NALP has just posted its entry-level starting salary for class of 2008--i.e., the lawyers who started their jobs just as Bear Sterns and Lehman Bros unraveled and the credit markets completely froze up. Of the 22,305 law school graduates in NALP's sample (over half of all 2008 graduates), a remarkable 23% (5,130 '08 grads) reported an entry-level salary of $160,000. In contrast, 42% of entry level lawyers reported salaries in the $40,000 to $65,000 range. Once again, the central tendencies are a poor guide to the distribution as a whole: whereas the mean salary is a $92,000, the median salary was $72,000. Further, the two modes ($50,000 and $160,000) are separated by $110,000.
Amidst all the layoffs, deferrals, salary cuts, and apprenticeship programs announced in 2009, it is safe to venture that the bi-modal era has peaked. Every law school class for the foreseeable future will graduate to a much different economic landscape. Although many students will regret the opportunity to earn such a big payday upon graduation, it brought with it intense billing pressure, client resentment, heavy leverage, and very little substantive training for new hires. I would argue that profession as a whole (including current and future graduating classes) is better off with a lower entry level salary.
Admittedly that is a long-term view for the profession as a whole. In the short term, current students and recent graduates are in a world of hurt. Specifically, law school debt loads continue to climb. Thus, law schools are (rightfully) going to be under increased pressure to deliver value to our students. I don't think most law professors and law school administrators fully appreciate the difficult times ahead. For a provocative take on the current state of legal education, see Paul Lippe, Welcome to the Future: Time for Law School 4.0.
For some perspective on how this crazy market evolved, see:
After the jump are the distributions from 1991, 2006, and 2007. The primary takeaway is that the bi-modal did not exist in the early 1990s. It first emerged in 2000 (with the dot.com salary wars) and became progressively more extreme starting as the decade unfolded. On Wednesday, I have an article coming out in the NALP Bulletin, entitled "The Bursting of the Pedigree Bubble," which will provide some additional analysis.
As long as every other interested party is weighing in on Pres. Obama's first S.Ct. nomination, the least I can do is endorse Dave Hoffman's proposal for a nominee that, at a minimum, possesses a general familiarity and comfort with empirical methods. Although I can understand it when judges choose to simply ignore salient (and, I hope, well-crafted) empirical evidence brought before them (however much it might pain me), when judges (especially Justices) choose to engage with empirical work, however, they really should avoid botching things. In Exxon, Justice Souter's recent high-profile bungling (or "debacle" as Dave notes here; subsequent scholarly work on the issue is found here) falls below what I expect from my law students. Dave's conclusion warrants repetition:
"The point is that at least some exposure in statistics and social science techniques is quickly becoming part of a well-rounded legal education. It should also be part of what we look for in a Justice."
It is mid-December and the vast majority of large law firms are frantically pressing their clients for their fees in order to pay down the firm's credit lines and generate a profit pool that can hold the partnership together. See, e.g., Susan Beck, Collecting, But Hardly Calm and Cool, Am Law Daily (Dec. 10, 2008). Every investor knows that leverage can be a wonderful thing in boom times but a killer in a down market. In the last few years, law firms have expanded the use of two types of leverage: (1) bank financing, often for working capital, and (2) salaried lawyers, in the form of contract attorneys, staff attorneys, associates, of counsel, and income partners, who each generate profits for the equity partners.
Yet, with the potential for historically low collection rates, a large proportion of Biglaw firms are in one hell of a vise. Salaried lawyers represent fixed costs. And even if you lay them off, managers are under intense pressure to pay a reasonable severance (e.g., 6 months pay) to preserve the firm's reputation for an eventual recovery. Further, firms with the most human capital leverage will nonetheless be stuck with vast expanses of Class A office space under lease terms negotiated during the salad days. If Biglaw revenues go down 20% for the fiscal year, which is certainly in the realm of possibility for many firms with large capital market practices, profits could dive by 50% or more.
Similar to what happened at Heller Ehrman, the grim financials could put the firms in violation of their bank lending agreements, see Drew Combs, Why Heller Died, The American Lawyer (Nov. 2008), thus requiring partners to pony up more cash. Sensing trouble, lawyers with the most options start heading for the doors, initiating a sudden and rapid death spiral. In short, there is good chance that several hallowed Biglaw firms, particularly those with weak balance sheets, will cease to exist sometime in early to mid 2009.
Through the Law Firms Working Group, I have access to detailed financial reports for law firms in the Am Law 200 and the NLJ 250. Here is what the revenues per lawyer (RPL) figures for Thelen and Heller Ehrman looked like for fiscal years 2003 to 2007:
Most firms in the Am Law 200 posted steady rises in RPL during the 2003 to 2007 time period. But it is pretty amazing that in the cases of Thelen and Heller Ehrman, both old-line firms with established brands, seemingly modest diminutions in revenues were precurors to total collapse. As noted by Marc Galanter and I in The Elastic Tournament, large law firms have become immensely fragile institutions. As large firm lawyers, many of them young and connected to clients, flood the streets over the next several months, look for a new model of corporate law practice to emerge that is modest, thrifty, and more sustainable.
Closer to home for us academics, the collapse of Biglaw could have a signficant impact on law schools, particularly those at the top of the food chain who could pass along ever higher debt loads onto students because of a virtual lock on lucrative Biglaw jobs. Cf. Mike Cahill, Legal Education Bubble?, PrawfsBlawg (Dec. 15, 2008). Even if law school follows the usual countercyclical pattern of higher admission volumes, the lack of cheap capital in combination with the lack of high paying jobs may stifle enrollment. It is time to pay attention and carefully evaluate assumptions we have formerly taken for granted.
Like everyone else, I am struggling to get my head around exactly what happened to produce our current financial crisis. That is a precondition of anticipating the longer term consequences. In a single paragraph, this is what (I surmise) happened.
Sometime during the 1990s, momentum began to build on Wall Street for securitizing home mortgages in new and exotic ways. Residential real estate seemed like an attractive business because the yields were decent, the historical default rates were low, risk of loss was mitigated by pooling thousands of mortgages (which were, themselves, divided into parts), and the underlying assets (homes) generally went up in value, sometimes by a lot in major metropolitan areas. Institutional investors had an insatiable appetite for these debt instruments, which were graded as safe by all the major rating agencies. Further, respected companies like AIG wrote insurance on these instruments on the theory that they would never have to pay. All the risk was supposedly hedged by "credits swaps," which are fancy and unregulated contracts between private parties. So money gushed in. Because virtually any loan could be sold the next day to Wall Street (who, in turn, could repackage them for a large profits within a short time), banks and other mortgage originators could make money with no risk (zero risk!). This cycle continued even though the pool of mortgage applicants became weaker and weaker--eventually people with (a) bad credit, (b) no assets, and (c) no job. This had the predictable effect of driving up the price of real estate to a frothy bubble.
If we want to get back to good old-fashion, sane capitalism where risk is actually assessed before a lender gives a borrower money (and I do), we need to know what the underlying asset (a home) is really worth.
Here, the news is not good. According to this story in the New York Times, the price of real estate could tumble throughout 2009. Frankly, this is where analogies to the 1930s seem like they have some traction. When an average person's largest asset turns out to be a terrible investment, they have lost a lot of money in the stock market (any thoughts about privatizing Social Security now?), and banks are failing left and right, it has a devastating effect on society's ability to pool risk--all the money ends up in the mattress, so to speak. No surprise, people like my grandparents who lived through the Great Depression tended to be very cautious and risk averse with money.
Frankly, the issue now is not how to regulate Wall Street--the investment banks are gone. It is how to unwind this mess. The larger tragedy here is not the loss of money; it is the loss of trust by ordinary people in basic financial and commercial institutions. They worked hard and played by the rules. Yet many of their homes will be worth less than what they paid for them, and retirement seems beyond reach. Unregulated capitalism failed. Like it or not, government is the only entity that can fill the breach.
These two stories from This American Life, both 1-hour long audios, are the two best resources I have found on these topics:
Over at Moneylaw, rankings guru Tom Bell (Chapman) breaks an important story: The University of Michigan Law School has introduced the new Wolverine Scholars program, which is a special admissions program for UM undergraduates. It has two threshold requirements: (1) your UGPA must be at least 3.80, and (2) you cannot have taken the LSAT.
Studying the labor market for lawyers--including law school rankings, which is a important mechanism for mediating supply and demand--has made me sensitive to potential ulterior motives beyond the standard cant of "admitting the best students." While I would love to see a world where the LSAT is assigned is its rightful limited place in law school admissions, I cannot overcome the perception that Michigan is really just upping the U.S. News gamesmanship. The lofty rhetoric of the Wolverine Scholar program cannot be squared with the unnecessarily rigid admissions criteria. In my opinion, the only rational explanation is that Michigan seeks a rankings payoff. Here, an elite law school sets a new low in our obsession of form over substances--once again, we legal educators are setting a poor example for our students.
Readers can judge for themselves. Here is how Michigan pitches the Wolverine Scholars program:
Law School’s in-depth familiarity with Michigan undergrad curricula and
faculty, coupled with significant historic data for assessing the
potential performance of Michigan undergrads at the Law School, will
allow us to perform an intensive review of the undergraduate curriculum
of applicants, even beyond the typical close scrutiny we devote ... . For this select group of qualified applicants, therefore, we
will omit our usual requirement that applicants submit an LSAT score.
the exception of the intensified review of the undergraduate academic
record and the omission of the LSAT, our admissions review and
philosophy is the same for the Wolverine Scholars Program as it is
generally. Thus, our evaluation criteria are holistic,
and comprise the wide range of relevant considerations that can’t be
reduced to any mechanical formula. We look for highly
intelligent people who welcome challenging experiences, who have
demonstrated leadership and community service, who have shown
determination and discipline, who are eager to outdo themselves, and
who are creative and resilient in dealing with adversity. We pay
attention to evidence of academic progress. So, too, we pay attention
to considerations – working many hours, coming from an educationally
deprived background, having primary care responsibilities for family
members, and so on – that may provide a context for the formal record
of academic achievement. ... We look
for individuals with intriguingly different backgrounds, experiences,
goals, and perspectives. Academic majors, work experience,
extracurricular activities, distinctive moral and political outlooks,
socioeconomic background, time living or working abroad, and more
inform our admissions decisions.
Wonderful stuff. But it is impossible to take the above excerpt seriously when we focus on the unreal application cutoff:
"Application Eligibility. UM
undergraduates who have at least completed their junior year ... with at least six full-time semesters of attendance on the UM-Ann Arborcampusand a UM cumulative grade point average of ≥ 3.80 are eligible to apply." [Emphasis in the original -- yes the original!]
So, a priori, the following student need not apply: a UM chemistry or engineering major with a 3.75 GPA who comes from a blue collar family in the rural Michigan who put himself through college by running a business and volunteers in an organization for the disabled. For this person, "holistic review" requires an LSAT score. He or she may not be one of the "highly intelligent people" UM is looking for. But the privileged frat boy who majored in political science and earned a 3.81 gets a free pass. It is hard to imagine a more misguided "mechanical formula."
If Michigan was being serious, they would set the benchmark at 3.4 or 3.5 and actually conduct a true holistic review. So why didn't they? One logical possibility: if the true motive is a rankings grab (i.e., a "mechanical formula") toward the 3.8 crowd, a FOIA request could lay it bare. Yet, if you set the program at 3.8 and admit 90%, few people can quibble with the merit criteria--they are all capable candidates.
The rankings motive is further corroborated by the disqualification if the potential Wolverine Scholar has taken the LSAT. If Michigan were just interested in the best people, it would just ignore the LSAT. After all, Michigan has a better predictor of success: the "significant historic data for assessing the
potential performance of Michigan undergrads at the Law School." If holistic review is really taking place, excluding folks who have taken the LSAT has no rational basis beyond a hit in the rankings. Again, if these folks get into the applicant pool, a FOIA request would expose any selection patterns that looks like the "mechanical formula" the Law School has allegedly disavowed.
More seriously, there are terrible externalities from this alleged merit-based program. It is impossible to deny that the Wolverine Scholars program will encourage students to (a) take easier classes and majors to avoid the need to take the LSAT to get into an elite law school, (b) discourage extracurriculars that will threaten the 3.8, and (c) make a lot of Michigan undergraduate professors miserable with complaints from students that their B+ or A- grade is going to blow their Wolverine Scholar application.
From a rankings perspective, what happens when you get 20, 30, or 40 candidates with 3.8+ UPGA and no LSAT score? From day 1 of admissions season, Michigan has much greater latitude to lock in higher median LSAT and UPGA numbers--because zero Wolverine Scholars are dragging down the LSAT and all are helping the UPGA numbers. Further, because of the idiosyncrasies of the USNWR rankings formula, see Ted Seto's "Understanding the U.S. News Law School Rankings," at the upper ranges, small changes in UGPA have a much greater sway on rankings that a single LSAT point. For example, in the simulation model that Andy Morriss and I created, a move from 3.64 to 3.66 has a greater effect than a move from 169 to 170. If Michigan can get to a 3.80 UGPA, they could tie with NYU at #5.
A final point is the ABA accreditation requirement, which requires an admissions test:
Standard 503. ADMISSION TEST
A law school shall require each applicant for admission as a first year J.D. student to take a valid and reliable admission test to assist the school and the applicant in assessing the applicant’s capability of satisfactorily completing the school’s educational program. In making admissions decisions, a law school shall use the test results in a manner that is consistent with the current guidelines regarding proper use of the test results provided by the agency that developed the test.
A law school that uses an admission test other than the Law School Admission Test sponsored by the Law School Admission Council shall establish that such other test is a valid and reliable test to assist the school in assessing an applicant’s capability to satisfactorily complete the school’s educational program.
The Wolverine Scholar program requires a waiver to access a student's SAT and/or ACT scores. I assume that is how Michigan would proffer these test scores as a "valid and reliable test" for determining whether a student can complete the Michigan JD program. Why not? Northwestern's JD/MBA programs accepts the GMAT as substitute for the LSAT, and it passed muster during NW Law's recent re-accreditation. I doubt the ABA will try to draw a line here (and for the record, I don't think this is battle worth fighting--ignoring the LSAT for UM undergrads who have a 3.8 is not going to produce bad educational outcomes).
Over at PrawfsBlawg Adam Kolber started an interesting thread about the front-page story in today's WSJ (I was unable to find a link to the full story) on law school efforts to game US News rankings. Such efforts, of course, are legion and increasingly well-understood among legal educators. I'll only note that the WSJ piece quotes the ELS Blog's very own Bill Henderson and features Tom Bell's (Chapman) empirical research on the rankings.
Last Friday's NYT (8.8.08) included a lead story in the Business section (at C1) on a forthcoming JELS article. The subject of the NYT piece--a forthcoming article in 5:3 JELS (Sept. 2008)--reports results from a study of the financial consequences of case settlement decisions. To better assess the financial cost of going to trial, the study analyzes cases in which a settlement offer was considered, but rejected in favor of proceeding to either arbitration or trial. The findings reveal the influence of contingency fee arrangements and the availability of insurance coverage on plaintiff and defendant settlement decisions, respectively.
NALP just published its 2007 edition of Jobs & JD's. One topic of interest to students, lawyers, law firms, and legal educators is the change in salary distribution from 2006 to 2007. The now famous 2006 bi-modal distribution was vivid evidence that the U.S. legal profession is undergoing significant structural change. As shown in the graph below (from this NALP webpage entitled "Another Picture Worth a 1,000 Words"), the underlying stressors are even more pronounced for the class of 2007.
The sample is based on 23,337 law school graduates from the class of 2007 who reported salary information. Note, however, that 197 ABA-Accredited law schools graduated 43,518 students in 2007. Although we know the types of jobs taken by 40,416 grads, only 57.7% of this group provided salary information. If I had to wager on the direction of underreporting, I would predict it was under-inclusive of graduates with lower salaries and those who did not pass the bar. Why? Aside from the human psychology that it is easier to share flattering rather than embarrassing information, the roughly 7,500 jobs under the second mode are fairly close to figures I have seen from ALM and NALP data, which are provided by large law firms rather than individual students. See, e.g., charts in this NLJ article.
This bias, however, is not necessarily good news. In the above graph, 32.5% of the law graduates took jobs with starting salaries in the $100K+ range; but the true percentage for the class of 2007 is probably lower. Some facts and then one normative observation. The facts first:
91.9% of 2007 graduates were employed 9 months after graduation, which compares favorably to 2006 (90.7%), 2005 (89.6%), 2004 (88.9%), and 2003 (89.0%). I would like to believe these numbers are trustworthy.
76.9% were in jobs that required bar passage. [It would be useful to disaggregate the jobs in the remaining 23.1% of law school graduates. Who are these students? How many entered law school with no intention of practicing law? ]
The median salary in the above distribution is $65,750; the mean is $86,396. But these measures of central tendency are not reliable guides of future earning power.
38% of all starting full-time salaries were less than $55,000 per year, including 18% of all jobs in private practice, 27.5% in business, and 70.0% in government (excluding judicial clerkships).
79.6% of law firm jobs in NYC, 80.3% in Washington DC, and 74.9% in Boston were in firms with 100+ lawyers. Even in Indianapolis, 50.4% were in 100+ lawyer firms. Wow! those are big numbers.
See also NALP Press Release, July 24, 2008. On the normative front, I have a simple thesis: the bi-modal distribution is bad for students, bad for law firms, bad for clients, and bad for law schools. [When I showed the 2007 distribution to one law school dean, she shielded her eyes!]:
Students. It is bad for students because at $160,000 per year, many corporate clients will ask that you not be assigned to their matters. And if your initial work experience is document review, a $160K job can quickly become a dead-end because your skill set is not growing with your billing rate (avg. 1st yr billing rate in a $160+ firm is $225 to $255/hr). So the atmosphere among associates at $160K+ firms is probably becoming more competitive. It would be better in the long run to start at $95K, learn your craft, and become a great lawyer who commands top dollar. And young lawyers should think long run.
Clients. This is bad for clients because the short term solution of requesting only midlevels and partners will eventually constrict the supply of incoming legal talent. When clients and law firms try to externalize the cost of mentoring and training--here I mean observation, contact, and feedback from partners and clients--associates are more likely to leave.
Law Firms. Actually the bi-modal distribution is only bad for firms trying to keep pace with the Am Law 200 salary pay scale. In contrast, boutiques and organizations like Axiom will find general counsel more interested in their value proposition. For Am Law 200 firms, the difficulty is getting partners to commit themselves to the future of the firm by spending more time and money investing in associates. This will reduce attrition and protect the brand. But the $160K+ cost structure provides partners with strong incentives to bill hours rather than investing in the long term future of the firm.
Law Schools. The economics of the bi-modal distribution take the pressure off elite law schools--indeed, they can raise tuition! Thus, for many law professors, the best outcome is lateraling into a Top 15 law school. But more/better law review articles--a precondition of a lateral offer--is not going to solve the difficult institutional problems of lower ranked schools. Now more than ever, all law faculty members need to understand the structural shifts taking place in our profession. When faculty at Harvard and Yale ignore these changes, it does not mean that these changes are not important. It just means that Harvard, Yale, et al. are not affected.
I don't have any solutions to these issues, though I did write up some useful insights in my prior post, "Part II: How law firms misapply the 'Cravath System.'" Our situation reflects difficult collective action and coordination/signaling problems. For example, how a firm gracefully bows out of the salary wars is an immensely difficult problem. I do think, however, that permitting nonlawyer investment would provide law firms with the financial wherewithal (and psychological courage) to experiment with more innovation. And that would be good. Larry Ribstein's scholarship is now more timely than ever. See, e.g., here and here.
When I was an interim associate at Sidley & Austin the summer after the 2000 salary wars, a partner told us that "we are all going to hell" based of the jump in salaries from $95K to $125K. I now worry that he may have been right.
In my last post, I discussed the linkage between the bimodal distribution and the emphasis on credentials under the "Cravath system". I also stated that most law firms misunderstood the internal logic of the original Cravath model and promised to elaborate in a subsequent post. This is the promised entry.
One note of context: this post is not a history lesson. The Cravath system reflects a profoundly powerful method of developing human assets. Cravath started with very good associates/inputs and turned them into truly exceptional lawyers who were in high demand by clients and other firms. Moreover, the Cravath system required lawyers to work together collaboratively to further the clients' interests. This resulted in efficient and highly effective legal services that engendered the abiding loyalty of clients and more demand for the firm's services. See Results or Résumésat 4 & n. 13 (discussing concept of firm-specific capital). In other words, under the true Cravath system, everyone comes out ahead. Two caveats: (1) the first-mover--here, Cravath 108 years ago--garners the most benefit; (2) if a firm neglects a key element--e.g., investing in associates--the model generates no competitive advantage.
[Sources: The Cravath system described below come primarily from Robert Swaine's 1948 history of the firm and other contemporaneous sources from the 50s, 60s, and 70s, which I will cite as appropriate.]
Recruiting Elite Law School Graduates
One of the hallmarks of the Cravath system is the recruitment of elite law school graduates. As of 1948, Cravath, Swaine & Moore and its predecessor firm had employed a total of 454 law school graduates as associates. Of this total, 67.7% attended Harvard (128), Columbia (124), or Yale (54). According to Swaine, "in recent years there has been an increasing number from the law schools of the Universities of Virginia and Michigan." These two schools rounded out the top five : (UVA 30, Michigan 26).
Cravath's emphasis on credentials, however, had a clear economic logic that was designed to compensate for the deficiencies of early 20th century legal education. During this period, most law schools required little or no college education. In contrast, Harvard, Columbia, and Yale grads typically had a college degree before entering law school. Swaine writes,
Cravath believed that disciplined minds are more likely to be found among college graduates than among men lacking in formal education ... .
Cravath believed in seriousness of purpose--a man with a competent mind, adapting to practicing law according to Cravath standards, should have made a good scholastic record at college. But he recognized, without full approval, the tradition of the early decades of this century--that "gentleman" went to college primarily to have a good time and make friends. Hence, while a good college record was always a factor in favor of an applicant, lack of such a record was not necessarily an excluding factor. ... [I]n the stern realities of the depression of the '30s, however, college records of applicants came to have added importance.
Yet, "[f]or a poor law school record Cravath had no tolerance." Candidates who "had not attained at least the equivalent of a Harvard Law School "B" either had a mind not adapted to the law or lacked purpose and ambition ... ." Thus, the "first choice" was a "Phi Beta Kappa man from a good college who had become a law review editor at Harvard, Columbia or Yale."
Note, however, that Cravath's emphasis on credentials had a clear business purpose designed to compensate for the limitations of legal education. During the first half of the 20th century, going to an Ivy League law school did not guaranteed legal aptitude. Prior to advent of the LSAT in 1948, college grades were the only predictors of success in law school. In 1955, The "LSAT Handbook" included cross-tab tables of LSAT scores versus law school performance for several individual law schools. At Harvard Law, roughly 1/3 of the class scored below the 50th percentile. On the west coast, UC Berkeley had a similar wide range of LSAT scores. See The Law School Admission Test and Suggestions for Its Use (ETS 1955). The clear relationship between LSAT and grades subsequently encouraged law schools to revamp their admissions criterion. But that process took decades. See Lunneburg & Radford, The LSAT: A Survey of Actual Practice, 18 J. Legal Educ. 313 (1965).
In a talk at Harvard Law School, Cravath stated that a successful "lawyer of affairs" (aka corporate lawyer) assumed "the fundamental qualities of good health, ordinary honesty, a sound education and normal intelligence." On top of these attributes, a candidate must have "character, industry and intellectual thoroughness, qualities that do not make for charm but go far to make up that indefinable something that we call efficiency. Brilliant intellectual powers are not essential."
Over at Concurring Opinions Dave Hoffman (Temple) has another provocative post that will surely hit home for many on this blog. Dave pushes back against the growing (MoneyLaw) perception that tenure blunts scholarly productivity. Not surprisingly, Dave's post has prompted interesting commentary.
[Update: The initial post has been extended here.]
For those readers who are enrolled in frequent flier programs, you have probably received an electronic letter that makes allegations of "excessive ... unchecked market speculation and manipulation." The CEOs of 12 major carriers have jointly signed this letter, which apparently are being sent to all regular customers. (The electronic letters I received from United and Delta are online here and here. If you had not receive such a letter, check your spam filter.)
To my mind, this letter is extraordinary because (a) the CEOs, who are busy people, are acting in concert, (b) the letter contains empirical claims that involve serious allegations of market manipulation, and (c) the CEOs frankly state that current federal oversight is completely ineffectual. In their own words:
[N]ormal market forces are being dangerously amplified by poorly regulated market speculation.
Twenty years ago, 21 percent of oil contracts were purchased by speculators who trade oil on paper with no intention of ever taking delivery. Today, oil speculators purchase 66 percent of all oil futures contracts, and that reflects just the transactions that are known. Speculators buy up large amounts of oil and then sell it to each other again and again. A barrel of oil may trade 20-plus times before it is delivered and used; the price goes up with each trade and consumers pick up the final tab. Some market experts estimate that current prices reflect as much as $30 to $60 per barrel in unnecessary speculative costs.
Over seventy years ago, Congress established regulations to control excessive, largely unchecked market speculation and manipulation. ... [O]ver the past two decades, these regulatory limits have been weakened or removed.
The usual defense of speculators is that they add liquidity to the market, which permits stability in pricing. Although I believe that market forces often have a immensely curative power, my position is not ideological. It is empirical and sensitive to the facts of each situation. (For the record, I see too much ideology in the academy. This tendency causes intelligent people on both the left and right to gather facts to support a theory they love. This is totally backwards; facts should drive theory. But that rant is for another day.)
The SEC has a long record of aggressive enforcement of market manipulation in the securities market. The rapid emergence of the hedge fund industry represents a major challenge to the SEC because, frankly, the agency is still grappling with how these heavy traders influence the market. The Long Term Capital Management debacle, which involved Nobel Prize winners as principals, remains a cautionary tale that rightly worries the SEC.
In recent years, however, hedge funds have increasingly migrated to the commodity markets. In the oil markets, the regulator is the Commodity Futures Trading Commission (CFTC). In our article, From Insull to Enron: Corporate (Re)Regulation after the Rise and Fall of Two Energy Icons, Judge Cudahy and I examined Enron's lobbying efforts to influence how the emerging electricity market would be regulated. We were left with the impression that the company, and its industry peers, were quite successful in holding off aggressive CFTC regulation; between the SEC, the FERC, and the CFTC, the latter was viewed as the most friendly venue. A few years later, it was revealed that Enron traders were at least partially responsible for the huge price spikes in the California electricity markets. That debacle saddled California taxpayers with a huge bailout bill and effectively ended deregulation in California.
I don't have any answers on the alleged manipulation in the oil markets. But these are important questions. Because of the network economics of the airline industry, the major players are saddled with high fixed costs in the form of airplane leases and hub charges. So they routinely operate at a loss in the hope that occasional boom times will provide a modest offsetting profit. But wildly fluctuating variable costs, such as rising fuel prices, can push these companies over the brink. Hence, this extraordinary letter pleading for adequate federal regulation.
In the comments, please spare me the observation that the airlines could have locked in cheaper fuel costs through long-term contracts; a few airlines did this, while others missed the boat. In the airline industry, LT contracts can be a brutal double-edged sword. And by definition, an entire industry is unlikely to make the right bet. Someone has to get the short end of the deal. It may not be reasonable to expect airlines to outsmart hedge funds.
After a review of the empirical literature of punitive damages, including the relationship between punitive and compensatory awards, the Court concluded that the real issue it confronted was the "stark unpredictability of punitive awards." The Court continues, "We are aware of no scholarly work pointing to
consistency across punitive awards in cases involving similar claims and
circumstances." There are, however, studies based upon mock juries; the Court dismissed them because they were funded in part by Exxon. See footnote 17.
[I am familiar with many of the authors and studies cited in footnote 17and it] is really top notch work.
So I find this footnote troubling. There will be cases (including
election law cases) in which there are no extant studies on an
empirical question at the heart of a case. At that point, it makes
sense for litigants to fund such research. Indeed, when such research
appears in an expert report subject to cross-examination, I assume the
Court has no problem relying upon the evidence. So why should it be
different when a litigant funds the research, particularly if the
research has gone through peer review and of course if the funding
source is disclosed so that the opposing side may probe for bias?
Prompted by a relatively recent NYT Sunday Magazine cover story, Paul Cassell (Utah) ignited an interesting thread (and comments) over at the Volokh Conspiracy. Presumably, a careful longitudinal study is surely underway, though the research design is tricky.