimistic lawyer will lose money until she is driven
out of the anonymous market. In addition, the transmission of optimism via
imitation often imposes less stringent informational requirements, relative to
the informational prerequisites for the development of accurate reputation.
Finally, however, optimism and reputation may work in concert. Market-
selection forces will work best when the success (failure) of a lawyer with
the ‘‘correct’’ (‘‘incorrect’’) level of optimism or toughness is made widely
known through reputation mechanisms.
4.5 Optimism versus Strategic Delegation

The model studied in this article assumes that the lawyer seeks to maximize
her client’s payoff. While reasonable in certain contexts,24 this convergence
of interests between lawyers and their clients is not always present. The
lawyer-client agency problem is, of course, well recognized, and has been
the subject of extensive research. In the present context, however, this agency
relationship, rather than posing a problem, may offer a strategic advantage.
The question is how to design the lawyer-client contract, so as to give the law-
yer optimal incentives in the strategic interaction with rival lawyers. In par-
ticular, can the lawyer’s fee structure be designed to induce the lawyer to
negotiate as if she were cautiously optimistic? The strategic delegation prob-
lem is well known in the industrial organization literature (see Fershtman and
Judd, 1987; see also Kyle and Wang, 1997).25 In the litigation and settlement
23. Reputation may also operate to convey information from lawyers to clients, and not only
between potential bargaining rivals. Hence, reputation suggests an alternative mechanism for the
selection of optimism. Lawyers can develop a reputation for specific levels of optimism or tough-
ness. Clients can then simply choose a level of optimism by choosing a lawyer with that level of
optimism. In a simultaneous-move game, where the plaintiff chooses a lawyer with a level of op-
timism xp and the defendant chooses a lawyer with a level of optimism xd , the set of Nash equilibria
fðxp ; xd Þjxp ; xd 2 ½0; C=ðpW Þ; xp þ xd ¼ C=ðpW Þg restricts attention to ‘‘cautious optimism,’’ as
defined in Proposition 1(ii). This reputation model relates to an argument, developed by Gilson and
Mnookin (1994), that clients choose lawyers with a reputation for cooperation.
24. For instance, in a competitive market for legal services, only lawyers who maximize their
clients’ profits survive.
25. This article is not the first to note the relationship between evolution and strategic dele-
gation. See Dufwenberg and Güth (1999).
context, Bebchuk and Guzman (1996) demonstrate the strategic advantage of

a contingent fee contract, as compared with an hourly fee contract. Yet a com-
prehensive analysis of the optimal lawyer-client contract is still missing and
must be left for future research.
Appendix
Proof of Proposition 1.
(i) See remark following Proposition 1.

(ii) I first prove that pessimism cannot persist in the evolutionary
equilibrium. Consider any pessimist strategy xi# < 0 and the realist
strategy xi ¼ 0: Comparing mðxi ; xÞ and mðxi# ; xÞ, it can be shown
that "x C=ðpW Þ xi# mðxi ; xÞ > mðxi# ; xÞ and "x > C=ðpW Þ xi#
mðxi ; xÞ ¼ mðxi# ; xÞ: Namely, pessimism is weakly dominated by real-
ism, and thus it cannot be part of an evolutionary equilibrium, or ESS
(see Weibull, 1995:Proposition 2.3). I next prove that excessive op-
timism cannot persist in the evolutionary equilibrium. Consider any
excessive optimism strategy xi# > C=ðpW Þ and the realist strategy
xi ¼ 0: Comparing mðxi ; xÞ and mðxi# ; xÞ; it can be shown that "x 2
½0; C=ðpW ÞÞ mðxi ; xÞ > mðxi# ; xÞ and "x C=ðpW Þ mðxi ; xÞ ¼
mðxi# ; xÞ (since, as shown above, pessimism is not represented in equi-
librium, only rivals with x 0 need to be considered). Namely,
excessive optimism is weakly dominated by realism, and thus it
cannot be part of an evolutionary equilibrium, or ESS (see Weibull,
1995:Proposition 2.3). QED
Proof of Proposition 2. In the game characterized by the payoff function

m(,) x̂ ¼ C=ð2pW Þ is the only symmetric Nash equilibrium, and accordingly
it is the only candidate for a homogeneous evolutionary equilibrium (see
Weibull, 1995:36). Since this Nash equilibrium is strict, it is in fact evolution-
arily stable (see Weibull, 1995:38). QED
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490 JLEO, V22 N2

The Evolution and Persistence of Optimism in

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*New York University School of Law. Email: bargill@nyu.edu.

The Journal of Law, Economics, & Organization, Vol. 22, No. 2,

In addition, breakdowns in settlement negotiations are often attributed to

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Understanding the dynamics leading to optimism provides new insight

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4. The analysis considers other rules as well. See Proposition 3 below.

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Rd ¼ pd W þ cd : In other words, the plaintiff will reject any settlement below

2.2 The Pretrial Bargaining Game: Settlement or Trial

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The chosen account of the pretrial bargaining game is admittedly simplistic.

2.3 The Evolution of Cautious Optimism

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10. As is common in evolutionary models, heterogeneity is conﬁned to a single dimension—

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Downloaded from http://jleo.oxfordjournals.org/ at Pennsylvania State University on February 20, 2016

Proposition 1 characterizes the properties of the evolutionary stable distri-

2.4 Adding Uncertainty

18. The plaintiff’s reservation price is p ð1 þ xÞ W cp ; therefore, a more optimistic plain-

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3. The Determinants of Optimism

3.1 Case Type

Proposition 2. Under the American rule, the unique evolutionary stable

always equals the defendant’s reservation value, i.e., Rp ¼ Rd ¼ pW þ

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Corollary 1. The equilibrium level of optimism is

Corollary 1 suggests the following testable predictions:

3.2 The Cost-Allocation Rule

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Nevertheless, the basic insight of Proposition 3, that the equilibrium level of

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Proposition 4. If the noise distribution is symmetric and single-peaked and

This result, whose detailed proof is omitted, can be illustrated through

tion 4. With this noise distribution, the equilibrium level of optimism is

Equilibrium Level of Optimism

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Figure 1. The effects of uncertainty on the equilibrium level of optimism.

4. Concluding Remarks and Proposed Extensions

4.2 Other Self-Serving Biases, Toughness, and Fairness

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4.3 Lawyers and Other Repeat Players

4.4 Optimism vs. Reputation

In analogy to the ‘‘cautious optimism’’ result, a reputation for some limited

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4.5 Optimism versus Strategic Delegation

context, Bebchuk and Guzman (1996) demonstrate the strategic advantage of

Downloaded from http://jleo.oxfordjournals.org/ at Pennsylvania State University on February 20, 2016

Proof of Proposition 2. In the game characterized by the payoff function

Downloaded from http://jleo.oxfordjournals.org/ at Pennsylvania State University on February 20, 2016

Downloaded from http://jleo.oxfordjournals.org/ at Pennsylvania State University on February 20, 2016

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