ACCIARRI, Hugo - On The Judicial Interest Rate

DOI 10.
1515/jetl-2013-0002 JETL 2013; 4(1): 34–62
Articles
Hugo A Acciarri and Nuno Garoupa

On the Judicial Interest Rate:
Towards a Law and Economic Theory*
Abstract: While all legal systems implement a form of pre-judgment or post-
judgment interest, there is a dearth of literature on substantive law and econom-
ics analysing the impact, functioning, and assessment of the judicial interest rate.
Current legal scholarship typically views the interest rate as having a neutral
effect on private and social costs. This paper demonstrates that the issue is
theoretically far more complex and largely influential in legal policy. Due to the
asymmetric opportunity costs for each party in a case, judicial interest rates may
lead to improper delay of proceedings or the decoupling of damages from recov-
ery. These potential results influence the number of settlements and suits. On this
ground, we compare different institutional settings from an economic perspective
and conclude that the appropriate mechanism depends on the alternative policy
instruments available, namely, the rules of procedure, court fees, or mechanisms
for appropriately setting damages. Further, we argue that abolishing the statute
which sets pre-judgment interest may be a proposal worth considering.
Hugo A Acciarri: Professor of Law at the Universidad Nacional del Sur, Bahia Blanca, Argentina,
E-Mail: acciarri@satlink.com
Nuno Garoupa: Professor of Law, the H Ross and Helen Workman Research Scholar and
Co-Director of the Illinois Program in Law, Behavior and Social Sciences, University of Illinois
College of Law, United States, E-Mail: ngaroupa@illinois.edu
* The authors are grateful to three anonymous referees, the editor, Ken Oliphant, as well as
Francisco Ramos Romeu and AEDE (Spanish Law and Economics Association, Barcelona, 2011)
and ALACDE (Latin American Law and Economics Association, Bogota, 2011) participants for
useful comments. Caroline Belloff, Melissa Marrero and Roya H Samarghandi have provided
excellent research assistantship. The usual disclaimers apply.
Brought to you by | Nanyang Technological University

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On the Judicial Interest Rate: Towards a Law and Economic Theory 35
I Introduction
Generally, the rules of procedure common to most jurisdictions allow for judicial
claims that eventually are resolved as monetary payments to accrue some interest
for the duration of any related proceedings.
The amount of interest accrued is usually a function of the time elapsed in
trial and the discount rate applied, also known as the ‘judicial interest rate.’
Economically, the central role of the judicial interest rate is simple. Suppose
Plaintiff sues Defendant for damages in the amount of € 1,000 for a specified
wrongdoing. The value of these damages is determined at a specific moment prior
to the trial, presumably the moment the wrongdoing took place.1 However, when
Defendant pays Plaintiff the value of these damages, the amount is calculated at
a later date. Thus, the amount of damages accrued at the moment of the wrong-
doing differs from the amount of actual compensation that is paid to the injured
party. The judicial interest rate is intended to address this difference.
For example, suppose that Plaintiff’s loss at the moment of wrongdoing is
€ 1,000 and the market discount rate is set at 10%. The simple approach would
require Defendant to pay € 1,100 thus viewing the judicial interest rate as a mere
reflection of the discount rate. In this case, a statutory approach seems to be the
easiest way to tackle this dilemma; a statutory interest rate that equalises the
discount rate resolves the need to award interest that internalises the discount
rate.2 In this view, a judicial interest rate simply aims at compensating the victim
for the loss of yield on the nominal award, a loss caused by the delayed payment.
At the same time, it deprives the defendant of this yield which could be seen as
unjustifiable enrichment (which in turn might induce under-deterrence).
Scholars commonly distinguish between pre-judgment interest and post-
judgment interest when referring to the time that elapses before and after a
judgment is rendered. Pre-judgment interest is justified by typical trial delays,
which may be a function of litigation strategies as well as other institutional
features. Post-judgment interest usually refers to difficulties in enforcing the
1 It is important to note that the amount of damages is not always necessarily determined at the
moment of wrongdoing, especially when there is a substantial time lag between the occurrence
of the wrongdoing and when Plaintiff discovers her losses or they consolidate.
2 Obviously, in a complex world, the calculation of the judicial interest rate is not as simple as in
our example. See D Ault/G Rutman, The Calculation of Damage Awards: The Issue of Prejudgment
Interest, Journal of Forensic Economics 12 (1999) 97; M Knoll/J Colon, The Calculation of Prejudg-
ment Interest, in: University of Pennsylvania Law School, Public Law and Legal Theory Research
Paper Series (2005) and J Colon/M Knoll, Prejudgment Interest in International Arbitration, in:
University of Pennsylvania Law School, Institute for Law and Economics Research Paper 07–32
(2007).

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36 Hugo A Acciarri and Nuno Garoupa
judgment after it is entered, including the possibility of frivolous and non-frivo-

lous appeals.
Regarding the method employed to compute and the authority in charge of
setting the interest rate, another important distinction is made between statutory
judgment interest and court-imposed judgment interest. Statutory judgment inter-
est is determined by legislation and, subject to statutory interpretation, fairly
automatic and independent of particular court interventions. Court-imposed
judgment interest is decided by the court and subject to only a few regulations
that are imposed by the legislator.3
However, it is important to note that the designation of ‘judicial’ interest rate
does not stem from the nature of the authority that decides the value of the
interest rate (such as a court, judge, or legislator), but instead from the context in
which it applies, namely, an award resulting from a claim subject to the judicial
process. Hence, the judicial interest rate can be determined either by the judge on
a case-by-case basis or by a general rule of procedure (determined by statute).
The judicial interest rate is largely regarded as a customary and ‘trivial’
element of litigation. Mainstream legal scholarship views the judicial interest rate
as having a neutral effect on the private and social costs of court proceedings
along the same lines suggested by our simple example. From an economic
perspective, based on this view, one could say that the judicial interest rate
merely internalises the opportunity costs of trial delays (and thereby corrects any
distortion on deterrence induced by these opportunity costs).4 Consequently, the
effect on the behaviour of litigants should be fairly neutral. While there are
certainly empirical questions that relate to the extent the interest rate is appro-
priately determined, these questions do not challenge the main premise of the
analysis.5
In our view, however, the issue is certainly more complex. A neutral judicial
interest rate does not exist when seen in light of the fact that defendants and
plaintiffs have asymmetric opportunity costs. Litigant behaviour is affected by the
judicial interest rate in different ways. The inevitable consequence is that parties
adjust their behaviour to the particular setting of the judicial interest rate. Let us
return to our simple example and instead suppose that Plaintiff sues Defendant
3 For example, in the United States, the legal approach to judicial interest rates varies by state.
See National Center for State Courts, <http://www.ncsconline.org/WC/Publications/KIS_PreCivP-
JIPub.pdf>.
4 We do not purport that the practical calculation of internalising the opportunity costs is simple
(it is not, as evidenced by fn 1), but instead we state that this should be the goal. See M Knoll,
A Primer on Prejudgment Interest, Texas Law Review 75 (1996) 293.
5 See Knoll (fns 2, 4).

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for € 1,000 in damages, which represents the value of Plaintiff’s loss at the time
the wrongdoing occurred. One year later, the value of the damages amount will
differ for the parties depending on the discount rate applied and the opportunity
cost presented before and after the judgment is rendered. Only mere chance will
explain the case where both parties have the same discount rate. The interest rate
of bank deposits or financial assets represents a mere indication of an aggregated
discount rate and risk, and is not individualised for a particular defendant or
plaintiff. Both parties could use the interest rate of a risk-free financial asset (eg
savings deposits) to measure opportunity costs. However, it is likely that in the
vast majority of cases at least one side, if not both, has better economic or
financial opportunities.6 In other words, it is highly unlikely that both the plaintiff
and defendant have a 10% discount rate, which was the interest accrued via
saving deposits discussed in our simple example.
It is important to distinguish this theoretical insight from the empirical or
practical issue of how to make an appropriate determination of the judicial
interest rate.7 The correct determination of the interest rate is significant in terms
of private and social costs. Either an excessive or an insufficient interest rate will
have implications for the behaviour of litigants. However, it is essential to note
that, even if we establish the best mechanism for determining a particular judicial
interest rate, it still will not be neutral when applied in the most general context.8
As discussed earlier, no substantive law and economics literature that pro-
vides a comprehensive theory on the impact, functioning, and assessment of the
judicial interest rate currently exists.9 In order to provide an economic analysis of
this rate, we must first consider the potentially relevant dimensions to evaluate
the determination of a judicial interest rate.
Our approach is based on legal concepts popularised by the law and econom-
ics literature but not previously analysed in the context of judicial interest rates.
Our original and innovative point is that the role of a judicial interest rate cannot
be understood without taking into account delay and decoupling (that is, the case
6 The presumption applies also to direct consumption. If Plaintiff would have consumed all her
income (including the damages to be paid by Defendant), the implication is that consumption is
her better option rather than a risk-free financial asset with a 10% interest rate. Consumers as
well as investors are likely to have a discount rate that is different from the market rate for
savings.
7 Legal economists have addressed the calculation problems. See Knoll (fns 2, 4).
8 This is why our paper’s contribution is significantly different from the current forensic litera-
ture.
9 For the most extensive paper, see J Patell/R Weil/M Wolfson, Accumulating Damages in
Litigation: The Roles of Uncertainty and Interest Rates, Journal of Legal Studies (JLS) 11(1982) 341.

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when the amount the defendant pays is different from the amount the plaintiff
receives) in ways neglected in previous literature.
Our paper is divided into the following parts. In Part II we set out the basic
model. In Part III, we frame the standard approaches to the judicial interest rate.
We then, in Part IV, draw a general theoretical framework for the judicial interest
rate based on the law and economics model of litigation and civil wrongdoing. In
Part V, we suggest some legal policy guidelines that we developed to determine
interest rates and institute procedural reform. Finally, Part VI concludes the paper.
II Setting out the basics

From an economic standpoint, the judicial interest rate may yield incentives for
the parties to delay the course of the proceedings.10 Consider again the aforemen-
tioned example. If a plaintiff experiences a loss of € 1,000 and the judicial interest
rate overcompensates for this delay, the plaintiff, therefore, has an incentive to
strategically delay the judgment at the expense of the defendant. Alternatively, if
a defendant is ordered to pay the mentioned € 1,000 and the judicial interest rate
undercompensates for delay, the defendant has an incentive to delay judgment at
the expense of the plaintiff.
In order to appropriately determine liability, the legal process always requires
a span of time. We may think of that period as the optimal delay. However, if set
too high or too low the judicial interest rate induces frivolous (non optimal) delay
and has obvious social costs. Under some particular and probably unrealistic
conditions, a non-delaying judicial interest rate, meaning one that will not create
incentives for delay, may be established.
The judicial interest rate not only influences the parties’ behaviour during the
course of litigation, but it impacts on some of the choices the parties must make
prior to litigation, including their willingness to commence a lawsuit. Decisions
like taking precautions to avoid tort liability or allocating resources across activ-
ities exposed to the risk of wrongdoing are clearly influenced by certain expecta-
tions concerning the judicial interest rate.11 In this regard, given the differences in
10 See H Acciarri/A Castellano/A Barbero, Delay in Lawsuits and Interest Rate, in: Latin Amer-
ican and Caribbean Law and Economics Association (ALACDE) Annual Papers (2007). For the full
text see http://escholarship.org/uc/item/7452j54n.
11 The degree to which expectations concerning the judicial interest rate are relevant will
inevitably depend on magnitude. When we are talking of a percentage below 3% or 4%, the likely
effect is negligible. However, when we consider percentages closer to 20% or above, the likely
effect is significant.

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opportunity costs and the role of the judicial interest rate, the decoupling effect
produces similar results (in terms of optimal care and litigation).12
Studies on the decoupling effect emphasise the merits of explicitly and
deliberately differentiating the amount of damages paid by the defendant from
the amount the plaintiff recovers. Nonetheless, the judicial interest rate creates a
similar but implicit (and surely non-deliberate) effect, given that opportunity
costs are asymmetric. Again, let us refer back to our simple example. If tort
liability for a particular wrongdoing is enforced at the moment the wrongdoing
occurs, Defendant will be required to fully compensate Plaintiff with € 1,000
immediately. However, if the enforcement of tort liability is delayed, the amount
Plaintiff is compensated depends on the judicial interest rate applied. Suppose
the interest rate is 10% while Plaintiff enjoys a discount rate of 12%. Defendant
will be required to pay only € 1,100 to Plaintiff, instead of the € 1,120 owed, which
means that Plaintiff is not fully compensated for her loss. This scenario is
equivalent to a situation where, if tort liability were enforced at the moment of
wrongdoing, Defendant pays more than what Plaintiff actually gets. Setting apart
any issue arising from Defendant’s opportunity cost, we can see that Defendant
pays € 1,000 while Plaintiff gets € 982.13 This result exemplifies the standard
decoupling effect as generally recognised by the current law and economics
literature.
Nonetheless, this effect is twofold. Consider a different example that repli-
cates the reverse decoupling effect.14 Instead, now suppose that the judicial
interest rate is 12% and Plaintiff’s discount rate is 10%. To fully compensate
Plaintiff in this example, Defendant must pay € 1,100. However, Defendant will
actually be required to over-compensate Plaintiff and pay € 1,120. As discussed
earlier, if tort liability were enforced at the moment of wrongdoing, Defendant
would pay less than what Plaintiff actually gets; Defendant pays € 1,000 while
Plaintiff gets € 1,018.15
Both parties are disciplined by the delaying and decoupling effects that result
from the application of a judicial interest rate. In turn, these effects have a serious
impact on settlements and lawsuits. Excessive or insufficient judicial interest
12 See A Polinsky/Y Che, Decoupling Liability: Optimal Incentives for Care and Litigation, RAND
Journal of Economics 22 (1991) 562.
13 By applying the net present value formula: 1,100/1.12 = 982. In more intuitive terms, if
Plaintiff had been compensated instantaneously with € 1,000 she would have invested her
capital in order to obtain € 1,120 capital plus interest, in a year. Reversely, if she only has € 1,100
at that point that sum is equivalent to obtaining € 982 a year before.
14 See N Garoupa/C Sanchirico, Decoupling as Transactions Tax, JLS 39 (2010) 469.
15 By applying the net present value formula as before: 1,120/1.1 = 1,018.

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rates deter settlements for reasons similar to litigation delays. In a rational model,
they also attract or deter lawsuits, depending on how a particular judicial interest
rate relates to the plaintiff’s discount rate and opportunity cost.16
Once we recognise that opportunity costs are asymmetric and that the deter-
mination of a judicial interest rate is all but obvious, it is time to question the
statutory policy approach. It is unclear whether the legislator is the best actor to
calculate the appropriate judicial interest rate. The mere presupposition that a
statutory interest rate would internalise the adequate discount rate is seriously
flawed.
The discussion of the role and determination of a judicial interest rate is
presented in two ways. First, from a law and economics perspective, we assess
the efficiency of a particular interest rate. Should the interest rate reflect the
opportunity costs for the defendant or the plaintiff? Or should it fall somewhere in
between and account for the opportunity costs of both parties? Given the design
of an efficient interest rate, should the rate be determined by the court or imposed
by legislation?
A second important focus of discussion analyses the alternative procedural
mechanisms available to the court. If there are enough procedural mechanisms to
design efficient incentives ex ante and ex post facto, a judicial interest rate is
irrelevant and should not play any role. However, in reality there are limited
procedural mechanisms and a judicial interest rate does in fact play a relevant
role. Nevertheless, we cannot dissociate this role from the institutional context,
namely the structure of court fees, the possible determination of compensatory
and punitive damages (even if this goes beyond procedural aspects strictly speak-
ing) or other procedural mechanisms that incentivise appropriate delay. From this
perspective, the common law and civil law traditions are quite influential and
may present almost identical, or at least not strongly dissimilar, mechanisms for
determining the judicial interest rate. Yet, if the procedures practiced in civil law
jurisdictions differ significantly from those utilised in common law jurisdictions,
the same mechanism could induce very different efficiency repercussions.
We do not intend to convey the impression that our two aspects – the
efficiency assessment of incentives and the institutional context – are unrelated
because they are, in fact, interdependent. It is impracticable to attempt to under-
stand the efficient judicial interest rate while ignoring the institutional and
procedural set-up. However, in order to fully explore the effects of judicial interest
16 As with fn 11, the importance of this effect varies with the exact magnitude of the judicial
interest rate.

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rates, we discuss these aspects separately. The conclusions will make sense of
these two approaches to looking at judicial interest rates.
III Conventional approaches to judicial interest

rates
The basic economic model serves as our starting point. Deterring wrongdoing is
based on the behaviour of wrongdoer (defendant) and victim (plaintiff), although
only the latter suffers harm. The basic economic model shows that correctly
assessing the cost of harm is required to set the optimum level of care. The
traditional literature implicitly assumes that a span of time between the occur-
rence of the harm and the recovery paid to the victim is unimportant.17 However,
even if the duration of litigation proceedings is socially optimal, there are some-
times spans of time or delays that exist naturally. Thus, there are several different
perspectives that must be considered − for example, which moment should be
deemed relevant when assessing the true cost of damages in order to remedy a
certain harmful wrongdoing?
In our view, the law and economics literature has ignored subtler roles of
judicial interest rates despite their relevance in shaping effective deterrence of
wrongdoings.18 Furthermore, as suggested earlier, the economic analysis is more
complex and nuanced than our common sense intuition suggests.
The legal approach to judicial interest rates in more traditional scholarship is
also quite problematic. According to the most classical legal views, the cost of the
harm must be considered at the time the harm is suffered or consolidates.19 From
then on, the aim should be to maintain its actual value over the relevant time
period; a general judicial interest rate could accomplish this task. This approach
can also be illustrated by our simple example. Suppose the cost of the harm,
either at the time of occurrence or consolidation, is € 1,000 and the plaintiff’s
17 See generally S Shavell, Economic Analysis of Accident Law (1987). The judicial interest rate
is never mentioned.
18 There are, of course, exceptions. See P Rubin/J Shepherd, Tort Reform and Accidental Deaths,
in: Journal of Law and Economics (JLE) 50 (2007) 221; see also Patell/Weil/Wolfson, JLS 11 (1982)
341.
19 See, for example, in Italian Law: U Breccia, Le Obbligazioni in Trattato di Diritto Privato (a
cura di G Iuddica/P Zatti) (1991) 334–339. From then on the sum determined must be adjusted by
means of a price index in order to maintain its purchasing power after inflation, and the resulting
amount accrues interest up to the date of judgment.

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opportunity cost is 10%. If the judicial interest rate is also 10% the plaintiff will be
indifferent about whether she is paid earlier or later. This approach renders
unimportant the selection of the proper moment to determine damages.
However, if the plaintiff’s opportunity cost is higher than 10%, say 15%, our
example raises several possible approaches. The traditional approach would not
realise a deterrence issue involving the defendant. Accordingly, for economic
purposes, the level of care imposed on the defendant must be set based on the
cost of harm, which is € 1,000. The additional 5% over the judicial rate, although
it implies a loss in utility for the plaintiff, would only be one borne by her. Rather
than an explicit line of thought, this particular approach exemplifies a wide-
spread belief implicit in the current legal scholarship. When reconstructing its
conceptual underpinnings, we discovered two variants that may complete its
reasoning.
The first variant assumes the appropriateness of applying averages to this
field. For example, if we have a generally applicable rate of 10% and two plaintiffs,
with different opportunity costs of 5% and 15% respectively, the gain of the first
plaintiff will compensate the loss of the second. Then, beyond any asymmetric
distribution of private cost, which would indicate some unlikely biased calcula-
tion of judicial interest rates, the different interest rates would not raise problems
for the average social cost. Moreover, because the administrative costs of the
statutory mechanism are cheaper, this option would, in theory, minimise social
costs.
The second alternate justification is based on the apportionment of liability
between the parties reflecting their share in the causation of the harm. There are
only a few explicit legal opinions suggesting this viewpoint.20 Far more common,
however, is that this idea provides implicit basis of some related legal reasoning.
One of the main virtues of economic analysis of law consists precisely in its ability
to expose common underpinnings of rules and institutions traditionally seen in
an entirely different light. On this matter, if the plaintiff’s actual loss of utility (the
one suffered in the absence of interest that internalises her opportunity costs) is
not compensated, this may be construed as equivalent to saying that the legal
system does not assign her loss to the defendant. As this result is consistent for
both areas of tort governed by negligence and those governed by strict liability,
this cannot be seen as a matter of mere negligence determination (such as
comparative negligence), but as a standard causal issue. In short, it is as if the
defendant has not caused the plaintiff’s loss which exceeds the general interest rate.
20 For example, Argentina’s Supreme Court Yacimientos Petrolíferos Fiscales v Provincia de

Corrientes – Fallos 315:158, 3 March 1992.

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Such additional loss has been caused only by the plaintiff’s ‘abnormal’ conditions
(differing from the general population).21 A debate on the treatment of abnormal
or ‘freak cases’ is still inconclusive in the law and economics literature. However,
it is fair to recognise that there are strong arguments in defence of the proposition
that ‘abnormal’ prejudices should be borne by the victim.22
Nevertheless, from an economic perspective both lines of reasoning, while
intended to defend the appropriateness of average rates, are seriously flawed.
The argument appealing to the compensation effect (the one which assumes that
gains and losses cancel each other out, leading to a negligible effect on social
cost) is, contrary to the argument presented above, unsound. An illustration of
this counter argument requires thinking about a certain kind of action that brings
about a harm valued at € 1,000 assuming that the social cost of erring in the
valuation of damages is equal to the amount over or undervalued. Among the
victims of this class of torts, we distinguish between two types of plaintiffs: the
first with an opportunity cost of 15% per year and the second with only 5%.
If the general judicial interest rate were set at ten percent (which is the
average of the two rates) the error cost would equal € 50 for each side. Con-
versely, if the rate was determined on a case-by-case basis and reflected each
individual plaintiff’s opportunity cost (15% and 5%, respectively), the mean
would be the same (10%) but the associated error cost would be zero. Thus, it is
evident that averaging the opportunity costs fails to serve as an appropriate
measure for minimising social costs. Technically, what matters most is that the
variance has a social cost and therefore the mean of the plaintiff’s opportunity
costs is an inappropriate measure for determining damages.
As for the causal apportionment argument, the economic treatment of ‘freak
cases’ is, as we previously suggested, interesting and controversial but we have
decided not to discuss that field in depth here.23 What really matters for our
purposes is that these arguments are inapplicable to this field because we are not
dealing with ‘freak’ or exceptional cases, but rather with usual and simple cases
in economic terms. The reason for doing so is that it seems plausible to think that
21 Along a similar line of reasoning, Konstantinos D Kerameus, states that earnings which
significantly surpass the average should not be included within the defendant causal scope
according to Greek law. KD Kerameus, Causation under Greek Law, in: J Spier (ed), Unification of
Tort Law: Causation (2000).
22 On accuracy in the determination of damages and for compensation of infrequently high
damages, see generally Shavell (fn 17) and L Kaplow/S Shavell, Accuracy in the Determination of
Liability, JLE 37 (1994) 1.
23 See Shavell (fn 17); G Calabresi, Concerning Cause and the Law of Torts: An Essay for Harry
Kalven, Jr, University of Chicago Law Review 43 (1975) 69.

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the asymmetric distribution of opportunity costs is prevalent and more likely to

occur than not. There are some strong indications supporting this statement.
Segmentation of financial markets provides a clear example of this. If a consumer
(without savings) suffers an injury that impedes the satisfaction of her consump-
tion needs, she might be forced to borrow money. The interest rate for the only
kind of loans available to her (pawnshops, informal market, etc) is usually far
from the prime rate. She must, however, take the available loan. In economic
terms, her opportunity cost thus has to be measured by the rate of her best
available option. On some of these markets, ‘loans typically carry interest rates of
10% to 20% for a two-week term, which translates into an annual percentage rate
exceeding 300% …’24 The prime rate was, in the same period, 3.25%. Between
3.25% and 300% there is a continuum of rates available to borrowers with
different conditions and assets. Moreover (particularly relevant these days) eco-
nomic downturn scenarios tend to aggravate the variance of available interest
rates.25 Concerning legal application, it is not surprising that the relevance of
these issues is discovered in countries and at times where there are serious
economic problems.26 Nonetheless, the theoretical underpinnings are common to
any situation.
IV The economics of the judicial interest rate

A Delay
The excessive duration of judicial proceedings is a widespread concern for legal

systems throughout the world. Yet the desirable duration of particular proceed-
ings is not easy to assess. One standard way is to study the difference between the
actual duration in practice and the formal duration according to the rules of
procedure. The current research on this issue is largely empirical and positive in
nature. It assumes that any delay beyond the procedural duration is improper,
which means that the approach implicitly presupposes that the rules of procedure
define the desirable duration. In this context, ‘excessive’ has a reference point as
24 <http://www.time.com/time/business/article/0,8599,1953095,00.html> accessed 26 April

2012.
25 See fn 24.
26 In relation to the Argentinean hyper-inflation crisis, see also Acciarri/Castellano/Barbero
(fn 10). On some misadjustments during the Italian inflation period 1973–1982, see G Valcavi, Sul
Carattere Moratorio degli Interessi nel Risarcimento del Danno, in: La Responsabilità Civile in
Diritto Comparato, vol II (1990) 97.

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defined by the rules of procedure. This makes it nearly impossible to compare

approaches across countries or even cases subject to different rules of procedure.
A second approach, echoed by many legal policymakers, emphasises the
shortening of judicial proceedings. Different mechanisms and diverse legal tools
are considered to speed up trials or settlements. This approach, however, fails to
propose firm criteria for distinguishing a judicial procedure that is appropriate in
length from one that is excessive in duration. Based on some rough intuitions,
which assume that speedier judicial proceedings are better, it assumes that the
appropriate duration is always a very short or even the shortest period of time. In
fact, most of the work by legal policymakers fails to advise on the desirable
duration of judicial proceedings if one was able to amend the rules or alter
judicial practices at will. Minimising duration at any expense is clearly a flawed
approach and makes a significant and inappropriate tradeoff between the dura-
tion and the quality of judicial proceedings.
From an economic perspective, the adequate duration of judicial proceedings
must be established by minimising the social costs. Such an approach makes the
analysis conceptually easier. In short, the duration of particular proceedings is
deemed excessive only when a marginal increase in time yields a marginal social
cost. This assumes that every lawsuit and proceeding can have a marginal social
benefit. While duration improves quality and other legal considerations more
than it imposes social costs, we expect the marginal net effect to be positive. Once
the social costs of delay dominate the gains in quality, we believe that the margin-
al net effect will be negative. Every individual lawsuit has a different adequate
duration that reflects the merits, complexities, and incentives experienced by the
litigators. A lawsuit that is socially useful and complex will require a longer
duration, whereas the duration of a purely frivolous lawsuit should be zero.
Many factors explain unjustified delays in litigation. The current law and
economics literature has considered the possible roots for excessive delay at
length.27 The judicial interest rate, however, has not been considered in the
literature, quite likely because it is perceived as a mere reflection of a simple net
present value. Moreover, it is easy to see that the judicial interest rate can play a
27 See W Landes, An Economic Analysis of the Court, JLE 14 (1971) 61; J Gould, The Economics of
Legal Conflicts, JLS 2 (1973) 279; P Fenn/N Rickman, Delay and Settlement in Litigation, Economic
Journal 109 (1973) 476; L Vereeck/M Mühl, An Economic Theory of Court Delay, European Journal
of Law and Economics 10 (2000) 243; N Chappe, Demand for Civil Trials and Court Congestion,
European Journal of Law and Economics 21 (2011) 1. For comprehensive reviews of the literature,
see J Waldfogel, Reconciling Asymmetric Information and Divergent Expectations Theories of
Litigation, JLE 41 (1998) 451; K Spier, Litigation, in: A Polinsky/S Shavell (eds), The Handbook of
Law and Economics, vol 1 (2007) 259.

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role in each party’s incentives to prefer either a longer or shorter trial. This effect
is usually more visible when focusing on the defendant’s side because there is an
apparent and direct opportunity cost in making use of the award to be paid.28 The
most obvious case arises when the judicial interest rate is considerably different
from the rates applied by the financial markets. It is possible to view a legal award
as a loan paid to the defendant by the plaintiff coercively rather than voluntarily.
If the judicial interest rate is lower than the market rates, the defendant will
consider the loan a good choice. However, if the judicial interest rate is higher,
that same loan serves as an inefficient private choice because the defendant could
theoretically finance his activities at a better rate in the marketplace. The opposite
reasoning applies to the plaintiff. If the judicial interest rate for the notional loan
is less than the rate available in the financial marketplace, any delay in the course
of litigation is a poor investment. However, if the judicial interest rate is more
than the rate available in the financial markets, any delay in litigation is a good
opportunity from an investment perspective for the plaintiff.
One relevant remark should be made at this point. It is important to note that
we have assumed that delayed litigation is as risky as some other alternative
financial investment. After considering diverse risk exposures, we must apply the
interest rate fixed by the market and adjusted for a certain relevant level of risk.
However, the main insight remains unchanged. Damages in litigation may be
understood as a (risky) loan from the plaintiff to the defendant. Therefore, the
judicial interest rate covers an opportunity cost that reflects the conditions of
private financial markets.
Evidently, opportunity costs in this context do not merely reflect interest rates
applied by financial markets. Both plaintiffs and defendants can have particular
risk preferences, unique investment opportunities, or (as previously shown)
asymmetric access to financial and personal capital that cannot easily be re-
flected in financial interest rates (which represent the outcomes of an aggregated
supply and demand for financial services). In these terms, the opportunity cost
28 During the so called ‘Convertibility Plan’ in force in Argentina during the 1990s, the
Argentinian Supreme Court ruled in favour of applying a uniform judicial rate to every monetary
judgment that corresponded to the rate paid by the state owned banks for the fixed term
deposits. See Yacimientos Petrolíferos Fiscales v Provincia de Corrientes – Fallos 315:158, 3 March
1992. Nonetheless, for political and structural reasons this interest rate was excessively low when
compared to the rate charged by the same banks for actual loans. Residual inflation (the
‘Convertibility Plan’ was the instrument intended to fight against a previous hyper-inflation-
crisis) aggravated this issue, making the actual judicial rate extremely low. The conventional
wisdom in Argentina at that time was that such particular uniform judicial rate generated
incentives for defendants to delay because the amount of the judgment was significantly eroded
with the passage of time.

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must reflect the best alternative use for time and money invested in trial. Hence,
in order to simplify and capture the range of situations involved in this analysis,
we employed a certainly abstract notion of opportunity cost as follows.
For the defendant, if his opportunity cost is higher than the judicial interest
rate, he will prefer a longer litigation process and to pay later (after adjusting for
the judicial interest rate). Conversely, if the defendant’s opportunity cost is lower
than the judicial interest rate, he would prefer a shorter trial with prompt payment
of the judgment entered against him.
As for the plaintiff, if her opportunity cost is lower than the judicial interest
rate, she will prefer a longer litigation process and to receive compensation later
(after adjusting for a high judicial interest rate). On the contrary, if the plaintiff’s
opportunity cost is higher than the judicial interest rate, she will prefer a shorter
trial and payment without delay.
Depending on the judicial interest rate, both parties may prefer a quick trial
when the defendant’s opportunity cost is low and the plaintiff’s opportunity cost
is high. The converse is true when the defendant’s opportunity cost is high and
the plaintiff’s opportunity cost is low; both parties will seek to delay trial and
payment. However, when opportunity costs are equally high or equally low, the
incentives for both sides do not align because one party will want a speedy trial
while the other will prefer to delay.
Delaying the litigation process is not simply a matter of reflecting the
differences between opportunity costs and the judicial interest rate. Neither
defendant nor plaintiff can delay solely to adjust awards, or to erode (defendant)
or accrue (plaintiff) monetary payments. There are a number of mechanisms and
procedural rules that deter strategic behaviour. Both sides do not have absolute
control over duration and cannot behave freely in this regard. However, there is
enough latitude in relation to alternative potential litigation strategies. Given the
need to establish the facts and promote quality in judicial proceedings, there are
enough procedural rules that allow parties to tack on additional time without an
obvious manifestation of frivolous delay. To a certain extent, however, it is not
easy to identify actions that constitute mere unfair delay. The more generous
a procedure is in allowing parties to file motions, require further evidence,
adjourn trial and so on, the more difficult it is to detect a party’s strategy to delay
litigation.
A strategy of delay does not come without its costs. Thus, the opportunity
costs for plaintiff and defendant must also reflect the costs of engaging in
frivolous delay. However, these decisions are solely determined by private costs.
Neither party cares about the costs imposed on the other side or the additional
social costs of their individual tactics. The delaying party is only focused on the
personal private costs and benefits.

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In some circumstances a judicial interest rate, that we can name a non-

delaying judicial interest rate, may deter frivolous delay.29 If this occurs, it must be
the case that the opportunity costs for the defendant are significantly lower than
the opportunity costs for the plaintiff. Although possible in many particular cases,
this condition seems unrealistic in practice.
Why should society care about what is beyond the interests of both sides? If
delay is merely a question of private interests and the procedure is flexible, it is
conceivable that parties could negotiate delay of proceedings in much the same
way as parties negotiate a settlement. Within a framework of less flexible proce-
dure, parties might not be in a position to negotiate a delay that fully internalises
their private costs, so the observed duration of a judicial proceeding might not be
efficient from the perspective of both sides. In fact, if a trial is fully paid by both
sides, then the social cost should merely reflect the aggregation of private costs.
In this context, the preference of the parties regarding delay should be fully
respected, unless we consider some other significant externality that may be
realistic in certain contexts (for example, revealing information about certain
products or improving the environment). However, if both sides do not fully pay
for the trial, as where the trial is heavily subsidised by the taxpayers, the parties
will have distorted incentives that do not reflect true opportunity costs. In this
instance, delay has an important social cost that can be changed when setting a
particular judicial interest rate.
B Decoupling
The law and economics literature has developed an important insight known as
the decoupling effect. Usually the damages paid by the defendant and the dam-
ages recovered by the plaintiff are strictly equal, which is referred in the economic
literature as status quo litigation.30 Thus, ‘decoupling’ occurs when damages to
be paid by the defendant (more money) and recovered by the plaintiff (less
money) are separated. The rationale for this is simple: if the amount recovered by
the plaintiff is lower than expected, fewer lawsuits will be filed in the future
because the expected gain is reduced. However, in order to sustain the same level
29 The condition for both parties not wanting to delay is given by OCd ≤ JIR ≤ OCp, where OCd is
the defendant’s opportunity cost and OCp the plaintiff’s opportunity cost. It is required that
OCd ≤ OCp. If this condition is not satisfied, there is no judicial interest rate that can eliminate the
incentives for delaying judicial proceedings. See fn 10.
30 See Polinsky/Che, RAND Journal of Economics 22 (1991) 562 and Garoupa/Sanchirico, JLS 39
(2010) 469.

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of deterrence of wrongdoing, the damages that are paid out need to be increased
in a sufficient way.
As a matter of fact, except when opportunity costs are exactly equal for
plaintiff and defendant, the judicial interest rate leads to an implicit decoupling.
Unless the defendant compensates the harm borne by the plaintiff at the moment
of wrongdoing (or, more realistically, within a reasonable amount of time),
decoupling always implicitly occurs because opportunity costs are different for
each party. Consider wrongdoing that causes harm in the amount of € 1,000 and
that the discount rates are 8% and 12% for plaintiff and defendant respectively. At
the end of trial, the value of the wrongdoing is € 1,080 for the plaintiff and
€ 1,120 for the defendant. Decoupling (or reverse decoupling) naturally occurs
when discount rates applied to each party differ.
Moreover, there are two important implications that emerge from the realisa-
tion that decoupling is induced by the judicial interest rate. First, it is unclear that
the decoupling is at its most efficient level. In order to achieve efficient decou-
pling, generally, the defendant should pay more than the plaintiff receives while
the deterrent effect should remain unchanged. However, when applied to a
judicial interest rate, it depends on the opportunity costs. Managing a judicial
interest rate to achieve an efficient level of decoupling seems difficult, even
unfeasible, when opportunity costs, for example, impose reverse decoupling.
Secondly, in a more general scenario, it is also unclear whether it is possible to
achieve an efficient level of decoupling because decoupling reduces the aggre-
gate welfare of the parties, which may distort behaviour much in the same way as
taxation does.31
Hence, our discussion assumes that while the judicial interest rate creates a
decoupling effect (assuming both parties have different opportunity costs), it is
unclear whether this decoupling effect is efficient. By the same reasoning, using
the judicial interest rate to manipulate the decoupling effect is highly problematic
and unrealistic. However, it is clear that the role of the judicial interest rate in
shaping court delay and achieving decoupling is potentially significant. Still,
designing the optimal judicial interest rate is complicated even at the theoretical
level. This is not to say that it is impossible to achieve. In the abstract, there is an
optimal judicial interest rate – the one that maximises social welfare after taking
into account the relevant incentives on the production of the wrongdoing (de-
terrence), the plaintiff’s decision to litigate, both parties’ litigation strategies,
the possibility of settlement, and any other relevant dimensions. Nevertheless,
31 Polinsky/Che and Garoupa/Sanchirico, ibid.

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the likelihood that we can develop a general algorithm to calculate the judicial
interest rate is simply unrealistic.32
C Insolvency
The possibility of the defendant’s insolvency has long been recognised in the law
and economics literature on tort liability. It is known as the judgment-proof
problem.33 The possibility that a defendant cannot compensate a plaintiff di-
minishes the deterrent effect of liability and might generate strategic behaviour in
terms of risk exposition.
The role of a judicial interest rate is inevitably related to the judgment-proof
problem. This issue presents a subtle and twofold interaction. On one hand, the
risk of insolvency should be seen as any other ordinary risk, thus giving place to a
risk premium that must be added to a nominal interest rate. On the other hand,
when insolvent, a defendant cannot compensate the plaintiff fully whatever the
judicial interest rate. Furthermore, a significant judicial interest rate could in-
crease the possibility of insolvency. Therefore, it could be in the interest of the
plaintiff to institute an upper limit of a judicial interest rate in order to secure
some compensation.
More importantly, the determination of judicial interest rates could have an
impact on the defendant’s decision to become formally insolvent. There are many
policies to ameliorate the judgment-proof problem and offset such possible
strategic effects.34 However, notice that such complications do not alter our
analysis for two reasons. First, the judgment-proof problem exists with or without
a judicial interest rate; the policies to address the judgment-proof problem are
largely independent of the judicial interest rate (such as minimum asset require-
ments, mandatory insurance, corrective taxation, or safety requirements). Sec-
ond, our insights apply universally in the context of solvency and with caveats in
the context of insolvency. In fact, a possible insolvency can be easily framed as a
situation of an implicit (negative) interest rate under which the defendant pays
zero and the plaintiff gets zero, therefore inducing the defendant to prefer a long
delay (in order to obtain bankruptcy) while the plaintiff should prefer an immedi-
ate outcome to minimise losses.
32 For unexpected and counter-productive effects of legal reforms of pre-judgment interest rates,
see D Kessler, Institutional Causes of Delay in the Settlements of Legal Disputes, Journal of Law,
Economics and Organization 12 (1996) 432.
33 See S Shavell, Liability for Accidents, in: Polinsky/Shavell (fn 27) 139.
34 Ibid.

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The likelihood of insolvency is heterogeneous across the population. This

reinforces our argument that defendants and plaintiffs have diverse opportunity
costs. Ideally, a judicial interest rate should also reflect the possibility that a
defendant could be insolvent by the time the award is decided and collected.
V Guidelines for legal policy

According to our theoretical framework, the judicial interest rate is important to
an explanation of delays and decoupling. It is also influential in deterring wrong-
doing and determining the number of lawsuits. Those effects may be regarded as
undesirable (when social costs are increased) or desirable (when social costs are
reduced). From a policy standpoint, we may be tempted to conclude that the goal
is simply and solely to find the appropriate judicial interest rate. As we have
argued, the fundamental problem with such an approach is that, contrary to the
argument put forward by mainstream legal scholarship, judicial interest rate is
not neutral. There might be some ideal rate that, at the same time, solves all the
problems previously described. However, it seems quite unlikely. Still, our con-
tention is different. We are not suggesting that finding such a rate (whenever
possible) is the best or even an adequate strategy. Although the judicial interest
rate is surely related to a bundle of problems that are assessed in terms of
efficiency, it has to be considered in the context of possible alternatives. In fact,
the institutional context and the available rules of procedure make this issue even
more complex.
The easiest approach would be for both sides (because they are in the best
position to assess the opportunity costs) to negotiate an interest rate that ade-
quately internalises these asymmetric costs. Such a negotiated interest rate could
be part of a liquidated damages clauses (in contract litigation) or an early
arrangement between plaintiff and defendant (even in tort litigation). However,
in much the same way that we do not expect settlements to be universal because
parties cannot agree on compensation or on the delay of proceedings, parties
might also be unable to agree on the appropriate interest rate. Most jurisdictions
do respect a judicial interest rate negotiated and agreed to by the parties, but this
is usually observed in the context of contract litigation. It is unlikely that parties
to a tort case will be able to easily contract for a particular judicial interest rate.
Wrongdoing and settlement failures are usually explained by high transaction
costs. It is likely that the same high transaction costs will impede a private
solution to the determination of a judicial interest rate.
Another solution would be to allow the court to set a judicial interest rate that
reduces frivolous delays and imposes the appropriate level of decoupling. Pre-

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sumably, the court has more information than the legislature to set a case-specific
interest rate that addresses these goals (although the court is likely to have less
information than the parties themselves). If there is a non-delaying judicial
interest rate available, the court is more likely to be able to adequately determine
it than a statutory approach. A statute typically proposes a pooling interest rate
or, at best, a menu of interest rates that are almost never appropriate for all
plaintiffs and defendants. Notice that parties provide information to courts and
not to legislators. In fact, parties have a selfish interest in disclosing any informa-
tion that they see as relevant and appropriate to support their viewpoints in
assessing the judicial interest rate.
There are costs associated with a court-based judicial interest rate that cannot
be neglected, like administrative and evidentiary costs, and that increase the
burdens already imposed on both parties by the litigation.35 Allowing the courts
to set the judicial interest rate may create some uncertainty that affects deter-
rence36 and the decision to file a lawsuit, while a statutorily-set interest rate is
better anticipated by both sides. Furthermore, if courts are bad at identifying
frivolous delays, they might make frequent errors and inadvertently punish
appropriate delays, which would in effect reduce the quality of trials, or permit
improper delays. In these situations, a statutory interest rate could better benefit
the parties involved. An interest rate set by statute has, as previously discussed
its own, usually more serious, drawbacks.37 The balance of these costs and
benefits is inevitably empirical and could vary across jurisdictions, reflecting
different institutional settings.38
Focusing on delay and decoupling, it is apparent that these aspects are likely
to be better addressed by different procedural mechanisms. For example, suppose
the harm suffered by the plaintiff is € 1,000 and the discount rate for both parties
is 10% in the context of a unilaterally caused accident. As discussed earlier,
35 It is important to note that a court-based judicial interest rate could increase litigation costs
by providing the parties with an incentive to search for evidence that favours them in the
determination of a case-specific interest rate.
36 Notice that such effect could be positive or negative. Uncertainty does not necessarily reduce
deterrence. In fact, in certain contexts, uncertainty enhances deterrence because parties exhibit
risk aversion.
37 Our discussion assumes a mandatory statutory interest rate. A merely default statutory
approach is, in terms of our analysis, a court assessed interest rate (where the court might or
might not agree with the statutory interest rate). A default statutory approach provides for a
legislative focal point that potentially reduces uncertainty but could also impose additional
burdens on a party seeking a different judicial interest rate.
38 There is a trade-off between determining the interest rate at the beginning (reducing uncer-
tainty) or at the end (making use of more information) of the trial.

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€ 1,100 constitutes adequate compensation at the end of trial. However, the

additional € 100 may be paid as interest but also, and alternatively, as compensa-
tory damages or, if available, as punitive damages. Punitive damages may be set
by the court, which would help alleviate any difficulty that a judicial interest rate
could face if regulated by statute. Additionally, punitive damages are likely to be
more efficient in deterring frivolous delays by the defendant. In the same vein, a
reduction in compensatory damages is likely to be more adequate in deterring
frivolous delays by the plaintiff.
Now consider the role of a judicial interest rate in decoupling damages and
recovery. Suppose again that the harm suffered by the plaintiff is € 1,000; at the
moment the plaintiff receives compensation, the defendant should have paid
€ 1,100 while the plaintiff should receive € 900 to account for an efficient decou-
pling (in order to set optimal incentives). Instead of figuring out a judicial interest
rate, the court could impose court fees in the amount of € 100 on both parties to
achieve the targeted effect. This mechanism is more efficient and likely to be
much cheaper to implement.
Court fees and the appropriate setting of damages are also better than apply-
ing a statutory judicial rate because rates determined by statute are decided ex
ante. The length of the proceeding presently determines the impact of a judicial
interest rate. Then, while any ex post mechanism can properly take account of the
actual duration of the suit in order to calculate intertemporal effects, no statuto-
rily imposed rate can do that accurately.
A combination of variations in damages and court fees seems a more efficient
mechanism than a judicial interest rate in reducing excessive delays and imple-
menting decoupling. If this is the case, using a judicial interest rate to incentivise
plaintiff and defendant would not be a worthwhile reform of civil procedure.
It is a common perception that civil procedure in civil law countries is less
flexible than it is in common law countries.39 In the absence of variations in
damages and discretion in imposing court fees, using a judicial interest rate could
be the only effective mechanism to deter delay and promote decoupling. How-
ever, as emphasised earlier, the use of a judicial interest rate as a policy mechan-
ism would be a second-best solution, only advisable in an extremely rigid proce-
dural setup.
Hence, based on these issues, there are two intimately-related questions that
need to be addressed depending on the type of legal context in which a judicial
interest rate is applied. On the one hand, we inquire as to what the best role of the
39 See A Balas/R La Porta/F Lopez-de-Silanes/A Shleifer, The Divergence of Legal Procedure,

American Economic Journal: Economic Policies, vol 1 (2009) 138.

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judicial interest rate is, given that there are competing devices that aim to achieve
the same goals at different costs. The other, closely related, question is what is the
best way to set the rate. The latter question points primarily to analysing the
suitability of the statutory regulation of the judicial interest rate, which is com-
mon across many legal systems.
In order to answer our first question, we assume a legal system that has
substitutive instruments to deal with litigation costs in force, similar to those in
place in common law countries. In comparison to the strategies effected by
applying a judicial interest rate, some of these strategies may appear to be more
direct and flexible ways to deal with the previously identified sources of ineffi-
ciency. This is primarily because there is a significant number of cases where no
judicial interest rate is theoretically available that would avoid either some or all
of the efficiency issues that arise.40 This exposes the ineffectiveness of utilising
strategies involving a judicial interest rate. The weakness may arise also in cases
where the parties’ opportunity costs are properly aligned but the spread between
these costs is too narrow to provide significant leeway. In these cases, the judicial
rate can only be set within that narrow margin, which implies that the difference
between the parties’ opportunity costs and the rate applied is likely to be even
narrower.
An explanation of these types of disadvantages lies in the bilateral or
‘coupled’ nature of the judicial interest rate because it is essentially the same even
though it has a differential impact on the parties involved. In comparison, some
competing mechanisms, like court fees and penalties, are free from this con-
straint, since the amount a party pays (a positive sum) is decoupled from what the
other party receives (usually zero).
From a normative standpoint, if something needs to be amended, it is not
primarily the role of the judicial interest rate to effect this but rather the role of a
much more profound institutional feature of the rules of procedure.41 In this
context, the analysis of theoretical relations dealing with the judicial interest rate
contributes to a clearer understanding of some sources of inefficiency and rein-
forces how convenient it is to have more flexible instruments which are designed
to deal with the social cost of litigation.
For parties who have not agreed to an interest rate prior to trial, the court, not
the legislature, seems to be in the best position to make this determination
because opportunity costs are as idiosyncratic as damages. This idea assumes
40 See fn 29.
41 For example, if a particular legal system is generally concerned about using injunctions or
appeals, then legal policy reforms should address these instruments directly instead of attempt-
ing to manipulate the judicial interest rate to increase or decrease them.

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that if we focus on the problem itself (the intertemporal dimension of procedure),

instead of on the instrument employed to determine the judicial interest rate, we
will find that the concept of interest itself, separated from the idea of costly harm,
is not necessary but customary. Thus, instead of figuring out the best role for the
judicial interest rate, we should try to work out the best way to assess the cost of
the harm while simultaneously, and properly, including the intertemporal dimen-
sion. Once this view is accepted, setting the judicial interest rate by statute, at
least in the pre-judgment phase, would be inconsistent in many situations with
the aim of minimising social costs.
Based on this analysis, the following paragraphs explore some policy ap-
proaches that are applicable to different cases at various stages of litigation.
First, as discussed earlier, the parties are usually in the best position to cal-
culate in advance the effects of the lapse of time on their relationships. Conse-
quently, many legal systems tend to enforce contractual clauses agreed in ad-
vance by the parties. However, many courts will also impose various kinds of
caps on these private agreements.42
Second, for cases that do not involve contracts, there is no conclusive reason
to implement a statutory pre-judgment judicial interest rate. While this claim may
seem controversial, the idea becomes less surprising once the role of the judicial
interest rate is clearly understood. To facilitate a deeper understanding of why it
may be unnecessary to impose a judicial interest rate by statute, we begin by
assessing what the best role for the judicial interest rate in the pre-judgment stage
should be. As suggested, manipulating the judicial interest rate is a poor mechan-
ism for achieving efficiency, in terms of both delay and decoupling, although it
may influence both of these goals. Moreover, establishing a judicial interest rate
in both of these areas can be effected by other competing devices.
In a scenario without any transaction costs, a general market discount rate
may potentially fulfill that role. However, when applied in practice, many factors
impede the successful application of a statutory judicial interest rate. First,
statutory judicial interest rates are not usually market rates, but are instead
determined by the legislature. Second, market rates may change in unpredictable
ways and at any time, whereas statutorily determined judicial interest rates are
set to apply for pre-determined time periods. Third, if transaction costs are
present, no general rate will be able to account for individual opportunity costs.
42 Some jurisdictions, including several American states like Arizona, Arkansas, California, and
Indiana, have set explicit limitations on the freedom of each party on this matter. This same point
is not made as explicitly in other national laws, although a judge may have the power to reduce
the interest rate agreed to by the parties prior to judgment.

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Hence, any generally applicable pre-judgment judicial interest rate entails a

degree of error when the cost of harm and social costs are assessed.
This last point requires an additional explanation. In our analysis above, we
sketched a possible response to this contention which was based on a general
policy argument that balances the cost of the mechanism and the disadvantages
of making use of averages. According to this reasoning, two types of costs should
be considered – the aforementioned error costs and the administrative costs of
employing the mechanism to set the judicial interest rate. Advocates of a statutory
judicial interest rate would emphasise the latter. As for the former, however, we
established that error costs related to this kind of pooling device are usually
underestimated because of a pair of technical flaws, which we called faith in
averages and mistaken causal exclusion.
Further, some additional remarks are useful when applying the case-by-case
method. The first is that the notion of pre-judgment interest is neither necessary
nor likely to be the best possible option. One view is that there is no need for
another phase of procedure other than that utilised to determine the amount of
damages, while the opposing view is that it is not necessary to choose a single
rate, even implicitly, for the duration of the lawsuit. The second is that the cost of
proving and assessing the intertemporal development of harm may not be as high
as it is estimated.
Regarding our first remark, it is important to understand that once the inter-
temporal role of pre-judgment interest is separated from the mechanism customa-
rily employed to deal with the intertemporal dimension (that is, judicial interest),
it becomes clear that the issue is simply one aspect of the question of damages.
Hence, its proof is not qualitatively different from ordinary components of com-
pensation. Proof, considered a phase of proceedings, is usually manifold and
varied. Different instances of harm, in turn, can evolve at different rates, even
harm that relates to the same lawsuit. For example, consider a plaintiff who is
physically injured and whose costs are covered in the first phase by a loan that is
subject to a 10% interest rate. Then, later in the case, a second expense arises (for
example, buying a wheelchair) and the plaintiff finances this expense by taking
out an additional loan at a 15% interest rate since the first loan lowered the
plaintiff’s solvency and correlatively increased the risk premium that the plaintiff
had to pay. This example illustrates the fact that a general, pre-judgment interest
rate serves as a poor method for approaching this dimension of the cost of harm.
An individualised assessment allows the court to properly address these peculia-
rities, while a general statutory rate does not.
In pure legal analysis the most immediate option is to engage in the valuation
of damages and the judicial interest rate as separate and wholly different steps of
the proceedings. As previously suggested, the economic approach to legal institu-

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tions allows us to extricate common roots among rules that appear diverse. On
this matter, even more traditional legal analysis assumes a close connection
between judicial interest in tort cases and damages. In Italian law, for example,
art 1224 of the Civil Code (Codice Civile) states that the victim can recover her loss
over the moratorium interest (subject to proof) – the so called ‘moratorium
interest’ is a form of statutorily-set interest which accrues for the delay and
demands the payment of a pecuniary obligation.43 That rule has given rise to an
interesting debate. Mainstream legal scholarship states that the valuation of harm
must be made at the time the harm is suffered or consolidates; therefore the sum
must be indexed in order to keep its purchasing power. Moratorium interest must
be applied accordingly.44 This mechanism has been challenged; some legal
authors claim that only moratorium interest must be accrued and the effect of
inflation (if any) should be pleaded and assessed on a case-by-case approach.45
Other commentators, nonetheless advocating the mainstream approach, argue
that the judge must intervene in order to make sure that the payment resulting
from this mechanism does not exceed the actual loss.46
In more general terms, this analysis is no more than an obvious corollary to
the idea of moratorium damage, which is regarded as quite usual in European
countries.47 It means, in short, that delay in payment yields a loss (moratorium
damage) and moratorium interest is only a means to cover that specific sort of
harm. In tort cases the payment of damages should ideally be made at the time
the harm is suffered or consolidates and from then on (indexation either being
applicable or not) moratorium interest must accrue as compensation for that
harm. Hence, even for traditional legal analysis, the intertemporal dimension in
tort cases must be understood in terms of the damage inflicted on the plaintiff. If
the restitutio in integrum rule is in force for tort cases, our analysis should not be
regarded as alien, to whatever legal system it is applied, but merely an adaption
of normal principles for reasons of legal policy.
If, then, there are no convincing conceptual objections to our analysis, it only
remains to consider things at a practical level. One first objection relates to the
question of whether the allegedly low administrative costs of the statutory option
43 ‘…Al creditore che dimostra di aver subito un danno maggiore spetta l’ulteriore risarcimento
Questo non è dovuto se è stata convenuta la misura degli interessi moratori.’
44 Corte di Cassazione, 18 July 1989, 335.
45 See Valcavi (fn 26).
46 See Breccia (fn 19).
47 See fn 43; France: Code civil, para 1153, 3; Spain: Ley III, del Título VI, de la Partida V, Ángel
Carrasco Perera, La Reparación Integral del Daño y su Prueba, in: Mariano Herrador Guardia
(ed), Derecho de Daños (2011) 383.

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are able to compensate for its drawbacks. The answer is not easy and in fact
clearly depends on the relationship between two sets of costs – the statutory
mechanism’s administrative costs and its error costs, and what those costs would
be under the rival approach.
On the face of it, it appears possible that a legal system would be able to
ensure that the administrative costs of a case-by-case method are kept low as
compared to the consequent gains in accuracy. This might be achieved by use of
the rules of evidence and those facts that the court admits via judicial notice. For
the latter, the intertemporal change in the value of money is a notorious fact that
is apt to trigger the judicial notice rule. Also, some market interest rates, which
constitute the benchmark for any decision made in this context, have been
deemed a fact of the same nature. For example, in the US a court must take
judicial notice of a report from the Housing and Human Development Agency
indicating a particular mortgage rate because the information was provided by
the federal government, it was not subject to reasonable dispute, and it was
capable of accurate and ready determination by resort to sources whose accuracy
could not reasonably be questioned.48
On this approach, the costs of requiring the plaintiff to provide additional
evidence and the time the court would need to make a decision (the intertemporal
variation of harm’s costs) may prove to not be as significant as it was thought to
be at first. It should follow that, when the plaintiff’s opportunity cost is close to
the average rate in the market, the cost of proving intertemporal change will tend
to be low. Nonetheless, even where the opportunity cost differs significantly from
the average, it will not be excessively expensive to prove because these cases are
usually related to loans taken at an above-prime rate and can easily be proven in
court with documentary evidence. Hence, the exceptionally demanding cases will
be few.
An additional practical objection could be an ex post vs ex ante conflict. From
a legal point of view, statutorily-set interest might be seen as an ex ante tool with
case-by-case determination of intertemporal damage as an ex post mechanism.
Accordingly, deterrence-wise, the latter may be deemed ineffective inasmuch as,
at the time the potential injurer decides to undertake a risky activity, neither the
rate nor any substitute tool is actually in force or known. This criticism, however,
can be extended to the entire system of court determination of damages. Main-
stream law and economics takes these idiosyncratically ex post facto damages as
48 Estate of Osborn ex rel Osborn v Kemp, Civil Action (CA) No 3171-VCP, slip op at 24–25 no 95,
Parsons, VC (Delaware Court of Chancery (Del Ch) 20 August 2009) aff’d, 991 Atlantic Reporter,
Second Series (A 2d) 1153 (Del 2010).

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components of an ideal actuarial table that agents must broadly take into account
as a basis for their calculations.49 We simply propose to add in, in this kind of
case, the calculation of the intertemporal damage. That is a task that judges are
particularly well-positioned to carry out instead of the more sophisticated task of
calculating an abstract interest rate that fulfills, at the same time, non-delaying
and decoupling aims. Furthermore, only if no other procedural tool is available
and it is apparent that any one of those aims cannot be reasonably reached unless
interest is imposed, should the judge act. In any case, the adoption of better
mechanisms in order to meet these goals of judicial procedure is likely to be
desirable in civil law countries.
Third, for post-judgment interest a high judicial interest rate set by statute
may be preferable. Once a final judgment is rendered and no further legal
remedies or appeals may be made, the issues change entirely. Prior to judgment,
the cost of the plaintiff’s harm remains disputable but, at the moment that final
judgment is rendered, it is no longer. Up to the moment of judgment both parties
may affect the length of the proceedings a trade-off exists between the ability of
the parties to defend their rights and the timing of the lawsuit. However, after the
final judgment is rendered, the court’s only aim is to encourage the defendant to
swiftly fulfill his duty so as to avoid new litigation on the matter.
A high post-judgment judicial interest rate may be able to achieve that aim.
Unlike pre-judgment interest, in this phase the relevant effect is only on one of
the parties. Thus, it is clearly feasible to set a rate higher than the future op-
portunity costs of potential defendants in the overwhelming majority of cases. For
this same reason, the general rate may be statutorily determined, capturing the
advantages of reduced administrative cost. Furthermore, for post-judgment inter-
est costs, it is likely that courts will simply use available interest rates to set the
judicial interest rate (with no particular consideration for the individual attributes
of the parties), hence reducing the individualised benefits to the parties that are
enjoyed when a court utilises a case-by-case approach.
VI Conclusions
This article began with a discussion of the lack of scholarship and literature on
judicial interest rates. In the fields of law and economics, the judicial interest rate
49 The variability in nature and extent of individual harms might be outside the range of realistic
calculation by real people. Nonetheless, the assumption concerning the behaviour of potential
injurers as described in the text is a basic tenet of the economic analysis of tort law.

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seems uninteresting given our knowledge of the optimal methods for the deter-
rence of wrongdoing. Conventional legal scholarship simply applies a rule to
calculate present values that reflect the delays of litigation. Yet legal policy-
makers have barely used judicial interest rates to influence the duration and
length of legal proceedings. When they do, they rely on intuitive and frequently
flawed reasoning.
Our critique of the current state of play is illustrated by a simple example. As
discussed above, we assumed that Plaintiff was harmed and the value of Defen-
dant’s wrongdoing was equivalent to € 1,000 subject to a 10% discount rate.
Then, we showed why the correct amount to show Plaintiff’s compensation at trial
was € 1,100. The traditional approach assumes that a general interest rate,
usually statutorily set, can appropriately achieve that result, being at the same
time neutral and easily implemented.
We also explained why this simple approach is flawed. First, when opportu-
nity costs are asymmetric (which is likely), a judicial interest rate will influence
delays (beyond social optimality) and decoupling (between damages paid by
Defendant and what is recovered by Plaintiff), which affects deterrence as well as
the process of litigation. An efficient judicial interest rate would have to take into
account all these factors and results. Because we believe it would be unrealistic
for all of these conditions to be satisfied through adoption of a single mechanism
for determining the judicial interest rate, we were left to discuss the advantages
and disadvantages of applying the second-best solutions that we identified.
Furthermore, we discussed the many alternative mechanisms for addressing
delays and decoupling. If these mechanisms are adequately applied, the judicial
interest rate would be trivial and unimportant. However, because these mechan-
isms have significant limitations of their own when applied in practice, the
judicial interest rate plays an important role. We argued that these observations
are likely to be more important in civil law jurisdictions where rules of procedure
are less flexible.
Finally, we suggested that the asymmetric distribution of opportunity costs is
the source of complexity in this context. We found that inevitably, the best way to
determine a judicial interest rate that internalises these effects involves leaving
the decision-making authority to the parties as they have better information about
their own opportunity costs. However, in much the same way that claims some-
times fail to settle, parties to a case may not be able to agree on a judicial interest
rate (due to significant transaction costs). We argued that, in the event that this
occurs, the next best approach could be for the court to determine the judicial
interest rate. The benefits of the judge’s access to information about the parties
and his close proximity to the case seemed to outweigh the possible costs of
uncertainty, court error, and additional litigation costs. Nevertheless, statutory

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approaches appear to be better suited to post-judgment interest where it is clear

that the defendant merely seeks to postpone a legal obligation established by
judgment.
Court-imposed and statutory judicial interest rates raise different considera-
tions. In theory, it seems to us that the ability to take into account individual
preferences and localised information could be more significant than the admin-
istrative and litigation costs. Hence, a court-imposed interest rate might be more
appropriate in many circumstances (but not all, as we noted). However, at the
end of the day, this is a matter of empirical debate and, unfortunately, there is no
empirical work available to rely on.
Many jurisdictions struggle with excessive delays in litigation and consider
variations in judicial interest rates as mechanisms for deterring court-congestion.
We showed that the effects of such an approach might be complex and even
counter-productive. Increasing judicial interest rates to punish non-compliant
defendants may result in frivolous delays by the plaintiff. Decreasing judicial
interest rates to sanction non-compliant plaintiffs could induce frivolous delays
as well, but the defendant would instead be the cause. If judicial interest rates are
used to ensure delays, they might still cause excessive decoupling or reverse
decoupling, which may in turn may result in too many or too few lawsuits.
Finding an appropriate balance between all of these factors is not easy when
applied in practice. Unfortunately, reform of judicial interest rates may, in many
circumstances, result in aggravating rather than alleviating court congestion.
From a comparative law perspective, changing judicial interest rates should
be considered in the context of alternative procedural reforms. The determination
of compensatory and punitive damages could presumably be designed to punish
frivolous litigation strategies or to influence the number of lawsuits filed. Court
fees may be structured to achieve decoupling without the need to adjust the
interest rate: both parties pay court fees to the court instead of to each other,
therefore explicitly and directly effecting the desired decoupling effect. Procedur-
al rules that allow the court to punish either party for purely strategic delays,
while circumventing the complications of balancing opportunity costs, are likely
to be more appropriate.
Institutional context and design are important when considering how to
reform the mechanisms for determining the judicial interest rate. When the
furniture catches fire, the temperature of the room will significantly increase, but
neither is burning the furniture a practical tool for heating the room nor is wetting
the furniture a sensible means of cooling it down. Although the judicial interest
rate lies at the core of the set of possible procedural mechanisms that have
relevant effects on litigation, the strategies on which its manipulation is based
may not produce the expected or a desirable result.

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We are not suggesting that the judicial interest rate is irrelevant, should not
play a role, or cannot be used for purposes of legal reform. Our point is much
more nuanced than that. We maintain that the judicial interest rate interacts with
other procedural mechanisms. In some cases it is important to correct the judicial
interest rate in order to improve litigation, while in other cases, if the judicial
interest rate is used to influence litigation and delays it is not the most efficient
policy instrument as identical or similar results could be achieved by other legal
reforms at a lower cost. Finally, we recognise that there are many cases where the
manipulation of the judicial interest rate would be a poor economic decision
because its intended effects would be incorrectly incentivised. Similar reasoning
should be applied in deciding between court-based and statutory mechanisms for
setting the judicial interest rate. Here, however, it may be important to distinguish
between pre-judgment and post-judgment interest.
Moreover, pre-judgment interest should reflect appropriate incentives for
inducing efficient behaviour in litigation. It is likely that the court is in a better
position than the legislature to assess the opportunity costs of the parties to the
case. Furthermore, with a case-specific inquiry, the judicial interest rate can be
enforced as part of the causal judgment. The interest rate may also easily reflect
strategic and frivolous delays by either party. However, there are uncertainty
costs that are borne by potential litigants under the case-by-case method, which
are minimised by a statutory determination of the judicial interest rate. We argue
that, in the most reasonable circumstances, the benefit of setting an interest rate
with more knowledge about the parties offsets the costs of uncertainty.
Different reasoning might apply to post-judgment interest, where the court is
concerned with delay in payment. At this stage in the litigation process, the
plaintiff’s damage is already adjudged. A statutory mechanism for setting the
judicial interest rate seems to more effectively avoid further costly court interven-
tion. The cost of administration is lower and there are advantages with respect to
information, as a statutory mechanism reduces uncertainty and clarifies the
immediate costs of delaying payment.
Our article established the role of the judicial interest rate – a question which
is, on the face of it, seems to be trivial but in fact is highly complex. Its legal policy
implications are significant. Furthermore, depending on the institutional context,
the procedural approaches available, and the relevant legal family (common or
civil law jurisdiction), the judicial interest rate applied may have to be treated
differently.

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DOI 10.

1515/jetl-2013-0002 JETL 2013; 4(1): 34–62

Hugo A Acciarri and Nuno Garoupa

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judgment after it is entered, including the possibility of frivolous and non-frivo-

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II Setting out the basics

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III Conventional approaches to judicial interest

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20 For example, Argentina’s Supreme Court Yacimientos Petrolíferos Fiscales v Provincia de

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the asymmetric distribution of opportunity costs is prevalent and more likely to

IV The economics of the judicial interest rate

The excessive duration of judicial proceedings is a widespread concern for legal

24 <http://www.time.com/time/business/article/0,8599,1953095,00.html> accessed 26 April

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defined by the rules of procedure. This makes it nearly impossible to compare

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In some circumstances a judicial interest rate, that we can name a non-

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31 Polinsky/Che and Garoupa/Sanchirico, ibid.

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The likelihood of insolvency is heterogeneous across the population. This

V Guidelines for legal policy

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€ 1,100 constitutes adequate compensation at the end of trial. However, the

39 See A Balas/R La Porta/F Lopez-de-Silanes/A Shleifer, The Divergence of Legal Procedure,

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that if we focus on the problem itself (the intertemporal dimension of procedure),

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Hence, any generally applicable pre-judgment judicial interest rate entails a

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approaches appear to be better suited to post-judgment interest where it is clear

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