Do’s and Don’ts of Tort Reform

May 1, 2005 • Commentary
This article originally appeared in the Freeman in May, 2005.

Five years ago a Florida jury somehow conjured up punitive damages of $145 billion for a class of tobacco plaintiffs. Two years later a California jury recommended a $28 billion treasure trove for a single claimant. And in 1998 four major cigarette companies agreed to the grandmother of all awards—a quarter‐​trillion‐​dollar settlement to reimburse the states for smoking‐​related Medicaid costs.

So it goes. Not just tobacco, but guns, asbestos, and a cross‐​section of American industry described by one think tank as the Mass Tort Monster: DDT, Bendectin, the Dalkon Shield, fuel tanks, silicone breast implants, lead paint, fen‐​phen, and on and on.

Since 1930, litigation costs have grown four times faster than the overall economy. Federal class actions tripled over the past ten years. Class actions in state courts ballooned by more than 1,000 percent. The U.S. Chamber of Commerce estimates that the annual cost of the tort system translates into $809 per person—the equivalent of a 5 percent tax on wages. The trial lawyers’ share—roughly $40 billion in 2002—was half again larger than the annual revenues of Microsoft or Intel. In 2002 the estimated aggregate cost of the tort system was $233 billion, according to the actuarial firm Tillinghast‐​Towers Perrin. That cost represented 2.23 percent of our gross domestic product. Over the next ten years the total “tort tax” will likely be $3.6 trillion.

When costs explode, proposals for reform are never far behind. So we have been deluged by congressional schemes to curb class‐​action litigation, ban lawsuits against gun makers and fast‐​food distributors, cap medical‐ malpractice awards, and otherwise enlist the federal government in the tort‐​reform battle.

My objective in this article is not to document that tort reform is necessary or desirable. That has been effectively done by many others. Instead, I want to examine the types of reforms proposed—especially the extent to which they are compatible with our system of federalism.

The underlying premise is straightforward: No matter how worthwhile a goal may be, if there is no constitutional authority to pursue it, then the federal government must step aside and leave the matter to the states. If Congress decides to act, it has to identify authorization for each proposed reform.

One possible source of authority is the all‐​encompassing Commerce Clause. As the country grew, some people believed that many of its problems required national regulatory solutions. So Congress earmarked a specific constitutional power to justify its ambitious federal agenda. The Commerce Clause was the vehicle of choice.

But the central reason that the clause appeared in the Constitution was quite different. Under the Articles of Confederation the national government lacked the power to regulate interstate commerce. Each state was free to advance local interests and create barriers to trade, without regard to prejudice against out‐​of‐​state interests. The solution: a constitutional convention at which, according to Justice William Johnson, “If there was any one object riding over every other … it was to keep the commercial intercourse among the States free from all invidious … restraints.”

Today, instead of serving as a shield against interference by the states, the commerce power has become a sword wielded by the federal government in pursuit of a boundless array of socioeconomic programs. But just because products are transported across state lines and sold to customers in several states, that does not justify federal intervention. To legitimately invoke the Commerce Clause, Congress must show that federal action is both “necessary” and “proper” to ensure the free flow of interstate trade. When it comes to tort reform, neither criterion has been met. Substantive federal reforms are not necessary because the states are enacting their own reforms. Substantive federal reforms are not proper because they cannot be harmonized with traditional concepts of federalism.

Tort damages, even if related to a product that crosses state lines, are very different from a tariff on interstate trade. The objective of a tariff is to raise money and favor in‐​state businesses by discriminating against out‐​of‐​state businesses. That maneuver is contrary to our federal system and justifies countermeasures under the Commerce Clause. By contrast, the purpose of the tort system is to redress grievances—a state‐​based function for more than 200 years. Yes, if a state’s tort law favors local constituents, that might implicate the Commerce Clause. But discriminatory laws can still be fixed by implementing procedural federal remedies—about which more in a moment—leaving substantive tort law in the hands of the states.

Medical Malpractice
Consider the repeated attempts by Congress to impose medical malpractice reform on the states. Legislation that caps malpractice awards and limits attorney fees has been before Congress no fewer than eight times since Republicans took over the House of Representatives in 1995. The hypocrisy on both sides of the aisle has been thick enough to slice. For starters, the Democrats professed their abiding faith in federalism. They were the same Democrats who were apoplectic when the Supreme Court held in United States v. Lopez (1995) that states are perfectly capable of prosecuting the possession of guns near schools. Five years later, in United States v. Morrison, the Court held that victims of gender‐​motivated violence could not sue their assailants under federal law. Predictably, both baby steps to rein in federal authority were met by caterwauling from the Democratic left. But some Democrats seem to have rediscovered federalism when it comes to medical malpractice. Rep. Melvin Watt of North Carolina, for one, says: “[F]or the life of me, I can’t figure out what the federal nexus is.” Amen to that. Fans of federalism are happy to welcome Watt and any other latecomers to the fold. And surely the Democrats would be joined by Republicans, eager to affirm the GOP’s traditional respect for state sovereignty.

Well, no, actually the Republicans had a change of heart. The President called malpractice “a national problem that requires a national solution.” He added that “any time a malpractice lawsuit drives up the cost of health care, it affects taxpayers. It is a federal issue.” Rep. Tom Feeney of Florida claims to have “wrestled with the issue” of federal damage caps but decided it would be unfair if doctors, concerned about malpractice, denied treatment to Florida constituents. Local physicians unfairly ignore local patients. How does that raise a national constitutional question?

No doubt, Feeney is correct when he explains that outlandish jury verdicts can drive up insurance premiums and cause doctors to curtail services. And no doubt that scene could unfold in more than one state—perhaps threatening a malpractice mess nationwide. But not every national problem is a federal problem. State legislators, courts, doctors, and their patients are not

Let’s start with the facts. Curtis Campbell’s negligent driving killed one person and permanently disabled another. Campbell himself was not hurt. His insurer, State Farm, refused to settle the case for the policy limit of $50,000. Instead, State Farm elected to litigate and told Campbell he had nothing to worry about. The Utah jury had other ideas and found Campbell liable for roughly $186,000—that is, $136,000 over the policy limit. Campbell sued State Farm for bad faith, fraud, and emotional distress. State Farm ultimately paid the full $186,000, but Campbell was awarded $1 million in compensatory damages and $145 million in punitive damages.

The award was short‐​lived. Justice Anthony Kennedy, writing for a six‐​member majority, put it bluntly: “This case is neither close nor difficult. It was error to [grant a] $145 million punitive damages award.” The Court said the facts of the case probably justified a punitive award of about $1 million, the same as compensatory damages. The conduct was not all that reprehensible. Campbell was not physically injured. And comparable civil fines for fraud were only $10,000. As to the ratio of punitive‐​to‐​compensatory damages— 145 to 1—Kennedy made it clear that the Utah courts had overreached. He did not impose a bright‐​line test, but he did say that few punitive awards should ever be higher than 10 to 1.

That was the majority opinion; now the three dissents. First, Justice Ruth Bader Ginsburg, who accused the Court of judicial activism—substituting “its judgment for that of Utah’s competent decision‐​makers.” No doubt the Court does assume a quasi‐​legislative role when it establishes guidelines for punitive damages. Apparently that bothers some “liberals,” like Ginsburg, some of the time—like when a federal court overturns a huge award against a corporation. More often, however, the “liberal” justices are accused of judicial activism, and the conservatives insist on judicial restraint.

Judicial Activism versus Judicial Restraint
Those terms are misleading. Judicial restraint does not mean deferring to a legislature or court that has exceeded its constitutional authority. The crucial question is whether a statute or common‐​law verdict violates the Constitution. Ultimately, that determination is up to nine justices: not by imposing their own policy preferences—that would truly be judicial activism—but by applying the Constitution, based on a proper theory of that document grounded in the Framers’ notions of limited government, separation of powers, federalism, and individual liberty.

To be sure, we are asking courts to decide whether an award is excessive. But judges are frequently called on to make such assessments. Conceptually, an evaluation of excessiveness in the context of a punitive‐​damage award requires much the same thought process as the interpretation of other murky terms throughout the Constitution, terms like cruel and unusual punishment, probable cause, unreasonable searches, and just compensation, which our courts regularly must explain.

In State Farm no statute dictated the outcome—just the common law of tort, as interpreted by judge and jury. An appellate court is uniquely qualified to review the common‐​law decision of a lower court. So the real debate in State Farm did not center as much on separation of legislative and judicial powers as it did on federalism: whether the U.S. Supreme Court can set punitive‐​damage guidelines for the state of Utah. And that debate revolves around substantive due process, the doctrine sometimes invoked by federal courts to prevent states from violating substantive rights presumably secured by the Fourteenth Amendment.

Which brings us to the dissents by Justices Thomas and Scalia. Thomas’s State Farm dissent is little more than one sentence: “The Constitution does not constrain the size of punitive damage awards.” Scalia’s dissent is not much longer: “The Due Process Clause vides that the same legal rules applicable to a private claim by an injured party will also be applicable if the government sues to recover indirect losses related to the same injury.

Recall the states’ lawsuits against the tobacco industry, intended to recoup Medicaid outlays for smoking‐ related illnesses. Here is what the president of the Maryland Senate blurted to the Washington Post in describing his state’s litigation: “We agreed to change tort law, which was no small feat. We changed centuries of precedent in order to assure a win in this case.”

Under the proposed Fairness in Litigation Act, the same rules of evidence, the same standards of responsibility, and the same burden of proof would apply to the state standing in a plaintiff’s shoes as to a plaintiff suing on his own behalf.

Federal Reforms
Finally, aside from state‐​based reforms, there are at least two areas where the federal government can intervene without offending long‐​established state prerogatives. The guiding principle is that the federal legislature and courts are authorized to act when there is a high risk that states will appropriate wealth from the citizens of other states. One federal reform consistent with that principle is to amend the rules that control state exercise of so‐​called long‐​arm jurisdiction over out‐​of‐​state businesses.

Congress could, for example, preclude a local court from hearing a case unless the defendant engages directly in business activities within the state. A company’s mere awareness that the stream of commerce could sweep its product into a particular state should not be sufficient to confer jurisdiction. Companies are “aware” for example, that their products could be re‐​sold or transported almost anyplace. Instead, jurisdiction should be triggered only if the company purposely directs its product to the state; that is, the company itself exerts control over the decision to sell in the state. A sensible rule like that would give firms an exit option: they could withdraw from a state and thereby avoid the risk of a runaway jury or biased judge, even if the company’s products somehow end up in‐​state. Today, federal limits on long‐​arm statutes remain lax or ambiguous. For that reason, oppressive state tort laws remain a threat to out‐​of‐​state defendants.

There is a second federal reform that is compatible with federalist principles: a new federal choice‐​of‐​law rule, which would apply even when a company cannot afford to lose business by exiting from a state. Basically, choice of law is the doctrine that determines which state’s laws control the litigation when the litigants are from different states.

Generally, plaintiffs can and will select the most favorable forum state based, in part, on its tort laws. But suppose a federal choice‐​of‐​law rule were enacted for cases involving multi‐​state litigants. Suppose further that the applicable law were based on the state where the manufacturer was located. A manufacturer could decide where to locate, and its decision would dictate the applicable legal rules. Consumers, in turn, would evaluate those rules when deciding whether to buy a particular manufacturer’s product. If a manufacturer were located in a state that did not provide adequate legal remedies for defective products, consumers would buy from rival companies.

Would there be a race to the bottom by manufacturers searching for the most defendant‐​friendly tort law? Maybe. But more likely, states would balance their interest in attracting manufacturers against the interest of in‐​state consumers, who want equitable product‐​liability laws. In effect, healthy competition among the states would enlist federalism as part of the solution rather than raise federalism as an excuse for failing to arrive at a solution.

The touchstone of federalism is not states’ rights but dual sovereignty—checks and balances designed to promote liberty by limiting excessive power in the hands of either state or federal government. When a state exercises jurisdiction beyond its borders, discriminates against out‐​of‐​state businesses, or fails to give companies adequate notice of what is required by the law, the federal government should intervene. Otherwise tort reform is not the business of Congress.

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