Betty hires Veronica to build an addition to Betty's house. They agree on a price and Veronica begins the job. After the work is partially completed, Betty changes her mind and decides that the addition is worth less than the price she has agreed to and announces that she will not pay for the job. Veronica then sues Betty for breach of contract.
Under these circumstances, a court can order Betty to pay either reliance damages or expectation damages. "Reliance damages" means a sum of money sufficient to make Veronica as well off as if she had never signed the contract.
"Expectation damages" means a sum of money sufficient to make Veronica as well off as if the contract has been fulfilled.
Let A stand for the costs that Veronica has incurred so far, let B stand for the total cost of building an addition, let C stand for the amount Betty originally promised to pay, and let D stand for the value that Betty places on having the job completed now that she has changed her mind about its worth.
a. How much will Betty have to pay Veronica under a rule of reliance damages? How much will Betty have to pay Veronica under a rule of expectation damages?
b. How much does Betty lose if she fulfills the contract?
c. Assuming that courts assess reliance damages, write down an inequality that expresses the condition under which Betty will break the contract. Do the same for expectation damages.
d. Write down an inequality that expresses the condition under which it is efficient for Betty to break the contract.
e. Which rule induces Betty to behave efficiently: reliance damages or expectation damages?