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The Unwarranted Regulatory Preemption of Predatory Lending Laws

Nicholas Bagley

In response to a perceived increase in the incidence of predatory lending, several states have recently enacted laws designed to protect vulnerable borrowers from abusive lenders. Earlier this year, however, the Office of the Comptroller of the Currency (OCC) determined that the new laws conflicted with the National Bank Act and issued a regulation preempting them. This Note argues that the OCC overstepped its congressionally delegated authority when it promulgated the regulation, and that courts should consequently invalidate it in order to allow states to continue to develop novel legislative responses to the growing problem of abusive lending. The Note proceeds in two stages. First, after canvassing the unsettled case law on the issue, it argues that courts should not categorically defer to agency decisions to preempt state laws. Because of the relative ease with which administrative agencies can preempt state laws and the real threat that preemption orders pose to state legislative independence, the judiciary should scrutinize agency preemption decisions to ensure that they are at the very least reasonable. Second, the Note turns to the substance of the OCC order, contending that it reflects an unwarranted, unnecessary, and unwise effort to meddle in states’ purely internal affairs. Because the predatory lending laws only minimally affect national bank lending powers, do not impose costs on the national banking system, and do not generate spillover effects, they do not interfere with national banks in a way that can justify the OCC’s wholesale preemption.

Terminal 250: Federal Regulation of Airline Overbooking

Elliott Blanchard

Every year, hundreds of thousands of passengers arrive at their local airport to discover that their flight is overbooked. Unbeknownst to most travelers, their damages for the airlines’ breach of contract are governed by federal regulation. Since 1978, 14 C.F.R § 250.5 has set a statutory cap of four hundred dollars for all passengers bumped from domestic flights. In this Note, Elliott Blanchard examines the effects of this provision on passenger and airline behavior by applying modern contract theory to the problem of airline overbooking. He begins by examining the economic forces that led airlines to overbook flights and the subsequent federal government regulatory response in the 1970s. He observes that while a uniform system of compensation for all passengers made sense during the period of airline regulation, increased heterogeneity in both carriers and passengers now make such a system inefficient. While the market for airline travel has changed dramatically since the end of regulation, the statutory ceiling on damages has remained constant. The author argues that this cap undercompensates passengers for breach by the airlines, and rewards the carriers that overbook aggressively. Given the information asymmetries regarding the likelihood of being bumped, airlines have the opportunity to exploit passengers who cannot accurately discount an airline’s probability of performance. As a solution, the author suggests a repeal of the maximum damage amount coupled with increased disclosure of airline overbooking rates, which would encourage airlines to compete on performance as well as price.

Lepage’s v. 3M: An Antitrust Analysis of Loyalty Rebates

Joanna Warren

In its en banc decision in LePage’s Inc. v. 3M, the Third Circuit held that a 3M loyalty rebate program, which provided above-cost price discounts to customers who purchased multiple 3M product lines, violated section 2 of the Sherman Act. Prior to this decision, many practitioners and scholars understood the antitrust case law to hold that a strategic pricing scheme would not violate section 2 so long as the discounted prices remained above cost. The Third Circuit found that this test applies only to predatory pricing cases, and ruled that claims alleging exclusionary conduct other than predatory pricing—as it characterized 3M’s loyalty rebate program—are cognizable under section 2 even without a showing of below-cost pricing. The Supreme Court recently denied certiorari in LePage’s, leaving the issue in the hands of the lower courts. In this Comment, Joanna Warren criticizes the Third Circuit’s decision as lacking sufficient economic analysis of the rebate scheme and providing unclear guidance for addressing future claims. She argues for the adoption of a test that would recognize above-cost pricing as generally legitimate while invalidating schemes that threaten to eliminate equally efficient competitors from the marketplace.

Sacrificing Corporate Profits in the Public Interest

Einer Elhauge

The canonical law and economics view holds that corporate managers do and should have a duty to profit-maximize because such conduct is socially efficient given that general legal sanctions do or can redress any harm that corporate or noncorporate businesses inflict on others. Professor Elhauge argues that this canonical view is mistaken both descriptively and normatively. In fact, the law gives corporate managers considerable implicit and explicit discretion to sacrifice profits in the public interest. They would have such discretion even if the law pursued the normative goal of corporate profit-maximization because minimizing total agency costs requires giving managers a business judgment rule deference that necessarily confers such profit sacrificing discretion. Nor is corporate profit-maximization a socially efficient goal because even optimal legal sanctions are necessarily imperfect and require supplementation by social and moral sanctions to fully optimize conduct. Accordingly, pure profit-maximization would worsen corporate conduct by overriding these social and moral sanctions. In addition to being socially inefficient, pure profit-maximization would harm shareholder welfare whenever shareholders value the incremental profits less than avoiding social and moral sanctions. For companies with a controlling shareholder, that shareholder is exposed to social and moral sanctions and has incentives to act on them, and thus controlling shareholders are well-placed to decide when to sacrifice corporate profits in the public interest. In contrast, the structure of large publicly-held corporations insulates dispersed shareholders from social and moral sanctions and creates collective action obstacles to acting on any social or moral impulses they do feel. Thus, in public corporations, optimizing corporate conduct requires giving managers some operational discretion to sacrifice profits in the public interest even without shareholder approval because, unlike shareholders, managers are sufficiently exposed to social and moral sanctions. Managerial incentives toward excessive generosity are constrained by various market forces, which generally mean that any managerial decision to sacrifice profits in the public interest substitutes for more self-interested profit sacrificing exercises of agency slack. Managerial discretion to sacrifice profits is further constrained by legal limits on the amount of profit sacrificing, which become much tighter when market constraints are inoperable because of last-period problems. Managers should have donative discretion because courts cannot distinguish profit-enhancing donations from profit sacrificing ones, because shareholders are insulated from the social and moral processes that desirably generate the special donative impulses that arise from running business operations, and because otherwise managers would often inefficiently substitute more costly operational profit sacrificing decisions to avoid social and moral sanctions. This explains the legal requirement that corporate donations have a nexus to corporate operations. Antitakeover laws can partly be explained as necessary to preserve sufficient managerial discretion to consider social and moral norms.

How Incentive Pay for Executives Isn’t–And What We Can Do About It

Meredith M. Stead

Pay Without Performance: The Unfulfilled Promise of Executive Compensation

When conversation turns to business, a topic guaranteed to provoke heated discussion is the extraordinary compensation that top American corporate executives enjoy. Periodically, as some new pinnacle is reached, the public reacts with a fresh wave of indignation. A well-known example is the story of Michael Ovitz. Hired as president of the Walt Disney Company by his friend, CEO Michael Eisner, Ovitz left the company after just fourteen months, having failed abysmally at his job by most reckonings. Upon his departure, however, Ovitz collected a “golden handshake” of not only his annual base salary of $1 million for the remainder of his five-year contract, but additional earnings from stock options and a generous severance package, totaling approximately $140 million. Outraged shareholders brought a derivative suit, and seven years after Ovitz’s departure, the case is still wending its way through the courts-and through the headlines.

Credit Where it Counts

Michael S. Barr

The Community Reinvestment Act and its Critics

Despite the depth and breadth of U.S. credit markets, low- and moderate-income communities and minority borrowers have not historically enjoyed full access to credit. The Community Reinvestment Act (CRA) was enacted in 1977 to help overcome barriers to credit that these groups faced. Scholars have long leveled numerous critiques against CRA as unnecessary, ineffectual, costly, and lawless. Many have argued that CRA should be eliminated. By contrast, I contend that market failures and discrimination justify governmental intervention and that CRA is a reasonable policy response to these problems. Using recent empirical evidence, I demonstrate that over the last decade CRA has enhanced access to credit for low-income, moderate-income, and minority borrowers at relatively low cost, consistent with the theory that CRA is helping to overcome market failures. I argue that the form of CRA’sbased approaches, on grounds of both efficiency and legitimacy. Comparing CRA to other credit market regulations and subsidies, I argue that CRA is a reasonably effective response to market failures and should not be abandoned. In sum, contrary to previous legal scholarship, I contend that CRA is justified, has resulted in progress, and should be retained.

Making the Brand: Using Brand Management To Encourage Market Acceptance of Forestry Certification

Misty L. Archambault

Forestry certification seeks to lessen the environmental impacts of private forestry management practices by providing information to consumers. Certified producers attach a uniform label to their wood products to assure buyers that the products were produced in a sustainable manner. In the United States, forestry certification has existed for more than a decade, yet industry participation in such programs remains low. This Note argues that low industry participation results from a lack of consumer demand for certified forestry products and the failure of certification stakeholders to address this lack of demand. While there are many obstacles to increasing consumer demand, this Note suggests that brand management concepts taken from the field of marketing can help tackle these challenges and, in turn, help increase market acceptance of forestry certification in the United States.

Three Pictures of Contract: Duty, Power, and Compound Rule

Gregory Klass

There is a fundamental divide among theories of contract law between those that picture contract as a power and those that picture it as a duty. On the power-conferring picture, contracting is a sort of legislative act in which persons determine what law will apply to their transaction. On the duty-imposing picture, contract law places duties on persons entering into agreements for consideration, whether they want them or not. Until now, very little attention has been paid to the problem of how to tell whether a given rule is power conferring or duty imposing—a question that should lie at the center of contract theory.

This Article argues that legal powers have two characteristic features. First, there is an expectation that actors will satisfy the rules with the purpose of achieving the associated legal consequences. Second, the legal rules are designed to facilitate such uses. A law might exhibit these features in either of two ways, which define two types of legal powers. Many laws that create legal powers employ conditions of legal validity, such as legal formalities, designed to guarantee the actor’s legal purpose. The presence of such validity conditions is strong evidence that the law’s sole function is to create a legal power, and I suggest reserving the term “power conferring” for such laws. Other laws anticipate and enable their purposive use without conditioning an act’s legal consequences on the actor’s legal purpose. The structure of such laws suggests that they function both to create powers and to impose duties. I coin the term “compound rule” for laws that satisfy this description and argue that the contract law we have is a compound rule. The dual function of compound rules provides empirical support for pluralist justifications of contract law. An example of such a theory can be found in Joseph Raz’s comments on the relationship between contract law and voluntary obligations.

Efficient Breach Theory Through the Looking Glass

Barry E. Adler

A party in breach of contract cannot sue the victim of breach to recover what would have been the victim’s loss on the contract. The doctrinal rationale is simple: A violator should not benefit from his violation. This rationale does not, however, provide an economic justification for the rule. Indeed, efficient breach theory is founded on the proposition that a breach of contract need not be met with reproach. Yet the prospect of recovery by the party in breach—that is, the prospect of negative damages—has received scant attention in the contracts literature. Close analysis reveals potential costs to disallowance of negative damages, particularly where a party with private information about the benefits of termination also has an incentive to continue under the contract. These costs can arise both ex post, at the time of a performance-or-termination decision, and ex ante, in anticipation of that decision. Nevertheless, allowance of negative damages could impose its own costs, where background information would create an incentive to repudiate a contract before either party could gather more information, for example. Ex ante contractual provisions, such as liquidated-damages or specific-performance clauses, permit parties some latitude to balance the costs of disallowance and allowance of negative damages, albeit imperfectly. Common law limitations on the mitigation duty may be seen as a mechanism to approach this balance in the absence of an explicit con- tractual solution.

The Unconscionability Game: Strategic Judging and the Evolution of Federal Arbitration Law

Aaron-Andrew P. Bruhl

This Article uses recent developments in the enforcement of arbitration agreements to illustrate one way in which strategic dynamics can drive doctrinal change. In a fairly short period of time, arbitration has grown from a method of resolving disputes between sophisticated business entities into a phenomenon that pervades the contemporary economy. The United States Supreme Court has encouraged this transformation through expansive interpretations of the Federal Arbitration Act. But not all courts have embraced arbitration so fervently, and therefore case law in this area is marked by tension and conflict. The thesis of this Article is that we can better understand developments in arbitration doctrine by viewing the case law as the product of an ongoing strategic interaction between courts with differing preferences regarding the spread of arbitration. As the Supreme Court has shut off most other means of resisting arbitration, the state law doctrine of unconscionability has in the last several years become a surprisingly attractive and successful tool for striking down arbitration agreements. The nature of unconscionability analysis is that it is flexible, which provides opportunities for courts skeptical of arbitration to use the doctrine to evade the Supreme Court’s pro-arbitration directives while simultaneously insulating their rulings from Supreme Court review. Sophisticated resistance to arbitration is just one side of the story, however. The approach employed in this Article examines the judicial system as a whole, including the ways pro-arbitration courts respond, sometimes indirectly, to what they perceive as manipulation of unconscionability. The suspicion that some courts are disfavoring arbitration drives pro-arbitration courts to change their strategies, such as by establishing new doctrine that facilitates monitoring and shifts decisionmaking authority. This strategic framework can help us make sense of otherwise puzzling trends in arbitration doctrine and can help us predict what moves will be next. Although the specific subject matter is arbitration, this analysis is also aimed at those interested in more general problems of judicial federalism.