Economic Loss

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What is Economic Loss?

Economic loss is a type of loss that can be claimed in negligence. Economic loss refers to a purely financial loss that has been suffered by a person or business. For example, a business may lose profits because of an incident, or a person may lose income because they are unable to work.

However, the courts do not automatically allow a claimant to recover financial losses. The law makes an important distinction between consequential economic loss and pure economic loss.

Consequential Economic Loss:

Consequential economic loss occurs when a financial loss/harm results from physical injury to a person or damage to property. This type of economic loss is generally recoverable, as long as the normal rules of negligence are satisfied.

For example, a defendant negligently crashes into a delivery van belonging to a business. The van is damaged and cannot be used for several days. As a result, the business loses profits because it cannot make its deliveries. The loss of profit is consequential economic loss because it has resulted from damage to the business's property.

In the case of Spartan Steel & Alloys Ltd v Martin & Co Ltd (1973), the defendants were carrying out work on a road when they negligently damaged an electricity cable supplying power to the claimant's factory. The factory had to stop production, at this time there was metal inside of the factory furnace, that was damaged causing the claimant to lose profits due to this damage, this was consequential economic loss. In addition to this they lost profits due to the power being turned off and being unable to process more metal, this was pure economic loss. This case established the principle that economic loss resulting directly from physical damage to property can be recovered, but pure economic loss that does not result from physical damage is generally not recoverable.

Here the claimant was able to recover the losses that resulted from the physical damage to the metal that was in production. However, the claimant could not recover the loss of profits relating to the metal that could not be processed and had not been damaged. This was considered pure economic loss.

Pure Economic Loss

Pure economic loss is a financial loss that does not result from physical injury or damage to property.

The general rule is that pure economic loss is not recoverable in negligence.

For example, a defendant negligently cuts an electricity cable. A business nearby loses electricity and has to close for the day. If the business's property has not been physically damaged, the loss of profit may be classed as pure economic loss and cannot normally be claimed in negligence.

This distinction can be seen in Spartan Steel & Alloys Ltd v Martin & Co Ltd (1973). Here the claimant could claim for the financial loss of the physical damage to the metal that was in damaged inside the furnace when the power went off. The claimant also lost profits in relation to other metal that was not damaged but could not be processed whilst the electricity was switched off. This loss did not result from physical damage to the metal and was therefore it was classed as pure economic loss and was not recoverable.

In the case of Weller v Foot and Mouth Disease Research Institute (1966), the defendants were a foot and mouth disease research institute and they negligently allowed foot and mouth disease to escape from their premises. Restrictions were then placed on the movement of animals, closing local cattle markets and auctions. This prevented the claimant auctioneers from holding livestock sales and caused them to lose income and profits. The case established the principle that loss of income/profit that does not result from physical injury or damage to the claimant's property, is therefore pure economic loss and is generally not recoverable in negligence.

Why is Pure Economic Loss Generally Not Recoverable?

The courts have several reasons for refusing to allow claims for pure economic loss.

Indeterminate Liability

One concern is the risk of indeterminate liability. If people could claim whenever they suffered financial losses caused by someone else's negligence, the defendant could potentially face claims from a very large number of people. The amount of financial loss could also be difficult to predict, as could how long the losses might continue.

For example, if a power company negligently caused a major power cut, thousands of businesses could potentially claim for their lost profits. Allowing all of these claims could create enormous and unpredictable liability for the defendant.

Floodgates

The courts are also concerned about the floodgates argument. If claims for pure economic loss were too easy to bring, there could be a significant increase in the number of negligence claims. The courts therefore try to prevent the law from opening the floodgates to large numbers of claims that could be difficult to control.

Policy Reasons

The courts also consider that some financial losses are more appropriately dealt with through contract law rather than tort law. For example, if a business suffers a financial loss because another business fails to perform a contractual obligation, contract law may provide the appropriate remedy. Therefore, the general rule is that there is no duty of care for pure economic loss that has been caused by a negligent act.

However, there is an important exception this can be seen where the economic loss has been caused by a negligent misstatement, not a negligent act.

Negligent Misstatement

A negligent misstatement occurs when a person gives incorrect information or advice carelessly, and another person reasonably relies on that information and suffers financial loss as a result.

For example, imagine that a professional financial adviser gives a client careless advice about an investment. The client reasonably relies on the advice and loses money. In certain circumstances, the client may be able to claim for their economic loss.

The courts developed an exception to the general rule on economic loss in Hedley Byrne & Co Ltd v Heller & Partners Ltd (1964).

In Hedley Byrne & Co Ltd v Heller & Partners Ltd (1964), the claimants were an advertising company considering doing business with another company. They asked the defendant bank for information about the company's financial position. The bank provided a favourable reference, which the claimants relied upon, but the reference contained a disclaimer. The claimants suffered financial loss after relying on the information. The case established the principle that a duty of care may arise for pure economic loss that has been caused by a negligent misstatement when there is a special relationship between the parties.

This means that although pure economic loss is generally not recoverable, it may be recoverable when a defendant has given negligent advice or information and the necessary requirements for a special relationship are satisfied.

The Special Relationship

For a duty of care to arise following a negligent misstatement, there must be a special relationship between the defendant and claimant.

There are several important requirements.

The Defendant Has Special Skill or Expertise

The defendant should possess a particular level of professional knowledge, skill or expertise.

The Advice Is Given to the Claimant

The advice or information must be communicated directly to the claimant or provided for a known purpose. The defendant must therefore have some knowledge of who will receive the information and how it will be used.

The Defendant Knows the Claimant Will Rely on the Advice

The defendant must know that the claimant is likely to rely on the information for a particular transaction or decision. It is not enough for the defendant to make a general statement that could potentially be seen by anyone.

There Is Reasonable Reliance

The claimant must have reasonably relied on the advice.The reliance must be reasonable in the circumstances. A claimant cannot simply rely on information when it would have been unreasonable for them to do so.

In Smith v Bush (1990), the claimants were buying a house and relied on a valuation carried out by a surveyor. The survey failed to identify serious defects in the property, and the claimants suffered financial loss as a result. The case established the principle that the claimant must have reasonably relied on the defendant's advice or information for a duty of care to arise in a negligent misstatement claim.

Informal Advice

A special relationship does not always require that the defendant has to be a professional.

In some circumstances, informal advice can create liability if the defendant has sufficient knowledge or expertise, the claimant reasonably relies on the advice and economic loss was foreseeable.

In Chaudhry v Prabhakar (1989), the claimant wanted to buy a second hand car and asked a friend with experience of cars to help her choose one. Her friend recommended a particular car and stated that it had not previously been involved in an accident. The claimant relied on this advice and purchased the car, but it had in fact been involved in an accident, causing her financial loss. The case established the principle that a special relationship can arise from informal advice where the defendant has relevant knowledge or expertise and the claimant reasonably relies on that advice.

When Will There Be No Duty?

Even where advice has been given, a defendant will not automatically owe a duty of care.

There will generally be no duty where:

the advice is too general;
there is no identifiable claimant;
there is no reasonable reliance on the advice; or
there is a valid disclaimer excluding responsibility.

The importance of a disclaimer can be seen in Hedley Byrne & Co Ltd v Heller & Partners Ltd (1964). Although the bank had provided information that the claimants relied upon, the bank had included a disclaimer stating that the information was provided without responsibility. The disclaimer prevented the claimants from recovering their economic loss from the bank.

Defective Products and Buildings

Pure economic loss can also arise when a claimant discovers that a product or building is defective.

The general rule is that a claimant cannot claim the cost of repairing the defective product or building itself in negligence.

In Murphy v Brentwood District Council (1991), the claimant purchased a house that had serious defects in its foundations. The defective foundations meant that the claimant faced a significant cost to repair the property. The case established the principle that the cost of repairing a defective building itself is generally pure economic loss and cannot be recovered in negligence where there has been no damage to other property.

Relational Economic Loss

Another type of economic loss that is generally not recoverable is known as relational economic loss. This occurs when a claimant suffers financial loss because someone else's property has been damaged.

For example, imagine that a factory is damaged by the defendant's negligence. The factory has to close temporarily. Employees working at the factory lose wages because they cannot work. The employees have suffered financial loss, but their own property has not been damaged. Their loss is connected to damage suffered by a third party. This is known as relational economic loss and is generally not recoverable in negligence.

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