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Richard Epstein

It is widely agreed that housing markets are a mess. The run-up in prices before 2006 was fueled in large measure by a cheap money policy that allowed individuals to overbid on real estate and then mortgage the properties to the hilt. Once the house of cards came tumbling down, many of the mortgages went into default. In other cases owners kept up their mortgage payments on "underwater" property--where the amount of the lien exceeded the market value of the property.

The risks involved in these cases were all systematic, which means that the problems were not confined to the personal circumstances of this or that buyer. Systematic solutions are needed, and unfortunately, since 2008, the policies chosen have only perpetuated the difficulties. The root of the difficulty lies in the treatment of foreclosure remedies.

The traditional legal attitude on this point was clear: foreclosure was strict, delays were not tolerated. The lender had to prove nonpayment of the loan, at which point, he was entitled to reclaim possession of the property. He was also entitled to renegotiate the terms of the loan, if he were left better off by the extension than by foreclosure. The only role for the legal system was to make sure that these contracts and contract modifications were enforced to the letter.

The logic behind this position is simple. Once a borrower falls behind in his payments, and knows that foreclosure looms in the future, two motives dominate. First, don't make any payments on the mortgage because eventually you won't be able to keep it anyhow. Second, don't perform any maintenance on the property above and beyond the minimum. To maintain your property when defaulting on your mortgage is to be a sap, and to make expenditures that will only help your creditor.

Strict foreclosure forces the defaulting owner out onto the street. That is all to the good: of course, these people will need housing, but they will purchase some at far lower cost, or, more likely, return to the rental market, which demands less by way of capital. The unit then can be resold by the bank at its market value, where new buyers can afford the smaller mortgage, and make a larger down payment that will tend to stabilize the situation. After some hiccups, the situation would become far more stable.

Unfortunately our policy makers thought they had a better idea. Their first imperative was to keep the borrower in possession by delays and formalities, ignoring all these serious externalities. That policy has now failed, so other bad ideas have been put forward. At the federal government level, a Home Affordable Modification Program (HAMP) has been put into place on the ground that pressuring lenders to defer foreclosure will improve the situation. Instead it threw good public dollars after bad, prolonging the agony.

Now we have another equally bad proposal to intervene in the mortgage market. Recent pieces in the New York Times by Joe Nocera and Robert Schiller, have eagerly embraced an idea put forward by Cornell University Law Professor Robert C. Hockett. In an incredibly tedious and self-important article, Hockett suggests that local government agencies use eminent domain power to condemn mortgages that are underwater but not yet in default--at reduced prices (what Nocera calls "steep but fair discount")--and then let some municipal authority refinance the loans and resell them in bundles for a profit to the agencies in question. Naturally such a scheme would require a middle man, and a fat fee. Mortgage Resolution Partners (whom Hockett advises) is happy to play that role.

The idea has already been rightly panned by the Wall Street Journal. But the entire proposal needs still further consideration. First off, Hockett and his group insist that there is a huge collective action problem that prevents the rationalization of mortgage matters. And there is. It is called local government regulations that have blocked the foreclosure measures set out above. Handle those and the externalities to which they refer disappear. No longer do we have owners neglecting property or clogging the courts with endless motions.

Next, note that this whole proposal seeks to create something out of nothing, and like all such schemes, necessarily fails. The initial argument in favor of this position is that the state can condemn for public use a mortgage, just like it can condemn any other property. The current definitions of public use are so broad, that the transfer of money from one pocket to another might now qualify, which is hardly a ringing endorsement of why this ploy should be adopted.

The just compensation requirement here is a lot stiffer, and the right question to ask is just where the increase in social value comes that justifies all the financial sleight-of-hand that goes on. And here there is only one way to make the numbers work, which is to rob the current mortgage holder blind.

The key question to ask is this: why do people whose property is underwater not walk away from the property? The answer is that the subjective value of the home to them exceeds the value of the mortgage, even if the mortgage exceeds the sale price of the property. If therefore the mortgage is not in default, there is a good chance that it will stay out of default for some time to come. At that point, using a valuation process that compares mortgage amount to market value systematically undervalues the mortgages and forces the groups that hold these mortgages to part with them for a fraction of their value. The government in other words cherry picks the portfolio with a free option to take mortgages for less than their intended worth.

The scheme is, moreover, subject to all sorts of political corruption, for once borrowers know of the system, they can collude with the so-called middlemen to have their mortgages on the list. After all, what borrower is against paying less. So this turns out to be nothing more than a fancy con game, in which two parties use the power of eminent domain to pillage a third. The idea has been proposed for the City of San Bernardino, which is itself bankrupt. If this system is allowed to go forward, it too will be bankrupt--morally as well as financially.

Richard A. Epstein is the Laurence A Tisch Professor Law at New York University, the Peter and Kirsten Senior Fellow at The Hoover Institution, and the James Parker Hall Distinguished Service Professor of Law and senior lecturer at the University of Chicago, as well as a visiting scholar with the Manhattan Institute's Center for Legal Policy.

Ted Frank

Published on 01/25/12

Last week, several Internet sites protested against two bills, the Stop Online Piracy Act and Protect IP Act, that would take a heavy-handed approach to preventing copyright infringement.

Though the movement was led by left-leaning technology sites, the SOPA/PIPA kerfuffle has the potential to demonstrate why conservative principles are important.

The problem with SOPA and PIPA was their broad scope. The bills went beyond primary infringers to impose criminal penalties on search engines and service providers that linked to infringing domain names.

The threatened censorship of the Internet -- hundreds of innocent sites could be blocked because of alleged infringement by a single blog -- led many sites to go "dark" for a day to protest SOPA's drastic consequences.

It was certainly amusing to watch thousands of teenagers take to Twitter to complain, profanely, that in the absence of Wikipedia and other sites, they had no place to go to plagiarize their homework assignments.

But, more importantly, several senators and representatives, including a number of former supporters of the legislation, announced their opposition.

Hollywood, which has predicted catastrophic consequences from piracy since the now-obsolete VCR became commonplace decades ago, is outraged and continues to support the legislation -- but it now seems clear that SOPA and PIPA will not become law without substantial modifications.

In the meantime, some observations:

First, we should be thankful: Legislative "gridlock" is a feature, not a bug, of our constitutional system. We often see parties in power complain how hard it is to get legislation passed, but the number of bottlenecks in the system means that legislation is considerably less likely to pass without consensus.

Without these bottlenecks, special interests would find it far easier to ram through bad legislation like SOPA. The deliberate pace of legislation gave time for Internet opponents to mobilize.

Second, both bills demonstrate the problem of overcriminalization. All too often, a special interest asks Congress to "fix" a problem by threatening to send more people to prison.

When criminal law goes beyond punishing intentional, violent and fraudulent behavior to ensnare innocent business people guilty only of running afoul of complex and technical regulations, the chilling effect on free enterprise and job creation can be tremendous.

Bloggers had fun pointing out the number of instances where SOPA supporters were violating the proposed law, but millions of Americans already unknowingly violate hundreds of other laws on the books.

When everyone is a criminal, federal prosecutors have the awesome power to pick and choose who will have their lives ruined. The possibility of politically motivated prosecutions is a severe danger to liberty.

Third, Congress passes bills all the time without knowing what's in them, each time with dramatic unintended consequences. Bloggers were outraged at a congressional hearing where committee members had no clue about the damage SOPA was going to do to the Internet.

Further, they seemed to care very little about the effect of their ignorance. But this ignorance extends far beyond the Internet. Limited-government conservatives oppose bad legislation like Dodd-Frank and Obamacare because of the unintended consequences and adverse effects of government meddling in the market.

Finally, the successful opposition to SOPA demonstrates the importance of corporate free speech. It has become trendy on the left to assert after Citizens United that corporations are not people, and thus have no free-speech rights; there's even a constitutional amendment to that effect pending.

One wonders how far that argument goes: Do corporations have no Third Amendment rights, either, allowing the government to quarter troops at the Ritz? Corporate free speech made a decisive difference in the SOPA/PIPA debate. The media, generally SOPA supporters, were unwilling to cover the issue until corporations like Google and Wikipedia forced them to pay attention. The Left should re-evaluate its attempt to limit political speech.

The near-catastrophic passage of SOPA demonstrates the power of limited-government principles. Conservatives should use it as a teaching moment.

By Walter Olson

Reprinted from the Wall Street Journal, September 24, 2005

Sometimes it takes a good lawyer to get an insurance company to pay up on the promises it made. But if you want insurers to pay billions on promises they never made—risks they were at pains to avoid underwriting, never collected premiums for, and never set aside reserves against—then a pair of very special lawyers, Jim Hood and Dickie Scruggs, are at your service.

In case you're arriving late, insurance pros worldwide stood transfixed last week at the news that Mr. Hood, the elected attorney general of Mississippi, and his ally Mr. Scruggs, the Pascagoula wheeler-dealer known for his role in the $246 billion tobacco litigation, were suing to invalidate—as "unconscionable" and contrary to public policy—the standard flood exclusion in every Magnolia State homeowner's contract. Assuming ordinary readings of policy language, the early estimates have insurers on the hook for a record $40-$60 billion in Katrina payouts. Knock out the flood exclusions and that exposure will increase by many billions more—scores of billions if the principle gets applied in Louisiana.

Wouldn't that bust some otherwise solvent insurers? Sure, but Mr. Scruggs—a key donor to many politicians and judges in his state, as well as brother-in-law of former Sen. Majority Leader Trent Lott—isn't worrying. "I'd rather see an insurance company go broke than the tens of thousands of my friends and neighbors in Mississippi, Alabama, and Louisiana go bankrupt," BestWeek has him saying.

There are some genuine, knotty issues that will arise in resolving Katrina coverage. Ambiguous policy language, unsettled issues of state law, situations in which a structure was damaged first by wind and then by floodwater—all will fuel litigation by policyholders, some of it meritorious. But that's quite a different question from whether clear and long-standing contract language should be tossed in the wastebin.

The flood exclusions, Mr. Hood asserts, were hidden "in the fine print" of coastal residents' policies. If so, it was some of the most publicized fine print in history. "Homeowner's insurance doesn't cover flood damage"—blares the warning on one of the federal government's own consumer-affairs Web sites. In fact, the well-known exclusion dates back decades and has been generally respected by courts.

"Unconscionable"? Contrary to "public policy"? The exclusion prevails in all 50 states, including those states—Mississippi is one—where regulators must okay the offering of new standard policies. Mississippi's insurance authorities, like their counterparts elsewhere, had green-lighted the flood exclusion, amid little controversy.

Then there's the federally sponsored flood insurance program, which exists in large part because storm surge perils in hurricane country are considered too severe to insure commercially at politically palatable rates. For years, insurance agents and the government have urged property owners to buy that added coverage. But why should they bother, if the Hood/Scruggs arguments are to be taken seriously? Can't their ordinary homeowners' policies just be redefined retroactively as covering the risk?

Criticized in the past for his close ties to the state's powerful trial lawyers, Mr. Hood has often been at odds with Republican Gov. Haley Barbour (with whom he is not obliged to coordinate his activities). In a way, Mr. Hood is simply taking to an extreme the failings of that familiar category of public official, the grandstanding state attorney general. Every element is there: the headline-chasing, the demonization of unpopular businesses, the cozy relationship with private attorneys suing those same businesses, the posturing about being on the "people's" side at the expense of any coherent or defensible legal principle.

It's hardly a coincidence that it was Mr. Hood's predecessor, Mike Moore, who, in league with Mr. Scruggs, dreamed up the disgraceful $246 billion state tobacco/Medicaid caper. Back then, some businesspeople seemed to imagine cigarette makers were going to be the first and last targets of the emerging AG/trial-lawyer axis. They weren't.

Insurance spokespeople ordinarily issue muted responses when politicians attack, but not this time. "You cannot have a capitalist economy where contracts are ignored," noted Robert Hartwig of the Insurance Information Institute, who said Mr. Hood's lawsuit is "an affront to the Constitution and sets a horrendous precedent." So, can't State Farm, Allstate and others cite Article I, Section 10 of the U.S. Constitution, which provides that "No state shall. . . pass any. . . law impairing the obligation of contracts"? Unfortunately, the Supreme Court in Blaisdell, a 1934 New Deal case, gave states free rein to nullify contracts so long as "the legislation is addressed to a legitimate end and the measures taken are reasonable and appropriate to that end." If you think that guts the originally intended protection, maybe you're part of that "Constitution in exile" movement we keep being warned about.

Should the Hood-Scruggs theory be taken seriously, the bankrupting of some insurers and the diversion of money from insureds in other states will only be the start. The wider problem would be that both reinsurers and primary insurers are likely to head for the hills rather than underwrite future conventional policies in Mississippi, or indeed any jurisdiction judged capable of electing a Hood to high office. At a minimum, they're likely to demand a steep premium to compensate for legal risk.

Alarmist? Mississippi insurance commissioner George Dale is already worried that as panicked insurers pull out of the state, first-time customers—such as construction contractors moving into the area—will be among the earliest casualties: "Contractors got to have insurance; they can't build without insurance."

We've had the natural disaster. Let's hope it's not followed by legal disaster.

Mr. Olson is a senior fellow at the Manhattan Institute and author of The Rule of Lawyers (St. Martin's, 2003).

By Ramesh Ponnuru

Ramesh Ponnuru and the National Review have graciously allowed us to reprint his article "Social Injustice," which discusses the inroads trial lawyers are making with the political right, through socially conservative populists among their midst. We've also been allowed to attach an exchange in the letters-to-the-editor section of the magazine, in response to the column (download PDF).

The website for the Center for a Just Society, a new social-conservative group in Washington, has a lot of the items you would expect to see: denunciations of embryonic-stem-cell research; calls for an end to the filibustering of Bush's judicial nominees. The quality of the writing at ajustsociety.org is a cut above what you would find from most social-conservative organizations, and the range of issues is slightly wider. The Center attempts to bring "Judeo-Christian perspectives" to bear on topics that social conservatives have traditionally ignored. Thus it makes a moral case for Social Security reform. What most sets the Center's website apart from the sites of other conservative organizations, however, is what it has to say about tort reform. Or, rather, "tort 'reform.'"

In one of the statements on its website, the Center writes: "[T]here is a widespread effort underway to take away our right to a trial by jury. Those pushing this wrong-headed agenda claim that it will reduce the costs of healthcare and eliminate 'frivolous lawsuits.' . . . [T]ruth be told, the agenda behind the agenda [emphasis in original] has less to do with lowering the cost of healthcare and eliminating frivolous suits and more to do with immunizing wrongdoers from the consequences of their behavior."

This perspective reflects the views of the Center's chairman, Ken Connor. He is best known as a social-conservative leader. He was president of the Family Research Council, and he represented Florida governor Jeb Bush in the Terri Schiavo case. (The Center was in the thick of the Schiavo fight as soon as it set up shop, back in March.) But he has also had a long career as a trial lawyer suing nursing homes for what he calls "elder abuse."

The Center is in its infancy. It does not even have an office yet. Its advocacy of tort reform has not received much attention. The most impact it has had came when Focus on the Family, James Dobson's much larger and more influential conservative organization, publicized its description of the Republicans' medical-liability reform bill as an attack on the sanctity of life. But the Center may represent an emerging trend. There are some signs that social conservatives and the trial bar may be making common cause—which means that on litigation reform, the social and economic Right may be headed for a split. Whether that split occurs will depend on whether the social Right can see through the misleading slogans of the trial bar.

ALLIANCES IN FLUX

In the weeks between Justice Sandra Day O'Connor's announcement that she will retire from the Supreme Court and President Bush's nomination of John Roberts to replace her, there were reports of tensions between Bush's social-conservative and business supporters. Social conservatives didn't want a new justice in O'Connor's mold. They were fond of originalist jurists such as federal appeals-court judge Michael Luttig. Business lobbies worried, however, that Luttig was less likely than O'Connor to impose limits on punitive damages in lawsuits against corporations.

Harry Reid, the leader of the Senate Democrats, seemed to pick up on this tension. He said that several Republican senators would make fine replacements for O'Connor: Mike Crapo of Idaho, Mike DeWine of Ohio, Lindsey Graham of South Carolina, and Mel Martinez of Florida. His list omitted two Republican senators who had more frequently been mentioned as possible nominees to the Court: Jon Kyl of Arizona and John Cornyn of Texas. When asked about the omission of Cornyn, Reid said that he had already listed his picks. All six of the senators have socially conservative voting records. Walter Olson, the author of several of the most important books making the case for tort reform, spotted the distinction among them: Kyl and Cornyn have taken the lead on tort reform, while the other four have often voted with the plaintiffs' bar against most of their Republican colleagues. Crapo, Graham, and Martinez are, indeed, former trial lawyers.

In the end, however, Bush ignored Reid's advice. By choosing Roberts, he was able to mollify both business and social conservatives. Neither constituency knows that he will vote with it, but each has some reason to think that he might. The conservative coalition did not split.

At least, it hasn't yet. But that list of senators who used to be trial lawyers suggests one of the reasons that tensions will persist: There are socially conservative trial lawyers. The profession abounds with politically talented, rich, and influential people. While conservatives have not tended to regard the courts as instruments of social change—as much of the tort bar reflexively does—there are bound to be some outliers. With the Republicans in charge of Washington and threatening the livelihoods of trial lawyers, it stands to reason that the latter would, as the lobbyists say, "reach out" to the Republican party. Connor recently spoke at a convention of the Association of Trial Lawyers of America urging the group to do just that. He says he was received "extraordinarily well."

Connor argues that while some Republicans—the "bluebloods" at the "apex" of the party—have an economic interest in fighting trial lawyers, the "blue collars" at the "base" of the party are against trial lawyers only because the trial lawyers have allied themselves with the Democrats. If the trial lawyers end that alliance, he thinks, common ground could be found.

THE MORALITY OF LAWSUITS

Connor's organization argues that the tort system is valuable because it holds corporate wrongdoers accountable. It thus affirms the value of responsibility and, when injuries or fatalities result from corporate misconduct, the sanctity of human life. In certain respects, this claim is obviously true. But tort reformers are not composed exclusively of corporate wrongdoers, their flacks, and their dupes. As Olson puts it, "Much of the popular success of the litigation-reform side has come precisely from people's feelings that the outcomes of litigation don't track our moral sentiments very closely, and seem to track them less well over time."

Take nursing-home litigation. Until 2001, Connor's native Florida had a "resident's rights" law that allowed plaintiffs to recover damages from nursing homes without proving negligence. Nursing homes were often sued over bedsores—even though they are hard to avoid for invalid patients. Ted Frank, who runs the American Enterprise Institute's Liability Project, points out that "Christopher Reeve, who had the finest medical care money can buy, died from a bedsore infection." And the nursing homes faced a Catch-22: They were not allowed to restrain patients who suffered from dementia, but were liable if those patients hurt themselves in a fall. Frank concedes that some lawsuits involved "really substandard care," but says that too many attempted to "hold companies responsible for things they had nothing to do with."

The law forced many nursing-home companies into bankruptcy, causing a shortage. By 1998, one out of every four Medicaid dollars spent on nursing homes in the state was going to pay liability costs. Connor's partner, Jim Wilkes, the lead attorney on most of Connor's nursing-home cases, spent more than a million dollars trying to block limits on liability. The Florida chapter of AARP actually supported the 2001 reform, perhaps swayed by the thought that elderly Floridians needed nursing homes more than the trial lawyers needed the money.

Or take asbestos litigation, which has done more to reward wrongdoing than to punish it. Asbestos claims have soared in recent years even as the incidence of asbestos-related diseases has declined. Lester Brickman, a professor at the Cardozo School of Law, credibly alleges that the explanation is that 80 to 90 percent of recent claims are fraudulent. Lawyers have coached witnesses to make false testimony and get false diagnoses, and then sued companies that played the most minor of roles in the asbestos industry. Not all trial lawyers are, of course, guilty of these tactics. Many trial lawyers, especially those who represent clients whom asbestos actually made ill, are appalled by the false claims. But it is hard to avoid the conclusion that the system has strayed rather far from holding wrongdoers accountable.

The Center for a Just Society is certainly right to say that not everything that travels under the name of tort reform deserves support. It argues, correctly, that federal tort reform can trample on state prerogatives. If a state has lawsuit laws that lead doctors to leave it, it ought to be the responsibility of the state's voters and politicians to change those laws. On the other hand, frivolous product-liability lawsuits can't be avoided by skipping the border. No state can shield a drugmaker or medical-device manufacturer located in its jurisdiction from abusive lawsuits filed in other states. In such cases, it's up to the federal government to protect interstate commerce by restraining the states. The Republicans' medical-liability bill should be amended so that it touches only interstate commerce. But the trial lawyers, and the Center, oppose the whole thing.

LIFE AND LITIGATION

The Center opposes the bill on the theory that it is "pro-abortion" because it provides immunity to the makers of RU-486 (the "abortion cocktail"), and prescribing doctors, from lawsuits by the families of women who die as a result of the drug. But this immunity is partial. What the bill says is that if a product or treatment complies with federal regulations, the people who made the product or supervised the treatment can't be sued for punitive damages if something goes wrong. They can be sued for compensatory damages, including damages for causing pain and suffering. But if they're compliant with FDA regulations, for example, the courts shouldn't punish them. The makers of RU-486 already enjoy some legal immunities thanks to Bill Clinton. But even if they didn't, the Center's argument would be faulty. Just as conservatives would not favor raising corporate-tax rates in order to drive companies involved in abortion out of business, they should not oppose efforts to improve the legal environment for corporations because they might help companies involved in abortion.

John Edwards illustrates the bankruptcy of the "pro-life" case for pro-plaintiff medical-malpractice laws. Suing obstetricians for causing cerebral palsy by failing to do C-sections was one of his most profitable lines of litigation. He has boasted about how he swayed jurors by assuming the voice of an unborn child pleading for help. But the evidence strongly suggests that cerebral palsy is usually genetic in origin, and almost never the result of a botched delivery. (One piece of evidence: C-sections have grown more common over the last few decades, while the incidence of cerebral palsy has stayed the same.) Lawsuits, and the resulting malpractice-insurance premiums, have driven obstetricians away from some areas.

In a forthcoming paper for the Journal of Legal Studies, law professor Jonathan Klick and economist Thomas Stratmann provide reasons to believe that such lawsuits result in infant deaths. Specifically, they find that caps on punitive damages in medical-malpractice lawsuits bring infant-mortality rates down. More doctors practice in states that adopt them. The health benefits flow primarily to black infants in rural areas. Klick thinks that federal legislation might have a positive effect on infant mortality, too (although he is careful to note that he does not endorse the legislation). The study undermines the claim that medical-malpractice reform is anti-life.

When John Kerry picked Edwards as his running mate and Republicans attacked the latter for being a trial lawyer, Connor rushed to his defense. But if Connor is concerned about the bad name trial lawyers have in some circles, perhaps he should have blamed lawyers such as Edwards rather than their critics. Connor says, "Trial lawyers should be viewed as stewards of the civil justice system." They will not be viewed that way, however, if a sizable number of them are not acting as such.

The right to a jury trial, meanwhile, isn't nearly as threatened as the Center—and the tort bar—would have you believe. There are, it is true, some proposals floating around to handle medical-malpractice cases through the kind of administrative compensation schemes that long ago took over workers' compensation. But legislated caps on damages aren't an affront to the jury system, any more than are statutes blocking juries in criminal trials from imposing life sentences for shoplifting (to borrow a comparison from Olson). The historical value of the jury was as a brake on the power of the courts. Their role has not been to enable the courts to take actions that the legislature refuses to authorize.

The issues involved in tort reform are complicated, and people can disagree about them in good faith. The Center for a Just Society might well lead social conservatives to make a contribution to this debate (among others). Connor says that the Center will come out for making the losing party pay for civil litigation—a potentially far-reaching reform. If the Center does that, it will be hard for anyone to argue that it is merely a front for the trial lawyers.

But social conservatives ought to keep in mind that the current system features, and even encourages, all kinds of squalid behavior. Lawsuits are filed as fishing expeditions. Firms that have not done anything wrong are targeted because of their deep pockets. Simple fraud is more than occasionally perpetrated through the courts. All of these are forms of bearing false witness. And "Judeo-Christian perspectives" on that have not been positive.