Hospitalized for five days in 1982 with a serious kidney infection, Cleopatra Haslip discovered to her horror that she had no insurance to cover the $3,500 in medical bills -- nearly half her yearly pay.

The agent who had sold the policy to Haslip and other employees of the small town of Roosevelt City, Ala., had simply pocketed their premium checks each month and managed to avoid discovery by having the cancellation notices sent directly to him.

"That was devastating because I really didn't know what I was going to do," said Haslip, 59, who had paid $105 every month to cover life and health insurance.

Facing threats from collection agencies, a ruined credit rating and lawsuits by the hospital and her doctor, Haslip sued the insurance company, claiming it was responsible for the agent's actions and had warning something was amiss. An Alabama jury awarded her a total of $1,040,000 in damages.

Now, Haslip's case is before the U.S. Supreme Court, and it is a vehicle for the justices to referee a high-stakes dispute: whether punitive damages can be so large, so disproportionate to the injury or so unguided by standards for their imposition as to violate the constitutional guarantee of due process.

Three times in the last five years, the justices have skirted the question of whether the Constitution imposes any constraints on punitive damages -- those aimed not at compensating victims for the harm caused to them, but at punishing wrongdoers for their outrageous conduct and sending a warning to others about the potentially painful financial consequences.

Two years ago, it rejected arguments that punitive damages amount to criminal fines and should therefore be subject to the constitutional prohibition against "excessive fines."

But a number of justices have expressed sympathy with the notion that punitive damages violate companies' due process rights. And the Haslip case, set to be argued Oct. 3, could finally resolve the issue.

Opponents of punitive damages portray them as unpredictable bolts of lightning wielded by vengeful juries inflamed by prejudice against large corporations, untutored in how to calculate the appropriate fine and egged on by greedy plaintiffs' lawyers salivating at the prospect of huge contingency fees. They argue that the due process clause, designed by the framers of the Constitution to protect citizens against arbitrary government action, should shield them from such a capricious system.

"There's nothing to tell juries how they determine awards that should be assessed against businesses," said Stephen A. Bokat of the U.S. Chamber of Commerce. Some limits should be imposed, Bokat said: a dollar cap, a multiple of compensatory damages, "something so that when you look at it you can say, 'Well, this is out of line.' "

Punitive damages "have made civil litigation sort of like the lotteries you have in so many states," said Theodore B. Olson, a Washington lawyer who filed a brief on behalf of a number of insurance companies, including one hit with a $10 million verdict for bad faith in failing to pay a claim.

The specter of punitive damages, he said, "causes companies to change their approach, manufacturers to be reluctant to engage in new, innovative ideas. The social cost is enormous when you add this ingredient to the system."

Punishing Wrongdoing Supporters of the current system contend that punitive damages, part of the American system since before the Revolution, are a vital tool for deterring corporate wrongdoing.

And the uncertain nature of punitive damages, they assert, are precisely what makes them work: If companies knew they would not have to pay more than a certain amount, even in the worst case, they would simply factor punitive damages into their calculations as a cost of doing business.

"The system now has uncertainty in it," said Andrew F. Popper, an American University law professor who wrote a friend-of-the-court brief in the case on behalf of Consumers Union. "That uncertainty creates an edge, and the edge is the incentive to stay away from products that are too unsafe, to try to create better products."

Haslip's lawyer, Bruce Ennis, compared opponents' demands for certainty to "saying to a thief, 'If you're thinking of robbing this store, you're going to get a $1,500 fine and three months in jail.' When you make it easy for people to calculate the consequences of conduct, then you don't deter it."

Briefs in the Battle The size of the stakes can be measured by the towering stack of friend-of-the-court briefs that have been filed in the case.

The Pharmaceutical Manufacturers Association and the American Medical Association argue that skyrocketing punitive damage awards are "compromising the industry's research efforts." The asbestos industry complains that punitive damages helped drive companies into bankruptcy and points out that some 70,000 lawsuits are still pending, nearly all seeking punitive damages.

Media organizations, including The Washington Post Co., plead with the court to insulate them from the chilling effect of multimillion-dollar libel judgments, such as the $31.5 million recently levied against the Philadelphia Inquirer.

On the other side are mounted a smaller but no less passionately argued array of briefs in support of the current system. The attorneys general of Alabama, California and Texas ask the court to let states decide for themselves how to best run their own court systems.

"Through punitive damages, juries are empowered as a responsible voice of societal ethics," writes a legal group that has sought punitive damages in product safety, environmental protection and other suits, Trial Lawyers for Public Justice. "The rights of the poor and vulnerable are vindicated, and acts of willful and outrageous misconduct are punished and deterred."

The gulf between the two sides is so wide that they cannot agree even on the basic question of whether the asserted explosion of enormous punitive damage awards has in fact occurred, no less whether it warrants a constitutional cure.

"The punitive damage phenomenon is something that is occurring with frightening and increasing frequency," said Olson, the insurance company lawyer.

Olson and allies cite a 1987 study by the Rand Corp.'s Institute for Civil Justice, which examined 24,000 jury trials in Cook County, Ill., and San Francisco and concluded that the frequency and size of punitive damage awards "increased substantially" from the 1960s through the 1980s.

The Rand study found that in Cook County the average punitive damage award increased, in inflation-adjusted dollars, from $43,000 in 1965-69 to $729,000 in 1980-84 -- a jump of 1,500 percent. In San Francisco, the average award rose from $95,000 in 1964-69 to $381,000 in 1980-84, a 300 percent increase.

In some fields of litigation -- like personal injury cases -- the Rand numbers were even more dramatic. In Cook County, the average award in personal injury cases went from $14,000 in 1965-69 to $1.9 million in 1980-84 -- up 13,700 percent.

Supporters of punitive damages contend the Rand figures have been misused by concentrating on average awards in which the aberrationally large recovery -- almost always reduced after trial -- distorts the picture, rather than examining the median amount at the mid-point of awards ($43,000 in Cook County and $63,000 in San Francisco).

They point to a 1990 American Bar Foundation study of 25,627 jury verdicts in 47 jurisdictions from 1981 to 1985 that found no evidence of "a nationwide problem" of punitive damages routinely awarded or assessed in amounts that would "boggle the mind."

The 11-state study found that 15 of the 20 cites in which there were more than 10 punitive damage awards had median awards below $40,000; the other five, all in California, had medians ranging from $87,300 in San Francisco to $204,000 in San Diego.

For both sides, the Haslip case presents the paradigm case for the argument for and against punitive damages.

While Lemmie Ruffin, the insurance agent, stole Haslip's premiums, Ennis argued, the company, Pacific Mutual, "stood idly by" despite having had "clear notice of earlier frauds by Ruffin."

At the trial, a secretary in the Birmingham office testified about frequent complaining telephone calls from policyholders who had bought Pacific Mutual insurance through Ruffin but -- on submitting a claim -- discovered they were without insurance.

The manager of the Birmingham office not only knew of those calls, Ennis said, but also knew Ruffin was having premium checks made out to him personally, rather than Pacific Mutual, in violation of company policy. And the company -- in violation of industry standards -- sent its cancellation notices to Ruffin directly, preventing Haslip and the other employees from discovering the theft.

The punitive damages, he said, accomplished exactly what the jury was instructed it should do in calculating the award: punish the company and encourage it and other insurance companies to keep better checks on their employees in the future.

Victim of Rogue Agent? Pacific Mutual paints itself as as much a victim of a rogue agent as Haslip, arguing that it did not benefit in any way from Ruffin's embezzlement. Indeed, the company points out, although Ruffin was a Pacific Mutual agent and sold Haslip and the other employees Pacific Mutual life insurance, the health insurance policy that Haslip bought was not even issued by Pacific Mutual, but by another, unrelated company, Union Fidelity.

Even assuming the manager of the Birmingham office had some inkling Ruffin was up to no good, said the company's lawyer, Bruce A. Beckman, "It's a great leap to say that Pacific Mutual should be subject to punishment. It's like punishing a bank because it had a teller that embezzled funds."

A Double Whammy? Although companies are traditionally held responsible for the acts of their employees, Beckman said, it is far different to hit them with punitive damages as well. "It's pretty hard to say that a company who has someone who turns out to be a thief ... somehow merits punishment," he said.

Pacific Mutual complains also of the discretion delegated to the jury in Haslip's case -- the jury was told only that it should "take into consideration the character and degree of the wrong" in calculating the award -- and contends that court review did not cure the problem because of "extraordinary deference" given the jury's decision.

A number of the justices -- perhaps a majority -- appear inclined to agree with that view. "This grant of wholly standardless discretion to determine the severity of punishment appears inconsistent with due process," Justice Sandra Day O'Connor, joined by Justice Antonin Scalia, wrote in a 1988 case.

Juries "are left largely to themselves in making this important, and potentially devastating decision," Justice William J. Brennan Jr. wrote in last year's case, joined by Justice Thurgood Marshall.

A fifth justice, John Paul Stevens, joined O'Connor's criticism of punitive damages last year. But Brennan's departure and his expected replacement by federal appeals court judge David H. Souter leave the outcome in Haslip far from certain.

For Cleopatra Haslip, though, the issue is clear. "There's not a monetary amount can be put on the things that I have gone through because of that," she said. "I'm justified in receiving that amount. It was awarded by a jury." If the Supreme Court overturns the award, she said, "my feeling is that they can do away with the jury as far as the civil case was concerned."