Regulation and Litigation Conference

September 11-12, 2009
Daniel Kessler and Andrei Shleifer, Organizers

W. Kip Viscusi, Vanderbilt University and NBER; and Joni Hersch, Vanderbilt University
Tobacco Regulation through Litigation: The Master Settlement Agreement

The 1998 Master Settlement Agreement resolved the unprecedented litigation in which the states sought to recoup the cigarette-related Medicaid costs. The litigation was settled through a combination of negotiated regulatory requirements and financial payments of about $250 million over 25 years. Viscusi and Hersch point out that settlement payments received by states are strongly related to smoking-related medical costs but are also related to political factors. The payments largely took the form of an excise tax equivalent, raising potential antitrust concerns. The regulatory restrictions imposed by the agreement also raised antitrust concerns. The increase in advertising and marketing expenses has largely taken the form of price discounts. However, there has been no evident shift in industry concentration. The settlement sidestepped the usual procedures pertaining to the imposition of taxes and the promulgation of new regulations.

Adam Gailey, RAND; and Seth Seabury, RAND
The Impact of Employment Protection on Workers Disabled by Workplace Injuries

Employment protection for the disabled requires employers to make "reasonable" accommodations and bars them from discriminating in hiring and firing. Gailey and Seabury argue that these accommodations can reduce workers' compensation benefits that are paid to workers who become disabled because of a workplace injury. They examine the employment outcomes of workers' compensation recipients and other disabled workers after changes to the California Fair Employment and Housing Act (FEHA). Their findings suggest that changes to FEHA that required greater accommodations were less likely to reduce employment for workers' compensation recipients than other disabled workers.

Frederick Schauer, University of Virginia;Richard Zeckhauser, Harvard University and NBER
The Trouble with Cases

Spurred by the way in which tobacco, environmental, and other litigation has functioned as an alternative form of regulation, there is a debate about whether policymaking or regulation by litigation is more (or less) socially desirable than more traditional policy-making, by ex ante rule-making by legislatures or administrative agencies. Schauer and Zeckhauser seek to show that any form of regulation that is dominated by high-salience particular cases is highly likely to make necessarily general policy on the basis of unwarranted assumptions about the typicality of one, or a few, high-salience cases or events. This problem is virtually inevitable in regulation by litigation, yet it is commonly found in ex ante rule-making as well, because such rule-making increasingly takes place in the wake of, and dominated by, particularly notorious and often unrepresentative outlier events.

Tom Chang, University of Southern California; and Mireille Jacobson, RAND and NBER
Using Cap-and-Trade to Regulate Hospitals' Provision of Essential Services

While traditional command and control approaches dominate health and safety regulation, market based solutions increasingly are used to address environmental policy problems. Chang and Jacobson study one particular health policy - California's mandate that all general acute care (GAC) hospitals retrofit or rebuild to remain operational following a major earthquake - that could benefit from a market-based regulatory approach. The authors trace out the impact of the mandate on the State's healthcare system, demonstrating some unintended consequences for the availability of hospitals and the provision of charity care. They provide a back-of-the-envelope cost-benefit analysis indicating that the mandate would have to save upwards of 20,000 lives for it to be worth the cost. They propose a more cost effective "cap-and-trade" approach to ensuring hospital operations after a major seismic event that provides lessons for other policies requiring uniform compliance irrespective of costs or potential economies of scale.
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Philip J. Cook, Duke University and NBER; and Jens Ludwig, University of Chicago and NBER
Gun Control after Heller: Litigating against Regulation

Alison Morantz, Stanford University
Opting Out of Workers' Compensation in Texas: A Survey of Large, Multi-state Nonsubscribers

John Coates, Harvard University
M&A Break Fees: US Litigation vs. UK Regulation

The United States and the United Kingdom have well-developed economies and capital markets. They also share a legal tradition, including a liberal approach to economic activity. In some key areas of capital market governance, however, their legal systems formally diverge. Coates analyzes one difference, routinely of importance to M&A practitioners: the treatment of "deal protection" - that is, contracts that reduce the risk to a bidder of a competing bid -- such as "break fees" paid by a target if acquired by a competing bidder. The United Kingdom caps such fees with a bright-line rule set by a regulatory body. In the United States, courts review break fees in ex post litigation, applying a standard developed over time in the common law tradition. Coates explores the effects of this formal contrast between regulation and litigation on the same behavior by two similar countries, using data on bids, fees, bid outcomes, and bid litigation to determine whether the formal difference matters in practice, and whether and how the two approaches to governance change and diverge over time.

Stephen Parente, University of Minnesota
Exploring Ex Ante Regulatory Mechanisms for Detecting Prescription Drug Misuse

Prescription drug misuse affects several million people and results in direct medical costs for treatment of patients as well as indirect costs for society totalling billions of dollars per year. Most prescription drug misuse is detected after it has occurred (ex post) by law enforcement agencies working with the medical provider community. The current method for enforcement is litigation but an alternative regulatory mechanism might use health insurance claims data and expert systems/doctors/economists (specialist enforcers) to screen cases and to prevent the prescription destined to be misused from being filled. Parente uses a large employer population's claims data to identify a regulatory approach that might use existing algorithms to detect ex post misuse. His method shows that up to 1 percent of the covered lives in the employer's population may be associated with prescription drug misuse of controlled substances. The paper concludes with a discussion of how point-of-service fraud detection and intervention systems used by banks and credit card vendors could be adapted to institute a more preventive ex ante regulatory mechanism to stop the actual provision of medication intended for misuse.

Andrei Shleifer, Harvard University and NBER
Efficient Regulation

Shleifer revisits the case for efficient regulation, but from the law and economics perspective. His basic point is simple: the law and economics argument against regulation relies heavily on well-functioning courts. In so far as courts resolve disputes cheaply, predictably, and impartially, the efficiency case for regulation is difficult to make in most areas. Efficient regulation would be an exception, not the rule. But when litigation is expensive, unpredictable, or biased, the efficiency case for regulation opens up. And, if we think that the ubiquity of regulation, including in areas with extensive contracting and well-developed tort law, reflects efficient institutional adaptation, then Shleifer's argument indirectly points to extreme inefficiency of litigation. Regulation is ubiquitous because courts fail.

Tomas Philipson, University of Chicago and NBER; Eric C. Sun, RAND and University of Chicago; and Dana Goldman, University of Southern California and NBER
The Effects of Product Liability Exemption in the Presence of the FDA

In the United States, drugs are jointly regulated by the U.S. Food and Drug Administration, which oversees pre-market clinical trials designed to ensure drug safety and efficacy, and the liability system, which allows patients to sue manufacturers for unsafe drugs. Goldman, Philipson, and Sun examine the potential welfare effects of this dual system to ensure the safety of medical products, and argue-on economic efficiency grounds-for product liability exemptions for activities regulated by the FDA. When the safety level mandated by the FDA is binding-in the sense that manufacturers will not conduct additional clinical testing beyond what is mandated by FDA-then product liability may reduce welfare by raising prices without pushing firms, who are already bound by the FDA's requirements, to invest further in product safety. After considering as a case study the National Vaccine Injury Compensation Program, which sharply reduced vaccine manufacturer's liability in 1988, they find that the program reduced prices without affecting vaccine safety, consistent with the welfare-enhancement of product liability exemption in the presence of the FDA.

Richard Posner, United States Court of Appeals
Regulation (agencies) Versus Litigation (courts): An Analytical Framework

Economic analysis of law treats common law fields -- especially tort law, which provides legal remedies for physical, mental, or financial injuries caused by negligence, medical malpractice, nuisance (which includes pollution), defamation, defective products, misrepresentation, or other wrongful conduct -- as forms of regulation. The emphasis is thus on the deterrent effect of the threat of liability, rather than on the compensatory role of liability; compensation is thought better provided for by insurance. Common law is thus conceived of as regulation by judges -- not only because common law remedies are obtained by means of lawsuits against injurers but also because common law doctrines are made by judges. Posner compares common law (including federal common law, that is, common law made by federal judges) with administrative regulation as methods of social control: more precisely, he compares the common law type of regulation with the administrative type, recognizing however that administrators often use common law methods of regulation and that judges sometimes use methods similar to those of administrative agencies. Nevertheless, judges are considerably more comfortable with the common law approach, and agencies that rely on common law methods to regulate are generally thought to have forgone the distinctive advantages of administrative regulation. Posner asks whether litigation or (administrative) regulation is, overall, more economically efficient for regulating a particular activity. If public control is not superior to private ordering, then next question is why the private alternative has been rejected.

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