President Bush has waded into two big domestic policy arguments: Social Security reform and the overhaul of the tort system. On the first issue, he should tread gently. Social Security needs to be shored up, but it's fundamentally a good program. On the second issue, an elephantine trampling would be kind. The tort system is an abomination.
The most complete study of the tort system's cost comes from the consulting firm Tillinghast-Towers Perrin. Tillinghast's clients are mainly insurers, which are at loggerheads with the trial bar, so you may mistrust its data. Nonetheless, Tillinghast has published seven updates to its original 1985 study, refining its methodology along the way. Its numbers are the best available. And they are stunning.
In 2003, according to Tillinghast, the tort system cost $246 billion -- meaning that the average American paid $845 for it via more expensive goods and services. But the really shocking thing is where the billions went. Injured plaintiffs -- the fabled little guys for whom the system is supposedly designed -- got less than half the money.
According to Tillinghast's 2002 data, plaintiffs' lawyers swallowed 19 percent of the $233 billion. Defense lawyers pocketed an additional 14 percent, and other administrative costs, mainly at insurance firms, accounted for a further 21 percent. The legal-administrative complex thus guzzled fully 54 percent of the money in the tort system, or $126 billion. That's 43 times as much as the federal government has budgeted this year to combat the global AIDS pandemic.
No other system for compensating misfortune has such outrageous administrative costs. To guard against the possibility of sickness, people buy medical insurance; the health insurance industry, justly regarded as a paper-clogged nightmare, has administrative costs of 14 percent. To guard against the danger of disability, we have the Social Security program. The overhead for the Social Security disability system is around 3 percent. If you want a really good number to set against the 54 percent overhead in the tort system, just take a look at Medicare. Its overhead is about 2 percent.
So the tort system's administrative costs are a scandal. But are its other costs much better? Of the 46 cents per dollar in the system that actually make it to plaintiffs, 22 cents are paid out to compensate people for economic damages, including damaged property, lost wages and medical expenses. The other 24 cents are paid to compensate plaintiffs for "pain and suffering." Should we really want a system that pays out billions for emotional distress? A little thought suggests we shouldn't.
A tort system is a form of insurance: Consumers accept higher prices for products and services in exchange for the chance to be compensated if the product or service harms them. Outside the tort system, we have plenty of examples of people buying insurance or warranties. People insure their cars, homes, refrigerators; they want protection against financial setbacks. But people don't buy much insurance to protect themselves from pain and suffering; their revealed preference is that they don't want it. So why have a tort system that provides over $50 billion in pain-and-suffering awards annually?
If the administrative costs are a scandal, and the pain-and-suffering payouts are dubious, what can be said for the residual 22 percent of the money in the tort system? Perhaps this portion -- the part that finances economic damages for plaintiffs -- is defensible?
Actually, you can't even defend this chunk, because the money is distributed so badly. People who suffer small and medium-size losses usually get nothing: Claims have to be in the hundreds of thousands before they are economic to litigate. Big claims do get compensated, but at a rate that depends on the location of the trial, the composition of the jury and the depth of the defendant's pockets -- not just on the size of the injury.
The haphazard nature of tort payouts undermines the potentially salutary effect on corporate behavior. If manufacturers can't predict what they might be sued for and how much, they won't reach rational decisions about making their products safer. Sure enough, studies of injury rates often find no evidence that a rise in litigation is followed by an increase in safety.
Bush is pushing three kinds of tort reform, and all of them are worthy. But the ultimate goal should be to shrink the tort system radically. Measured as a share of GDP, America's tort system is more than twice as expensive as it was in 1960, twice as expensive as the current systems in France or Canada, and three times as expensive as the system in Britain. A reasonable goal for the American tort system is to halve it.