Abstract. We find an economic rationale for the common sense answer to the question in our title — courts should not always enforce what the contracting parties write. We describe and analyze a contractual environment that allows a role for an active court. An active court can improve on the outcome that the parties would achieve without it. The institutional role of the court is to maximize the parties ’ welfare under a veil of ignorance. We study a buyer-seller model with asymmetric information and ex-ante investments, in which some contingencies cannot be contracted on. The court must decide when to uphold a contract and when to void it. The parties know their private information at the time of contracting, and this drives a wedge between ex-ante and interim-efficient contracts. In particular, some types pool in equilibrium. By voiding some contracts that the pooling types would like the court to enforce, the court is able to induce them to separate, and hence to improve ex-ante welfare.

As illustrated by liquidity support, equity injections and asset repurchases in financial crises and by IMF credit lines to countries, authorities often intervene in order to revive markets that have dried up or to create new ones. In such situations, agents participate only if they receive from the governmental scheme more than in the marketplace, while the market outcome depends on who joins the scheme. The paper provides a first analysis of market jumpstarting and its two-way interaction between mechanism design and participation constraints. In the model, sellers in need of cash have private information about the value of their legacy asset. The absence of buyer confidence forces authorities to intervene to jump-start the market. We characterize the optimal intervention, and draw two main implications. First, the government should clean up the market, through buybacks of the weakest assets and then through some equity injections, and leave the agents with the strongest legacy assets to the market. In particular, authorities should not substitute fully for the market, even when they have no comparative disadvantage in acquiring assets or shares thereof. Second, the government creates its own competition by cleaning up the market from its most toxic pieces. At the optimal intervention the government always strictly overpays for the legacy asset. Yet, and unlike what would be suggested by Coasian profit evasion, the existence of a later market imposes no welfare cost. While it is cast in a public intervention context, the analysis of mechanismdependent reservation utilities also admits important private sector applications.

We study a mechanism design problem in which players can take part in a mechanism to coordinate their actions in a default game. By refusing to participate in the mechanism, a player can revert to playing the default game non-cooperatively. We show with an example that some allocation rules are implementable only with mechanisms which will be rejected on the equilibrium path. In our construction, a refusal to participate conveys information about the types of the players. This information causes the default game to be played under di¤erent beliefs, and more importantly under di¤erent higher order beliefs, than the interim ones. We …nd a lower bound on all the implementable payo¤s. We use this bound to establish a condition on the default game under which all the implementable outcomes are truthfully implementable, without the need to induce rejection of the mechanism.