Thursday, May 20, 2004
Thursday, May 20, 2004
Following up on Saturday's post: Today's Wall Street Journal (at A2) has a great piece on California Gov. Schwarzenegger's Proposed 75% Tax on Punitive Damages. Among the interesting points:
• Of the eight states (Alaska, Georgia, Illinois, Indiana, Iowa, Missouri, Oregon and Utah) that currently impose similar taxes, seven let the lawyers eat first (the state takes their share only after attorneys' fees are paid). California would join Indiana in taking its 75% share before the payment of attorneys' fees.
• The article predicts that Gov. Schwarzenegger's proposal may succeed if the tax is whittled down to 50% and the lawyers are allowed to eat first. The 50% figure is supported by an article by two Vanderbilt economists (Andrew Daughety & Jennifer Reinganum) posted on SSRN, Found Money? Split-Award Statutes and Settlement of Punitive Damages Cases. Here is the abstract:
We examine the effect of the "split-award" tort reform (wherein the State takes a share of a punitive damages award) on equilibrium settlements and the incentives to go to trial. Using both signaling and screening models of settlement negotiations, we find that the equilibrium settlement is increasing in the likelihood of the defendant being found liable, in the size of both the compensatory and punitive damages, and in the share of the punitive damages award that the plaintiff may keep. We also find that increases in the same attributes (except for the compensatory damages award) increase the likelihood of a case proceeding to trial. Thus, split-award statutes simultaneously lower settlement amounts and the likelihood of trial, as both parties act to cut out the State (since the statutes only apply to awards at trial).
We then develop an analysis of the revenue that split-award statutes could generate, conditioned on the allocation of a punitive damages award between the plaintiff, his lawyer and the State. We construct a symmetric random proposer model (a composite of the signaling and screening models) and find the revenue-maximizing share for each state currently using a split-award statute with a mandated rate. We find that (for all states but one) the predicted state's share is approximately 50% (for the remaining state, the revenue-maximizing share should be approximately 66%). These results are robust to variations in economic parameters and to whether the state's share is gross or net of the plaintiff's attorney's fee.
One surprising result is that these statutes do not deter filings and that their use can actually encourage plaintiffs' attorneys to accept and pursue weaker cases than would have been brought absent the statute. Finally, we use our results (along with information about the evidentiary standard employed, the allocation scheme used and the presence or absence of caps imposed on damages awards) to infer the likely motivation for passing a split-award statute for six states of interest. We find that policies in Indiana and Oregon are more consistent with a primary motivation of deterrence reduction while policies in Georgia, Iowa, Utah and Missouri seem to be more consistent with a primary motivation of revenue generation.