There are no Penalty Default Rules in Contract Law

Abstract

In an influential article, Ian Ayres and Robert Gertner introduced the concept of the "penalty default rule," a rule that fills a gap in an incomplete contract with a term that would not be chosen by a majority of parties similarly situated to the parties to the contract in question. Ayres and Gertner argued that such a rule might be efficient in a model in which contracting parties have asymmetric information. However, Ayres and Gertner did not provide any persuasive examples of penalty default rules; their best example is the Hadley rule, but this rule is probably not a penalty default rule. It turns out that there are no plausible examples of penalty default rules that solve the information asymmetry problem identified by Ayres and Gertner. The penalty default rule is a theoretical curiosity that has no existence in contract doctrine.