Economy & Budget

Legal Reform Is Key to U.S. Global Competitiveness

Recently, IBM announced plans to create 43,000 new jobs based on a three-year, $6 billion investment in India. These jobs and facilities, exported from America in IBM’s effort to remain globally competitive, represent a trend for businesses, as many find it more profitable to produce outside the United States. But lawmakers aren’t helpless when it comes to finding a way to keep American businesses at home.

Earlier this year, the Bush administration proposed the American Competitiveness Initiative which focused primarily on expanding education and encouraging innovation and risk taking. White collar jobs and investment, however, will continue to flow overseas without one other key component: legal reform.

The rising cost of legal defense is often neglected in the discussion on offshoring. IBM has been hit hard by litigation. The company was involved in the first “toxic tort” case on microelectronics in 2004, when two former employees alleged “systemic chemical poisoning” through exposure to chemicals at an IBM manufacturing facility in the U.S. Though a jury unanimously found in favor of the company, noting no proof that poisoning had occurred, more than 40 similar cases were subsequently filed against the computer company, costing IBM millions in litigation costs.

Improving the civil-liability system through legal reform is essential for U.S. businesses to stay competitive in global markets. Currently, the U.S. does not have a fair, predictable, and efficient tort system. Tort costs continue to exceed greatly those of other nations. Legal reform is an essential ingredient for the global competitiveness of U.S. business, and for job and income growth for all Americans. A poor tort system increases the cost of doing business in the U.S. and encourages offshoring.

The U.S. Tort Roadblock

In its most recent report on the U.S. tort system, the Tillinghast division of Towers Perrin estimated direct tort costs to be more than $260 billion in 2004. A conservative estimate of the excess included in that figure is about 76 percent, according the President’s Council of Economic Advisors. This translates to a tax of about $198 billion on U.S. businesses. These costs are passed on to consumers in the form of higher prices for goods and services and reduced access to health care; or they are simply absorbed and constitute a major factor in the decision to do business elsewhere.

In contrast to U.S. tort costs, which represent about 2.2 percent of national GDP, the average industrialized nation spends about one percent of GDP. The cost in the average undeveloped nation is even less. One source of America’s excess costs are frivolous lawsuits that clog our courts.

Meritless Suits Clog America’s Courts

When plaintiffs and their attorneys pursue money for claims that are either relinquishments of blame for acts of plaintiff negligence, entirely fabricated, or only remotely associated with the accused, the courts are needlessly clogged and businesses burdened. The most famous instance of lawsuit abuse, known to many as the “McDonald’s coffee case,” made headlines in the early 1990s.

In that case, a 79-year-old plaintiff accused McDonald’s of serving unreasonably hot coffee that was responsible for her third-degree burns. Despite the plaintiff admitting that she spilled the coffee on herself, and evidence that the temperature at which the coffee was served is standard among other businesses, a jury ordered the fast-food restaurant to pay $2.7 million, mostly in punitive damages. The total payout — after a reduction by the judge, an appeal from the plaintiff, and an eventual private settlement — is believed to be around $640,000. Other restaurants, including Burger King, Dunkin’ Donuts, and Starbucks have been sued on similar grounds. In response, some states have passed caps on punitive damages and non-economic damages to keep awards fair and reasonable.

In 2003, a New York City man, who stood 5-foot-10 and weighed 270 pounds, sued a number of fast-food restaurants for contributing to his obesity, diabetes, and heart disease. In the suit, the man claimed the restaurants not only forced him to eat their food several times a week, but also neglected to notify him that their food was unhealthy. Though a judge refused the case twice, and barred the plaintiff from trying a third time, similar claims have been brought before courts across the country. Twenty-one states have anticipated these claims and enacted common-sense legislation to prevent plaintiffs from blaming their unhealthy eating habits on restaurants.

Similarly, a battle now rages over lawsuits against pharmaceutical manufacturers. Purdue Pharmaceuticals has spent more than $400 million defending itself against nearly 1,400 lawsuits claiming the painkiller OxyContin is addictive and dangerous when abused. Though the effort to fight each suit has thus far been successful — about 400 cases have been dismissed or withdrawn — the high price of defense is enough to make any company reconsider its decision to be located in the United States. Thus far, only 11 states have lawsuit protections for drug manufacturers who meet all government standards for safety, the so-called “FDA defense.”

A Litigation Lottery

The incentive to file many of these lawsuits is based on the opportunity for a large payoff. Money is the reason plaintiffs target deep-pocket national businesses rather than local mom-and-pop operations. One generous award from a sympathetic jury with no stake in the loss can garner millions. This reality has turned American courts into a modified lottery system — one in which the odds of winning are decent and are improved with creativity. The losers are businesses and doctors who must either risk huge losses or pay high insurance premiums. Unfortunately, in the lawsuit lottery, it only takes one outrageous award to bring about critical financial loss for an American business and the workers who rely on it.

The uncertainty associated with jury trials under the more erratic state court systems leads most businesses to settle claims, rather than fight them in court. They are desperate to avoid “the big one” — the crippling payout looming ahead — and to stop the bleeding in terms of defense costs. This practice, in turn, encourages more shakedown lawsuits from plaintiffs that want their piece of the settlement giveaway. For business, this represents a lose-lose situation.

The U.S. Tort Liability Index: 2006 Report, released by the Pacific Research Institute, ranked states according to their tort climates. The PRI study found that high-ranking states enjoy greater benefits than those on the bottom. Texas, for instance, ranked first and experienced the most job expansion and relocations in the nation in 2004. In contrast, Vermont, ranked last, has an employment growth rate about one-third that of Texas. States with lighter liability burdens attract business, while those with higher costs lose businesses.

States Legislatures Are the Battleground for Legal Reform

Certain states have done their part in reducing excessive tort burdens by passing common-sense reforms, such as limiting non-economic damages to reasonable levels and either eliminating or capping punitive damages. Lenient venue rules and poor or nonexistent damage caps in other regions of the country, however, leave businesses vulnerable in states that fail to enact reasonable reforms.

Each year, the American Tort Reform Association compiles a list of regions of the country that contribute to this problem. These “judicial hellholes” are destinations for “forum shopping” by attorneys and plaintiffs due to their reputation for being both welcoming of non-local suits and for giving favorable rulings. The threat of coming before a judicial hellhole contributes to the high cost of doing business in the United States.

Though federal legislation to reform the tort system almost always dies in the U.S. Senate, evidence is clear from years of state-enacted laws that reforms both create a better business climate and a more efficient court system.

Opponents of reform, notably personal-injury lawyers, try to discredit reforms to the liability system by claiming that they are a “solution in search of a problem,” or that tort excess is a fictional product of a sensationalist media. They claim that frivolous lawsuits and huge payouts are rare and the costs are exaggerated. The sheer inefficiency of the American tort system contradicts these claims.

In 2002, the U.S. tort system returned less than 50 cents of every tort-cost dollar to injured plaintiffs. Of that amount, only 22 cents went towards compensation for actual economic losses. The other half went towards administrative and legal expenses.

Though the tort system was originally intended to fully compensate those who have been damaged due to negligence by others, it now serves to overly reward attorneys, punish businesses, and drive jobs and companies away. The high cost of defense affects the bottom line and companies will continue to seek expense-cutting options, including exporting white collar jobs overseas.

We may not be able to bring back those jobs and investments from abroad, but if our nation wants to remain competitive, we can stop the exodus by creating a fair and efficient legal climate for U.S. businesses to operate.