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Legal Reform Tempts Wall Street

But the proposals to end runaway jury awards probably aren't a blanket cure.

Like the proposed elimination of the dividend tax, President Bush's endorsement of tort reform has been greeted with open arms on Wall Street. But just as the dividend proposal hasn't spawned a sustained rally in stocks, tort reform probably isn't a panacea for the market's long-term ills.

Since Bush made his State of the Union address calling for caps on medical liability awards, a number of experts have grown excited about the possibility of tort reform in general, which they say would remove a big drag on the economy.

Big court judgments have repeatedly caused wild rides in stocks in recent months. In October, a California judge ordered

Altria

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, formerly known as Philip Morris, to pay $28 billion to a sick smoker, sending shares falling sharply before the award was reduced to $28 million. Altria is fighting the ruling.

Shares of

Halliburton

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and

Honeywell

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have been similarly volatile as the pair face significant asbestos liabilities stemming from acquired companies. Halliburton recently said it would pay about $4 billion to settle about 300,000 claims, with much of that coming from the firm's insurers.

More Bubbles

In a recent research note, Morgan Stanley analyst Steven Galbraith said "the legal liability bubble has escalated to Nasdaqian proportions" and that "popping it would make a dividend cut seem like small change."

To support his argument, Galbraith cited data from Tillinghast Towers Perrin, an independent adviser to the insurance industry. The firm's study showed that tort costs amounted to just 0.6% of gross domestic product in 1950 but that they now represent about 2% of GDP, as people have sued over everything from asbestos to tobacco to

spilled hot coffee.

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"We can safely say that tort reform would be one of the most positive changes we can imagine for markets," Galbraith said. "Conversely, lack of progress could be every bit as damaging to market confidence as last year's corporate perp walkathon."

Still, others aren't convinced that legal liability is the "rapidly growing weed" that proponents of tort reform say it is, nor do they feel that these costs are "the most insidious taxes on growth today," as Galbraith put it.

Michael Saks, a professor of law at Arizona State University, said damage awards have not spiraled out of control, and that many studies examining relative tort costs are flawed because they don't adjust for much higher overall costs in the sectors in which liabilities have been greatest.

"Suppose people are driving more expensive cars," he said. "The car crashes require larger costs to replace or repair the car, so the jury awards the appropriate amount to pay for that. Well, it's not the jury's fault that the award is higher."

Saks said that the current system, in fact, might actually help to reduce corporate expenses because it allows defendants to escape liability most of the time.

"Despite all the whining and complaining, it's a system that serves defendants well, because it means they only have to answer to a tiny fraction of people who've been injured," he said.

Serving Their Purpose

Meanwhile, Saks and other experts argue that even if tort costs do amount to 2% of GDP today, that is a small price to pay for keeping corporate America honest. If firms know that they potentially face a large financial penalty for improper or fraudulent behavior, they're more likely to act appropriately.

"Doctors or corporations on some level respond to the knowledge that they might be held liable if they don't behave," said Anthony Sebok, professor of law at Brooklyn Law School.

And if large penalties act as deterrent, as some studies have shown, that could ultimately lower the cost to society because it promotes responsibility.

Still, Lester Brickman, a professor at Cardozo Law School, isn't convinced by these arguments. He believes that "runaway" jury awards have had an extremely negative impact on certain segments of the economy and that reform is necessary.

"You've had 60 bankruptcies

as a result of asbestos litigation and some of the largest American companies are facing significant asbestos liability," he said. "If you reduce the cost to business, they will have more capital to invest in productive enterprise, and business conditions will improve."

Thomas Bezanson, head of the products liability practice at law firm Chadbourne & Parke, agrees that reforming the tort system would help to restore market confidence.

"The lack of predictability occasioned by these outlandish awards has a serious effect on the markets," he said. "Sometimes the awards are reduced from outlandish to half outlandish but that can take a long time and meanwhile the outlandish award is hanging over

the stock."

Bezanson said he believes competitive pressure and the intense regulatory scrutiny that most companies are now under generally force them to provide safe products and services, so large fines aren't needed as a deterrent. Still, he said that placing caps on damage awards isn't always the answer, and that improving the rules governing how juries award damages may be a better solution.

Saks agrees that there are ways the tort system could be enhanced, but in the end, he said, American companies are generally happy with the system because they know it has served their interests better than it has served the interests of plaintiffs.

"If we eliminated doctors and hospitals, we could save our society a lot of expense," Saks said. "But we choose not to do that because we're trying to do something more than just maximize shareholder wealth."

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