Race, Law Firms, and KIPP

The New York Times, of which I am a voracious reader, recently published an article on the underrepresentation of Blacks at the partnership level in major law firms. The data is indisputable, but the interpretation of the data is not.

Large law firms, attempting to fight the perception of racism and perhaps signing onto some societal goals of racial distributive justice, hire a significant number of minority lawyers whom they would not hire but for the color of their skin. This doesn't mean that the minority lawyers hired are not, generally speaking, high quality law students. However, given the constraint of a limited number of associate positions at every firm, every degree of consideration given to race becomes a degree of consideration not given to other qualities.

To a critic of hiring policies that are not race neutral, the result of few minority associates becoming partners is a natural consequence of this fact. Their assumption is that these other qualities are what make a good candidate for partner. A proponent of the policies, on the other hand, might argue that minorities are excluded because of their race once they become part of the firm, an dthat this could be fixed if firms were to be more proactive. In reality, the reasons why minority associates are less likely than their white colleagues to make partner are complex, and both points are fair ones.

A minority associate most likely has been affected by a long chain of policies preferring minorities: undergraduate admissions, law school admissions, and hiring. The aim of these policies from an equality of opportunity standpoint is to counteract the disadvantages of growing up as a minority. If the policies are simply nudging marginally underqualified people into marginally tougher jobs, then, absent additional resources, they may simply be setting people up for failure who would otherwise succeed. An associate who does not make partner in a top 5 law firm might have made partner in a top 10 law firm, and an associate who does not make partner in a top 10 law firm might have made partner in a top 20 law firm. Having race preferential hiring policies absent some minimum level of additional support for minorities may actually be less desirable for those who share the goals of those policies than not having them at all.

Furthermore, a marginalized minority associate at a corporate law firm in NYC could have used the skills acquired in law school to have become a community leader in a smaller city or town. If we examine the end goals of race preferential policies-- for one, creating positive role models for the next generation of minorities-- I have to wonder whether society wants to encourage large law firms to prefer minorities. Other good reasons may exist for encouraging race preferential hiring policies at large corporate law firms, but at least in this respect the goals seem inconsistent.

In any event, regardless of one's view on race preferential policies for minorities, almost everyone would prefer to eliminate the disadvantages of minorities from the start. The New York Times Magazine recently had a fascinating piece in part on a unique approach to education of poor students. Critics of private and charter schools like to point out that few succeed at educating students where public schools also fail. However, KIPP schools, an uncommon exception, may prove the rule about the worth of exploring alternatives to the traditional public school system and its educational methods.

The idea the biggest differences in the outcomes of former children of poor parents and former children of wealthier parents is in the ways they are raised to communicate is an appealing one. Yet I have to wonder how much of the difference in KIPP's results is based on factors other than teaching philosophy, such as KIPP teachers' willingness to put in 15 hours a day on a regular basis. This amount of work may even make some corporate lawyers feel lazy. Despite the numerous challenges faced by low income students and public school districts in low income areas, I suspect that ultimately the reason many people in this country are undereducated is simply because society sets a low priority on education and has a low expectation of children of poor parents.

What would the world be like if we gave public school teachers in even the lowest income districts the professional respect and salaries of corporate lawyers and investment bankers and in return demanded similarly high levels of performance? My thought is that the government should be require extremely high performance from poor schools and, in return, be willing to throw large enough sums of money at teachers and administrators who are competent enough to overcome these challenges posed by such settings. If we lived in a society with true equality of opportunity, where students from poorer backgrounds consistently achieved as high as students from wealthier ones, perhaps the need for race preferential policies at any level would disappear.

Overpollution

The type of lawyer I will be was determined recently in Torts while we were talking about the Coase theorem and homeowners damaged by pollution. I suggested that if I were a factory owner having the right to pollute and homeowners could pay me to stop, I would choose to pollute much more than I needed in order to hold homeowners hostage for the entire surplus.

To borrow on the example from my class, let's say that when I, the factory owner, have the right to pollute and produce at my operations profit-maximizing level, I cause $500 of harm to 10 homeowners. Let's also assume that they can act as one unit. In this situation, we might think that homeowners collectively would be willing to pay me up to $5,000 if I could eliminate the pollution entirely. Assuming no transaction costs we would ordinarily just set the marginal social benefit of pollution abating equipment equal to the marginal social cost of the equipment.

However, let's assume that I decide to pollute slightly above my operations profit-maximizing level. We have two costs to this: 1) the cost of increased pollution, and 2) the cost of generating excess pollution. If the second cost is roughly nil, in a world without the homeowners I would be indifferent to the level of pollution. However, in a world with the homeowners, the more harm I can cause, the better bargaining position I am in. If I can cause $10,000 in harm instead of the operations profit-maximizing level of harm, I can hold up the homeowners for an additional $5,000 in order to eliminate the pollution. In non-discrete terms, I would have an incentive to cause pollution as long as each additional unit of pollution I caused increased the amount of free money I could get from homeowners later on. In theory, the only check on the potential maximum compensation I would get would be when the homeowners' marginal utility of decreasing pollution met my marginal cost of producing it. However, let's assume the curves diverge. Say the cost of producing pollution is held constant at 0 and the marginal utility of decreasing a unit of pollution is constant.

Now, we would only have to compare the marginal utility of decreasing pollution with the marginal utility of purchasing other goods. Assuming the marginal utility is very high relative to other goods, I could theoretically reduce the homeowners surrounding my factory to the level of subsistence and take virtually all their surplus utility. True evil.

The more interesting point is why this doesn't work. Looking from a broader viewpoint, all of us can do all kinds of things in our lives to harm other people, but usually refrain for good reason. Cooperation tends to be a more effective strategy than defection. People don't like feeling cheated or held hostage. Additionally, if factories owners began doing this to people, their right to pollute would eventually become a right of homeowners not to suffer from pollution (and homeowners might then hold factories hostage for their profits).

The other interesting point is in the distinction between a property right and a right to recover for harm. If a homeowner is particularly sensitive to pollution, a right to recover for harm in a court would require this person prove that unusual sensitivity in order to receive increased damages. However, damages would have to be proven and would have to conform to some standard of reasonableness. A homeowner could not simply get away with claiming that he just really hated pollution and that it was worth a lot of money for him to be pollution free when this preference wasn't within so many standard deviations of the mean preference.

At least to some extent, we want to extend property rights over the right to recover for harm (and injunctive relief over damages) when we want to allow more room for individual idiosyncracies. Perhaps on a broader scale, the ratio of absolute property rights to indeterminate tort rights is a measure of society's valuation of individuality to efficiency.

Strict Liability or Negligence

I really love my torts class and professor (Baker). He is an insurance/economics guy, and I feel like the issues we discuss in class are always on a really high order of abstraction. This makes things very interesting and fun. Baker basically just explains the cases briefly and then asks people questions about (in my mind) more important things-- the principles that are drawn out of the cases.

One of the issues we have been talking about a lot is the trend for courts to hold people or companies responsible for harm to others only when they are negligent.

The standard for determine negligence is generally "reasonable care." In other words, the amount of care a reasonable person would take. Since this is really vague, courts have employed a cost-benefit analysis called BPL. The "Burden" of a measure must be less than the "Probability" times the "extent of Loss" in order for an entity to be held not to have taken "reasonable care."

The negligence standard may have an appeal for intuitive reasons of fairness, but I believe that a strict liability standard would be more efficient.

Imagine that a company can spend from 0 to 100 on safety, and that customers can incur a loss of 0 to 100 from injuries. Companies face declining marginal returns on investment, meaning that the moving from level 0 to 1 produces a lot of decrease in the cost of injuries, whereas moving from level 99 to 100 produces almost no decrease. The optimal level of investment is where the sum of costs (actually net costs, but I'll just refer to them as costs for simplicity) are minimized. The graph would look something like this.



The distance from the point (0,0) to the line is also minimized here. For those of you who weren't math majors and can't tell what the algebraic function would look like from the graph: Cost of Injury = (Some Constant) * (Cost of Investment)^x, where x, the power (exponent) of Cost of Investment, is between 0 and 1. (Fun fact: when x = .5, the angle of the line from (0,0) to the Total Cost line is exactly 45 degrees.)

In this case, the optimal level of investment is 45, and the optimum amount of injury to customers is 25. Because of declining marginal net benefit on investment (because x is between 0 and 1), it is impossible to eliminate all injury.

Assume that the probability that an accident will happen to any one customer is very low. People tend to discount or even truncate low probability, high consequence events when making decisions, so absent a law imposing any liability on the business, it would never bear the social costs of investing no money in safety. Therefore, it's really wonderful that we have liability law. In fact, since x is between 0 and 1, the Total Cost line forms an asymptote with the x-axis. If a company spent 0, cost to injured customers and, in turn, society would be infinite. (I point this out, of course, to show the limitations of using mathematical models. At some point customers would start considering safety. However, within a certain range the model approximates reality quite well, which is why people use it.)

In order to maximize social welfare, we want a company spending less than 45 to raise its spending to the optimal level, and we want a company spending more than 45 (over prioritizing safety) to lower its level of spending to the optimal level.

Now comes the fun part. Social cost is actually a function of the standard deviation from the optimal level of investment of companies in this industry. I won't prove that (partially because I think I lack the math skills, but I would be grateful if someone else would like to in a comment). Just think about it for a second. The further away from optimal a company goes, the greater the total cost to society. In fact, the cost gets greater at an increasing rate.

In other words, we can say that Society's Costs = (Std. Deviation)^x, where x is greater than 1. (I think this is because the power of x in the equation above was less than 1. Now I'd really be interested to see the math if someone wants to tackle this.)

So, we can view reducing standard deviation from the optimal level of investment as a goal in itself. In other words, a low margin of error from optimal is extremely valuable.

Under the negligence standard of "reasonable care," courts are supposed to make this determination. Businesses have to try to pursue not the optimum level, but the level at which they think the court will consider "reasonable." Businesses spend tons of money every year and hire professional industry analysts to try to make precise, quantitative cost-benefit analyzes. If businesses were internalizing these cost-benefit analysis decisions entirely (that is, if they were required to pay for all the costs: the cost of investment and the cost of injuries), then they would have a significant incentive to meet the optimum level of investment as closely as possible and to keep low the industry's standard deviation from optimal investment.

Courts, however, do not employ management consultants with MBAs from MIT. The standard deviation from optimum when the court decides liability under "reasonable care" on a case by case basis will much higher. This is both because the court's own approximation of the optimum level of investment is likely to be imprecise and also because the decisions are somewhat unpredictable-- businesses will have a hard time trying to measure what "reasonable care" is.

Holding a business liable under a relatively strict standard would force businesses to internalize all the costs of injuries. They would ultimately choose something close to the optimal level of investment and then pay for any injuries that did occur. This would both decrease the standard deviation from optimal and decrease the amount of litigation, since the business would have a large incentive to settle most claims when it knew it would be forced to pay most claims.

Furthermore, a business gets a "double payout" for investing in a reasonable amount of care. Not only do they reduce the number of injuries and thus the number of claims they might have to pay, but they also don't have to pay claims at all as long as they exercise what the court considers "reasonable care." Conceivably, this would lead to over investment in safety compared to a stricter standard. Firms under "reasonable care" would be very concerned with erring on the side of caution. Assuming courts don't dictate a suboptimal level of investment to begin with (which is a possibility), this would lead to over investment in safety.

As long as the law can fully compensate me if I am injured, I would personally prefer for firms to be as efficient as possible because this would give me the highest quality service at the lowest cost. Whether they err slightly towards investing too much in safety or slightly towards investing too little is pretty irrelevant to me, assuming the law will fully restore me if I am injured.

I also think issues such as moral responsibility and blame apply only to individuals. When dealing with repeatable, predictable events on a large scale, statistical level, a focus on efficiency and preventability should trump attempting to apply standards of morality developed for individuals to multimillion dollar or multibillion dollar organizations.

Also, some non economists fail to realize that the arguments economists make about efficiency do not have normative components to them. In this case, I am not sure that the other values are incredibly important compared to the extreme inefficiency of the "reasonable care" standard. However, I don't make this claim with much force, and I haven't put a lot of thought into it. I'll stand by my math and economics, but there is much room for debate on the value level.

From The Economist

http://economist.com/finance/displaystory.cfm?story_id=7880472

Waste and Pareto Inefficiency in the Columbia Bookstore

Before arriving for orientation at Columbia (two days before our first class), the administration failed to tell us anything about either our classes or the textbooks we would need for them. We all had to buy them new at the Columbia bookstore instead of having the opportunity to buy them through amazon.com or another source cheaper than the bookstore. The bookstore failed to order enough textbooks despite an agreement with the professors of our Legal Methods course, and there were severe shortages. The store had to have these books shipped overnight at great expense to them and the inconvenience to many students.

I purchased all my textbooks at the Columbia Bookstore as soon as I got my schedule. I carefully read their return policy because I hate to buy new books if I can help it and wanted to try to avoid some of the potential costs to me of the decision by the administration not to give me an idea what textbooks I should buy in advance. The policy stated there and in other places in the store was that I could return the books up until September 14th, the end of the second week of classes at the main campus. Of course, I read all of the exceptions to insure that I would actually be able to return these books if I ordered cheaper ones online, and I even confirmed with the clerk that I would be able to do this.

I went and purchased a ton of cheaper used books online with the intent to return all of my new ones. I also selected the slowest, cheapest shipping method with the understanding that I would be fine to return the books up until September 14th.

When I went to return some today, they pulled out this sheet of paper saying that I had never seen before:



I told the woman that I had never seen that sheet and that the policy they gave me with the receipt says that the last day to return the books is September 14th.

As I anticipated, she told me that that doesn't apply to "special courses." I then whipped out my statutory interpretation skills and pointed her to the relevant text of the policy, which as you can see, clearly states "special one-week courses," not "special courses."



The woman then went into the back, apparently to talk with managers. After a few minutes she came back and told me that the books have stickers which say "no return" on them, but that she would go ahead and make this one-time exception for me. I wasn't going to give up, however, because I still have over $150 worth of books I need to return when I get the used books in the mail.

I said that none of the books I purchased had "no return" on them, and I told her there was nothing about no return on the books as I bought them. She replied that mine must have been the only ones without this information, and then when I challenged her on this she there was something actually on the book description below where the books are.

I told her that if I actually had missed this on the day when I bought my books, then I understood that I wasn't entitled to refunds on these and wouldn't press my case, but she insisted that they would make a one-time exception for me-- they just didn't want everyone bringing their books back.

I went to the back to see how I could've missed these stickers the first time I bought the book because I was genuinely curious and convinced that I had made a mistake. I find one of the books on the list, the Strauss Legal Methods book, and am looking for something that says "No Return." Not being able to find this, I ask the bookstore employee standing to my left if these books are "No Return" and where it stated that. As I ask him this, I notice that he had in his hand a big roll of bright-red "No Return" stickers and that he had been just been plastering these all over the section which contained our "Legal Methods" books. In response to my question, he held up the stickers and said he was about to post one there (by the Strauss book) as well.

He then asked me if I was the one up at the front, and I told him I was and then explained that I had been planning to return many more of the books before September 14th than just the two I had brought with me today. He asked me when I would be able to do it and I said "Probably within a week." He then told me they would make an exception for me and told me to ask for him by name when I came back to return the other books.

This whole fiasco was a pretty clear attempt by the bookstore to enforce a new return policy after we had all already bought our books under the previous policy. While I understand their desire not to lose money on these books, they are the ones who messed up by not labeling the books as "No Return" or adding this into their policy before I bought them. This oversight on their part caused many of us at the law school to order used books online under the assumption we would be able to return them.

I rightly assumed there is at least one other 1L who bought these books before they put up the stickers and now wants to return them. I knew the bookstore would direct them to the stickers if the tried to return the books, so I wanted people to know that these stickers were only put up today, and that the bookstore is clearly in the wrong here, so I posted a message on a CLS '09 Facebook thread.

While I suspect many people will end up getting these refunds, in a way this is a hollow victory. I am sickened by the obvious Pareto Inefficiency of the circumstances surrounding all of this. If the company ends up complying with its own stated policy, then this only shifts the cost of a massive amount of waste they created back onto them, which I think is only fair.

The waste they created is defined as the money students spent on used books ordered to replace these new ones (Used Cost), minus the resell value (Resell Used) adjusted for the shipping costs here and to wherever they would go next (Shipping) and for the extreme hassle everyone would have to go through in order to sell these books and ship them out (Hassle).

More concisely, the waste to law students if the store did not honor its policy would be:

(StudentWaste) = (Used Cost) - (Resell Used) + (Shipping) + (Hassel)

The significant costs to the bookstore of absorbing its mistake would be the restocking expenses (Restocking), the storage fee for all these books for one year and the lost opportunity cost of storing other things (Storage), the loss to capital including the opportunity cost of capital-- in other words, they could have had the money invested in an appreciating rather than depreciating asset-- (Capital), and the potential for massive depreciation of capital if the professors decide to publish a new edition or decide to switch curricula at all (-Resell)+(RiskChange)(CostChange). Of course, 0 < (RiskChange) < 1. Thus, the costs of the waste to the bookstore is:

(StoreWaste) = (Restocking) + (Storage) + (Capital) - (Resell) + (RiskChange)*(CostChange)

One thing I would like to note here is that, if (StoreWaste) > (StudentWaste), then the Pareto-Efficient outcome would be for the students not to return the books and for the store to pay the students some premium (PayOff) in addition to (StudentWaste) in order to have the students deal with the problem. In order to be Pareto-Efficient, that is, beneficial for the bookstore and the students in this circumstance, the equation would have to be as follows:

(Payoff) + (StudentWaste) < (StoreWaste)

A second, more significant level of waste may have been created by the administration's failure to inform student's of their class schedules and required textbooks in time for the students to order used books before arriving at Columbia. The administration may have had good reasons for not having done this, but I think any reasonable person would concede that we should be weighing whatever those reasons are against some precisely-defined costs to the students and the bookstore.

New books experience a high amount of depreciation on sell-back, particularly if students need to write or highlight in them, which is the case with many law-school textbooks. Although compared to the market for other textbooks, the market is much tighter for clean law textbooks and depreciation higher (since most students will still be writing in the clean used book), I'd still estimate that students can save at least 30% by buying a clean used copy and 10% buying a new copy online. (The textbooks bought at the bookstore were not subject to sales taxes, or this would change the formulation to weigh even more heavily towards buying online.)

In addition to the percent savings estimates, I will make the following additional assumptions in calculating the cost of the administration's policy:

1) All students paid an average of what I paid at the bookstore, $246.35.

2) Only new copies were sold to students in the bookstore.

3) 250 out of 350 students in the 1L class at Columbia would have chosen a clean used copy over a new copy if any price difference existed between the two.

4) Out of the 100 students who preferred the the new copy, 50 preferred the convenience of the bookstore over ordering online.

With these things in mind, some simple mathematics can shed light on the cost of the administration's policy of not ordering textbooks (Cost Policy):

(CostPolicy) = ($246.35)*(.7)*(250) + (246.35)*(.9)(50)

(CostPolicy) = 54,197

As this figure suggests, my assumptions allow for a fairly wide variation before (CostPolicy) becomes insignificant.

Before finishing and getting to the reading of these books I'm discussing in the abstract, I'd like to delve into some possible components of (CostPolicy) and suggest that there may be a Pareto-Efficient alternative to the current policy.

First, let's make the simplifying assumption that the only parties we should care about are the law school, professors, and student body. Also, we'll assume while working with the benefits and costs to each entity that no benefit or cost to one entity have any positive or negative effects on any other entity other than effects I state below. This last assumption is highly doubtful given the nature of the relationships among the 3 entities, but we can cast this aside since the outcome I'm going after, Pareto-Efficiency, harms no entity while benefiting at least one entity.

Let's assume that the law school gets a percentage of every sale that the bookstore makes to entering 1Ls. If (KickBack) < (CostPolicy), that is, if the total amount of income the law school receives from these books is less than $54,197, then this situation is Pareto-Inefficient between the two parties. Since professors are also getting royalties from every sale of a new book they have written or edited, then we must add this into the equation as well.

How we account for royalties is a bit complicated, because if a student doesn't buy a new book at the bookstore, that doesn't mean that the professor completely loses royalties for that book, since a student then shifts her purchase to the used market. This purchase in the used market depletes the supply of used books, and the student's markings in the books deplete the supply of clean used books, making the price of all used books higher, and closer to the price of new books. Since new books and used books are imperfect substitutes, the markets for the two types overlap significantly. If the supply of used books falls, the demand for new books rises, although not at a 1:1 ratio (otherwise they would be perfect substitutes).

Even making an educated guess about this ratio, called the degree of substitution elasticity, would require an insanely large amount of data which I, unfortunately, threw away just today thinking I would never need it. In any event, my intuition is that this factor is quite significant and so I will assign it (SubElasticity) a value of .5, which I think is very conservative given the high premium placed on clean copies of the books. I would give this number a much higher weight if I could safely assume the book was used by thousands of students in classes around the country and take the preferences of the 1L students at Columbia as a negligible part of this whole.

Assuming that every new book a student forgoes for a clean used book costs the professors half the royalties they otherwise would have received, assuming that professors at this law school are collectively are receiving a 15% royalty on the books we buy with them as editors or contributors, and assuming everyone bought the Strauss Book which I bought for $92.15 and the optional Greenwalt book which I bought for $17.75, then we can define net royalties (those existing under the current policy, but which would be lost if students knew about their textbooks in advance) as:

($92.15+$17.75)*(.15)*(.75)*(250) or (NetRoyalties) = $3090.94

This is not an insignificant cost, but is of a different order of magnitude than the aggregate cost of the waste imposed on students (CostPolicy), which, again, is $54,197. Even if the law school gets an additional 5% (KickBack) from every book sold at the bookstore, the benefit to the law school and professors combined still doesn't even come close to (CostPolicy).

(KickBack) = (.05)*(300)*($246.35) = $3695.25

(KickBack) + (NetRoyalties) = $6786.19

Now we get to the good stuff! Any "other reasons" that Columbia might have for this policy must add up with (KickBack) + (NetRoyalties) to equal (CostPolicy). In other words, the "other reasons" must be worth $47,410.81. To put it all together simply, if: (OtherReasons) + (KickBack) + (NetRoyalties) < (CostPolicy) then the situation is Pareto Inefficient. As long as (OtherReasons) is less than $47,410.81, and, there may actually be no other reasons, then the situation is not optimal.

The cost of waste to the student body in this scenario is $154.85 per student. The cost of the law school's kickbacks and the professor's royalties combined in this scenario is about $19.39 per student. Subject to significant inaccuracy in accounting for one or more crucial assumptions, the model I've set up clearly shows that the law school community is harmed much more than it is helped by this policy.

To put this more bluntly, if the law school informed students of the textbooks they needed to buy beforehand and incoming 1L students next year simply gave the law school an extra $154.85, the students would be no worse off than they are under the current policy (assuming the bookstore doesn't allow returns) and the law school would have an extra $47,410.81 after they paid off the professors for lost royalties. If the 1L students next year simply compensated the law school and professors for all their losses in exchange for the change in policy, the student body would have an extra $47,410.81 and the school and professors would be no worse off than they are now.

What's important to me as an economic thinker is not whether such a surplus is distributed to one group or another. Certainly, every group would want a share of the bigger pie. However, I am very concerned with the complete waste in aggregate of tens of thousands of dollars if no good (OtherReasons) exist for 1Ls not being able to purchase these textbooks online ahead of time.

Industrial Safety (2 of 3)

The data available comparing the number of railroad workers injured and killed in the late 1800s to the price of preventing most of these injuries and deaths suggests that employees, if employees were assuming these risks for higher pay, were placing an incredibly low value on their own lives. However, a more plausible explanation asserts itself, and that is that people tend to discount both long-term risks and low-probability high-consequences events when making decisions. In other words, someone offered a railroad job was very unlikely to be thinking of (or even have the capability of accurately assessing) the multitude of low-probability high-consequence risks when deciding whether to take the job or not. He was more likely thinking of how he was going to feed his family. Even if a potential employee did consider these risks and demanded a higher wage, the railroad could always find hundreds of other qualified candidates not considering these risks and willing to take a lower wage. In the absence of collective bargaining, we again encounter a race to the bottom-- this time in hiring.

However, before we pull out our copy of Das Kapital and start planning the revolution, we should examine how we could harmonize the incentives of managers with morality.

The Railroad Safety Act of 1886 was an attempt to remedy this situation. The legislature perceived this social inefficiency and properly concluded that there were too many unnecessary deaths and industries in the injury. Their solution to the problem was to require railroads to install certain equipment on the trains which would prevent a significant number of injuries and deaths.

While the legislation succeeded in reducing the number of casualties among railroad workers, it was a blunt ax where a fine scalpel would have been of better use. In light of the confusion in the industry and courts over interpretation of some of the statutes, the simplest solution to this problem (and similar problems in many industries) seems to have been simply to alter the common law doctrine of "assumption of risk" by statute, creating a legal presumption that an industry would be completely or in some significant part liable for any damages suffered by its employees in the course of their work. If companies had to pay out a certain amount every year for every employee hurt or killed in the course of employment and these amounts were assessed in line with people's true values of life and bodily integrity, then the companies would be in a good position to harness their competitive energies towards allocate scarce resources to preventing the greatest number of injuries and deaths as cheaply as possible.

One implication of this solution, given that workers don't properly account for the risk of injury or death at the time an employment contract is created, is that railroads could simply require workers to assume these risks explicitly as a condition of employment. Indeed, this happened in England with railroad safety legislation in the same time period and drained the legislation of all its power. If we are not to accept the inefficiencies of an extremely artificially low value being placed on life and if we assume we can't change human nature to make people fully take these risks into account, only two possible solutions arise.

If workers were not allowed to assume these risks either implicitly or explicitly, companies would be forced to assume liabilities. One of the objections to requiring this in common law was the idea that people should have some sort of fundamental right to contract. More broadly, this belief is based on values of personal freedom and autonomy. A strict deontologist would conclude that these values should never be sacrificed for utilitarian ones, like saving many lives and preventing many injuries. If this is the only feasible way to attain those utilitarian goals in a capitalist system, then I find the argument unpersuasive.

However, John Kenneth Galbraith's concept of countervailing power points to another solution, but a discussion of that concept and solution will have to wait until I can get away from my casebook again.

Industrial Safety (1 of 3)

In 19th century American and English law, the legal doctrine of "assumption of risk" kept workers employed in dangerous industries from collecting damages from their employers for injuries on the job and kept the widows from collecting in the event of death. The primary causes of injury and death were when men had body parts smashed while linking cars together with a pin and when they fell or were knocked off of the tops of moving trains. The percentage workers killed or seriously injured in the railroad industry was staggering, and in an era before the modern welfare state and before workers formed cooperative insurance companies to pool risk, this legal principle effectively condemned widows, crippled workers, and their families to destitution.

The principle of "assumption of risk" was based the belief that railroad workers, upon taking employment in the industry, were accepting the risks of a hazardous occupation in return for better pay, and that this higher pay released the employers from liability. In common law, when a person took employment, he or she was legally presumed to have assumed all the risks of that employment unless the employee and employer explicitly contracted otherwise. Why would presumption be that the employee and not the employer assumed the risk of the occupation? This notion may seem odd to the 21st century reader.

In pre-industrial times, this policy may have made economic sense. That is, holding employees liable might have prevented more injuries and deaths for a lower cost than holding employers liable. In the late 19th century, however, management theorists began to turn the lens of their industrial theories to focus on the problem of risk. If managers were to accept human fallibility as inextricable component of homogenous, industrial process, then they could develop systems which would minimize the risks posed when a worker inevitably made a mistake. The answer to whether workers or employers could best manage risks comes down to an issue of information asymmetry: while a worker may only have had access to his own experiences and those of a few fellow employees, the management of a national railroad company potentially had access to mountains of risk data from which patterns could be inferred.

Because of this asymettry, the argument goes, an employee would have to exert significant resources to preventing injuries, whereas managers could prevent them relatively cheaply. Scientific scrutiny of industrial organization reduced the costs of production for many other commodities, and now the commodity of safety could also be purchased much cheaper.

However, here we encounter the fundamental problem. If a company supplying a homogenous good, coal for example, can devise a way to increase efficiency by lowering the marginal costs of each unit of coal, it can undercut its competitors, steal business, and reap increased profits. The increased profits of the innovator and decreased price of coal in the market induce other coal producers to adopt such a practice (or innovate themselves) in order to decrease operating costs and survive. At the end of this cycle, consumers spend less money to buy coal, and producers operate more efficiently.

In the case of safety this principle operates in quite the opposite way. If workers assume all the risks of their occupations, then a manager has no financial incentive to worry about worker safety. One might argue that a moral incentive is enough, and that a manager should undertake to improve worker safety because it's the right thing to do. However, assuming that any dollar spent on safety is an expense and is not recovered by savings from lower wages (an argument I will address shortly), any dollar spent on safety must come either from increased prices or decreased profits.

As it turns out, neither of these options actually increase the welfare of the business. If the company attempts to pass on the cost increase to indifferent consumers, who only care about the price of the final good (and not about the 1 in 10,000 chance that someone involved in the production of a unit would be seriously injured), then these consumers will begin to buy all their products from the company's competitors, forcing the business either to cease making expenses for safety or to go bankrupt.

One might be tempted to see this situation as a conflict between the greedy company's desire for profit and the safety of common workers. However, if the extra dollar spent on safety is taken as a loss by the company, the return on investment to shareholders will fall. The company must compete with other companies for shareholders' capital just as much as it competes with other companies for product sales. If shareholders are relatively indifferent to the suffering of a company's ex-employees and their families and remove their capital from our socially responsible coal company, the business will no longer have the means to expand and will likely shrink.

What should be drawn from this analysis is that, if a company chooses to be humanitarian in this environment, it will likely go bankrupt or at least remain a localized oddity. The end result is that all successful businesses are immoral.

But wait! What about the assumption of risk doctrine? Isn't a company's cost of labor higher because of the extra pay it gives to workers to compensate them for taking a risky job? If so, wouldn't the company more than make up in savings on wages what it spends on safety?

I will address these questions in the next post.

Introduction: Positive Externalities

The idea for this blog came to me after a discussion section for my first year Legal Methods class at Columbia Law School today. During this class, I had spoken out on a number of issues relating to some legislation passed in the 1890s and a subsequent court case interpreting this legislation. I was tearing into the legislature, the ICC (Interstate Commerce Commission), and a federal appeals court with what were, to me, dry and obvious economic arguments involving phrases such as "perverse incentives" that sounded much more emotionally charged in a legal setting than they ever did to me in my economics classes. I thought I had come off as framing the issues in a very simplistic way, and was a bit embarrassed. I was surprised when, later in the day, several people in my class who made a number of good points themselves, complimented me on the issues I had raised in the discussion section.

The tools of economics have so far been vital to my positive and normative understanding of the law, and I expect they will continue to inform it as I continue through law school. In addition, the context that an economic framework provides helps me better retain the issues of law and legal theory that may be more directly relevant on a final examination. Expressing these thoughts to larger audience and flushing them out more fully through debate may contribute even more to my retention and understanding and, ultimately, to my success in law school and beyond.

Thus, the benefit of readers is not my primary concern, but hopefully my activity will produce some useful externalities.