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Excessive litigation - negative force in the economy.

LITIGATION AND RELATED legal costs pose a mounting threat to the nation's economic progress. Business economists have long ignored or downplayed the impact of the legal system on the future course of the economy. This must now change by giving much more professional attention to the economic dimensions of legal processes.

The views expressed here are those of a business economist and not a member of the bar. They reflect extensive questioning of business executives, lawyers, jurists, legal administrators, academic specialists, public officials, and economists, among others, as well as personal observation and analysis. This subject is so encompassing that discussion will be primarily on the direct and indirect costs of legal services to business firms.

A strong legal system of course is vital to the ongoing functioning of the U.S. market democracy. The benefits are enormous. Moreover, lawyers generally seek to serve clients effectively and constructively following accepted principles. At present, however, excesses in at least some legal practices more and more are perceived to be imposing undue constraints upon important management decisions crucial to America's future economic growth and success.

A consensus is forming that the U.S. legal system faces crisis and correction in the years just ahead. Hopefully, the correction will come from within the system, but if not, it will inevitably come from outside.

Sentiment, across business in particular, is that lawsuits, legal costs, and related bureaucratic procedures are excessive and must somehow be brought under more control. A number of remedies are being proposed and at least a few are being implemented experimentally.

Comprehensive changes cannot be expected soon because of the stake that lawyers generally have in the status quo. Nevertheless, increasingly powerful economic forces, as well as looming conflict of interest issues involving legislators, judges, regulators, and general legal practitioners, point to changes ahead.

Admittedly, much of the general public has yet to perceive personally that the legal system constitutes an economic problem for the nation. Yet, rising legal costs, damage awards, and related settlements are pushing up overall living expenses and discouraging investment in new jobs.

Many individuals file lawsuits simply to harass. The public is being openly encouraged and solicited to sue to resolve almost any problem, commonly in anticipation of "rich" settlements. Corporations and banks in particular seem to be special targets. Their costs and competitiveness must reflect heavy legal expenses, sometimes referred to as a "tort tax."

After lawyers have been paid, actual results in numerous cases fall far short of expectations. Growing numbers of individual citizens and certainly business executives are becoming disenchanted with lawsuits as they come to realize the very substantial drain on their time, emotional energy, and money. Accordingly, rising public resentment against those controlling legal processes is to be expected as the negative legal tide impacts them personally. This may well be the spark that ignites substantial correction.

The American economic and political system seems to thrive on crises prerequisite to correction. Our nation seldom deals with problems while they are small. Presumably, optimism prevails that most problems will solve themselves or go away -- as they sometimes do. But frequently problems intensify to the point where they can no longer be ignored.

Correction in this nation tends to be dynamic, relentless, at times ruthless, likely to be fast moving once underway, and fairly unique, but commonly does bring constructive results. This is amply illustrated by recent developments in fields where chronic problems were allowed to become acute, such as finance, manufacturing, construction, welfare entitlements, government budgets, religion, and education.

Roots of correction vary and are often multiple. Frequently they are to be found in customer dissatisfaction, poor value and quality, changed competition, obsolescence, weak management and leadership, apathy, greed, and absence of vision. "Enough is enough" is often heard among critics as the correction process gets underway. This expression is being heard in connection with the law.

The U.S. legal system clearly seems to be drifting into the American correction queue, reinforced by growing concern that the system and verdicts are out of balance and tend to favor plaintiffs vs. defendants.


A battle over legal statistics is getting underway. An increasing number of scholars in the legal field are seeking answers to many of the sweeping charges of excesses in the legal system. This, of course, is a very healthy development. The need for more facts is quite apparent.

But strong adverse perceptions from firsthand experience and observation as well as a related major upsurge in conventional negative wisdom will not be easily denied.

The professional papers that thus far have appeared tend not to deny problems in the legal system, but challenge severity or seek to explain that the "other side" has been ignored or misrepresented. More and more legal professionals now find themselves on the defense against plaintiff critics who are demanding relief.

One example is that our country is frequently cited within and outside our boundaries as the world's most litigious nation. Debate rages over what percentage (35 to 75?) of the world's lawyers resides in America. Many definitional problems obviously exist. But no one can question that the U.S. has the highest per capita availability of lawyers, i.e., one lawyer roughly for every 325 U.S. citizens, in contrast to estimates of 500 in Germany and 1000 in Japan.

Why so much difference??

There is no simple or precise answer for the United States, but several reasons for heavy use of the legal system can be readily identified: (1) absence of cultural determination to resolve disputes privately; (2) someone else must be blamed for misfortune; (3) minimum cost risks for plaintiffs; (4) known cost incentives for defendants to settle out of court; (5) contingency fee agreements with clients; (6) prospects of punitive damage awards; (7) unrealistically high expectations of perfection from others; (8) the world of business is getting markedly more complicated; (9) use of discovery as a "fishing expedition"; (10) predatory opportunities through narrow legal specialization; (11) overabundance of high fee-seeking lawyers soliciting clients; and (12) availability of word processing that expedites the filing of ponderous lawsuits.

All in all, present legal practices offer enormous incentives and minimum deterrents for many people and organizations to file law suits against businesses and others in the courts of the United States. The situation is decidedly different in the rest of the Western World. Principles and practices outside the U.S. are designed more to limit the use and costs of litigation. Cultural traditions, of course, mark every nation's legal system; for example, in Japan "harmony" has long been said to be a national characteristic.


The legal industry in America is widely estimated to have revenues approaching $100 billion annually. Some observers use much higher figures, especially when in-house legal costs, damage awards, and settlement requirements are included. Fees and expenses associated with business litigation exceed $20 billion annually, with many estimates double that amount. So, business clients may well account for 25 to 35 percent of the total. Compliance with burdensome regulations and laws promulgated by aggressive legislators and government administrators adds to legal industry revenues while offering fertile ground for litigators as well. Liability insurance, closely linked to the legal system, adds greatly to overall costs.

One of the longstanding complaints of business leaders is that legal costs are largely beyond their control. Law firm contracts commonly are open-ended and expenses are difficult to predict. For the most part, billing to clients is in aggregate amounts unless detailed breakdowns are specifically demanded and agreed -- a practice that is becoming more common. Basic costs are usually per hour of professional time plus expenses. Rates seem to vary from $50 to $500 per hour, with senior legal partners drawing the top scale rates.

General estimates indicate that the minimum direct cost for a business to defend itself in a civil law suit now ranges from $15,000 in a local court to at least $250,000 in a federal court. This state-federal differential is narrowing. "Million plus" dollar legal fees are common.

Until fairly recently many law firms had only general cost systems in their offices. Growth was expected to continue. Large annual recruiting was pursued. New offices were acquired and expanded. In fact, law firms were among the leaders across America in renting space in new office buildings during the 1980s. Necessary expenses were loosely defined and accommodations tended to be first-class.

Legal services were deemed professional and therefore not likely to be questioned. Moreover, business firms customarily have had longstanding relations with at least one prestigious major law firm. Other firms are engaged for special cases. In these circumstances, firms were infrequently dismissed; fee negotiations were fairly rare; bills were submitted at irregular intervals, and paid after only general management review. Rivalry has always been keen among legal firms, but competition not a major force promoting cost control, largely because of the institutional setting. Direct fee legal costs incurred by companies using large legal firms are estimated to have risen 65 to 100 percent during the past decade in contrast to 45 percent for the Consumer Price Index and 50 percent for prices of all services across the United States. Salaries have increased more than fees.

This is now changing. The recession, tighter client budget-cost controls and a decline in mergers and acquisition activity in particular have forced unprecedented cutbacks in some law firms. Probably half have been adversely affected.

Not only are the direct per hour costs expensive, but the legal meter seems to be set to keep running for extended periods. In major cases scores of lawyers are involved. All contribute to the meter charges.

The legal process in corporate litigation has quite a ritual. Months can be spent in preparation before a lawsuit is actually filed by the plaintiff's attorneys. Filing begins a chain reaction of responses by defendant's lawyers and further charges and counter charges. The assigned judge makes rulings that aim to focus the case. Plaintiff legal specialists seek to broaden the scope and frequently amend the original claims to keep the defendants off balance. Defendants in turn try to narrow the charges by requesting dismissal of as much of the case as possible.

A very expensive (i.e., commonly more than 50 percent of total costs) process of legal discovery can get underway soon after the suit is filed. Plaintiffs and defendants not only demand masses of records but use their power to depose numerous individuals in extended interviews.

Depositions customarily go on for hours and often days. Attorneys direct endless questions at each other's witnesses and introduce untold documents into the record. Attorneys interrupt constantly to object to the proceedings, in part for future use of the record. All statements are under oath and recorded by a court reporter. In many recent instances, deposition proceedings are also covered by television, which intensifies harassment and compounds the costs.

Eventually, all these statements appear in written form for review. Texts are substantial and require many expensive hours of lawyer review. Deposition witnesses are expected to review and approve their statements, again requiring long hours, regularly without compensation.

The actual plaintiff and defendant up to this point very likely have not confronted each other on the case, except for some possible exposure in the deposition process. The case proceeds formally on a lawyer to lawyer basis, i.e., taken from (or given away by) the business executives. Lawyers, of course, have ongoing private privileged discussions and briefings with their clients. These interchanges involve an evaluation of the pluses and minuses of how the case is going and what the eventual outcome might be. The defendant client looks for indications that the case is being won, but confronts many legal doubts. Choice between standing firm to win the case and watching the meter run wild, win or lose, in time makes settlement out of court more and more attractive.

In-house legal counsel customarily are involved in the entire proceedings, but commonly play a secondary role relative to the major outside law firm charged with winning the case. Strong corporate counsel, however, can be invaluable in developing legal strategy as well as in helping to slow the meter. In-house lawyers seem to be leading much of the correction now in progress.

Behind the scenes, lawyers on both sides confer rather frequently on technical legal issues as well as scheduling and other procedural matters. Virtually every phone call, fax, copied document, letter, and routine conversation is noted and a profit margin added, all of which keeps the meter running.

There is an obvious incentive for legal firms to keep building each case so as to document and thereby rationalize billings. In many cases judges rule on legal fees. An enormous amount of work is involved reflecting at least in part the disincentives within the legal system to finalize a case. How relevant and useful all these materials really are is debatable.

More often than not, the odds of reaching an actual court trial are low. The odds of obtaining an extended, costly out of court settlement are very high. More than 90 percent of all suits are said to be settled eventually (or otherwise "go away") without a trial. The running of the legal meter ultimately is a heavy factor in resolving almost every case.

Hundreds of thousands or millions of dollars in legal fees can be spent and yet a case still drags on amidst jammed courts. Jury verdicts too frequently favor plaintiffs as lawyers and juries seek "deep corporate pockets" to pay punitive as well as ordinary damages. Moreover, almost any court decision is likely to be appealed -- involving substantially more costs. Lawyers know well how to maneuver a negotiated settlement "on the court house steps." They also carefully insure that whatever settlement is reached includes their "reasonable fees and expenses." Thus, when the meter finally stops there is little doubt about payment of the fees. This entire process more and more is being described in such terms as "legal blackmail" or "only a step from extortion."


Even more difficult to estimate are indirect legal costs, but they are significant. These involve lost or delayed opportunities. They accrue as corporate managements are drawn away from their strategic and tactical profit planning and decisionmaking activities and responsibilities to deal with legal matters, commitments, and obligations.

No one really knows what is the most appropriate amount of time a chief executive officer, management group, or board of directors should spend on legal affairs. Not too long ago it was unusual for senior management to set aside a specified agenda time for reports on litigation and related legal regulatory issues. These were customarily covered by the corporate secretary in the normal course of company meetings. At present it would be unusual not to have formal detailed reports from the corporate general counsel as well as outside lawyers handling important cases. Substantial numbers of company meetings are now devoted entirely to legal briefings and related matters.

Litigation, especially on the scale experienced by most large corporations, not only takes management time, but has extremely important psychological consequences on defendants. Lawsuits regularly name individuals as defendants. This raises questions about potential personal financial liability, need for special legal counsel, personal records and information, and various constraints on personal relationships with parties involved in the case. In many instances the strategy behind the suit is to harass individual defendants on a continuing basis. The specter of adverse publicity adds to the emotional pressures. Tensions commonly rise. In short, significant litigation speedily undermines, if not destroys, corporate teamwork by injecting much more stress into the decisionmaking environment.

The threat or existence of litigation discourages directors from joining boards or continuing to serve. Officers and directors liability insurance no longer provides confident protection.

Corporate managements approach litigation differently. Some endeavor to have the legal professionals take over substantially all of the responsibility for conduct of the case. Sooner or later this pattern tends to break down as the legal meter readings become too large to be delegated. Other company leaders designate a segment of management to devote most of its time to litigation matters while all other segments concentrate on running the business. In many cases, corporate boards appoint special committees to watch over litigation and advise other board members, consuming more time and money.

In the background of most corporate litigation is some officers and directors insurance, designed to provide potential financial protection for defendants. Plaintiffs are well aware of such insurance and consider it a source of settlement funding. Financial demands routinely include a mixture of corporate and insurance money. Because of the upsurge in claims and lawsuits involving corporate officers and directors as defendants, not surprisingly, insurance companies have adopted a posture to question their coverage liabilities more before offering to pay. So, still more lawsuits are taking place as defendants seek court action to force insurance companies to meet coverage and payment obligations.

The litigation process is seldom smooth. There are periods of intense action interspersed with long periods of seeming inactivity. Judicial rulings from time to time cause shocks as parts of the case become more threatening or are dismissed. Such shocks are seldom confined to the principals of the lawsuit, but also are noted by security analysts, shareholders, customers, suppliers, employees, and the community at large. Not infrequently, the price of a corporation's stock will be impacted by news and speculation about a legal outcome. Such developments are another distraction for corporate managements.

Preparation for depositions is an emotional, time-consuming ordeal for selected corporate officials involved in a case. Defendant attorneys preside over intensive dry run question periods. Plaintiff attorneys similarly gear up for the discovery episodes.

Thus the indirect effects of litigation are often staggering on corporate managements. The overall economy also clearly loses as management skills, thinking, and leadership are diverted from making productive decisions for the future.


Willingness to accept risk and manage it well have long been hallmarks of successful American business leadership. Entrepreneurship and venture capital have made the difference between the economic progress of the United States and many other nations. Outside of some financial markets, risk taking has subsided across America in recent years. This is not only because of recession, but also because of perceived rising dangers of lawsuits.

The staggering number of new and existing federal and state statutes and regulations really adds uncertainty and often contradictions in the law. The results are new invitations to sue business firms. The rationale is said to be to influence corporate conduct, i.e., "send a message." In fact, it encourages litigation that otherwise would not occur. The impact on small business is dramatic. A single law or lawsuit can easily destroy a business. Small businesses, which have been the main engine of economic growth and new jobs across America in the 1980s, are no longer being established or hiring new people at earlier rates.

These business-threatening developments are part of an unfortunate trend for America. We are moving relentlessly to more micromanage our economy by government, while many other competitor nations are vigorously adopting freer market principles to ease the stifling effects of burdensome controls.

At the root of this issue is the incentive of legislators and regulators to seek recognition by successfully pursuing some new bills or regulations -- the more the better for their personal record of accomplishment. No other comparable indicator is readily available to measure their performance.

However immediately desirable any legislation may seem to be, the cumulative legal effects of thousands of other bills and interpretations steadily erode the ability of business managements to move ahead aggressively with new or improved projects that create jobs, profits, and tax revenues. In fact, governments micromanagement tactics are gradually narrowing the scope and direction of business decisionmaking without responsibility or concern for the adverse consequences on business, the economy, or people's living standards.

The need is urgent for more constraints on the volume and microcoverage of new legislation and related regulations. "Sunset" provisions should be increased. Other ideas should be explored and implemented. For example, legislators might be required to introduce parallel bills - one to accomplish their immediate objective and another to eliminate some existing statute that net is damaging the economic future.

Not unrelated, U.S. economic growth has slowed to the point of concern. Many causes are cited, from lack of competitiveness to subpar managements and workers. But, to the long list of contributing factors must now be added the drag on productivity across American business because of excessive litigation.

The cost of mounting legal actions has been shown to be substantial. But, corresponding losses are to be found in productivity. No exacting methods are available to judge the magnitude of lost productivity. However, there is good reason to believe that over the past decade the amount of management and staff time spent on litigation across American business has at least doubled. Estimates of corporate resources devoted to legal matters can only be tentative. Nevertheless, there is widespread agreement that legal services are now large enough to have a continuing negative impact on profits.

From a national economic viewpoint, business productivity losses from abnormal legal burdens speculatively may well amount to as much as one half of one percent or more annually. Whatever the actual figure, few can question the reduction in overall efficiency in current business results, especially in retarding investment in future productive facilities and support functions.

Any loss in productivity obviously reduces U.S. competitiveness and job opportunities. Cost disadvantages also mean smaller sales and more inflation. To the extent that American legal practices are, or appear to be, excessive and offensive to foreign investors, the consequences are lessened availability of capital and useful new technology from abroad. Foreign observers often cite an imbalance in the U.S., i.e., heavy emphasis on lawyers and litigation but lessened attention on engineers and productivity. The reverse situation prevails in many nations with which the U.S. competes. Overseas companies are known to be cutting back, if not abandoning, participation in some U.S. business ventures and markets because of the perceived unfavorable business environment, including risks of legal attacks. Additionally, government tax revenues are being impaired along the way.

To summarize, present legal practices are gradually eroding the balance sheets, risk taking, and profitability of a wide spectrum of American business organizations. Unless current trends are checked, the negative dimensions of the legal processes are likely to accelerate economically, socially, and politically.


What may be accepted generally across American business as excessive legal burdens clearly are not considered similarly across the legal profession. There are, however, many concerned lawyers who openly concede that many serious problems, such as those outlined here, do exist and are searching for remedies. The main focus is on what is termed "alternative dispute resolution." Some companies have started to announce the terms on which they will respond to claims in order to bypass the current costly legal system.

Several solutions seem rather obvious to nonlawyer analysts. How to implement them will not be easy or quick.

Most suggestions for change in current legal processes fall roughly into six general categories:

1. Appeals to law associations, firms, and prominent lawyers for more self study and review of complaints, to define more clearly the precise nature of the problems and make practical recommendations to resolve them over some reasonable period of time. This approach has not brought much change to date. So, the alternative must be a Presidential or other national commission, not dominated by lawyers, to report its findings to the nation with an urgent demand for a corrective program.

2. Reduce incentives to file lawsuits, e.g., by invoking principles of filing fees related to size of askings, shared costs, fee penalties on law firms for unsuccessful cases, payment at comparable lawyer rates to deponents by those requesting the depositions, and similar measures. All this is critically important.

3. Require more conciliation, mediation, and arbitration procedures with stated time limits for decisions before cases can be brought to court. This trend seems to be underway.

4. Limit discovery process to a fixed number of deponents; require more precise fee setting practices, emphasizing caps on charges for legal services in closer relationship to the size of actual settlements; require detailed billing; invoke some forfeiture of fee penalties on lawyers for unsuccessful results; and include expenses in hourly rates.

5. Limit punitive damages to a reasonable relationship to the core economic issues of the case, reappraise their tax status, and reverse the tendency for settlements to reflect "deep pockets" rather than the merits of the case.

6. Require all new legislation to include guidelines or specific limits on lawsuits that may arise from its adoption.

Any plan to modify existing legal fee procedures and schedules as well as damage awards is certain to face considerable criticism as violating the principle of price freedom in our market system. This is a formidable economic argument. But, many current fees and awards really do not seem to be set by the marketplace. The onus more and more will be on the legal profession to find workable solutions or face price-fee standards. Certainly, the legal system must not become ineffective -- just improved. To allow our legal system to be a growing negative force in the economy without correction is unrealistic and unacceptable.

The current mood of the U.S. public clearly is one of dissatisfaction with elected officials, most of whom are lawyers. The legal profession should be wary of neglecting to address its future role in our economy and move more aggressively to correct abuses. Business economists are certain to become more interested and involved in the outcome.
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Author:Hoadley, Walter E.
Publication:Business Economics
Date:Oct 1, 1992
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