Champerty on the Blockchain

One of the peculiarities of the law is that third party contracts to finance a lawsuit in exchange for a percentage of any recovery have long been unenforceable under the doctrine of champtery. As with contingent fees, the idea is that third party financing will generate frivolous lawsuits. In contrast, Helland and I found that contingent fees improve legal quality because lawyers won’t take cases that are likely to fail on a contingency basis but they will take them on an hourly-fee basis. Contingent fees and third-party funding also reduce credit constraints and extend the legal system to people who cannot finance their own cases. Third-party finance is reasonably common in Australia and doesn’t seem to have had major negative consequences. It’s also becoming more common in the United States even though the law is still unclear.

For someone who believes in markets, third party contracts are just contracts. As Helland and I said in our AEI monograph, Two Cheers for Contingent Fees, it’s one thing to think that the tort system is broken or out-of-control and quite another to think that the appropriate way to address this is to interfere in the right of tort victims and financiers to contract. In fact, Robert Cooter once likened tort claims to Arrow-Debreu securities and argued for a market in unmatured tort claims (UTCs). Today, we are somewhat closer to that market on the blockchain!

The Avalanche blockchain is hosting a new kind of token designed to allow retail investors to invest in the outcome of lawsuits.

The so-called ‘Initial Litigation Offering’ is the brainchild of Avalanche creator Ava Labs, US law-firm Roche Cyrulnik Freedman LLP and Republic Advisory Services, a consultancy.

Many individuals lack the funds to pursue legal action; litigation financing allows investors to cover the costs of a claim in return for a portion of the payout, should the claim prove successful. For the new ILO on Avalanche, the right to such a payout has been tokenised, and would be delivered as a digital asset.

As usual, it’s a little unclear what the blockchain is doing since the real issue is to measure the outcome of the cases and distribute the funds and that requires trust. Still, the blockchain will increase liquidity–potentially allowing anyone in the world to invest (again, assuming trust in the originator)–and it will also help with unenforceability. Ironically, one of the problems with these contracts has been that knowing that they are unenforceable the victims renege on the deal after winning their cases! If instead the money goes into a smart contract on the blockchain it will be much harder for the victims to renege. Innovations like this may also push the law to clarify the legality of third party financing.

Addendum: The first case they plan to tokenize looks appropriate. A farmer was growing approved hemp but the local sheriff razed his cropland causing a billion dollars in damages.


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