11/01/2007

11-01-07 - 5

Many people think the "legal system is out of hand" and punitive damages are too high. (Of course this perception is largely fueled by heavy marketing from the corporations that are the targets of suits). In fact, I contend that punitive damages are almost always too low.

In our system, lawsuits are basically the only checks on many types of illegal behavior or predatory practices. For example, companies are not required to prove their products are safe (except for very narrowly defined pharmaceuticals). If a company sells a dangerous product, the government doesn't pursue it, it's up to lawsuits to punish them.

In order for this check to be effective, it has to be damaging enough that the company is motivated to not release the dangerous product (or to pollute, or manipulate markets, or whatevber). Let us first banish the thought that the company will voluntarily do the right thing - first of all if you're a capitalist free-marketeer you must assume the company acts in the interest of maximal profit and with no other motivations, and second of all history certainly seems to show that almost no company ever gives up a profit opportunity because it is harmful to the populace or the planet. If they do choose to give up a profit opportunity it's because the risk and potential damage from getting caught is too great.

Finally we must face the reality that for most of these crimes the probability of getting punished is very very small. If we consider some of the most common crimes that companies commit - creation of illegal shells to manipulate profit reports, tax evasion or use of illegal tax shelters, pollution, illegal use of part time employees to deny benefits, selling of products that are known or suspected health risks (often through simply choosing not to test or ignoring tests or advice to test), advising bad financial decisions in order to increase commisions, etc. etc. - all of these have very very low chances of getting caught, perhaps 1%. For one thing the particular incident has to manifest itself in such a bad way that it causes demonstrable harm to an individual. Often that is hard to do. Consider the case of meat packers who are unsanitary. They have to not only pack some bad hamburger, it then has to be undercooked, the person has to actually contract E.Coli, and then probably has to die in order to generate a significant suit, each of those has a very low chance of actually happening.

So, in order to be correctly financially motivating, the punitive damages have to be large enough to beat the very low chance of the suit succeeding. A company cheating on its taxes might see it can save $10M with a certain tax shelter. The chance of actually getting busted is maybe 1%. That means the damages should be 100X , or $1B. This seems ridiculously excessive, but that is the MINIMUM damages to just make cheating a break even proposition, at that level they aren't even actually losing anything by cheating. In order for them to really be disuaded, damages should even be higher.

This is probably even more obvious with small claims against big corporations. Say your cell carrier does something rotten in your contract and overcharges you $100. That is 100% free money for them. Even if you take them to court and win, you will only be rewarded the $100. So they have some chance of just getting to keep it, worst case they lose the money that was yours anyway. In order for them to be motivated not to do it, the punitive damages should be 100X - 1000X the actual damages.

With something like environmental disasters (see the recent BP refinery disaster for example) the companies usually have to pay something close to the cost of cleanup. For one thing this doesn't come close to estimating the real cost, which should include the cost of losing the use of that land for years and the very long term and unknowable effects on the ecosystem. But even if you did include all those costs it wouldn't be nearly a large enough penalty. The penalty should be multiplied by the chance of the accident happening and them getting punished.

For similar reasons, doctor's malpractice insurance should be illegal. It completely removes the motivation for them to be careful, and they definitely need more motivation as evidenced by the high rate of surgical instruments left inside people, lack of hand washing, wrong-side surgeries, etc. etc. tons of mistakes that are just sloppiness.

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