Some Damn Foolish Thing in the Balkans

That's what Bismark predicted would set off the war that seemed inevitable. The trigger turned out to be the assasination of Archduke Franz Ferdinand, heir to the Hapsburg throne. The assassins were seven young men. All were members of a secret Serbian nationalist movement. All had tuberculosis which was a death sentence in 1914. The rest, as they say, is history.

Two days ago, at a Brookings Institute conference on Turmoil in Housing and Financial Markets, former Treasury Secretary Lawrence Summers (now at Harvard's Kennedy School) observed that there is no single root cause of the current financial crisis and no simple single solution. The fix, he said, requires "multiple instruments targeted to multiple objectives." One response to the housing crisis currently getting most of the attention is to regulate institutions so they won't make mistakes again. People and businesses make mistakes and they always will, whether government regulates them or not. Summers offered another approach --reforming the financial system to make it safe for institutions to fail. The goal should be reduction of systemic not individual risk of failure.

Summers noted that even without subprime mortgages, the US economy was still vulnerable to leverage bubbles and might still have found itself in crisis. Blaming the current financial crisis on submprime mortgages, he said, is like blaming World War I on the assassination at Sarajevo.

Whither Economics?

In an interesting post on Critical Mass, Erin O'Connor confesses her ignorance about "how money works." She writes: "But I'm like most of us. . . . Everybody thinks he is an authority on how money ought to be managed and spent. But few of us really understand what money is, how it works, or what kinds of consequences can come from certain kinds of financial decisions."

It's no wonder, she says, so few of us have a clue about financial matters. Nobody studies economics. A study of leading universities' degree requirements (ACTA, The Hollow Core, 2004) showed universities don't require a course in basic economics as part of the core curriculum.

O'Connor attributes our nation's staggering financial ignorance to "academe's broadly socialist monoculture." Universities embrace "collectivism and cooperation, redistribution of wealth, government-run social programs, single-payer health care," but are hostile to capitalism and the infrastructure that makes markets work. "You don't have to look hard at all to find colleges and universities that press students, in course after course, to make moral determinations about how economies ought to be run--but you would be hard pressed to find a school that requires students to ground those determinations in actual economic knowledge."

The Treasury Department's Financial Literacy and Education Commission should take note. Instead of requiring disclosure of more information to consumers who cannot interpret it, Treasury should focus on introducing all Americans, inter alia, to the guns 'n butter tradeoff, the speed and time value of money, and the effect of marginal change in supply or demand on the price of widgets. I'm not expecting that any time soon.

Loaded Questions

On April 2, the Institute for Legal Reform released the results of a consumer survey that indicated consumers oppose legislation regulating the use of binding arbitration in consumer disputes (the proposed Arbitration Fairness Act). The telephone poll found that 71 percent of likely voters oppose efforts by Congress to ban arbitration agreements from consumer contracts. 82 percent actually prefer arbitration to litigation as a means to settle a serious dispute with a company. The American Association for Justice says its survey shows the opposite. 81 percent of Americans express disapproval of mandatory binding arbitration. 64 percent of voters favor the legislation, 26 percent oppose it. How can this be?

Here's one of the statements made as part of the American Association for Justice poll:

"As you may know, consumers are sometimes required to sign a contract with a company when they buy certain services or products such as automobiles, cell phones, or nursing home care. Today, these contracts often include a binding arbitration provision, which says that the consumer agrees to have any dispute with the company decided by an independent arbitrator in binding arbitration, rather than by a judge or jury in a civil legal proceeding. Do you approve or disapprove of these binding arbitration provisions in consumer contracts?"

Now here's one from the Institute for Legal Reform poll:

"Now suppose for a moment you had to sign a contract with a company when you purchased their goods or services. If you could choose the method by which any serious dispute would be settled between you and the company, which would you choose? Arbitration, which does not require going to court ...or... Litigation, which does require a lawsuit and going to court. "

Hat tip to Consumer Law and Policy Blog.

Neither statement provides an intelligent person with the information necessary to answer the question. If I ever get a call from a poll taker, I'd want to know what my "right to go to court" costs me in terms of the price I pay for consumer goods and services. I'd ask about the odds for consumers in arbitration vs. judicial resolution of their disputes. I'd want to know what was in it for me — apart from empty rhetoric about my right to "go to court" or vague inferences about the relative "fairness" of arbitration vs. adjudication. And, in the extremely unlikely event that I did not hang up on the poll taker within seconds after he mispronounces my name, I'd resent being used as a tool for others whose stake in the controversy dwarfs that of the average consumer.

Phishing in International Waters: The New Phace of Organized Crime

The U.S. Justice Department and Romanian authorities announced two federal indictments (C.D. Cal. and D. Conn.) against 38 people who allegedly participated in two international phishing operations with ties to organized crime. The charges include conspiracy to violate the Racketeer Influenced and Corrupt Organizations (RICO) Act, and a host of hacker crimes such as conspiracy in connection with account access devices (credit or debit cards), unauthorized access to a protected computer, bank fraud and aggravated identity theft. U.S. Attorney for C.D. Cal., Thomas O'Brien said experts estimate losses at more than $3 million.

Romanian based "suppliers" phished for and obtained credit and debit card account data and personal information from cardholders by baiting more than 1.3 million e-mails. The "suppliers" sent the data to U.S. based "cashiers" who did the tech work, encoding the account data onto magnetic strips on access devices (including hotel key cards that work nicely for this purpose). "Runners" tested the cards and used the ones that worked to draw cash. U.S. participants took a cut and transferred the balance to the Romanian suppliers.

International organized crime is deep into the world payment system and just about everything else. Last month, U.S. Attorney General Michal Mukasey announced the Justice Department's Law Enforcement Strategy to Combat International Organized Crime . He said that mafia-style organized crime as Attorney General Robert Kennedy saw it in 1961 is a thing of the past. Organized crime is international, but that's not all. "They are more sophisticated, they are richer, they have greater influence over government and political institutions worldwide, and they are savvier about using the latest technology, first to perpetrate and then to cover up their crimes. . . . They touch all sectors of our economy, dealing in everything from cigarettes to oil; clothing to pharmaceuticals. These criminals invest some of the millions they make from illegal activities in the same publicly traded companies as we hold in our pension plans and 401(k)s. They exploit the internet and peddle their scams on eBay, and they're responsible for a significant chunk of the spam email we get."

Leave the gun. Take the cannoli. (Clemenza to Rocco)

Classification of "Financial Services"

The term "financial services" refers to an assortment of institutions that provide the means for people to save for the future, hedge against risks, acquire capital for consumption and organize capital for investment. Actors who undertake this intermediation function facilitate social gains from trade.

The The Department of the Treasury Blueprint of A Modernized Financial Regulatory Structure (March 2008) makes a provocative observation about the "financial services" sector and the term itself. Our current regulatory structure organizes financial services institutions into legally distinct categories, (e.g., commercial banks, other insured depository institutions, insurers, companies engaged in securities and futures transactions, finance companies, and specialized governmental companies such as Freddie Mac and Fannie Mae). These categories in part reflect distinctions in the way these actors function as capital intermediaries. In ways we hardly notice, however, the legal categories both reflect and entrench distinctions that regulation, not function, makes important.

For example, we perceive a legal difference between a commercial bank and an "other depositary institution" because the law that regulates commercial banks is different than that which regulates other depositary institutions. To accommodate the regulatory difference, we invent and deploy different words to describe the differently regulated actors. The most famous example of this may be the "non-bank bank" a term coined in the 1980's for a financial institution that did not meet the regulatory definition of a "commercial bank" and thus avoided the prohibition against interstate banking for commercial banks. The words we use to describe and importantly to think about "financial services" institutions make non-functional distinctions important.

The Blueprint proposes a new regulatory regime for intermediaries in which non-functional regulatory distinctions give way to functional ones. It opens a discussion on the possibility and realization of optimal regulation free of the restraint the current regulatory classification system imposes.

The proposal is both thrilling and terrifying. Mastery of the elaborate financial services classification system, like its biological counterpart, is not cheaply acquired or easily relinquished. For those players who have invested in manipulating the present regime to their advantage, the prospect of change threatens their return. The Blueprint invites financial services lawyers (and others who might be) to abandon the old vocabulary and embrace and create a new legal field that as yet has no name.

Teaching Commercial Law Part II

Jim's post about teaching commercial law is both gratifying and provocative. "Law schools should actively encourage all students, and not just those who contemplate a future in business law, to complete at least one course in commercial law." He offers three reasons why a commercial law course is essential to a well-balanced law school meal: 1) commercial law is statutory and close statute reading is a useful legal skill; 2) clients pay for commercial law expertise ; and 3) commercial law courses offer students a good opportunity to learn how to integrate "legal doctrine with real world problem solving techniques."

As a threshold matter, consider what is and what is not commercial law. The commercial law curriculum consists of the big three: Sales, Secured Transactions and Payment Systems. Sales covers the law that governs supply chain transactions (goods sales and leases, domestic and international). Secured Transactions opens the door of the mind to debt relationships. It explores where capital comes from, where it goes, and how borrowers and lenders solve recurring problems of agency and control. Payment Systems covers an array of items that facilitate transactions including bank-customer relations, risks associated with debt relationships with strangers, and alternate credit enhancement techniques. These three courses are the mirepoix and Contracts is the broth that supplies the flavor base to every mutually beneficial exchange.

I agree that in a perfect world, a first rate legal education would include at least one of the big three. But, Jim's points require clarification. Yes, commercial law courses are statutory. They feature articles of the UCC and, these days, a host of other statutes, state, federal and international. But commercial law courses are not just statutory. It is wrong to imagine a section by section slog through the Articles for the sole purpose of mastering the statute (no doubt, the legal analog to the Bataan death march). The UCC coexists with common law of commercial law: "the principles of law and equity, including the law merchant and the law relative to capacity to contract, principal and agent, estoppel, fraud, misrepresentation, duress, coercion, mistake, bankruptcy, or other validating or invalidating cause." UCC 1-103. White & Summers note that this scope section, 1-103, "is probably the most important single provision in the Code." The meaning and function of the Articles of the UCC are deeply embedded in the larger and highly dynamic legal environment in which commerce occurs. Commercial law is about how law supports and regulates business. It does not begin and end within the covers of a statutory supplement or a Nutshell. It is alive and well and everywhere.

Yes, statutory skills are good to have. Sadly, though, this truth is typically distorted in the presentation. "Commercial law courses are good for you," says the colleague down the hall who teaches Constitutional Law. The subtext in such a remark is unmistakable. Commercial law is a big green vegetable. Like high fiber food, commercial law courses and the statutory interpretation skills they deliver are "good for you" but pointless and mind numbing in the consumption. (Some colleagues actually assume an "I smell broccoli cooking" look whenever advising a student about a commercial law course.) The rejoinder to those who see the role of commercial law in the law school curriculum as a kind of lead bat in the on deck circle appears in justifications 2 and 3. In good times and especially in bad, law firms and clients pay for substantive expertise in commercial law. Moreover, commercial law courses are most definitely a legal "skills" experience. They present complex questions and require sophisticated answers. A well-trained lawyer can listen to a problem, translate it into the specialized language of commercial law, locate the governing principle, identify negotiating space, and offer reasoned advice to the client. It's probably true that few students remember distinct statutory language after the exam. Instead they carry away legal instinct, the urge to "look it up," and the courage and patience to do so.

Vindication for the Contract of Adhesion

This past week my Contracts class examined mass market transactions, the contract of adhesion and the doctrine of unconscionability. Yesterday, Overlawyered featured a post on Judge Easterbrook's opinion in IFC Credit Corp. v. United Business & Industrial Federal Credit Union. The case is jammed with scintillating issues of commercial law-- a veritable bag of chips with no diminishing marginal returns. Of note for Contracts students is this excerpt on the enforceability of non-negotiated terms in a standard form agreement (citation omitted):

Ever since Carnival Cruise Lines, Inc. v. Shute enforced a forum-selection clause printed in tiny type on the back of a cruise-ship ticket, it has been hard to find decisions holding terms invalid on the ground that something is wrong with non-negotiable terms in form contracts. As long as the market is competitive, sellers must adopt terms that buyers find acceptable; onerous terms just lead to lower prices. If buyers prefer juries, then an agreement waiving a jury comes with a lower price to compensate buyers for the loss-though if bench trials reduce the cost of litigation, then sellers may be better off even at the lower price, for they may save more in legal expenses than they forego in receipts from customers.

There is no difference in principle between the content of a seller's form contract and the content of that seller's products. The judiciary does not monitor the content of the products, demanding that a telecom switch provide 50 circuits even though the seller promised (and delivered) 40 circuits. It does not matter that the seller's offer was non-negotiable (if, say, it offered 40-circuit boxes and 100-circuit boxes, but nothing in between); just so with procedural clauses, such as jury waivers. As long as the price is negotiable and the customer may shop elsewhere, consumer protection comes from competition rather than judicial intervention. Making the institution of contract unreliable by trying to adjust matters ex post in favor of the weaker party will just make weaker parties worse off in the long run.

For the last statement, Judge Easterbrook cites to the court's opinion in Original Great American Chocolate Chip Cookie Co. v. River Valley Cookies, Ltd., (Posner, J. 1992):

The idea that favoring one side or the other in a class of contract disputes can redistribute wealth is one of the most persistent illusions of judicial power. It comes from failing to consider the full consequences of legal decisions. Courts deciding contract cases cannot durably shift the balance of advantages to the weaker side of the market; they can only make contracts more costly to that side in the future, because [the other side] will demand compensation for bearing onerous terms.

All true. Yet, I doubt that the next edition of Farnsworth, et al, Contracts will omit the section on contract "fairness."

Cross posted at Red Lion Reports.

The Morality of Trade

I can think of nothing truer to Commercial Law than to offer as my first post a rejoinder to Paul who added this comment to An Ode to Mercury: "Merchants were considered little better than thieves for much of the history of western civilization. . . . Until modern economic thinking, and general liberalization of religion, emerged during the enlightenment, gains from trade were commonly viewed with skepticism at best."

If merchants "were [ever] considered" no better than thieves, I say, consider who's doing the considering. The possibility of gains from trade in the hands of "merchants" was and is the key driver for social and economic mobility and the political instability that comes with it. Feudal lords had much to fear and loathe at the possibility that by trading among themselves serfs might drag themselves out of hunger and ignorance. And so too the Church. Trade is possible only when people assert property rights. Assertion and exploitation of property rights by political subordinates is the beginning of the end of a social order based on birthright and violence.

On the same day I read Paul's comment, I saw that the California Court of Appeals had confronted and laid to rest an argument based on the skepticism about commerce that Paul observed,--that gains from trading property are morally inferior and, in this case, unworthy of protection by specific relief. In Real Estate Analytics LLC v. Vallas, a seller agreed to sell 14 acres of coastal California real proeprty to Real Estate Analytics, a developer, who planned to develop and resell it. The seller backed out and Analytics sued for specific performance. The seller wheeled out a steaming stack of equitable maxims before the trial court as to why the equities against specific performance tipped in his favor. The trial court agreed. The buyer was unworthy of an extraordinary remedy because to it the contract for the property "was nothing more than a vehicle to make money." (Analytics got a check for $.5 million instead). The court of appeals reversed. The buyer's purpose in entering the contract — to sell the property for a profit (gasp!) rather than holding it for the pleasure and privilege of the estate was as noble and deserving of equity as any other purpose.

Pardon my ardor. Commerce is not a cuss word.