TORT REFORM AND INSURANCE MARKETS

ABSTRACT Proposed tort reforms have focused on punitive damages and noneconomic damages, each of which pose problems for jury decision making. The U.S. Supreme Court decision in State Farm v. Campbell will greatly limit very large punitive damages awards, and will affect smaller punitive awards to a lesser degree. Noneconomic damages caps enacted by state legislatures have greatly enhanced insurance market performance. Insurers operate within the context of a highly imperfect, regulated market in which there is substantial price rigidity induced by regulation. Reform efforts should strive to establish greater predictability and stability in these awards components rather than simply being concerned with imposing specific numerical caps. TORT REFORM TARGETS The tort liability crisis in the mid-1980s witnessed a dramatic increase in insurance premiums and denials of insurance coverage. In an effort to provide greater stability to insurance markets and to reduce liability costs, most states enacted some kind of tort reforms in the 1980s. These reforms often took the form of damages caps and limitations on liability. Recent increases in insurance premiums have stimulated interest in enacting some kind of tort reform. Unlike the 1980s liability crisis, current problems seem to stem less from denials of coverage than from increases in premium rates. However, as with the liability crisis of the mid-1980s, the focus has been on lines of insurance such as general liability, products liability, and medical malpractice. These lines have continued to exhibit premium increases. Medical malpractice premiums increased by 8.7 percent in 2001 and by 9.5 percent in 2000, and product liability premiums jumped by 42.6 percent in 2001, after exhibiting a decline of 10.4 percent in 2000.1 Proposed reforms have focused primarily on two damages components: noneconomic damages, such as pain and suffering, and punitive damages. Are reforms of either of these components of damages sensible? Whether reforms are desirable hinges on two different sets of concerns. First, to what extent are reforms warranted based on the criteria for these damage components and the performance of the courts with respect to these damages awards? second, which types of reforms will best foster insurance market performance while at the same time maintaining the constructive role that such damages components may play in the judicial system? As I will show in this article, punitive damages and noneconomic damages share common limitations and should be prominent targets of reform, but the character of the reforms that have been proposed to date often are not ideal. Past proposals have been designed strictly with respect to the narrow objective of reducing insurance costs, which is not necessarily equivalent to fostering sound insurance market performance. WHY JURIES DON'T Do WELL: PAIN AND SUFFERING The principal noneconomic damages component comes under the general heading of pain and suffering. Thus, in addition to compensating accident victims for lost earnings, medical expenses, rehabilitation costs, and similar out-of-pocket outlays, there is generally an additional provision for the pain and suffering associated with the injury or fatality. Unfortunately, the criteria for setting these awards are quite vague. In particular, the jury instructions never provide any precise guidance that would enable one to set the pain and suffering amount based on any kind of compensatory principles or formulas. While one could distinguish possible approaches to setting pain and suffering damages that would be amenable to greater precision and predictability, none of these approaches has been adopted in any existing jury instructions for pain and suffering. Three possible formulations can be distinguished. First, accident victims could be compensated for the optimal insurance value of their injury. Based on this approach, the jury would engage in the thought experiment of how much insurance the accident victim would have chosen to provide after the accident if offered the opportunity to buy such insurance on an actuarially fair basis before the accident. …