Учебный год 22-23 / Binding Promises - The Late 20th-Century Reformation of Contract Law

which the courts expressly mentioned fiduciary responsibility comprise only a fraction of the cases in which the courts have created relational torts, this conclusion seems equally correct for the broader range of cases. Thus, generally at least, the fiduciary responsibility requirement collapses into the other two. It merely expresses the court’s conclusion that there ought to be a relational tort duty in order to serve a public purpose and/or to protect against abuses of bargaining power.

However, both justifications miss the point if the court applies them to the parties’ relationship as a whole. The focus should be just on the aspect for which the court is considering whether to create a relational tort. It is irrelevant whether the public has an interest in the other aspects of the relationship or whether the consumer lacks bargaining power with respect to them. For example, when the California Supreme Court created the duty of a liability insurer to accept a reasonable settlement offer in Comunale, it presumably believed that the public has an interest in the prompt and fair settlement of insurance liability claims and/or that the settlement of such claims is generally too complicated for the consumer of liability insurance to understand. There was no need to inquire into other aspects of the relationships among liability insurers, insureds, and third-party claimants, and the court did not do so. Focusing on the relationship as a whole instead of just the aspect in question can result in relational torts’ being overor underinclusive. A court may not create a relational tort when it should, if it concludes that neither justification applies to the relationship as a whole, and it may create a relational tort when it should not, if it concludes that one or both of the justifications apply to the relationship as a whole, although they might not apply to the aspect concerned.

Although the presence of a public interest or unequal bargaining power may demonstrate a need for a relational tort duty, neither justification tells us what the duty should be. Fortunately, courts and commentators have already developed principles for determining certain traditional torts, and these principles would also be appropriate for determining many relational torts. Most contract disputes arise from events the parties did not anticipate when they made the contract. Generally, something goes wrong with the tangible product or the service because the producer improperly designed or made the product or performed the service improperly. Such unanticipated events are accidents. The same principles that guide the courts in allocating the costs of accidents in traditional tort law can guide them in allocating the costs through relational torts.

These principles are “better cost-avoider” and “better cost-spreader.” The lawmaker asks two questions. First, to the extent either party might be able to reduce the risk of the kind of accident concerned, which one could reduce it less expensively? Second, to the extent that neither could reduce the risk of the kind of accident concerned, which one could better spread the costs of the accidents among the persons who should bear them? Both

questions address the parties as members of classes rather than as individuals: the class of producers and the class of consumers of the product concerned. Thus, the questions expand the lawmaking considerations to take account of the public interest in two ways. They consider classes of persons rather than the parties to the case, and they consider the incentives for future conduct rather than the fault for the accident which occurred.83

The producer is both the better cost-avoider and the better cost-spreader in almost every case. It is in the superior position to avoid defects in its own products if they are tangible, because it designs and produces them. It is in the superior position to avoid defects in its products if they are services, because it performs them. It is generally in the better position to spread the costs of the accidents among those who should bear them, because it can pass them on to all the buyers of the product by raising the product’s price. However, the consumer may be the better cost-avoider for certain kinds of losses. For example, consumers are generally in the better position to take precautions in the use of the product and to mitigate any injuries to their person or property. They may even be in the better position to mitigate injuries to the product itself, because if an accident resulting from a defect occurs, the accident will usually occur while the consumer is using the product.

It is obvious how one could apply these principles to relational torts involving tangible products, because the application would be no different from the application to traditional torts. It is less obvious, however, how one could apply these principles to relational torts involving services, so I will give an illustration of how one could apply them there. Take again the California Supreme Court’s decision in Comunale. The accident was the liability claimants’ winning their case against the insured and obtaining a judgment in excess of the policy limits. As between the insured and his insurer, obviously the insurer was in the better position to have reduced the risk of such an accident. The liability insurer handles the claim from start to finish, and it is both expert and experienced in handling claims of the kind. To the extent that allocating this risk to the insurer will increase its costs, it can spread them among all purchasers of insurance of the kind by raising the price of the insurance. Most jurisdictions apply a negligence standard to liability insurers in this kind of case, although a few require only that a refusal to settle be in good faith. No jurisdiction applies a standard of strict liability, although some commentators have suggested it.84 I will not stop to explore the standards question here, but I point it out in order to demonstrate the extent to which the issues for relational torts are the same as the issues for the traditional torts. Courts and commentators have been wrestling with the same issue of standards in traditional tort law for decades.

One can also apply the better cost-avoider principle to questions of notice, although the question of who is the better cost-avoider in these situa-

tions is usually so simply answered as to make it unnecessary to resort to such an elaborate conceptual apparatus. The purpose of notice is to give a person time to deal with the subject before it is too late. The risk is therefore that the notice will be too late. The costs to be avoided are the losses the person will incur if the notice is too late. The costs of reducing the risk are the costs incurred in giving the notice promptly. Many relational tort duties for insurers consist simply of giving timely notice of something.

The better cost-avoider and better cost-spreader principles should work even better for many relational torts than for most traditional torts, because relational torts rarely involve noneconomic losses. A court in a traditional tort situation is often required to balance incommensurables: how many dollars it is worth to reduce a risk to human life or a risk of personal injury. The court in a relational tort situation rarely has to make such a balance, because the losses involved in relational torts are generally measurable in dollars.

However, the principles are not relevant to every relational tort. For example, they are not relevant in analyzing a penalty damages or forfeiture situation or in deciding what duties the law should impose on a party with a discretionary contractual power. Considerations of public policy are helpful in some such cases, but beyond that there is not much to say. In the last analysis, designing a relational tort is not much different from designing a traditional tort. Besides the differences in commensurability mentioned earlier, the only differences are factual. Whereas the designer of a relational tort needs to take into account only the needs and expectations of the parties to a certain kind of relationship, the designer of a traditional tort must take into account the interests of everyone the conduct might affect.

William K. Jones has concluded that products liability law should not allow recoveries for economic losses unless bargaining power was unequal. However, he assumes that bargaining power is unequal only if the consumer of the product is an individual.85 All that is required to make his conclusion the same as mine is to eliminate his assumption that business consumers and producers generally have equal bargaining power. I gave my reasons for concluding that this assumption is incorrect, because business consumers generally have no more bargaining power than individual consumers, in Chapter 2.

Confusion with Contract

The new duties logically sound in tort and not in contract because they are not consensual. They do not derive from the contract; they may even conflict with the contract; the parties are not free to contract out of them. As we have seen, however, many courts have held that they sound in both tort and

contract, and although I have not previously pointed it out, some scholars believe that we ought to regard them as sounding only in contract. Spencer L. Kimball in particular has been an outspoken advocate of this position. His writings on the subject deal only with the new duties in insurance law, which is his specialty.

Kimball makes several arguments. First, the courts originally derived the new duties from the duty to perform a contract in good faith, and many decisions still refer to a breach of one of the duties as a bad faith breach. Second, the reason the courts held that the duties sounded in tort as well as contract was to provide the additional damages that a plaintiff could obtain only in tort, and this reason was inadequate, because the courts could have provided essentially the same damages in contract simply by following certain contract principles to their logical conclusions. Third, holding that the duties sound in tort opens the door to punitive damages, which are inherently difficult to control. Fourth, the new damages entitlements, in total, overly deter the conduct at which they are aimed, so that insurers are forced into defensive measures that are expensive and conflict with sound insurance principles.86

I share Kimball’s concern with punitive damages, which I will treat in the next chapter, but I find his other arguments unpersuasive. We should not allow the legal categories from which laws are derived to determine their categories forever; if we did, we would still be referring to “trespass on the case” and “indebitatus assumpsit,” for example. Kimball’s belief that the courts originally held that the duties sounded in tort as well as contract chiefly in order to provide additional damages is a misreading of the decisions in my opinion. The courts’ chief reason was to establish a basis for overriding the contract, which did not impose the new duty or even contradicted it. The reader can judge for him or herself on this issue for the decision of the California Supreme Court in Comunale, which I described earlier; the court did not even award any tort damages in this case. More important, it does not matter for present purposes what the courts’ reasons were for creating the new duties. The whole thirty years or more of judicial development would be in vain if producers could avoid the duties simply by contracting out of them, which they logically could if we were to characterize them as sounding only in contract. Allowing producers to contract out of the new duties would also undermine the public purposes the courts intended the new duties to serve.

That many courts and commentators in the insurance area continue to refer to the new torts as bad faith breaches is true but confusing. A person can violate virtually any of the new duties without being in bad faith. Simple negligence is sufficient for most of them, and some of them make a person strictly liable, which is to say, a person violates them if he fails to perform them even if he was without fault in failing to perform them. Kim-

ball recognizes this problem with his position.87 The name “bad faith breach” is also confusing because it fails to differentiate among the duties, of which there are already dozens just in the insurance area. We will never make sense of the new duties if we continue to have only a single name for them. Finally, there is no reason to think that the new damages entitlements, in total, overly deter the conduct at which they are aimed—except for punitive damages, about which I share Kimball’s concern, as I have already noted.

Although it is chiefly scholars who have disputed the sounding in tort, the unspoken assumption that the new duties are essentially contractual has also led to some bad judicial lawmaking. In particular, it has led the courts of almost every jurisdiction to refuse to extend liability insurers’ relational tort duties to liability claimants, because there is no contract between them.88 Of course the only parties to the insurance contract are the insurer and the person who has the liability insurance. As a result of the courts’ refusals, it is only the insured person who has a right to sue the insurer for a breach of a relational tort duty. If the breach also harms the liability claimant, the claimant’s only recourse is to sue the insured, who can sue the insurer later to try to collect anything it had to pay the claimant, or to obtain an assignment of the insured’s rights against the insurer and sue as an assignee. Both alternatives produce serious injustices.

If the liability claimant sues the insured to obtain compensation for the insurer’s breach of duty, the result is to make the insured pay for the insurer’s wrong. The insured can then sue the insurer to recover whatever he had to pay the liability claimant, but even if he is fully successful, the American Rule will ordinarily deny him any recovery for his litigation costs in the second suit, and he will not be entitled to recover anything for the ordinarily very substantial efforts he invested in both suits. Knowing this, an insured is likely to agree to assign his rights against his insurer to the liability claimant in exchange for the liability claimant’s agreement not to levy the judgment he obtained against the insured. However, such assignments can produce other injustices.

The facts of Comunale demonstrate some of them. Sloan, the insured, never received any compensation for the $800 he had to pay a lawyer when Traders, the insurer, refused to defend him, or for the years of worry and irritation that Traders’ callously wrongful behavior caused him. Traders paid the $800 to Comunale instead, as Sloan’s assignee, and Traders never paid anyone anything for the suffering it caused Sloan through its wrongful behavior. Another California case, Crisci v. Security Insurance Co.,89 decided in 1968, produced even worse injustices. Rosina Crisci owned and managed a small apartment building, which she also used as her residence. A tenant, June DiMare, fell through an outdoor stairway when a step

broke, suffering physical injuries and allegedly a “psychotic break” as a result. Crisci’s liability insurance coverage was $10,000. Security refused the DiMares’ offer to settle for $3,000. The jury awarded June DiMare $100,000 and awarded her husband $1,000 for loss of consortium. Security paid the policy limits of $10,000. The DiMares’ settled the excess judgment against Crisci for $22,000 cash, a 40 percent interest in the apartment house, and an assignment of Crisci’s claim against Security for its failure to accept the DiMares’ $3,000 settlement offer. The California Supreme Court described the effect of Crisci’s settlement with the DiMares as follows:

Mrs. Crisci, an immigrant widow of 70, became indigent. She worked as a babysitter, and her grandchildren paid her rent. The change in her financial condition was accompanied by a decline in physical health, hysteria, and suicide attempts.90

Then, the Court used Crisci’s mental suffering as the basis for awarding the DiMares $25,000, as Crisci’s assignees, in addition to the $91,000 it awarded them as compensation for the judgment in excess of the policy limits of $10,000 that Crisci had borne. The DiMares were able to keep all of the $91,000 as well as the $25,000, although Crisci had already given them $22,000 in cash and a 40 percent interest in her apartment house as part payment of the excess judgment. Crisci herself apparently never received a cent for the cash and property the DiMares took from her or for the mental distress she suffered from Security’s conduct.

The laws governing assignments of claims also produce injustices because they are unclear and uncertain. So-called personal torts—those involving wrongs to a person’s body, reputation, or feelings—are not assignable in most states, at least in theory. For example, Crisci, in theory, should not have been able to assign her right against Security for damages for emotional distress to the DiMares. The laws of most jurisdictions are unclear as to what is a personal tort for this purpose and in particular whether a right to punitive damages is a personal tort. Although attorneys for liability claimants have been ingenious in getting around the prohibitions on assignments, the devices they use can be costly and always run the risk that a court will hold them to be improper.91

Relational tort duties that ran directly from insurers to liability claimants would not only avoid these injustices, they would also serve the public purpose of providing funds for compensating liability claimants. State governments have expressed public policies to this effect already in a variety of ways, especially with respect to automobile accidents. For example, virtually every state has some sort of automobile driver compulsory liability insurance or financial responsibility law.92

Criticisms

The critics of relational torts have dealt almost exclusively with the relational torts that apply to manufactured products, probably because these torts are of such great economic importance. Moreover, most of the critics have been economists, probably because relational torts violate the principles of free markets. They violate them for the same reasons they limit freedom of contract, which I explained in Chapter 1. However, the criticisms are still pertinent to all relational torts, because they rest on grounds of wide generality.

One of the chief benefits of a competitive market is what economists call allocative efficiency. In lay terms, this means simply that consumers can buy what they want at prices they consider appropriate. It seems to follow from this that if a market is functioning properly, the law should not require producers to change their products in any manner. Any changes, in this view, would make things worse, because consumers are already getting what they want at prices they consider appropriate. For example, if the law were to require that automobiles be durable enough to last at least 100,000 miles under normal use, some automobile manufacturers presumably would have to charge higher prices for their cars than if the law had not required that they improve them. As a result, some consumers would have to buy better cars, at higher prices, than they would have liked, and some would have to forgo buying any new cars at all, because they could not afford to pay the lowest prices at which the manufacturers could afford to make them.

Economists have applied this reasoning to the laws that constrain producers from limiting their liability for defective products by characterizing the risk that a product will turn out to be defective as an aspect of the product’s quality. The less risk, the better the product; the more risk, the worse the product. Once one makes this characterization, the allocative efficiency argument leads to the conclusion that these laws have only made things worse. Consumers presumably were taking the amount of risk they wanted (in exchange for lower prices, of course) before these laws came into effect. Therefore, some consumers are now buying better (because less risky) products, at higher prices, than they would like, and others are forgoing buying any products of the kind, because they cannot afford to pay the lowest prices at which producers can afford to sell them.93

One does not need a deep understanding of economics to make this argument. All it amounts to is the observation that if the law prohibits inferior products, some people will have to buy better products than they would like, and some people will not buy any of the kinds they would like to have. The observation is as true as it is obvious, but it is incorrect to apply it to

laws expanding producers’ liabilities, because the risk of a defect is not an aspect of a product’s quality. At least, consumers do not ordinarily so view it. Consumers do not ordinarily expect any product they buy to be defective, whatever else they expect of it. Defects almost invariably come as unpleasant surprises. A reasonable person would not be surprised to find that the Hyundai he purchased did not perform as well as a Mercedes Benz or that a three-dollar wine he purchased did not taste as good as a fortydollar one. However, he would be unpleasantly surprised if the wine gave him a case of food poisoning or the car uncontrollably swerved into a brick wall, as happened in Henningsen v. Bloomfield Motors, Inc.94

Thus laws that protect consumers from loss or injury resulting from defective products by expanding producers’ liabilities protect consumers from these unpleasant surprises or their consequences. They do not require consumers to buy higher-quality products. These laws have done nothing to narrow the gap between the performances of a Hyundai and a Mercedes Benz or between the tastes of wines of different quality. However, they have done a great deal to make products safer, to ensure that products conform with consumers’ expectations, and to compensate consumers to whom products cause loss or injury.

Moreover, the economists’ argument falls even if one accepts their characterization of risk of defect as an aspect of a product’s quality. Even if consumers did regard this risk as something to consider in choosing which product to buy at the price, the typical consumer would have virtually no bargaining power on the subject. The reasons why consumers typically lack bargaining power relative to producers apply with especially great force to risk of defect: with very few exceptions, consumers cannot assess the risk merely by examining the product, and even if they had all the technical information they would need to make the assessment, they would lack the expert knowledge and understanding to utilize the information.

Economists have also criticized the laws expanding producers’ liabilities on the ground of “cross-subsidization.” Cross-subsidization occurs if some buyers pay more for a product because it is worth more to other buyers. As a result, the first group of buyers subsidizes the second group by helping pay for something from which only the second group benefits. Cross-sub- sidization is supposedly an inevitable result when the law does not allow producers to disclaim warranties, limit remedies, or otherwise avoid liability for product defects.95

The facts of Wilson Trading Corp. v. David Ferguson, Ltd.,96 treated in Chapter 2, provide an illustration. Suppose garment manufacturers could test the yarn they purchased for a defect such as “shading” before using it, but the testing was expensive. The garment manufacturers who tested would incur the costs of testing, and they would thereby avoid the losses of garments’ shading. The manufacturers who did not test would not incur the

costs of testing, but they would occasionally incur the losses from shading, as the plaintiff did in Wilson. Therefore, when the law holds yarn manufacturers liable for losses caused by shading, only the garment manufacturers who do not test their yarns for shading before using them receive a benefit. However, the yarn manufacturers have to charge all purchasers the same higher prices in order to cover their increased liabilities. They cannot continue to charge lower prices to purchasers who agree to disclaimers of liability for shading, because the law prohibits the disclaimers. The garment manufacturers who test for shading thus cross-subsidize the garment manufacturers who do not.

This line of criticism also predicts a wealth redistribution from poor to rich in some cases. Suppose a certain kind of product defect can cause the product to catch fire. If it does, the fire may damage the surroundings. If the law holds the producer liable for the fire damage to the surroundings, the liabilities will tend to be higher for buyers who use the product among expensive surroundings and lower for buyers who use the product among inexpensive surroundings. In effect, both kinds of buyers receive fire insurance in exchange for the higher prices they pay for the product, but the wealthier buyers receive more fire insurance for their money than the poorer buyers do. Cross-subsidization in this case goes from poor to rich.97

According to this line of criticism, the only way to avoid either of these kinds of cross-subsidization is to restore freedom of contract. The law should allow producers to disclaim warranties, limit remedies, or otherwise avoid liabilities by contract, so that they can price-discriminate. They should be free to sell their products at lower prices to consumers who agree to accept such contractual reductions of their remedial rights and at higher prices to consumers who do not agree to accept the reductions.

The criticism is invalid because it overlooks important countervailing considerations. First of all, cross-subsidization is not an evil so bad that the law should avoid it at any cost. It may be worth incurring in order to obtain certain benefits. Most criminal laws and tort laws result in some cross-subsidization, for example, but we accept this because we believe that these laws provide benefits that make it worthwhile to accept the crosssubsidization. Rich people have more to lose to robbers and burglars than poor people do. Some people install security systems in their homes or hire private police to watch for burglars and apprehend them. How much people pay in taxes to support the police does not necessarily depend on how rich or poor they are or on whether they install security systems in their homes or hire private police to protect them. The same is true of the taxes that support criminal courts and prisons. A similar situation exists for the losses people risk from accidents, assaults, libels, fraud, and the other things from which tort law protects us. Some people benefit more than others, and some take more costly precautions to protect themselves than

do others. Yet, it would be foolish to abolish our criminal laws and tort laws and the institutions that support them merely because they result in some cross-subsidization.

Like any criticism that ends with a proposal to restore unlimited freedom of contract, this criticism overlooks the problems posed by unequal bargaining power. The technological character of products today makes it generally impossible for consumers to assess either the products’ probable useful lives or the probability they are defective. Consumers generally could not make effective use of the freedom to choose between better warranties and lower prices if the law were to give it to them. Nor is there any reason to think that many producers would offer consumers the choice if the law allowed them to. History is to the contrary. Before the law changed, producers routinely removed virtually all the consumer’s rights in virtually every industry. The contracts in Henningsen and Wilson were typical in this respect.

This criticism also misunderstands the common law, which includes numerous doctrines that serve to avoid cross-subsidization. The doctrines of proximate cause, intervening cause, contributory or comparative fault, contributory or comparative negligence, assumption of the risk, foreseeability, and mitigation all serve this purpose, as does the concept of “defect,” which I explained earlier. So do the concepts of “better cost-avoider” and “better cost-bearer” or “better cost-spreader,” which I explained earlier. Consequently, it is not true that there will be cross-subsidization unless producers can limit or disclaim liability for defects. The law generally avoids it anyway. I will explain using two illustrations.

Suppose the following: A dye manufacturer makes a dye that produces an uneven color just on certain kinds of fabrics. The large number of fabrics makes it impractical to determine beforehand all those on which the dye will have this undesirable effect. The manufacturer therefore sells the dye with a warning that the garment manufacturer should pretest it on a small sample of the fabric on which he proposes to use it. Common sense dictates that if a garment manufacturer used the dye without pretesting, he could not hold the dye manufacturer liable for any resulting damage.

A court could use any one of the abovementioned common law doctrines or concepts to reach this conclusion. It could say that the dye was not the proximate cause of the loss, because the failure to test was more proximate, or “intervening.” It could say that the dye manufacturer was not negligent, because he gave fair warning. It could say that the garment manufacturer was contributorily negligent, which would be a defense for the dye manufacturer even if the court had deemed him negligent. The court could say that the loss was not reasonably foreseeable, because a reasonable garment manufacturer would not have ignored the warning. Even if the applicable law was one of strict liability for product defects, the court could say that