Last month I highlighted the story of DeMarcus Cousins, a blue chip high school basketball recruit who was playing a game of chicken with the University of Alabama-Birmingham (UAB) over signing his National Letter of Intent — the letter that commits a player to attend the university and imposes the penalty of giving up a full year of eligibility if the student-athlete transfers.  Cousins claims that he stayed near home and UAB to play for former Indiana University coach Mike Davis who had allegedly represented to Cousins that UAB would release Cousins without penalty if Davis was no longer his coach.  Cousins has been holding out to try to bargain for this term in his NLI.  Nothing new there — though if anybody has information on the follow-up story there I’d love to hear it.

I came across this story at ESPN on the release of Miami University QB Robert Marve which includes the following detail:

The release comes with conditions that don’t sit well with Marve. He can’t play for teams in the Atlantic Coast Conference, the Southeastern Conference or the state of Florida. It’s not unusual for programs to place restrictions on the deal when a marquee player transfers.

If this sort of ex-post imposition of non-compete conditions on player releases is standard fare, which the article suggests that it is, Cousins’ strategy seems even more reasonable to protect against this sort of hold up with contractual protections ex ante.

UPDATE:  Apparently, the University of Miami has relaxed its restrictions on Marve’s release.  Originally, Miami was prohibiting Marve from transferring to any school in the ACC, SEC and the state of Florida.  Now, Marve is only restricted from attending three schools that the University of Miami believes Marve contacted prior to receiving his release: the University of Florida, Tennessee, and and Louisiana State University.

One of the highlights of my recent time as Scholar in Residence at the Federal Trade Commission was the opportunity to work with some of the brightest minds around on antitrust issues on investigations and policy projects as well some academic projects.  The subject of this post is one of those academic projects.  Motivated by the conventional wisdom that the technical demands placed on federal courts in antitrust cases in terms of evaluating expert economic and econometric evidence has increased substantially over the last twenty years or so, Former Bureau of Economics Director (now returned the Kelley School of Business at Indiana University) Mike Baye and I decided to try to take a swing at measuring the empirical effects of economic complexity of judicial decision-making in antitrust litigation.  Both “economic complexity”(as opposed to say, legal complexity) and “judicial performance” (in terms of quality of evaluation of economic evidence) are nebulous and difficult to measure concepts.  But understanding the impact of economic complexity and economic training on the quality and accuracy of judicial decision-making in antitrust is incredibly important as both a legal and policy matter.  Antitrust also seems uniquely suited for such an inquiry since the nearly wholesale integration of economic analysis into antitrust legal standards (e.g. did the merger substantially lessen competition has come to mean something like “are prices going up or down”?) such that most if not all decisions on substantive antitrust issues turn on economic analysis.

While there is now little doubt that complex economic and econometric analyses are standard fare in modern antitrust litigation, but there is a dearth of empirical evidence addressing what impact, if any, this complexity has had on judicial decision-making.  An ABA Task Force survey of 42 antitrust economists revealed that only 24 percent believe that judges “usually” understand the economic issues in a case. The ABA Task Force Report and other commentators have suggested a number of possible solutions to the “problem” of economic complexity and expert evidence ranging from increasing use of court appointed experts pursuant to Federal Rule of Civil Procedure 706 (a), expanded use of Daubert to deter unsupported economic testimony, introduction of concurrent evidence procedures, creating specialized courts, and supplying basic economic training to judges.

We undertook to empirically examine these issues directly by evaluating the relationship between economic complexity and appeals in district court decisions reaching substantive antitrust matters from 1996-2006.  We also have some unique data that we’ve collected on which federal judges attended the George Mason University Law and Economics Center economics training and examine how that training impacts the appeal rate in economically simple and complex cases.  Check out the paper for details on our measure of complexity, a defense and discussion of the appeal rate as a measure of “judicial economic error” holding all else constant, and various other methodological issues.  Now seems like a good place and time to thank my team of research assistants that worked tirelessly at putting this database of decisions and coding various aspects of those decisions and information about the judges together over the past few years as well as very helpful comments we received presenting the paper at workshops at UCLA, Stanford, and Texas.  I envision the paper as addressing two related research questions: (1) what is the impact of economic complexity on the quality of judicial-decision making in antitrust? and (2) does basic economic training (at the LEC) improve judicial decision-making in antitrust cases?

I also note that readers who have been following the occasional controversy over the George Mason Law and Economics Center, the Feingold-Kyl Amendment, and allegations that “economics training” is some sort of proxy for “right wing conspiracy” to teach “conservative economics” to federal judges might have an interest in the paper as well.  Our results suggest that economics training has some real but limited benefits for judicial-decision making and do not support the critics’ accusations.  I’ll discuss some results that pertain to this issue below.

Here’s the abstract:

Modern antitrust litigation sometimes involves complex expert economic and econometric analysis. While this boom in the demand for economic analysis and expert testimony has clearly improved the welfare of economists-and schools offering basic economic training to judges-little is known about the empirical effects of economic complexity or judges’ economic training on decision-making in antitrust litigation. We use a unique data set on antitrust litigation in district courts during 1996-2006 to examine whether economic complexity impacts decisions in antitrust cases, and thereby provide a novel test of the frequently asserted hypothesis that antitrust analysis has become too complex for generalist judges. We also examine the impact of one institutional response to economic complexity: basic economic training by judges. We find that decisions involving the evaluation of complex economic evidence are significantly more likely to be appealed, and decisions of judges trained in basic economics are significantly less likely to be appealed than are decisions by their untrained counterparts. Our results are robust to a variety of controls, including the type of case, circuit, and the political party of the judge. Our tentative conclusion, based on a revealed preference argument that views a party’s appeal decision as an indication that the district court got the economics wrong, is that there is support for the hypothesis that some antitrust cases are too complicated for generalist judges. 

I discuss some of our results below the fold, but you’ll have to check out the full paper for details.

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Bryan Caplan writes:

At risk of offending my many friends in the legal academy, I think that law is a shockingly phony discipline.  Virtually everyone - liberal, conservative, Marxist, libertarian, or whatever - imagines that the law conveniently agrees with what they favor on non-legal grounds.  Almost no one admits that many, if not most, laws are so vague that there is no “fact of the matter” about what they mean.

Once in a while, I should add, a law professor has told me this verbatim, and then gone back to arguing about the law.  The philosopher in me insists, “If there’s no such thing as unicorns, we can’t argue about unicorns,” but the Great Unicorn Debate never stops.

No offense taken.  But is he right?  Mike Rapaport distinguishes between lawyers predicting what courts will do (not phony because lawyers reach consensus) and what the law should be (phony, or at least no consensus because of political ideology influencing views).  I agree with the things Professor Rapaport writes, but what’s the relationship is between ability to reach consensus and phonyness?  I’m not sure precisely what Caplan is claiming here.  I think its that the law itself doesn’t have any meaning because folks can argue over what it means.  The corollary is that folks that study something that doesn’t mean anything are phony Unicorn Debaters, e.g. would evidence that the legal academy can reach consensus over some significant fraction of “what the law is” demonstrate legitimacy?

Maybe in addition to the positive v. normative distinction, there is some type selection bias here. Laws that really do mean something are not frequently discussed and debated on philosophical grounds.   Poorly drafted, vague, and legally questionable laws get a lot of attention and attract a good amount of attention in the form of legal scholarship, media coverage, and general debate.

Antitrust is a good example here despite the fact that “the law” is of the “federal common law” variety: judge made rules putting flesh on the bones of the hopelessly vague formulations about reasonable restraints of trade in the Sherman Act.  There is much consensus on what the law “is” with respect to price-fixing, and even with respect to mergers.  There is some law to speak of in both of these areas even if there is some disagreement on the margins.  On the other hand, the rules for monopolization under Section 2 are not only less clear, but there is also more debate over what they should be and how they ought to be applied.  If one asked a room full of 100 antitrust lawyers how a specific and detailed bundled discount program by a monopolist would be evaluated by the courts and what standard would be used to evaluate the program one would get much more variance in the answers than the same exercise for a hypothetical cartel.  Does Caplan’s position imply that those who work on the the design of legal institutions and rules for cartels are engaged in a legitimate exercise (because there is law) but those who work on monopolization are phony (because there is not)? Or does the phonyness only apply when no consensus is reached on what the law is?

There also appears to be some confusion about what it is that law professors do.  I suspect that the current scholarly output of the legal academy is heavily weighted towards normative scholarship rather than describing what the law is or predicting what courts will do.   On net, I think this observation probably cuts in favor of Caplan’s observation for reasons he doesn’t mention, e.g. to the extent that some non-trivial fraction of this work asserts without methodological rigor of any form that the “law should be X” because X is more consistent with the author’s personal policy preferences it probably satisfies Caplan’s definition of phony.

On December 16, 2008, the FTC filed a complaint against Ovation Pharmaceuticals that challenged its 2006 acquisition of the drug Neoprofen from Abbott.  (The acquisition had fallen beneath the HSR thresholds and thus was not subject to an HSR investigation prior to consummation).  While the complaint and case itself raises some interesting issues which I will discuss below, the concurring statements of Commissioners Leibowitz and Rosch, particularly the theory laid out in Commissioner Rosch’s statement raises more interesting (and potentially troubling) issues – in particular the potential to substantially expand the scope of Section 7.

The complaint involves the acquisition by Ovation of its alleged only other competitor in the sale of drugs used to treat patent ductus arteriosis (PDA), a potentially life threatening heart condition in severely underweight newborn babies.   Assuming the facts are as presented in the case (which I am sure defendants will contest), the complaint itself does not raise complex antitrust issues.  Given the alleged facts, the acquisition would essentially be a merger to monopoly (at least until a generic version of Ovation’s product is on the market assuming one eventually enters) without any other projects apparently in the pipeline to treat this disease (perhaps not surprisingly given the relatively small number of patients per year).

Despite these seemingly routine antitrust issues, this case would be the first time the FTC has challenged in court an acquisition that at least at the time of the transaction involved potential competition.  It is unclear, however, whether this case will provide much guidance in this area with regard to the types of matters the FTC routinely investigates and challenges in pharmaceutical acquisitions.  First, this is an alleged merger to monopoly.  Second, one of the products was already on the market and the other was fairly close to FDA approval (apparently already completing Phase III trials).  Thus, the potential competition was relatively close to actually competition.  Third, with no other products in the pipeline, the case raises no issue of whether the market would be narrower than all drugs used to treat a particular disease.  However, there is likely to be at least some issue as to whether the products would be very close substitutes.  Fourth, with hindsight, the drug not yet on the market was brought to market fairly quickly after the transaction and thus no tricky issues about innovation competition and whether one product would be cancelled or delayed are raised.  Thus, if anything this appears to be a “poster child” for a potential competition case (particularly given the allegations about the increases in price).  The FTC routinely investigates and challenges potential competition theories via consent matters that involve less relatively “clear cut” issues and thus it is not clear that will help inform how courts would view such cases.

Of more potential interest is the fact that the FTC is making an important part of its argument the alleged increase in price and is seeking disgorgement of profits gained from the transaction.  The FTC is alleging that after the transaction Ovation raised the price of its own product (which was already on the market) from $36/vial to $500/vial – a huge increase.  The challenge the FTC is likely to face and where economic testimony is likely to play a central role (as it did in Evanston), however, is attributing some or all of that price increase to the merger.  There are at least reasons to think that there might be other reasons for the price increase.  First, one would wonder why the threat of competition would keep prices low prior to the competitive drug actually being approved (presumably Ovation would have wanted to charge higher prices when it could and only drop prices when a new product was on the market particularly if the barriers to entry exist as are alleged in the Complaint).  Second, I cannot think of an economic model where a duopoly would lead to a price less than 10% of the monopoly price when the two products involved are branded, are not likely perfect substitutes and almost certainly would not be sold only based on price.  Thus, determining how much of the price increase can be attributed to the transaction may be challenging for the FTC and this issue will likely be a central role for the economic testimony (although such testimony will almost certainly include other issues as well).

This leads us to Commissioner Rosch’s theory (which is endorsed by Commissioner Leibowitz).  Commissioner Rosch would also challenge Ovation’s original purchase of its product (Indocin) from Merck even though at that time Ovation had no horizontal or vertical relationship with the PDA market because Ovation raised the price when Merck had kept the price low.  Ovation’s acquisition only changed who marketed and priced the product, not the number of competitors.  In fact, at that time, Merck had a monopoly in the alleged market and this was unchanged by the acquisition.  Commissioner Rosch’s theory is that something must have constrained Merck from charging higher prices for its product (he theorizes that perhaps it could be the reputation effects on other products in their portfolio) whereas Ovation did face such constraints and thus raised prices.  Thus Commissioner Rosch’s theory appears to be that because the acquisition changed the incentives of the firm owning the monopoly such that it would fully exploit that monopoly this can be a Section 7 violation.

This theory seems far removed from the way we normally analyze merger cases and potentially would have the effect of raising antitrust concerns or at least an investigation with almost any transaction where one firm might be argued to have market power even though the structure of the industry (horizontally or vertically) is unchanged.  While Commissioner Rosch highlights some potentially limiting principles, such as the fact that this is a consummated transaction, it is hard to see how this fact connects to why the transaction might violate Section 7 (versus potentially discretion as when to pursue the theory).  Regardless of whether the merger was consummated, as discussed above, one would presumably need to show that the merger caused the price increase rather than other factors which is likely to be challenging, particularly in a non-horizontal deal.

Moreover, antitrust has generally not been about the exploitation of market power (i.e., charging above competitive prices) but rather the inappropriate acquisition or maintenance of that power.   This focus has been for good reason as it prevents antitrust courts and regulators from the business of determining competitive prices and when exploitation of market power is a good thing (because it is the rewards for innovation for example) or a bad thing.  Moreover, there is nothing that necessarily limits this theory to a merger but could theoretically be applied to anything that might allow a monopolist to raise price.  While this could be a boon to economists it is not clear it is good policy.   The FTC complaint does not espouse this theory so apparently some at the agency do not agree with Commissioner Rosch’s point of view (or they wished to keep the complaint more straightforward for the second acquisition).  It will be interesting to see if this theory begins to appear in any other merger investigations.

Bill’s shift to emeritus status and move to Arizona are not the only changes at TOTM for the coming new year. We’ve also got some plans to make sure that we’re feeding our loyal readers a steady stream of law, economics, and business content.  One of these plans can’t wait for the New Year.  We’ve lined up a series of guest bloggers that we will host to add to the mix here at TOTM.  The guests will include lawyers and economists, academics and practitioners, and a variety of perspectives on the issues that are near and dear to our hearts around these parts: antitrust, intellectual property, corporate and commercial law, business, and law and economics generally.

I’d like to introduce the first guest in our series: Dr. Mary Coleman.

Mary is the managing director of LECG’s Mergers and Acquisition practices.  She was the Deputy Director for Antitrust in the Federal Trade Commission Bureau of Economics from 2001 to 2004, and served as a staff economist from 1990-93 including a role as lead economist on the Commission’s Microsoft investigation.  Dr. Coleman received her PhD in economics from Stanford University in 1990 and specializes in the competitive analysis of mergers and acquisitions and joint ventures, and antitrust and intellectual property litigation. She has experience with a wide range of industries and has made presentations before US and foreign antitrust authorities. Mary has published a number of articles on topics such as antitrust analysis in high technology industries, the use of merger guidelines in various international jurisdictions, and the use of econometrics and other empirical methods in antitrust analysis.

We’re thrilled to have Dr. Coleman on board for a few weeks and I’m sure our readers will enjoy her posts.  I know that her first post will start where I left off discussing the implications of the Commission’s recent theory of enforcement in Ovation Pharmaceuticals.  After that, anything is fair game.  Welcome aboard Mary.

There’s good and bad news for Truth on the Market, and I wanted to share both with our loyal readers.

The good news:  Bill, co-founder of this blog and stalwart of our early blogging days’ focus on securities regulation and corporate law and governance, has accepted a new, senior position at the University of Arizona Rogers College of Law.  This is great news for Arizona–Bill is a tremendous scholar and a great colleague.  We heartily congratulate Bill on this well-deserved move, and we look forward to hearing more about his career from his new perch.

The bad news:  With his new move and new responsibilities, Bill has decided to give up blogging (for the time being at least).  We will miss Bill’s insights and wealth of knowledge, as I’m sure our readers will, as well.  Bill is always welcome to return to Truth on the Market–the blog began as a gleam in Bill’s eye and a generous invitation to me to join with him in starting the blog, and I am forever grateful to him for the opportunity.

Bill will become our first blogger emeritus, and his login will remain for whenever the spirit moves him.

Congratulations, Bill, and best of luck!

The new Competition Law Center at George Washington University School of Law (see earlier post at ACP here), funded by a $5.1 million cy pres award from alum and plaintiff’s lawyer Michael Hausfeld (formerly of Cohen, Milsten Hausfeld and Toll, now Cohen, Milsten, Sellers and Toll) will be providing some competition to the nearby American Antitrust Institute and Spencer Waller’s Institute for Consumer Antitrust Studies in the plaintiff, private enforcement and interventionist oriented product space.  This is a wonderful development from a competitive perspective — the space is highly concentrated and has long been dominated by AAI, which I’m quite sure is intellectually committed to being thrilled to see the increased competition in the battle for mindshare (and funding dollars) and influence over future antitrust policy.  More seriously, the AAI will be hosting an event on Antitrust in the New Administration, and has recently presented its Post-Chicago antitrust enforcement vision to the Transition team.  The upstart over at George Washington has some work to do.

Its the time for end of the year lists. In conjunction with Danny Sokol’s survey of nominations for article of the year in 2008 (here are last year’s entries and here’s my list of the top 10 from last year), and without further ado, here are my personal, idiosyncratic, completely non-scientifically derived top 10 antitrust articles for 2008 (in alphabetical order):

1. Michael R. Baye, Market Definition and Unilateral Competitive Effects in Online Retail Markets, 4 Journal of Competition Law and Economics 639 (2008).
2. Dennis W. Carlton & Ken Heyer, Extraction vs. Extension: The Basis for Formulating Antitrust Policy Toward Single Firm Conduct, 4(2) Competition Policy International 285 (2008).
3. Department of Justice, Competition and Monopoly: Single Firm Conduct Under Section 2 of the Sherman Act
4. Joseph Farrell & Carl Shapiro, Antitrust Evaluation of Horizontal Mergers: An Economic Alternative to Market Definition (working paper, 2008)
5. Thomas W. Hazlett & Anil Caliskan, Natural Experiments in Broadband Regulation, 7 (4) Review of Network Economics (2008).
6. Keith N. Hylton & David S. Evans, The Lawful Acquisition and Exercise of Monopoly Power and Its Implications for the Objectives of Antitrust, 4 (2) Competition Policy International 203 (2008)
7. Benjamin Klein and Kevin M. Murphy, Exclusive Dealing Intensifies Competition for Distribution, 75 (2) Antitrust Law Journal 433 (2008).
8. William E. Kovacic, Competition Policy in the European Union and the United States: Convergence or Divergence?
9. Thomas A. Lambert, Dr. Miles is Dead, Now What? Structuring a Rule of Reason for Evaluating Minimum Resale Price Maintenance (William and Mary Law Rev., forthcoming)
10. Timothy J. Muris & Vernon Smith, Antitrust and Bundled Discounts: An Experimental Analysis, 75 (2) Antitrust Law Journal 399 (2008)

So, which is the article of the year? And the winner is …. (my lame attempt at drama means you must hit beneath the fold to find out)

UPDATE: Danny Sokol has got the whole set of nominations posted at ACP Blog.  There is some overlap with my list, and a few articles I was unaware of but am now looking forward to reading.  Lots of variance in the list.  No article is listed twice.  Head over there to see the full list.

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This fascinating OECD document compiling submissions on the topic is a gold mine of observations on purported best practices for presenting economic testimony to judges and issues facing competition authorities and judges deciding complex antitrust cases on the basis of complex economic evidence. Here is one excerpt from the U.S. submission that caught my eye:

The U.S. enforcement agencies believe that an economist is unable to educate or persuade a judge if the judge perceives that the economist is acting merely as an advocate for a litigating position.5 This perception is best avoided by making sure that an economist offers sound economics, and does nothing else, when appearing in court. In preparing for court, competition agencies should carefully consider both the conclusions and methodologies of their economists. Agencies should strongly discourage their economists from offering opinions for which they are unable to articulate a clear basis that is firmly grounded in the models and methods of economics and also the facts of the case.

Although economic experts should not act as advocates for a litigating position, they should act as advocates for their own economic analysis. In coming to any useful view in a competition case, an economist makes many choices. For example, an economist in a merger case may chose some particular basis for assigning market shares (e.g., sales or capacity) or rely on some particular theoretical model of competitive interaction for predicting the price effects of a proposed merger. If these choices appear to matter and yet seem arbitrary, a judge is unlikely give much weight to the economist’s conclusions. Thus, an economist should always explain the logic underlying these choices based on knowledge, experience, and especially the evidence in the case.

And a point of consensus from the executive summary:

Some courts have experienced difficulties with basic economic assumptions and theories. Indeed, in some jurisdictions the courts have expressly conceded that the economics can be too complex to understand. There is reason to be positive about progress, however: judges want to understand the economic issues; it is not the case that they are narrow in their thinking. While judges are often anxious about the methodologies employed by economists, they nonetheless wish that they could understand better the economic debate.

Divergence is particularly acute across jurisdictions concerning the extent to which they have developed rules and procedures regulating the introduction of economic evidence – in particular expert witnesses – in court proceedings. These rules and procedures aim to ensure the integrity and quality of economic evidence, including testimony at trial, and to persuade courts to accept this type of evidence. It is evident that these requirements are more developed in those states where litigation is a significant feature of the competition law landscape.

The FTC announced today that it has approved a notice adopting interim final rules amending Parts III and IV of its rules of practice. As boring as that sound, this is a big deal. Here is the Federal Register notice. There are a number of changes, for instance, deadlines are imposed to expedite the pre-hearing phase such that the evidentiary hearing will be held five months from the date of complaint in cases in which the FTC is seeking a preliminary injunction under 13(b) and eight months otherwise. The proposed rules generated quite a bit of public comment. As one can imagine, Whole Foods is a vocal opponent to these rule changes. One only need read their two public comments (here and here) to get a sense of the flavor of the debate. For instance, the opening line of the second link begins:

The Commission’s proposals are egregious government regulation that should not be adopted. The proposed rules are unnecessary, ill-advised, and unfair. If adopted, they would create administrative procedures that are unjust and deprive parties litigating before the Commission of their due process rights.

No Alice in Wonderland quote like the APA complaint (see Thom’s post here). But no pulled punches either. See also the comments from Arnold and Porter (Robert Pitofsky and Michael Sohn) and the ABA (James Wilson).

In related news, Whole Foods has apparently requested to depose Commissioner Rosch and obtain staff emails related to the investigation:

The retailer wants to depose Commissioner Thomas Rosch, a Republican on the FTC, because he voted to investigate the merger while also briefly acting as the internal FTC judge hearing the case. “We think there’s an inference to be drawn that Commissioner Rosch was in contact with investigative staff,” said Lanny Davis, a lawyer for Whole Foods, pressing to obtain e-mails between Rosch and the staff.

This doesn’t look like its going away any time soon.

Press release here. Here’s an excerpt:

The complaint alleges that post-acquisition Microsemi raised prices significantly on small signal transistors certified by the Defense Supply Center Columbus (DSCC), a component of the DOD, at the Joint Army-Navy Technical Exchange-Visual Inspection (JANTXV) and Joint Army-Navy Space (JANS) levels of reliability on its qualified manufacturers list or QML. Industry participants rely upon DSCC’s QML certifications and qualifications for electronic components used in space, military and commercial applications. The Department said that without competition from Semicoa, Microsemi has the power to selectively raise prices to customers that Microsemi is aware cannot substitute lower grade components for JANTXV and JANS small signal transistors. In addition, Microsemi has threatened to impose on these customers less favorable terms of service than were provided before the acquisition, the Department said in its complaint.

The Department also said that Semicoa’s entry into the manufacture and sale of JANTXV and JANS diodes likely would have benefitted customers with lower prices, shorter delivery times and more favorable terms of service. Prior to the acquisition, Semicoa was developing these diodes and was poised to compete aggressively with Microsemi.

The July 2008 transaction was not required to be reported under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, which requires companies to notify and provide information to the Department and the Federal Trade Commission before consummating certain acquisitions. As a result, the Department did not learn about the transaction until after it had been consummated.

The Department alleges that Microsemi violated Section 7 of the Clayton Act, which deals with mergers, and Section 2 of the Sherman Act, which deals with monopolization.

Maybe the boom is coming early; or monopolization enforcement is not quite reinvigorated yet.

Don Boudreaux turns the Illinois corruption scandal into a teachable moment on rent seeking (HT: Todd Zywicki). By the way, there has never been a better time to read this.

In another teachable moment story related to George Mason, my colleague Neomi Rao’s Constitutional Law students were treated to an end of the year lecture from Supreme Court Justice Clarence Thomas.

I’d like to share a quote on banking industry regulation:

“To restrain private people, it may be said, from receiving in payment the promissory notes of a banker for any sum, whether great or small, when they themselves are willing to receive them; or, to restrain a banker from issuing such notes, when all his neighbours are willing to accept of them, is a manifest violation of that natural liberty, which it is the proper business of law not to infringe, but to support. Such regulations may, no doubt, be considered as in some respect a violation of natural liberty.  But those exertions of the natural liberty of a few individuals, which might endanger the security of the whole society, are, and ought to be, restrained by the laws of all governments; of the most free, as well as or the most despotical. The obligation of building party walls, in order to prevent the communication of fire, is a violation of natural liberty, exactly of the same kind with the regulations of the banking trade which are here proposed.” (emphasis added)

We all know that the banking industry is unique relative to other industries and needs unique regulation…this is not news.  But, did I mention that the aforementioned paragraph was written by one Adam Smith in An Inquiry into the Nature and Causes of the Wealth of Nations all the way back in 1776?!? (see book 2, ch. 2)

Adam Smith believed that the role of government was to protect and maintain a system of private property (i.e. protect against invasion and provide an administration of justice) and to provide public goods.  There are very few circumstances in which he supported government intrusion in the market mechanism.  One of those circumstances is in the banking industry where the free market of capitalism may “endanger the security of the whole society.”  This is amazing stuff considering the lack of industrialization and the general lack of economic knowledge at that time (e.g. the labor theory of value and the lack of knowledge of what determined a price, the general view of precious metals as wealth, exports as “good,” imports as “bad,” etc.).

Fool me once: The lack of banking regulations and the Great Depression.  We learned our lesson and instituted regulations in the form of the Glass-Steagall Act of 1933.

Fool me twice: The relaxing of S&L regulations during 1979-1982 and the subsequent S&L crisis in the late 1980’s and early 1990’s.

Fool me – you can’t get fooled again: The relaxing of banking regulations in the late 1990’s repealing many Glass-Steagall elements (e.g. Gramm-Leach-Bliley Financial Services Modernization Act of 1999) and the situation we’re going through now.

Not to say that these are the only causes, but my oh my, there’s a lot of fooling going on here!  I think, in general, we have learned from Adam Smith, but we’re also working with a Congress that very much loves embracing free market principles involving lobbying dollars AND THEN sitting down to vote.  We recognize that it would be idiotic to let our judges do that but barely make a peep when our policymakers do it everyday.  Let me guess why: When elected to Congress you are forced to get a shot that miraculously makes it so that you no longer like money?

From the WSJ on potential legislation clearing the way for compensation to donors in the form of tax deductions:

While the chilling effect of the federal ban has remained since 1994, the national transplant waiting list has more than quadrupled. This may be why organizations like the National Kidney Foundation, which has previously opposed all incentives to encourage the gift of life, are now reconsidering. NKF tells us that board members will review its position at a meeting next month.

Only half of families now choose to donate the organs of a deceased loved one, adding up to about 8,000 deceased donors each year. While about 6,000 living donors choose each year to help friends and family, fewer than 100 Good Samaritans show up each year at transplant centers to make living donations to strangers. Despite the growing transplant waiting list, the total number of organ donors decreased slightly in 2007.

Mr. Specter has gone to some lengths to assure potential critics that after his bill passes, nobody will be allowed to offer lungs on eBay. His bill not only maintains the ban on buying and selling, but increases the criminal penalties, adding a seven-year sentence for organ trafficking. We’re not sure that an organ market wouldn’t save more lives, but that’s a debate for another day. The Specter bill would simply clarify that states may provide incentives such as tax deductions to encourage donations that could save thousands of lives each year.