Indian Journal of Law and Economics (IJLE) PDF
Indian Journal of Law and Economics (IJLE) PDF
VOLUME 1
2010
PATRONS
HEMANT K. BATRA
VEER SINGH
ADVISORY PANEL
JAGDISH BHAGWATI
KAUSHIK BASU
BINA AGARWAL
BIBEK DEBROY
DANIEL RUBINFELD
PETER SCHUCK
RAGHURAM RAJAN
ROBERT COOTER
AVINASH DIXIT
STEVEN SHAVELL
SURESH TENDULKAR
HANS BERNARD SCHAEFER
EDITOR-IN-CHIEF
PRASAD KRISHNAMURTHY
CONSULTING EDITORS
VIKRAMADITYA KHANNA
SWETHAA BALLAKRISHNEN
PG BABU
HARSH SINHA
MANAGING EDITORS
ADITYA SINGH
AMRITA MUKHERJEE
EXECUTIVE EDITOR
ARANI CHAKRABARTY
EMIKO SINGH
EDITORS
SANJHI JAIN
RAADHIKA GUPTA
ii
Published by
The Registrar
NALSAR University of Law
3-5-874/18, Apollo Hospital Lane,
Hyderguda, Hyderabad 500 029, India
This Journal is not for sale and general circulation.
1 INDIAN
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Table of Contents
Vice-Chancellors Message
Patrons Message
Editorial
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Articles
F.E. Guerra-Pujol
Coases Paradigm: First Principles of
the Economic Analysis of Law
Afra Afsharipour
The Promise and Challenges of
Indias Corporate Governance Reforms
Varun Gauri
Fundamental Rights and Public Interest Litigation in India:
Overreaching or Underachieving?
Vikas N.M.
Carbon Lock-in in the Automobile Industry:
A Case for Regulation?
Mandar Kagade
Independent Director Law in India:
An Economic and Behavioral Analysis
116
Essay
Bikku K. Kuruvila
Refuse to Choose: The Role of Methodological Pluralism
in Thinking about Law and Economics in India
134
Notes
Tissya Mandal
The Role of Economics in Cartel Detection
Through Leniency Programmes
Vrinda Bhandari
A Study of the Aviation Sector in India: An Analysis of the
Employment Contracts of Airhostesses in Light of
Sheela Joshi v. Union of India
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71
94
153
160
Review
Priya S. Gupta
The Ambivalent Life of Dead Aid
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HYDERABADv
VICE-CHANCELLORS MESSAGE
It gives me great pleasure to present the inaugural issue of the Indian
Journal of Law and Economics (IJLE). The IJLE is an initiative of the students
of NALSAR, with the goal of promoting interest and encouraging scholarship
in the field of law and economics. The IJLE has been launched with the aim of
remedying the lack of authoritative academic writing devoted to the economic
analysis of law and legal institutions. It is intended to serve as a platform where
students, academics, lawyers, policymakers, and other scholars can contribute
to the ongoing legal, political, and social debates in this field.
On behalf of the students and faculty of NALSAR, I wish to express my
gratitude to Mr. Hemant K. Batra, Lead Partner, Kaden Boriss Legal LLP,
Lawyers for wholeheartedly supporting this student initiative.
The IJLE is an annual publication managed by a board of student editors
who are selected through an annual test. The IJLE boasts of an eminent Advisory
Panel, comprising of noted academics, members of the judiciary, renowned
jurists, and economists. The consulting editors of the IJLE play a crucial role in
the success of this enterprise by providing valuable advice and support to the
board of student editors. Under the able guidance of the Advisory Panel and
the consulting editors, I believe that the IJLE will serve as the leading platform
in India promoting a culture of academic research and original thought in the
area of law and economics.
This first issue of the IJLE, I hope, will be a trendsetter; both in terms of
its significance to the field of study as well as the direction it provides for future
initiatives. The Journal will undoubtedly increase and encourage scholarship,
especially amongst students, and I sincerely believe it will prove invaluable to
academics and practitioners alike. I wish the IJLE and the Editorial Board
success in all their endeavours and hope that they will keep up their good work.
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PATRONS MESSAGE
Law and Economics have always been inextricably linked to each other.
Despite the immense relevance in this age of globalization, law and economics
remains a field without a plethora of academic authorities. It is, hence, a matter
of great pleasure and pride for me to present the first volume of the Indian
Journal of Law and Economics (IJLE). This journal has been introduced with
an aim to promote exchange of ideas in the area of law and economics and
encourage economic analysis of law.
An initiative of NALSAR students, IJLE promises to serve as a
congregation connecting law students, practitioners, policymakers, scholars and
academics by a common thread of law and economics enabling contemporary
multidisciplinary debates and discussions. Managed by a board of student editors
from NALSAR University of Law, this annual publication has a distinguished
Advisory Panel comprising of judges, policymakers, eminent jurists and
economists. I believe that active participation of the noteworthy consulting editors
serves to provide high standards to this journal making it the potential flagbearer of a quality-centric law and economics forum in India.
I hope this volume of IJLE sparks discussions and analysis among legal
circles and sets a strong base for future developments and contributions in the
field of law and economics. I believe that the Journal will encourage law students
in particular and will also be duly appreciated by practicing lawyers, academics
and policymakers.
I congratulate the Editorial Board of IJLE and all those involved in the
publication, especially the Vice-Chancellor of NALSAR Prof. Veer Singh and
the Advisory Panel on publishing the first volume of the Journal and wish them
success in all their endeavours.
Hemant K. Batra
Managing Partner,
Kaden Boriss Legal - India, Lawyers
Secretary General,
SAARCLAW
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EDITORIAL
Why must private property be protected by a public law regime? Why
are private contracts best enforced through legislations? How are creative
achievements best rewarded by intellectual property rights? Are alternative
dispute resolution methods better than litigation? What is the best tax structure
and rate that the government should adopt? On a more abstract note, how
should society structure its political, economic and legal institutions in order to
maximise welfare for everyone? These questions and many more sui generis
have and will continue to haunt lawyers and policymakers alike.
Justice Oliver Wendell Holmes famously wrote in 1881, The life of the
law has not been logic, it has been experience. One of the several rather
astounding experiences that life has to offer law is the intersection between
law and economics. While law provides the theoretical framework of the logic
of norms, rights and duties in this relationship, economics provides a conceptual
framework to gather diffused experiences in most areas in which the law
operates.
The aim of the Indian Journal of Law and Economics is to initiate and
sustain a conversation encompassing the interactions between the disciplines
of law and economics. From a lay persons point of view, this new hybrid
discipline can be said to be a two-headed coin. One side of this coin is microand macro-economic theory that seeks to analyse the behavioural consequences
of any societys legal rules and through the lessons of economics, steer these
rules towards a socially desirable end. The other side of the coin is legal theory
as we traditionally understand it. Sometimes traditional legal theory is used to
study the functioning of economies, property rights regimes, contract
enforcement, institutions of labour market, etc. From the point of view of
governance, law and economics can be said to be concerned with the effects
of legal rules on the behaviour of relevant actors; and whether these effects
are socially desirable. It differs from previous approaches in that it reformulates
the rationales behind adopting legal rules. For instance, the basic tort law question,
Did X have a duty to Y? gets transformed into, What are the economic
effects if X is found to have a duty to Y?1 Concurrently, the desirability of a
proposed legal regime is studied not so much through the languages of rights
and other such categorical imperatives as through efficiency. The achievement
of a socially and/or economically desirable outcome is the aim of a lawmakers
perspective on law and economics.
George L. Priest, Michael Trebilcock and the Past and Future of Law and Economics, 60
U.TORONTO L.J. 155 (2010).
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The domain of law and economics can broadly be demarcated into positive
or descriptive analysis and normative analysis. While the positive analysis is an
attempt at prediction, description and explanation of the likely impact of any
policy or law, normative analysis is a venture into comparison of available
alternatives and proposed solutions in the light of such analysis. Consider the
following example in a manner of understanding the role of law in regulating
activities in a society:2 in an imaginary land with no traffic rules, individuals
must decide whether to drive the car on the left (L) or on the right (R) side of
the road. Obviously, traffic would be smoothest for everybody if everyone would
drive on the same side of the road, i.e. all choose either R or L. Such an outcome
prevents accidents. Seen from another angle, an outcome where half choose L
and the other half choose R is the most probable to result in accidents. Clearly
the above structure involves a problem of coordination among drivers; let us
call this problem a coordination game. Let us also call the two desirable
situations all drivers choosing R or L as the equilibriums of this coordination
game. Evidently, the mere knowledge that these equilibriums exist does not
help the drivers to make a definite decision on which choice to adopt. To achieve
a socially efficient equilibrium, the law steps in by announcing a definitive traffic
rule to coordinate the actions of different players in the game (by overcoming
information asymmetry and variations in strategies). Legal rules such as this
offer incentives for players desired behaviour. In game-theoretic terms, law is
a coordination device in situations where the interests of agents coincide.
In other situations, individual interests do not coincide but conflict. The
trial is one example: the prosecutor and the defendant in a trial would agree to
coordinate through an out-of-court settlement or settle on a plea bargain only if
both parties could be made better off than their expected trial outcomes. This
seemingly apparent premise is at the heart of alternative dispute resolution and
the law on plea bargaining. A law and economics approach would seek to
determine which outcome would accommodate the interests of both parties,
while at the same time adhering to societys mandate of law-enforcement. This
would be a considerably more difficult task, involving not only the determination
of the cost-benefit analysis of each outcome for each stakeholder but also
deciding the level of final equilibrium and the associated distribution of scarce
resources that society ultimately desires. It is in these complex formulations
that the tools presented by law and economics come once again to the aid of
the hitherto single-tracked law person.
OF
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and Coases studies of property rights and liability rules.8 After Judge Richard
Posner, never again would Law and Economics be thought of as exclusively
the domain of antitrust and corporate law. Now its domain was the very heart
of the legal system, torts, property, contracts, domestic relations, procedure,
even constitutional law.9 Posner showed how a series of simple principles
underline and render coherent a wide variety of legal institutions, across public
and private law.
Owing primarily to the contributions of these and other scholars in the
field, the scope of law and economics today runs across diverse fields such as
intellectual property, environmental law, anti-discrimination law, criminal law,
consumer protection, information technology, medical malpractice, land use
planning, effect of legal precedent on litigation, and indeed, the legal process
itself.
Law Schools and the Discipline
With the growth of law and economics as an academic discipline came
the growth of centres of learning focussed on this new approach. While in the
United States this specialisation has been completed over the last four decades,
Europe is today steadily increasing its focus on law and economics, with
programs like the Erasmus Mundus Masters and Doctorates in Law and
Economics.
India, sadly, still has a long way to go. Law and economics is in its nascent
stages of recognition by the Indian academic fraternity. With only a few law
schools offering undergraduate courses, the discipline is yet to get under way
as a self sustaining choice for a successful career. One of the major hurdles is
that the legal world including law students needs the rigorous understanding
of economics that is indispensable to any serious research on the subject. Such
a concentration in economics is rarely found outside specialised economics
degrees. Other hurdles include a systemic opposition to change, especially in
the legal world, an almost total absence of references to the parameters of
efficiency in court judgements and parliamentary debates, and a suspicion on
part of the established legal system that law and economics is merely a passing
fad: a new way of looking at a world that, the argument goes, was managing
adequately without such lenses.
8
9
WILLIAM M. LANDES & RICHARD A. POSNER, THE ECONOMIC STRUCTURE OF TORT LAW 7 (Harvard University
Press, 1987).
Sophie Harnay & Alain Marciano, Posner, Economics and the Law: From Law and Economics
to an Economic Analysis of Law, 31.2 JHET 215 (2009).
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the Satyam scandal of 2009 as an example of the dire need for stringent corporate
governance norms in India, Afsharipour delves into the impact of the scandal,
and the consequent industry and government reforms brought about in Indias
corporate governance regime.
One of the most striking features of the law and economics movement
has been its contribution to existing legal issues by presenting solutions and
analyses from fresh lenses. Public Interest Litigation has been a hotbed of
constitutional law controversy in India ever since its emergence in the 1980s.
There has been no dearth of proponents and opponents of this peculiarly Indian
brand of judicial overreach, and a resolution of these differences is often
surrendered as owing purely to personal, political and legal ideology.
Varun Gauris article, Fundamental Rights and Public Interest Litigation
in India: Overreaching or Underachieving? brings into this old debate the new
tools of economic and empirical analysis. In the resultant path-breaking article,
Gauri tackles a number of objections leveled at the public interest litigation
movement and seeks to determine the extent to which these can really be
justified. As he makes clear at the outset of his study, the debate to date has
largely been abstract, helping to generate a set of normatively significant
questions, but calling for a more pressing empirical work today. He identifies
that almost all the objections stem from either of two sources: suspicions related
to the separation of powers, and those regarding judicial attitudes. Through
presenting the results of a comprehensive empirical study involving such
innovative parameters as the number and matter of fundamental rights cases
before the Supreme Court, the rates of winning those cases according to
litigants affluence, cases involving women and child rights, and those involving
the rights of backward and scheduled classes, Gauri shows that public interest
litigation does not in fact consume a significant share of the resources of the
Supreme Court, that concerns regarding inequality are not altogether unjustified,
and that advantaged social groups can expect significantly lower win rates for
fundamental rights claims than their disadvantaged peers in the new millennium.
The fourth article in the journal is Vikas N.M.s Carbon Lock-In in the
Automobile Industry A Case for Regulation?, which presents the case of the
carbon polluting technological lock-in in the automobile industry as an example
of a market failure, where the ability of market participants to correct
inefficiencies is severely constrained due to the clash of private and social
interests. Vikas identifies these market inefficiencies as arising from problems
of inertia, technological limitations, consumer indeterminacy, inadequacy of
infrastructure, uncertainty of future development, and the lack of supporting
facilities. Discussing the mechanism of an automobile, the author demonstrates
how the Internal Combustion Engine (ICE) gained dominance in the automobile
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make confession of the cartelists a dominant strategy. At the same time, Mandal
brings out the challenges the Competition Authority has to face in order to
establish a favourable prisoners dilemma.
The eighth article in this journal is Vrinda Bhandaris A Study of the
Aviation Sector in India: An Analysis of the Employment Contracts of
Airhostesses in Light of Sheela Joshi v. Union of India, which revolves
around the jurisprudence of the termination clauses incorporated in airhostesses employment contracts. Bhandari assesses the economic implications
of a recent Delhi High Court judgment upholding the termination of overweight
air-hostesses contracts. She approaches this question through three prongs:
the relationship between passenger tastes and attendants appearance; the
purpose of the employment contract; and whether an at will or just cause
system of employment would be more efficient. Bhandari concludes in favour
of the ruling, since economic factors such as standardized consumer preferences
towards attractive air-hostesses and the cut-throat competition of the aviation
industry indicate, albeit somewhat unfortunately, that prioritizing appearancebased discrimination over blind assessments of employee performance is indeed
more economically efficient.
Finally, the journal closes its law and economics survey with a review of
Dambisa Moyos book, Dead Aid: Why Aid Is Not Working And How There
Is A Better Way For Africa by Priya S.Gupta. In her book, Moyo suggests
that aid to Africa is not merely ineffective, but is the root cause of poverty and
underdevelopment in the continent. More important than simply aid, Moyo argues,
is the development of financial instruments towards economic growth. Priya
Gupta critiques Moyos book, arguing that even though Moyo gives adequate
reasons why aid is not working, the book lacks conviction due to the absence of
authoritative sources in support of Moyos claims. Gupta points out that Moyos
central argument condemning aid crumbles due its own oversimplification. There
is no distinction between effective and ineffective aid, a fact brought home by
Jeffrey Sachs shortly after the publication of Moyos book. Gupta however
concludes by pointing out that the significance of the book lies in its offering of
financial prescriptions to suit Africas peculiar problem.
Acknowledgements
This Journal would not have been possible without the gracious and
essential support of several individuals. The personal interest of Mr. Hemant
K. Batra enabled us in executing the idea of a journal in India dedicated to the
study of law and economics. We are grateful to him for his catalytic support.
We sincerely thank Professor Veer Singh for his encouragement in bringing out
this journal. The Advisory Panel and our Consulting Editors provided
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I. INTRODUCTION
Law professors are a cantankerous and bickering bunch, rarely agreeing
on anything. Most legal scholars would agree, however, that Ronald Coases
seminal paper, The Problem of Social Cost, published fifty years ago, is one of
the lasting literary and intellectual achievements of the economic approach to
law.1 Professor Coases insights have forever altered the study of law, meriting
his work a special place in the legal canon.
The purpose of this paper is not to reappraise the validity of the Coase
Theorem or critique Coases economic approach to law - these tasks have
been performed by more able commentators.2 Instead, we wish to take a step
back and put Professor Coase into proper context, for Coases work is part of
a larger intellectual framework: a mature research program or paradigm3
commonly described as law and economics. We submit that without the preexistence of this underlying paradigm, Coases seminal social cost paper and its
implications on law and economics generally would be unthinkable.
This paper is divided into five parts. Following this brief introduction,
Part Two turns to the philosophy of science and formally introduces the concept
of scientific paradigms. The remainder of the paper then delves into the difficult
and elusive task of reducing the economic approach to law to its essential barebone components, moving from the general
3
4
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assorted entries for anthropological law and economics, the Chicago school
of law and economics, and even law-and-economics from a feminist
perspective there is no attempt to define law and economics qua law and
economics.5 Our goal, then, is to articulate the general properties of the Coasean
paradigm and identify its central tenets. Like a nuclear scientist in search of
subatomic particles, we attempt to identify the elementary particles below the
surface of the law-and-economics literature.
Our thesis, in brief, is that the Coasean or economic approach to law is
not just a hodgepodge of models and assorted mathematical formulas. It is a
full-fledged paradigm, a mature research program, one that unifies a diverse
family of scholars. Indeed, we dare say that the economic approach to law is
the most influential, original, and revolutionary legal paradigm to emerge in the
English-speaking world since the publication of Oliver Wendell Holmess classic
tome The Common Law.6 Furthermore, in the absence of a competing paradigm,
one that is able to attract new scholars and the lions share of funding for
research, no other approach to the study and practice of law will be able to
dethrone this influential paradigm.7 As Mark Twain once said in a different
context, reports of the economic approachs death are greatly exaggerated.8
But it is well-worth asking at the outset: what precisely is a paradigm?
Although one commentator was able to discern no less than twenty-three
different shadings of meaning in Thomas Kuhns use of the term in his classic
work The Structure of Scientific Revolutions,9 Kuhn subsequently clarified
this concept.10 According to Kuhn, a paradigm can be reduced to two major
usages. On one level, a paradigm consists of the universally recognized scientific
achievements that for a time provide mode problems and solutions to a community
of practitioners.11 A paradigm in this literal sense refers to the exemplary past
5
By the same token, the major law and economics textbooks also fail to provide a comprehensive
exposition of first principles.
6 OLIVER WENDELL HOLMES, THE COMMON LAW (Mark DeWolfe Howe ed., 1963) (1881).
7 In the words of Thomas Kuhn, Competition between segments of the scientific community is
the only historical process that actually ever results in the rejection of one previously accepted
theory or in the adoption of another. See Kuhn I, supra note 3, at 8.
8 There is a wealth of old and new articles reporting the untimely and perpetual demise of law and
economics. For a sample of the old, see Morton J. Horwitz, Law and Economics: Science or
Politics?, 8 HOFSTRA L. REV. 905 (1980) (arguing that law and economics had peaked out as the
latest fad in legal scholarship). For a sample of the new, see Ugo Mattei, The Rise and Fall of
Law and Economics (unpublished manuscript) (arguing that the once-dominant law-and-economics
movement has now disintegrated). For what it is worth, law and economics is not the only
successful paradigm to be criticized in vain by outsiders. Cf. Ernst Mayr, The Death of Darwin?,
in TOWARD A NEW PHILOSOPHY OF BIOLOGY 258, 264 (1988) (Paraphrasing Mark Twain, we are
justified in saying that the news of the death of Darwin is greatly exaggerated).
9 See Margaret Masterman, The Nature of a Paradigm, in CRITICISM AND THE GROWTH OF KNOWLEDGE
(Imre Lakatos & Alan Musgrave eds., 1971).
1 0 See Thomas S. Kuhn, Second Thoughts on Paradigms, in THE ESSENTIAL TENSION (1977) [hereinafter
Kuhn II]. See also Kuhn I, supra note 3, at 174-75.
1 1 See Kuhn I, supra note 3, at x.
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Id. at 175.
Kuhn II, supra note 10, at xix.
STEPHEN TOULMIN, FORESIGHT AND UNDERSTANDING: AN ENQUIRY INTO THE AIMS OF SCIENCE 57 (1961).
See ERNST MAYR, ONE LONG ARGUMENT: CHARLES DARWIN AND THE GENESIS OF MODERN EVOLUTIONARY
THOUGHT ix (1991) (using terms like Zeitgeist and conceptual framework to describe the basic
foundations of a scientific theory). For his part, Kuhn once proposed the awkward term
disciplinary matrix to describe the foundational aspect of paradigms. See Kuhn II, supra
note10, at 297.
1 6 See Kuhn I, supra note 3, at 175. See also Kuhn II, supra note 10, at xix (stating expanded
definition of paradigms as the entire global set of commitments shared by members of a
particular scientific community).
1 7 See Imre Lakatos, Falsification and the Methodology of Scientific Research Programmes, in
CRITICISM AND THE GROWTH OF KNOWLEDGE (Imre Lakatos & Alan Musgrave eds., 1971).
1 8 The major exception, of course, is the humanities and most of the social sciences-these fields are
inherently unscientific in the Kuhnian or Lakatonian sense because they are characterized by
competing paradigms and conflicting research programs. See C.P. SNOW, THE TWO CULTURES AND THE
SCIENTIFIC REVOLUTION (1959) (describing the enormous gulf separating the physical sciences and the
humanities). One commentator has gone as far as to say that a sort of intellectual anarchy reigns
in the soft sciences. SEE PAUL FEYERABEND, AGAINST METHOD: AN ANARCHIST THEORY OF KNOWLEDGE
(1975).
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30
31
32
33
34
supra note 20, at 1484-89. Despite this wealth of literature, we think it is safe to say that
psychologists still know very little about the inner working of human intuition.
See, e.g., Thomas Kuhn, Comment on the Relations of Science and Art, in Kuhn II, supra note
10, at 344 ( for the man in a particular specialty, the relevant audience is even smaller,
consisting entirely of that specialtys other practitioners).
Three leading law-and-economics textbooks include RICHARD A. POSNER, ECONOMIC ANALYSIS OF LAW
(6th ed. 2003); A. MITCHELL POLINSKY, AN INTRODUCTION TO LAW AND ECONOMICS (3d ed. 2003); ROBERT
COOTER & THOMAS ULEN, LAW AND ECONOMICS (4th ed. 2003).
See Posner, supra note 30, at 3-22.
See STEVEN SHAVELL, ECONOMIC ANALYSIS OF LAW 1-3 (2004).
See GARY S. BECKER, THE ECONOMIC APPROACH TO HUMAN BEHAVIOR 5 (1976) (The combined assumptions
of maximizing behavior, market equilibrium, and stable preferences, used relentlessly and
unflinchingly, form the heart of the economic approach as I see it).
Cf. Toulmin, supra note 14, at 13 (He [the scientist] may be so close to the activity [of solving
intricate puzzles] that its most general features and widest connections begin to escape him).
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3 5 It is a matter of genuine debate whether the use of mathematics has actually improved the
study of economics, let alone the economic approach to law. See, e.g., Ronald H. Coase,
Marshall on Method, 18 J.L. & ECON. 25, 30-31 (1975) (criticizing blackboard economics). Cf.
PAUL O RMEROD, THE DEATH OF E CONOMICS (1994) (criticizing macroeconomic theories lack of
predictive power).
3 6 According to Thomas Kuhn, the [o]ne thing that binds the members of any scientific community
together is their possession of a common language or special dialect. See Kuhn II, supra note
10, at xxii.
3 7 Id. Or, as Kuhn puts it in a different context, each group uses its own paradigm to argue in that
paradigms defense. See Kuhn I, supra note 3, at 94.
3 8 For example, Kuhn has emphasized this quality of sharedness, defining tacit knowledge as the
tested and shared possessions of the members of a successful group. See Kuhn I, supra note 3,
at 191 (emphasis added).
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discors.39 Now that we have made our disclaimers, it is time to perform the
task at hand.
What are the first principles of law and economics? What shared
exemplars guide the puzzle-solving activities of scholars who follow the
economic approach? To answer these questions, we shall attempt to articulate
the conceptual framework of the economic approach, moving from the general
to the specific. Part Three below describes the elements of the underlying
mental attitude of an intellectually-honest practitioner of the economic approach,
i.e., his or her way of seeing and ordering states of affairs in the world.40 Part
Four, subsequently, identifies the basic theories or shared exemplars that guide
the day-to-day work and applications of law-and-economics scholars the
basic though often unstated premises that disciples of the economic approach
implicitly rely on to conduct their day-to-day puzzle-solving activities.
AND INTELLECTUAL
ATTITUDE
A. Intellectual Agnosticism
The Coasean or economic approach to law adopts an intellectually agnostic
or skeptical attitude toward normative values.41 Thus, normative values and
moral reasoning have no place in the economic analysis of law; on the contrary,
the economic approach is utterly and completely agnostic or neutral with respect
to competing claims about justice, fairness, or integrity, indeed with respect to
any moral or normative values whatsoever.42 In the words of George Stigler,
3 9 Harmony in discord; See HORACE, EPISTLES 328-29 [Epistle XII, line 19] (Loeb Classical Library
ed. 1926, revised and reprinted 1929) (H. R. Fairclough trans.). The passage from which this
celebrated phrase appears is quid velit et posit rerum concordia discors: What is the meaning
and what [are] the effects of Natures jarring harmony?
4 0 Even if we are far off the mark, at the very least we will disclose our own mental attitude toward
law.
4 1 I prefer the term agnosticism to moral skepticism, in part, to avoid confusion. The term
skepticism has a precise and special connotation in the philosophy of science, where it
generally refers to the problem of unobservable entities, such as gravity. See, e.g., David Papineau,
Introduction, in THE PHILOSOPHY OF SCIENCE 3 (David Papineau ed., 1996). That is, how do we know
that a given scientific theory discloses the truth about the underlying structure of the unobservable
world?
4 2 Ironically, as Richard Posner once pointed out, an agnostic, to be consistent, should be agnostic
about agnosticism too (Personal correspondence with Richard Posner, July 18, 2004). Posners
point about being agnostic about agnosticism is a valid criticism, and a potentially fatal one,
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44
45
46
because if one is agnostic about agnosticism, then what does one have left at the end of the day?
For the time being, we have resolved this potential contradiction by adopting the following
default position: although one should be agnostic about agnosticism, one should adopt an agnostic
posture toward all moral and normative values until a consensus is reached about the meaning of
justice and other normative values. Since we are confident that no such consensus will be reached
in our lifetimes, our default position works as a trump.
See George J. Stigler, Wealth, and Possibly Liberty, 7 J. LEGAL STUD. 213, 216 (1978). I thank
Richard Posner for bringing this paper to my attention.
ADAM SMITH, AN INQUIRY INTO THE NATURE AND CAUSES OF THE WEALTH OF NATIONS 563 (Easton Press 1991)
(1776).
By the same token, Adam Smith objected to the policy of mercantilism not on moral grounds but
rather on practical ones, that mercantilism reduces the wealth of nations.
See, e.g., RICHARD RORTY, CONSEQUENCES OF PRAGMATISM (1982).
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Next, to say that the economic approach is agnostic about moral values
is not to say that it is incapable of taking sides on moral questions. Rather,
agnosticism implies that the economic approach will not resort to moral reasoning
to justify a particular conclusion or argument. The economic approach banishes
all forms of moral discourse from its vocabulary. A conventional or traditional
analysis of theft, for example, might start from the premise that theft is wrong
for moral reasons - namely, theft is wrong because it involves coercion and
harms an innocent victim. But, then, so does the collection of taxes! The problem
with traditional legal analysis is that it does not provide a principled method for
distinguishing taxes from theft. Under the economic approach, in contrast, theft
(like taxes) is merely a forced transfer of wealth. From this view, theft is bad
not because it involves coercion (so do taxes) but rather because it produces
enormous social costs (deadweight losses) and distorts the allocation of resources.47
Third, the agnostic attitude transcends the traditional distinction one sees
in economics textbooks and journal literature between positive economics and
normative economics.48 The economic approachs agnosticism is across-theboard. Whether one is engaged in the observation and collection of data (positive
economics) or in policy analysis (normative economics), the economic approach
eschews ethical considerations. Even when concerned with questions of policy,
the economic analyst is ideally concerned with the empirical consequences of
adopting or rejecting a given policy recommendation and not with its underlying
moral implications.
Finally, it is worth noting that intellectual agnosticism is not the exclusive
domain of law and economics. It is central to all scientific activity.49 Nor do all
philosophers reject the agnostic approach. The logical positivists of the Vienna
Circle famously embraced and celebrated this attitude. In the words of Arthur
Alan Leff: The knowledge of good and evil, as an intellectual subject, was ...
systematically and effectively destroyed by the members of the Vienna Circle
4 7 For example, the time and resources consumed by criminals in planning and carrying out their
crimes and the resources consumed by potential victims in protecting themselves against crime
(e.g. the cost of a car-alarm system) could have been put to a different use (e.g. help the needy,
protect the environment, etc.).
4 8 Cf. George J. Stigler, The Process and Progress of Economics (Nobel Memorial Lecture, Dec.
8, 1982), reprinted in NOBEL LECTURES IN ECONOMIC SCIENCES 1981-1990, at 69 (Karl-Goran Maler
ed., 1992) (The textbooks on methodology lecture us on the need to separate positive and
normative theories). For a textbook example of this phenomenon, see Shavell, supra note 32,
at 1 (The economic approach seeks to answer two basic questions about legal rules. One type
of question is descriptive, concerning the effects of legal rules on behavior The other type of
question is normative, concerning the social desirability of legal rules) (emphasis in original).
4 9 Cf. Thomas Kuhn, Logic of Discovery or Psychology of Research, in Kuhn II, supra note 10, at
273 (defining a scientist as one who eschews the tradition of claims, counterclaims, and debates
over fundamentals [that], except perhaps for the Middle Ages, have characterized philosophy
and much of social science ever since).
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long before Ronald Coase wrote The Problem of Social Cost or Richard Posner
published his textbook.50 While agnosticism, therefore, is nothing new, its
application to law is new, bold, and revolutionary.
This effort to banish normative values from the study of law is especially
momentous because if any discipline with the possible exception of theology
is infused with moral concepts, it is the law. If Holmes was the first jurist
who warned of taking the moral language of the law terms such as justice,
equity, and fault too seriously,51 Coase and his heirs were the first ones to
take Holmess admonition to heart.52 The economic approach is not in the business
of making moral judgments. This decidedly unscientific task is relegated to the
philosophers. In place of idle speculation about the nature of justice, virtue, or
the good life, the economic approach simply aspires to observe and describe
the world as it is.53
Nevertheless, we concede that not all disciples of the economic approach
are truly agnostic, since some scholars may have open or hidden agendas in
favor of x or y ideology, be it individual liberty (Hayek) or private property
(Epstein). A cursory glance at law-and-economics literature reveals that many
jurists and economists have used and perhaps abused economics to vindicate
their preferred personal values, especially private property and negative liberty.54
Although we do not dispute that individual liberty and private property are often
socially desirable and instrumental in promoting the accumulation of social wealth
and expanding ones choices, our overall point is that the economic approach
does not, in principle, prefer a particular right or moral value for its own sake.
On this note, the Coasean or economic approach to law is riddled with
several related misconceptions. One of the most common is that the economic
approach is somehow about vindicating individual human freedom.55 Another
myth is that the economic approach is about markets and property rights. Yet
5 0 See Arthur Alan Leff, Economic Analysis of Law: Some Realism about Nominalism, 60 VA. L.
REV. 451, 477 (1974) (stating that individual human freedom is the one value qua value that
directs and informs Posners analysis).
5 1 Oliver Wendell Holmes, The Path of the Law, 10 HARV. L. REV. 457 (1898).
5 2 One could argue that Holmes and the legal realists were the first to depart from this tradition, but
I think law and economics is the first movement to systematically embrace agnosticism and to
apply it relentlessly to all legal institutions, including family law, torts, and criminal law, areas
that traditionally abound in moral discourse.
5 3 Of course, ones research will be guided by ones conceptual framework, but my point is that the
economic approach attempts to banish moral discourse from its conceptual framework.
5 4 See, e.g., Milton Friedman, The Methodology of Positive Economics, in ESSAYS IN POSITIVE
E CONOMICS 4 (Milton Friedman ed., 1953), reprinted in Katz, supra note 21 (Laymen and
experts alike are inevitably tempted to shape positive conclusions to fit strongly held normative
preconceptions and to reject positive conclusions if their normative implications-or what are
said to be their normative implications-are unpalatable.).
5 5 See, e.g., Leff, supra note 50.
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another misnomer is that the economic approach values efficiency for efficiencys
sake. We shall address and refute each one of these myths and misconceptions
in turn.
First and foremost, the economic approach is not really about promoting
freedom. Law and economics is not libertarianism nor is it about any other
normative value, for that matter. The problem with freedom as a foundational
value is that there can be no consensus as to its precise meaning.56 As soon as
one attempts to define a normative value, even a value as praiseworthy as
freedom, one will necessarily get bogged down in an intractable and metaphysical
level of generality.57 At what level of generality should freedom be defined?
How narrow or broad should ones definition be? Any attempt to answer these
questions will necessarily involve a subjective and arbitrary value choice,58 and
the economic approach is not committed to any particular moral or political
theory because moral concepts such as liberty and justice are ultimately
subjective, elastic, vague, and open-ended.
In short, the economic approach is not absolutist; it does not value freedom
for freedoms sake. For example, there can be no doubt that compulsory seatbelt laws or compulsory vaccinations restrict peoples freedom. But if it can be
shown that these freedom-reducing policies are a cost-effective and practical
way of reducing accident costs and the spread of dangerous epidemics, then
the economic approach will not object to the reduction in freedom in these cases.
Nor is law and economics about vindicating the primacy of markets or
the sanctity of private property. We shall call this the Blackstonian view of law,
to avoid offending the living, and to honor William Blackstone, who wrote long
ago: So great is the regard for the law for private property, that it will not
authorize the least violation of it; no, not even for the general good of the whole
community.59 Though this view of law still attracts partisans,60 it is so dogmatic,
5 6 For an excellent and succinct explanation of the futility of defining freedom, see Stigler, supra
debating the content of liberty, see citations in Amartya Sen, The Possibility of Social Choice, 89
AMERICAN ECONOMIC REVIEW 349 (1999). Sens attempt to define liberty in the face of this endless
and intractable debate is, I think, pure folly. See also ROBERT NOZICK, ANARCHY, STATE, AND UTOPIA
(1974).
5 7 See, e.g., LAURENCE H. TRIBE & MICHAEL C. DORF, ON READING THE CONSTITUTION 73-80 (1991);
L AURENCE H. T RIBE , AMERICAN C ONSTITUTIONAL L AW 1427-28 (2d ed. 1988); Paul Brest, The
Fundamental Rights Controversy, 90 YALE L. J. 1063, 1085 (1981) (explaining the indeterminacy
and manipulability of levels of generality).
5 8 Justice Scalia famously pretended to resolve this problem in the context of defining fundamental
constitutional rights. According to Scalia, the solution to the problem of defining an abstract
right is to refer to the most specific level at which the asserted right can be identified. See
specificity, though I suppose one cannot fault him for trying.
5 9 See I WILLIAM BLACKSTONE, COMMENTARIES ON THE LAWS OF ENGLAND 135 (1765) (capitalization altered).
6 0 See, e.g., Walter Block, Private Property Rights, Economic Freedom, and Professor Coase: A
Critique of Friedman, McCloskey, Medema, and Zorn, 26 HARV. J.L. & PUB. POLY 923 (2003)
(Private property rights are the basic building blocks of economic freedom).
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simplistic, and pedantic that it merits little discussion. Suffice it to say that markets
and property rights like freedom and liberty- however defined are purely
instrumental under an intellectually-honest economic approach.
Although as a practical matter, there can be no doubt that markets and
voluntary transactions are generally more efficient (or less inefficient) than
collective or socialist policies, if it can be shown that collective ownership of a
particular resource (such as a military base or a lighthouse) is more practical
than private ownership, then the economic approach will favor the collective
solution. Oliver Wendell Holmes made this same pragmatic point when he wrote,
I have no a priori objection to socialism any more than to polygamy. Our
public schools and our post office are socialist, and whenever it is thought to
pay I have no objection.61
Last but not least, the economic approach does not embrace economic
efficiency or wealth maximization as an end in itself. Admittedly, this last point
demands some explanation. First, let us put aside the Byzantine complexities
relating to the precise meaning of economic efficiency and simply take
efficiency to mean wealth maximization or the largest possible economic pie
a community can produce at a given moment in time.62 In our view, the economic
approach is not per se committed to promoting wealth maximization because it
recognizes ex ante that people are often willing to trade wealth off for other
things, such as protecting the spotted owl or helping the needy.63 How much
efficiency, if any, should we be prepared to give up or trade off in order to
protect the environment, feed the hungry, etc.?64 This is a normative question,
and as such, it is beyond the scope of the economic approach. The economic
approach is, in principle, neutral as to the choice society should make in this
regard. All the economic approach does is to make one realize that there is a
trade off to be made, but it does not pretend to lay down a hard-and-fast Kantiantype rule in favor of an abstract notion of efficiency in every situation.
6 1 See Letter to Lewis Einstein (Nov. 24, 1912), in THE ESSENTIAL HOLMES: SELECTIONS FROM THE LETTERS,
SPEECHES, JUDICIAL OPINIONS, AND OTHER WRITINGS OF OLIVER WENDELL HOLMES, JR. 66 (Richard A. Posner
ed., 1992). In the interest of full disclosure, I especially like the remainder of this quote: But I
have as little enthusiasm for [socialism] as I have for teetotalism.
6 2 This is Richard Posners position. Professor Jules Coleman provides a comprehensive and
comprehensible exposition of the various meanings of economic efficiency. See JULES COLEMAN,
MARKETS, MORALS, AND THE LAW 95-132 (1988).
6 3 Cf. Guido Calabresi, Some Thoughts on Risk Distribution and the Law of Torts, 70 YALE L. J. at
499, 503-04 n.17 (1961) ( there are other things which count more in our society than
allocation of resources and that we will gladly forego the best allocation of resources if by doing
so some more important policy is served).
6 4 Although I am suggesting that freedom and efficiency must be traded off against each other, it is
worth noting that George Stigler once argued that freedom and efficiency are not necessarily in
conflict. See Stigler, supra note 43.
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and no one is exempt from our critical gaze. No institution whether it be the
holy sacrament of matrimony or the august halls of Congress is immune from
its probing lens.
This attitude probably goes back to Adam Smith, who was willing to
break with tradition and question the established and pernicious dogma of his
time - mercantilism. In addition to Adam Smith, some commentators have
attributed the economic approachs irreverent attitude to Professor Frank Knight,
one of the founders of the Chicago school in economics.69 According to one
historian, no economist did more to promote a studied irreverence toward
authority than Knight did.70 George Stigler, for example, once commented
that Knight was the original source of the Chicago tradition that great reputation
and high office deserve little respect.71
But with the possible exception of Richard Posner, no man exemplifies
this quintessential Knightian attitude of studied irreverence more than Ronald
Coase. The Problem of Social Cost not only played a leading role in unifying
the fields of law and economics; it also made irreverence an integral part of
this new economic approach to law. Indeed, one could argue that Coases famous
article is to traditional economists and lawyers what Martin Luthers NinetyFive Theses were to the corrupt Church hierarchy in Rome, for Coase was one
of the first economists to display an agnostic and irreverent attitude not only
toward traditional economics but also to law. Coases contribution is so central
to the creation of law and economics that we must take a moment to describe
what Coase did and how he did it.
In The Problem of Social Cost, Coase begins with the problem of
harmful effects, or what is more commonly called negative externalities in
economics textbooks.72 The standard example, he writes, is that of a factory,
the smoke from which has harmful effects on those occupying neighbouring
properties.73 In a now-famous passage, Coase strikes a fatal blow against the
6 9 PAUL SAMUELSON, ECONOMICS FROM THE HEART: A SAMUELSON SAMPLER 60 (1983); see also Melvin W.
Reder, Chicago Economics: Permanence and Change, 20 JOURNAL OF ECONOMIC LITERATURE 6-7
(1982). For what it is worth, Professor Knight was also one of the few leading economists who
wrote in old-fashioned prose, and among his students were half a dozen or so future Nobel
laureates.
7 0 According to the historian Robert Nelson, Knights greatest source of influence was in a spirit
of radical questioning that he inculcated. Almost in the manner of Socrates, Knight was a doubter
of every orthodoxy, often extending this attitude to his own arguments. ROBERT H. N ELSON,
ECONOMICS AS RELIGION: FROM SAMUELSON TO CHICAGO AND BEYOND 115 (2001) (footnote omitted). See
also LIVES OF THE LAUREATES: THIRTEEN NOBEL ECONOMISTS 98 (William Breit & Roger W. Spencer eds.,
3d ed. 1995).
7 1 Quoted in Nelson, supra note 70, at 115.
7 2 Coase I, supra note 1, at 1. In the preface to his collection of essays, THE FIRM, THE MARKET, AND
THE LAW, Coase explains why he chose the term harmful effects in place of the more conventional
terminology, externalities. See Coase II, supra note 1, at 27.
7 3 Id. at 95.
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traditional economic approach to the problem- and to the traditional legal approach
as well - replacing tradition with a radically agnostic and irreverent approach.
Because of its simplicity and its monumental impact on the subsequent evolution
and development of law and economics, it is well worth quoting this passage
in its entirety:
The traditional approach has tended to obscure the nature of the
choice that has to be made [between A, the owner of the factory,
and B, the neighbors]. The question is commonly thought of as
one in which A inflicts harm on B and what has to be decided is,
How should we restrain A? But this is wrong. We are dealing with
a problem of a reciprocal nature. The real question that has to be
decided is, Should A be allowed to harm B or should B be allowed
to harm A? The [correct solution] is to avoid the more serious
harm. 74
Coases irreverent utterance But this is wrong. [This is wrong!] We
are dealing with a problem of a reciprocal nature is the single most insightful
and revolutionary statement in the annals of Anglo-American legal history since
Oliver Wendell Holmes uttered his famous maxim, The life of the law has not
been logic; it has been experience.75 For Coase is not just repeating the old
saw that there are two sides to every dispute, he is saying something much
more original and insightful.
First, Coase says that one side to the dispute will suffer harmful effects
no matter what the result is. For example, if we permit the owner of the factory
to continue to emit smoke, the neighbors will be harmed. If, however, we rule in
favor of the neighbors, then the owner of the factory will be harmed. In the
latter case it is not just the owner of the factory who will be harmed but also all
consumers who wish to purchase the products produced by the factory.76 By
the same token, to say that the owner of the factory has a moral right to use the
factors of production free from legal or government intervention is not dispositive
because one could argue that the neighbors have a moral right to clean air or to
good health. However we frame the problem- as one involving property rights
in the factors of production or moral rights to good health- the problem remains
reciprocal.77 One of the parties will suffer harmful effects however the dispute
between them is resolved.
7 4 Id. at 2.
7 5 See Holmes, supra note 6, at 1.
7 6 Of course, the extent of the consumers injury will depend in large part on the elasticity of
demand for the factorys products.
7 7 It is worth noting that Guido Calabresi had reached the same conclusion as Ronald Coase did
regarding the reciprocal nature of externalities, but Calabresi made the mistake of relegating his
conclusion to a footnote. See Calabresi, supra note 63, at 500 n.4.
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On one level, then, Coase simply makes a practical point about tradeoffs. One must weigh and balance (a) the cost to the neighbors caused by the
emission of smoke versus (b) the cost to the factory owner and to consumers
that will be caused by preventing the emission of smoke. But at a much deeper
level, Coase, perhaps unwittingly, discloses a profound and irreverent insight,
for his approach implies that neither party to the dispute has an ex ante moral
right to be free from harmful effects. An appeal to moral concepts, such as
fault and culpability, is totally unhelpful in solving this concrete problem of the
factory smoke because, from a moral or metaphysical perspective, one could
argue that both sides are culpable. The concept of justice or fairness is too
broad to be of any practical help. It is not enough to say that it is unjust or unfair
to pollute the air and that we should therefore rule in favor of the neighbors. We
could just as well argue that it is unjust to interfere with the factory owners
property rights or that it is unfair to make all consumers pay for the clean air of
the neighbors.
Coase thus taught his students that agnosticism and irreverence are
virtues and thus played a leading role in taking law out of the normative swamp,
to borrow Leffs apt phrase.78 Rather than attempt to identify which party is the
victim and which is the wrongdoer, the Coasean or economic approach recognizes
ex ante that both parties can be classified as victims or wrongdoers depending
on how moral concepts are defined and manipulated in any given case.
Accordingly, the economic approach discards moral language and instead weighs
the practical consequences of deciding a dispute one way or another.
A. Scarcity
It is fitting that Richard Posner has stated on the first page of every
edition of his masterpiece, Economic Analysis of Law, that resources are
limited in relation to human wants,79 for the notion of scarcity is the linchpin of
7 8 See Leff, supra note 50, at 454 (stating that normative thought crawled out of the swamp and
died in the desert) (footnote omitted).
7 9 See Posner, supra note 30, at 3. For reasons unknown to me, chapter one of Posners textbook
actually commences on page three.
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the entire intellectual structure of law and economics.80 Likewise, one of Guido
Calabresis most poignant and recurring themes is that no society will expend
infinite resources to protect human life.81 And, of course, the scarcest resource
of all is time itself.82 Thus while philosophers continue to debate the meaning of
justice in outdoor cafs, the economic approach realizes that a community
can produce only x amount of goods with the material, technological, and human
resources it has at its disposal at any given moment in time. Like Newtons
inverse-square law of gravitational attraction, scarcity is a universal and brute
fact of nature.83
Although the word scarcity, taken in a literal dictionary sense, might
conjure up images of abject poverty and material deprivation, in economics it
does not refer to wealth transfers or the distribution of resources. Rather, it
refers to the overall allocation of resources among competing uses and is related
to the notion of opportunity cost: the cost incurred by society as a whole
when someone is denied the use of a resource. This idea is illustrated in the
following simple diagram:
Figure 1
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given moment in time.84 How these goods should be distributed that is, how
the slices of a communitys economic pie should be divided in terms of such
values as justice and equity is entirely outside the scope of economics.85 But
whether a communitys economy is efficient, i.e. whether the size of the
economic pie is as large as can be, is the domain of economics proper.86
Lionel Robbinss classic definition of economics elegantly and concisely
expresses this point: Economics is the science which studies human behavior
as a relationship between ends and scarce means which have alternate uses.87
Notice how this definition does not pretend to say what ones ends in life should
be, that is, what goods one should produce or consume. As our analysis of
intellectual agnosticism has shown, the economic approach cannot do this
because the choice of ends is ultimately based on subjective normative values.
Instead, economics is simply about the relationship between ends and scarce
means.88 That is, given certain ends, how do we go about achieving them?
The question of ends lies outside the domain of economics.
But why is the problem of scarcity relevant to law? Once again, it is
Ronald Coase who was the first to supply the answer. One of Coases central
lessons in The Problem of Social Cost is that the substantive legal rules of a
community will have an effect on the allocation of resources.89 As a result of
this insight, the economic approach takes law to be a factor of production, just
like any other factor of production (such as labor, technology, etc.), affecting
what goods will be made and how much of them will be produced. That is why
the economic approach is not concerned with abstract theories of justice and
right but rather with the actual and potential effects of the law on the allocation
of resources.
To understand this point, imagine a society with infinite resources.90 In
this fictional society, the economic approach to law would probably have no
role to play because, by definition, the laws of this paradise- no matter how silly
8 4 The phrase at any given moment in time is important because an increase in productivity or
an improvement in technology or the discovery of new minerals, for example, can have the
effect of pushing the production frontier outwards.
8 5 Actually, this statement is not entirely accurate because it is proper to study the economic
effects (as opposed to the moral aspects) of a given communitys distribution of resources.
8 6 For purposes of this discussion, we use the term efficiency in its literal sense to mean productive
efficiency.
8 7 See Robbins, supra note 65, at 16.
8 8 Id.
8 9 Coase II, supra note 1, at 114-119. A number of scholars, however, who either have never read
The Problem of Social Cost or have misunderstood it, have unfairly caricaturized Coase as
saying that the law will have no effect on the allocation of resources. In fact, Coase said that this
is true only in the absence of transaction costs, and he has always recognized that there are
transaction costs and that they are large. Id. at 26.
9 0 As an aside, is this not what Marx and Engels promised their hapless followers?
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B. Self-interest
The Irish have a saying: Everyone looks after himself.92 The most
eloquent defense of self-interest, though, was probably made by a Scot:
It is not from the benevolence of the butcher, the baker, or the
brewer that we expect our dinner, but rather from a regard to their
own interests. Nobody but the beggar chooses to depend chiefly
upon the benevolence of his fellow citizens.93
Yet the assumption that man is ruled by self-interest is one of those
ideas- however accurate it may be as an empirical description of human behavior
in the real world- that one is not supposed to bring up in polite company. Indeed,
the notion of self-interest conjures up ugly connotations. People tend to equate
it with selfishness, depravity, and hoarding.94 Perhaps it is too closely associated
with the Hobbesian war of all against all95 or with the crude Darwinian struggle
for existence, the idea that all living organisms vie for mastery and survival.96
These connotations are apparently so distasteful that economists have fathered
a wealth of euphemisms and neologisms: in place of self-interest, economists
now talk of rent-seeking and opportunistic behavior, shirking and free-riding,
moral hazard and methodological individualism though this last neologism
9 1 Recall that we postulated that this Utopian society has infinite resources.
9 2 Gach aoinne ag cur a bh fin thar abhain.
9 3 Smith, supra note 44, at 12. The last sentence about the beggar (or the homeless as beggars are
called these days) is usually omitted from this oft-cited quotation.
9 4 One need not equate self-interest with selfishness because, as Richard Posner pointed out to me,
ones utility function can include not only ones own utility but also the utility of someone else
(Personal correspondence with Richard Posner, July 18, 2004).
9 5 See THOMAS HOBBES, LEVIATHAN, reprinted in 3 THE ENGLISH WORKS OF THOMAS HOBBES 82 (W.
Molesworth ed., 1839-45) (stating that the state of nature is a state of war, every man, against
every man).
9 6 CHARLES DARWIN, ON THE ORIGIN OF SPECIES 60-79 (Harvard University Press 1964) (1859) (describng
the struggle for existence).
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For purely aesthetic reasons, we prefer the plain-English term self-interest to these exotic
euphemisms. The economists who have coined such neologisms seem to forget that the economic
approach takes the same view of human nature that the authors of The Federalist took. In the
immortal words of James Madison: No man is allowed to be a judge in his own cause, because
his interest would certainly bias his judgment, and, not improbably, corrupt his integrity. THE
FEDERALIST NO. 10, at 79 (Clinton Rossiter ed., 1961).
9 8 Whichever euphemism one prefers, the coining of these euphemisms is a fairly recent business,
for even a philosopher as inscrutable as Hegel chose to describe human behavior simply as
self-seeking. See G.W.F. HEGEL, PHILOSOPHY OF RIGHT 186, 200 (S.W. Dyde trans., Prometheus
Books 1996) (1821). Hegel even talks of the spectacle of excess, misery, and physical and
social corruption caused by mans insatiable wants. Id. at 188.
9 9 RICHARD A. POSNER, THE PROBLEMS OF JURISPRUDENCE 353 (1990).
100 Becker I, supra note 82, at 386.
101 See, Calabresi, supra note 63, at 515, n. 43 (stating that the whole rational economic man
approach strikes me as so unreal). See also Coase II, supra note 1, at 2 (describing the concept
of utility as similar to that of ether in the old physics). Our own position is that, even if
man were rational, the concept of rationality is a superfluous entity in that scarcity and the
law of demand wind up doing all the work of the rational actor model.
102 While we sympathize with these well-meaning attempts to provide a comprehensive explanation
of all human behavior, at the same time these explanations miss the larger point, the point that
as a matter of empirical reality most people are self-interested most of the time and that altruism
is an anomaly. Or maybe altruism is not an anomaly at all. Is it not possible to display all the
behavior patterns that Becker described in his Nobel lecture altruism, loyalty, courage, spite,
masochism, etc. for self-interested or self-seeking reasons and is this not what most people do
in the real world most of the time. In short, we are downright flabbergasted that so many scholars
have rejected the premise of self-interest on the basis of a few isolated and rare anomalies.
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Christian doctrine of original sin.108 The problem with this line of argument,
however, is that it equates self-interest with selfishness and thus implies that
self-interest is bad in the moral sense the equivalent of a mortal sin.
In economics, though, the notion that mans appetite is insatiable (or is
ruled by self-interest or is a rational maximizer of his ends in life) carries no
moral connotation whatsoever. Self-interest is neither good nor bad in the moral
sense. In fact, on balance, self-interest is probably a good thing in that it is the
motor that drives all activity in all walks of life. It is why publishers publish
newspapers: not so much to inform the public or promote democracy, but rather
to sell a copy and turn a profit. It is why people study law and other learned
professions: to generate a future stream of income. And it is why Adam Smiths
metaphorical baker wakes up at the crack of dawn to bake bread.109 In short, it
is hard to imagine the endeavors of inventors, entrepreneurs, Nobel laureates,
and even artists, as anything other than principally motivated by the insatiability
of their appetites. Whether ones motives consist of fame, recognition, or lucre,
one generally aspires to improve in one way or another ones lot in life.
Furthermore, self-interest is bad only when it leads to a collective action
problem or produces a negative externality what Coase calls harmful effects
in The Problem of Social Cost.110 That is, to the extent my self-interested
actions harm a third party, then and only then can one say that my self-interest
is bad in a law-and-economic sense. This, then, is one of the most original
insights of the economic approach: self-interested behavior is in and of itself
neither morally good nor morally bad. It is a non-moral quantity. Whether it is
good or bad depends solely on the external effects of ones actions. The mere
fact that a person is motivated to take a particular action for selfish or selfseeking reasons is not relevant to the economic approach to law. It is simply
taken as given, like gravity in Newtonian physics.
One could argue that this insight is just a dressed-up and sophisticated
version of the old adage that one should do no harm to others. In fact, the
economic approach takes a more refined and subtle position toward the problem
of externalities or harmful effects, for just because an activity may impose
costs on third parties does not mean that the activity should be discontinued or
sanctioned. The key to determining whether such an activity is bad is the
presence of deadweight losses. That is, the only activities that should be
proscribed or regulated are those whose social cost exceeds their benefits to
society as a whole. In the absence of deadweight losses, it might actually be
more cost-effective to permit the activity, even if the activity produces harmful
108 See Nelson, supra note 70, at 28.
109 See Smith, supra note 44, at 12.
110 See Coase I, supra note 1, at 1.
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111 This is also one of the lessons of The Problem of Social Costs. As Coase puts it in discussing
the contamination of a stream by a neighboring factory, If we assume that the harmful effect
of the pollution is that it kills the fish, the question to be decided is, Is the value of the fish lost
greater or less than the value of the product which the contamination of the stream makes
possible? See Coase I, supra note 1, at 2.
112 It is worth noting that there seems to be a direct relationship between the law of demand and the
twin assumptions of scarcity and self-interest discussed above: the fewer of X there is, the
greater the demand will be for X. This explains the paradox of why air, which is absolutely
essential to human life (and to commercial flight), is free, while diamonds, a frivolous and nonessential luxury, are expensive. See, e.g., GARY S. BECKER, ECONOMIC THEORY 19-23 (1971).
113 Coase II, supra note 1, at 4. The rise in price or a good must be relative to the prices of other
goods because if the price level is rising for all goods (i.e. inflation) there is generally no effect
on the quantity demanded.
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Figure 2
The demand curve in this diagram plots the relationship between price
(p) and quantity demanded (q) of a given product or service. The product or
service can be toothpaste, illicit drugs, abortions, or society dentistry114 the
particular product or service does not really matter, for the scope of the law of
demand is universal. Furthermore, the demand curve is always downward sloping
(i.e. it is negatively inclined) as shown in figure 2 because of two effects, the
substitution effect and the income effect, which in turn are the result of scarcity
and insatiability.115 That is, when the price of a good rises, it becomes more
expensive relative to other goods (substitution effect) and people have less real
income than before (income effect).
The exact degree or angle of the slope will depend on what economists
call the price elasticity of demand, that is, the pro rata effect of a small
change in the price charged will have on the quantity demanded.116 Though the
degree of elasticity may vary from product to product, one must not lose sight
of the larger point that the relationship between price and quantity continues to
be an inverse one.
114 I have intentionally borrowed this last example (society dentistry) from Leff, supra note 50,
at 457-58. Leff used this particular example to illustrate the annoying tendency of law and
economics scholars to explain away observations that are inconsistent with economic theory:
If, for instance, a society dentist raises his prices and thereby increases his gross volume of
business, it is no violation of the principle of the inverse relation between price and quantity.
Id. Aside from the fact that Leff did not bother to cite any actual data (he just makes this
fanciful example up out of whole cloth), the problem with Leffs hypothetical example (aside
from the fact that it is hypothetical) is that Leff incorrectly assumes that the services of all
dentists are perfect substitutes. In reality, if a society dentist were to attend his patients by
appointment only, reducing the waiting time of his patients, and provide a more comfortable
waiting room and better parking facilities than his competitors, then Leffs society dentist
would be a textbook illustration of the law of demand. Also, even if Leffs critique were
factually correct, he ignored the fact that there will always be anomalies in any field, law and
economics being no exception.
115 In addition, the aggregate demand curve in macroeconomics is downward sloping because an
increase in the overall price level induces an increase in the money demand.
116 That is, elasticity measures just how inverse is the price-quantity relationship.
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The law of demand not only permeates the whole of economic analysis,
it also permits the economic approach to enlarge its gaze and invade the subject
matter of many other disciplines, including law. This is so because the economic
approach takes an expansive (and perhaps irreverent) view of the concept of
price. Price is not just the explicit market price of a good. In the words of
Ronald Coase, [price] does not only refer to a money price but to price in its
widest sense, and price in its widest sense refers to the entire panoply of
burdens and costs one must incur when one purchases a good.117
In fact, price is even broader than that, for it includes the whole panoply
of burdens and costs, including risk factors, involved in taking any decision
whatsoever. Simply put, the more onerous or unpleasant or risky a particular
activity is, the higher its shadow price.118 For example, Gary Beckers famous
article on crime and punishment is a textbook illustration of this expansive view
of price.119 Professor Beckers central thesis is that the crime rate reflects the
severity and probability of punishment.120 In Beckers analysis, the punishments
fixed in the criminal law are the shadow prices of committing a particular
offense.121
Seen in this light, the law of demand like all successful paradigms
offers a cogent and ready-made explanation for a wide array of anomalous
phenomena. For instance, it explains why the overwhelming majority of criminal
defendants agree to plea bargains despite the presumption of innocence and
the right to counsel,122 or why most federal judges delegate the onerous chore
117 Coase II, supra note 1, at 4. This is why Leffs society dentistry anomaly does not falsify the
law of demand. In fact, it does not even constitute an anomaly. The society dentists higher
price might reflect the fact that he received his dentistry degree from a prestigious university.
Or, perhaps he charges a higher price because he provides more convenient parking facilities or
sees his patients by appointment only, reducing the waiting-time of his patients.
118 This is why, unlike Polinsky and others, we do not consider the idea of risk aversion to be a
separate component of the economic approach. See chapter 7 in Polinsky, supra note 30. In
our view, risk is simply part of the cost of an activity and is thus a subpart of price theory.
119 Gary S. Becker, Crime and Punishment: An Economic Approach, 76 JOURNAL OF P OLITICAL
ECONOMY 169 (1968) [hereinafter Becker II].
120 As Richard Posner has noted, this argument can be traced back to Jeremy Benthams essay An
Introduction to the Principles of Morals and Legislation, originally published in 1789.
Nevertheless, this idea lay dormant for almost two centuries until Gary Becker published his
paper on criminal law, cited in note 119 above. See RICHARD A. POSNER, FRONTIERS OF LEGAL THEORY
31-34, 51-61 (2001). See also RICHARD A. POSNER, THE ECONOMICS OF JUSTICE 2-3 n.1 (1983) (citing
a few other predecessors in addition to Bentham who applied economics to non-market behavior).
121 According to Becker, A fine can be considered the price of an offense, but so too can any
other form of punishment; for example, the price of stealing a car might be six months in
jail. The only difference is in the units of measurement: fines are prices measured in monetary
units, imprisonments are prices measured in time units, etc. (emphasis in original). See Becker
II, supra note 119, at 195.
122 This is because the expected cost of going to trial (which carries the risk of a more severe
punishment) is higher to risk-averse people than the cost of accepting a lighter sentence by
plea. Of course, this logic does not apply to criminal defendants facing capital punishment,
since they have nothing to lose, and something to gain, by going to trial.
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D. Transaction Costs
Although what follows is an unorthodox move on our part-for the concept
of transaction costs is rarely, if ever, expressed as a scientific law the way
the law of demand is-we shall postulate a law of transaction costs to illustrate
its meaning and significance to law and economics.127 In essence, the law of
123 This is because the cost of writing ones own opinions, a time-consuming task, is higher than
the cost of simply editing an opinion written by a law clerk.
124 High-income people place a higher value on time than low-income people do; the higher value
of time raises the cost of children and thereby reduces the demand for large families. See, e.g.,
Becker I, supra note 82, at 396-98.
125 See SUBRAHMANYAN CHANDRASEKHAR, TRUTH AND BEAUTY: AESTHETICS AND MOTIVATIONS IN SCIENCE (1987).
126 As an aside, we would argue that until the critics of law and economics can come up with a rival
formula or explanation as simple or successful as the law of demand, their criticisms will fail to
rise above the level of mere metaphysical diatribes and their perpetual criticisms will continue
to fall on deaf empirical ears. That is, the critics must either come up with an alternative model
to explain the world (like Einstein and Darwin did in their respective fields) or stop asserting
that the economic approach has peaked out. See Horwitz, supra note 8.
127 Some scholars have argued that there is still no standard definition of transaction costs. See,
e.g., Alexandra Benham & Lee Benham, The Costs Of Exchange 3-5 (June 28, 2001) (unpublished
manuscript, on file with The Ronald Coase Institute and Washington University in St. Louis).
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transaction costs is that the higher the cost of performing x activity, the less
likely x activity will be performed.
Seen in this light, the existence of transaction costs is just one more
application of the law of demand, but it is a very important application, for it
carves out a new role for legal actors and legal institutions to play. In place of
the search for justice or the meaning of fairness, the work of the economic
approach is far more modest: identify transaction costs and propose methods
for minimizing them whenever feasible.128 Again, it was Ronald Coase who
posited the existence of transaction costs.129 Coases discovery and his reasoning
process are illustrative of the economic approach to law, and so it is worth
taking a moment to explain how Coase made this discovery.
Before Coase came onto the scene, law and economics were separate
fields, and economists worked on the simplistic and patently false assumption
that markets as well as government intervention operated costlessly. Coase
was the first scholar to point out that these assumptions are wrong. Specifically,
in The Nature of the Firm, Coase explained that the existence of business
firms indeed, the entire institutional structure of a modern economy could be
explained by the concept of transaction costs.130
The Nature of the Firm poses two basic questions: (a) why are there
firms; and (b) why is each firm of a certain size? Prior to Coase, no one had
bothered to address these questions in a systematic fashion. It was not that
traditional economic theory took the existence of firms for granted; it ignored
their existence altogether. Traditional theory assumed not only that markets
worked perfectly but also that markets consisted of atomized individuals having
perfect information.
128 Today, there is a flourishing body of transaction-costs literature. For a sizeable sample of
citations, see Harvey S. James, Annotated Bibliography on Transaction Cost Economics,
available at http://web.missouri.edu/~jamesha/tce/index.htm. In addition, there is now even a
textbook on the subject. See P. K. RAO, THE ECONOMICS OF TRANSACTION COSTS: THEORY METHODS, AND
APPLICATIONS (2003).
129 Although Ronald Coase is credited with discovering transaction costs, this idea can be traced as
far back as Adam Smith. In a series of lectures he gave at the University of Glasgow during the
1750s, he lamented that the revenues generated by customs duties and excise taxes were eaten
up by the legions of officers that were employed in collecting them. Customs officers had to
have supervisors over them to examine their proceedings, and the supervisors in turn were
subordinate to Collectors, who were in turn accountable to the Exchequer: To support these
officers there must be levied a great deal more than the government requires, which is a
manifest disadvantage. See LECTURES ON POLICY, JUSTICE, REVENUE AND ARMS BY ADAM SMITH (Edwin
Cannan ed., 1896), quoted in E.G. WEST, ADAM SMITH: THE MAN AND HIS WORKS 91 (1976).
130 See Ronald H. Coase, The Nature of the Firm, 4 ECONOMICA 386 (1937) [hereinafter Coase III],
reprinted in Coase II, supra note 1.
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Similarly, both criminal and civil law writ large are seen afresh. Criminal
laws are not self-enforcing, for society must incur massive expenditures to
secure convictions and impose punishments, and the concession of new
constitutional rights to criminal defendants (or the expansive judicial interpretation
of existing rights) is seen as increasing the costs to society of punishing criminals
(or reducing the costs of committing crime), since it will now be more difficult
to gain convictions. Likewise, civil trials are seen, not as a pure search for truth,
but rather as just another arena for rent seeking and strategic behavior, and the
costs of litigation to the parties are seen differently as well, since these costs
will include not only direct costs, such as court fees and attorney fees, but also
the length of time it takes for the court system to process cases as well as the
probability of winning or losing.
The political process too is also seen in a new light. Laws are seen as
responses to collective action problems or as attempts by compact factions to
extract rents from diffuse groups. Furthermore, once one recognizes that laws
and regulation often entail enormous enforcement costs, one can predict the
effectiveness of a given law simply by measuring the amount of resources set
aside for its enforcement. Unless society sets aside sufficient resources for
law enforcement, the law will be a dead letter.
V. CONCLUSION
Summing up, the core of the Coasean paradigm is the inevitability of
trade-offs. To illustrate this modest conception of the economic approach to
law, consider the following aphorism attributed to George Savile, the Marquis
of Halifax: Men are not hanged for stealing horses, but that horses may not be
stolen.136 That is, if horses were not a scarce resource, or if people were
trustworthy, it is possible that no one would care if horses were stolen in the
first place. In such a Utopia, horse thieves would refrain from stealing or
equestrians would share their horses. In other words, in the absence of scarcity
and self-interest there would be no need to establish property rights in horses or
to impose sanctions to protect those rights.
Accordingly, one of the main lessons of Coases social cost paper and
law and economics generally is that we do not live in a perfect world. We will
always have to make difficult choices involving trade-offs. Some people will
always try to steal horses, or refuse to share their horses. Furthermore, notice
how the horse problem is, like all social problems, thoroughly reciprocal in
136 I found this magnificent quotation in The Oxford Dictionary of Quotations 237 (3d ed. 1979,
reprinted with corrections 1980). It is interesting to note that Benjamin Franklin once made
a scathing critique of this same adage. See Benjamin Franklin, On the Criminal Laws, reprinted
in THE AUTOBIOGRAPHY OF BENJAMIN FRANKLIN AND SELECTIONS FROM HIS OTHER WRITINGS 117 (Herbert W.
Schneider ed., 1952).
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31
nature, to borrow Coases apt phrase. That is, if horse thieves refrained from
stealing other peoples horses, we would not have to contend with the problem
of stolen horses. By the same token, if horse owners were more willing to
share their horses, or if they never let their horses out of their sight, we would
likewise not have to contend with the problem.
Now, these observations may sound trivial, and perhaps they are, when
compared to such sophisticated metaphysical concepts as Kants Categorical
Imperative or Hegels Absolute Ideal. What is not trivial, however, is the way in
which the economic approach frames the problem of stolen horses. The question
is not whether stealing horses is wrong in the abstract or whether, on the contrary,
the institution of property is theft, as Proudhon famously argued.137 The question
is what is the most cost-effective way of dealing with the problem of stolen
horses? If society decides that it doesnt like horse thieves, the question then
becomes what is the most cost-effective way of reducing the incidence of
stolen horses?
From this emphasis on choices and trade-offs, the essence of the economic
approach can also be distilled from the type of questions that are asked when a
disciple of the economic approach examines a specific problem or policy proposal.
Whether it be the problem of stolen horses (or crime generally) or gratuitous
promises (or contracts generally), the economic approach to law is not concerned
with subjective notions of justice or with efficiency in the abstract. Instead, the
economic approach asks the following straightforward and materialist questions:
how much will it cost society to solve the problem, and what groups will ultimately
have to pay this cost? This spirit of questioning can be summed up: the question
posed by Cicero so long ago: cui bono? (to whose profit?). Or, perhaps, one
could sum it up this way: how much, and who pays?
Of course, the answers to these quotidian questions are not always easy
to obtain, for there is no single or foolproof method for obtaining the correct
answers. This is why law and economics has never been a monolithic school
of thought. Like other scientific revolutions, the economic approach has not
developed in an orderly, incremental process.138 Even the founding fathers of
the vaunted Chicago school of economics scholars like Frank Knight, George
Stigler, and Milton Friedman have differed on many specific questions and
applications of the economic approach.
137 See, e.g., PIERRE JOSEPH PROUDHON, WHAT IS PROPERTY?: AN INQUIRY INTO THE PRINCIPLE OF RIGHT AND OF
GOVERNMENT (Benjamin R. Tucker trans. 1970, Dover Publications, Inc.)(1840). Proudhons
famous reply to this question was that property is theft. Id. at 12.
138 See THE CHICAGO SCHOOL OF POLITICAL ECONOMY (Warren J. Samuels ed., 1976). See also A.W. Coats,
The Origin of the Chicago School(s)?, 71 JOURNAL OF POLITICAL ECONOMY 487 (1963).
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Nevertheless, the practitioners of law and economics ask the same types
of questions, and they share a single, overarching conceptual framework. In
this sense, academics as different as Guido Calabresi and Richard Posner are,
in fact, intellectual siblings, for they work under the same Coasean paradigm.
They accept the inevitability of trade-offs, and they ask the same types of
questions how much and who pays? although they may not agree on
what the right answers are.
And so, like a scientist attempting to discover and explain the elementary
building blocks of matter, we have attempted to describe the intellectual
foundations of the economic approach to law. Perhaps our description is
imperfect, but what cannot be disputed is the singular debt the economic approach
to law owes to Ronald Coase. In summary, Coase was not only the first scholar
to combine the fields of law and economics; he was also one of the first to
celebrate intellectual agnosticism and irreverence by showing us why the problem
of harmful effects is reciprocal in nature, as well as the first to discover the
existence and pervasiveness of transaction costs. In short, Coases ideas are to
law and economics what Sir Isaac Newtons Principia is to physics: a radical
and fundamental departure from the past, a new way of looking at the world, a
scientific revolution.
The historian of science, Stephen Toulmin, once wrote, The greatest
fame is reserved for those who conceive new frameworks of fundamental
ideas, and so integrate apparently disconnected branches of science. Isaac
Newton, Clerk Maxwell, and Charles Darwin are best remembered, not as
great experimenters or observers, but as critical and imaginative creators of
new intellectual systems.139 I think the same can be said for Ronald Coase.
More than anyone else, Coase established the central tenets of the economic
approach to law and saw further. He is our Newton.
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33
Acting Professor of Law, University of California, Davis, School of Law; B.A., Cornell University;
J.D., Columbia Law School. The author gratefully acknowledges Reeba Chacko, Thomas Joo,
Nivedita Rao, Vijay Sambamurthi, Roshan Thomas and Umakanth Varottil for their valuable
insights. I am grateful to UC Davis School of Law, particularly Dean Kevin Johnson and Associate
Dean Vikram Amar and to the U C Davis International Law Programs particularly the Executive
Director Beth Greenwood, for providing generous institutional support for this project and to
the library staff at UC Davis School of Law for their assistance. I also appreciate the generous
hospitality of the National Law School of India University, Bangalore and the assistance of their
library staff during my visit in June 2010. Michelle Hugard and Khalil Mohseni provided outstanding
research assistance. Portions of this article were adapted from my prior article Corporate
Governance Convergence: Lessons from the Indian Experience, 29 NORTHWESTERN JOURNAL OF
INTERNATIONAL LAW & BUSINESS 335 (2009). Substantial revisions have been made to incorporate
recent developments from January 2009-June 2010.
Corporate governance is broadly defined as a set of relationships between a companys board,
its shareholders, and other stakeholders. OECD, PRINCIPLES OF CORPORATE GOVERNANCE (1999).
Corporate governance rules broadly address, among other matters, powers, structures, and
relationships among various participants in the corporate entity, namely the board, shareholders,
and managers. See generally THOMAS W. JOO, CORPORATE GOVERNANCE: LAW, THEORY AND POLICY 3
(2004). For a detailed history of developments in Indian corporate governance, see Afra
Afsharipour, Corporate Governance Convergence: Lessons from the Indian Experience, 29 NW.
J. INTL L. & BUS. 335 (2009); Rajesh Chakrabarti, Corporate Governance in India-Evolution
and Challenges 20 (Jan. 17, 2005) (unnumbered working paper), available at http://ssrn.com/
abstract=649857.
CIRCULAR, SECURITIES AND EXCHANGE BD. OF INDIA, AMENDMENTS TO CLAUSE 49 OF THE LISTING AGREEMENT
(Sept. 12, 2000), available at http://web.sebi.gov.in/circulars /2000/CIR422000.html; CIRCULAR,
CORPORATE GOVERNANCE IN LISTED COMPANIES-CLAUSE 49 OF THE LISTING AGREEMENT (Oct. 29, 2004),
available at http://www.sebi.gov.in/circulars/2004/cfdcir0104.pdf [hereinafter Clause 49 (2004)].
Ministry of Corporate Affairs, Government of India, Corporate Governance Voluntary Guidelines
2009 (December 2009), available at http://www.mca.gov.in/Ministry/latestnews CG_Voluntary
_Guidelines _2009_24dec200 9.pdf [hereinafter the Voluntary Guidelines].
34
[Vol.1
5
6
7
See Bernard S. Black & Vikramaditya S. Khanna, Can Corporate Governance Reforms Increase
Firms Market Value: Evidence from India 9 (Univ. of Mich. Law Sch., Olin Working Paper No.
07-002, Oct. 2007), available at http://ssrn.com/abstract=914440.
The Listing Agreement with stock exchanges defines the rules and processes that companies
must follow in order to remain listed companies on an Indian stock exchange. See id. at 9.
Id. at 5; see also Chakrabarti, supra note 1, at 20.
See, e.g. Afsharipour, supra note 1; Umakanth Varottil, A Cautionary Tale of the Transplant
Effect on Indian Corporate Governance, 21 NATL L. SCH. OF INDIA REV. 1 (2009), available at
http://ssrn.com/abstract=1331581 [hereinafter Varottil, A Cautionary Tale].
Not all publicly-traded and listed firms in India are required to comply with Clause 49. While all
firms listed after 2000 must comply with Clause 49, existing listed companies with paid-up share
capital of less than Rs. 3 crore are exempt from compliance. See CLAUSE 49 (2004), supra note 2.
See James Fontanella-Khan, Timeline: The Satyam Scandal, Fin. Times, Jan. 7, 2009, available
at http://www.ft.com/cms/s/0/24261f70-dcab-11dd-a2a9-000077b07658.html. The Satyam
scandal has been described as Indias Enron. See Indias Enron, ECONOMIST, Jan. 8, 2009, available
2010]
35
quick action by the Indian government, including the arrest of several Satyam
insiders and auditors, investigations by the MCA and SEBI, and substitution of
the companys directors with government nominees.
The Satyam scandal has served as a catalyst for the Indian government
to rethink the corporate governance, disclosure, accountability, and enforcement
mechanisms in place.10 As described in this article, Indian regulators and industry
groups have advocated for a number of corporate governance reforms to address
some of the concerns raised by the Satyam scandal. The responses of both the
regulators and industry groups to the Satyam scandal are certainly commendable.
However, the suggested reform efforts continue to have voids not just in
compliance and enforcement, but also in terms of substantive rules that address
critical issues in Indian corporate governance. This article contends that, given
the political economy of corporate law in India and the traditional ownership
structure of many Indian firms, achieving more significant corporate governance
reforms will be a substantial challenge.
This article provides an overview of Indias recent corporate governance
reforms and analyzes their continuing shortcomings. Part I of this article explores
the origins and promises of these reform efforts. Part II documents the Satyam
scandal and analyzes the resulting corporate governance reform efforts. Part
III of this article evaluates Indias corporate governance reform efforts and
demonstrates that although extensive reforms have been instituted, there remain
significant lapses in the implementation and enforcement of these rules.
Moreover, Part III of this article argues that not only have both reform and
enforcement efforts by regulators lagged, but many of the reforms that have
been adopted fail to address fundamental areas of concern such as the
relationship between controlling and minority shareholders, the role of
promoters,11 the limited activism of shareholders, including institutional investors,
at http://www.economist.com/business/displaystory.cfm?story_id=12898777 However, as analyzed
in detail by Professor Vikramaditya Khanna, the similarities between Satyam and the Enron
scandals may be more superficial than real and implicate a different set of corporate governance
concerns. Vikramaditya Khanna, Corporate Governance in India: Past, Present and Future?, 1
JINDAL GLOBAL L. REV. 171, 188-89 (2009). While Satyam was a majority-minority shareholder
conflict, Enron was a manager-shareholder conflict. Id.
1 0 See Omkar Goswami, Aftermath Of Satyam, Businessworld (India), Jan. 23, 2009, available at
http://www.businessworld.in/index.php/Columns/Aftermath-Of-Satyam.html; Prashant K Sahu,
Sapna Dogra & Aditi Phadnis, Satyam Scam Prompts Clause 49 Review, BUS. STANDARD, Jan. 14,
2009, available at http://www.business-standard.com/india/news /satyam-scam-prompts-clause49-review/05/05/346123/.
1 1 Promoter and promoter group are defined to include (i) the person or persons who are in
overall control of the company, (ii) the person or persons who are instrumental in the formulation
of a plan or program pursuant to which securities are offered to the public, and (iii) the person or
persons named in the prospectus as promoters. See Reg. 2(1)(za) SEBI (Issue of Capital and
Disclosure Requirements Regulations, 2009), available at http://www.sebi.gov.in/
Index.jsp?contentDisp=Section&sec_id=1.
36
[Vol.1
and issues with director independence. This article expresses concerns that
these challenges may prevail because they have been shaped by unique political
and social forces. These forces include the traditional closed ownership structures
of Indian firms, an ineffective institutional framework to support enforcement
efforts, weaknesses in the judiciary, and political pressures related to government
ownership of certain industries.
II. THE FIRST PHASE OF INDIAS CORPORATE GOVERNANCE REFORMS
Beginning in the late 1990s, the Indian government started implementing
a significant overhaul of the countrys corporate governance system. These
reform efforts were initiated by corporate industry groups, many of which were
instrumental in advocating for and drafting corporate governance guidelines.
Following vigorous advocacy by industry groups, SEBI proceeded to adopt
considerable corporate governance reforms. The first phase of Indias corporate
governance reforms was aimed at making Boards and Audit Committees more
independent, powerful and focused monitors of management as well as aiding
shareholders, including institutional and foreign investors, in monitoring
management.12 These reform efforts were channeled through a number of
different paths and fraught with significant conflicts between SEBI and the
MCA.
This part is organized as follows. Section A begins with a brief overview
of the primary motivation for reform efforts. Section B summarizes the process
leading to adoption of Clause 49, and provides an overview of Clause 49. Section
C addresses the conflicts that arose between SEBI and the MCA in the reform
process and the competing Companies Act Bill proposed by the MCA.
A. Economic Expansion and the Initial Motivation for Corporate
Governance Reform Efforts
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37
with India experiencing a growth rate of 6.7% in 2008 and an even better rate
of 7% in 2009.15
This growth has resulted in significant regulatory reform efforts in Indias
economy and corporate legal regime.16 Not only were economic liberalization
policies implemented, but new legal institutions, such as SEBI, were established
to implement new rules in Indias corporate and securities laws. These new
regulatory institutions have been the primary avenue for producing new corporate
governance standards.17
Indias economic growth and regulatory reforms have fundamentally
shifted the ways Indian companies, particularly its large public companies, raise
capital and conduct business.18 In the past decade, as part of their globalization
efforts, Indian companies have launched multimillion and multibillion dollar deals
to acquire companies around the globe, with a significant concentration of targets
in the West, in particular the United States and the United Kingdom.19 Moreover,
the largest Indian companies, companies such as Infosys, a leading Indian
technology company, 20 or the several businesses of the Tata Group 21
conglomerate, have strived to become global corporate actors and have attempted
to access capital markets both inside and outside of India.22 The strength of the
Indian economy is now widely recognized, with investors, including foreign
investors, seeking to invest in Indian companies.23 Indias securities markets
1 5 See India manages to clock 6.7% growth in 2008-09, HINDU, May 30, 2009 available at http:/
/www.hindu.com/2009/05/30/stories/2009053054191300.htm; India FY10 GDP Growth at
Around 7.75%: Pranab Mukherjee, E CON . T IMES , Feb. 10, 2010, available at http://
economictimes.indiatimes.com/India-FY10-GDP-growth-at-around-775-Pranab-Mukherjee/
articleshow/5555010.cms.
1 6 See PANAGARIYA, supra note 13, at 10003.
1 7 John Armour & Priya Lele, Law, Finance, and Politics: The Case of India 2 (ECGILaw,
Working Paper No. 107/2008, 2008), available at http://papers.ssrn.com/sol3 /papers .
cfm?abstract_id=1116608.
1 8 See Rajesh Chakrabarti, William Megginson & Pradeep K. Yadav, Corporate Governance in
India, 20 J. APPLIED CORP. FIN. 59 (2008).
1 9 See NIRMALYA KUMAR, INDIAS GLOBAL POWERHOUSES 2 (2009); see also Suma Athreye & Sandeep
Kapur, Introduction: The internationalization of Chinese and Indian firmstrends, motivations
and strategy, 18 IND. & CORP. CHANGE 209, 209-21 (2009).
2 0 In 1998 Infosys listed its securities on the National Association of Securities Dealers Automated
Quotations (NASDAQ) in the United States. See Gravitys Pull, ECONOMIST, Dec. 15, 2007.
2 1 Tata GroupOur BusinessesTata Sons, http://www.tata.com/company/profile.aspx
?sectid=DpOT+Lbrdvg= (last visited Jan. 30, 2010).
2 2 See TARUN KHANNA, BILLIONS OF ENTREPRENEURS: HOW CHINA AND INDIA ARE RESHAPING THEIR FUTURE AND
OURS (2007). For an overview of the history of capital markets developments in India, see
generally P.M. Vasudev, Capital Market and Corporate Governance in India: An Overview of
Recent Trends, Corporate Governance Law Review, Vol. 3, No. 3, pp. 255-282, 2007, available
at http://ssrn.com/abstract=1436185.
2 3 See Vikas Bajaj, India Finds Itself Awash in Foreign Investment, N.Y. TIMES, Oct. 13, 2009. The
Indian government has increasingly opened up the economy to foreign direct investment (FDI).
After decades of prohibitive policies on FDI, Indias current foreign investment policy . . . is
approximately as open as that of China. PANAGARIYA, supra note 13, at 107.
38
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2010]
39
Code) for listed companies was proposed by the CII in April 1998.30
The CII Code was heavily influenced by corporate governance standards
found outside of India. Like many corporate governance codes, the CII Code
initially notes that one system of corporate governance is not unambiguously
better than others[;] . . . [therefore, it could not] design a code of corporate
governance for Indian companies by mechanically importing one form or
another.31 Nonetheless, it adopted at the outset the Anglo-American systems
focus on relationships between the companys board of directors and its
shareholders.
The CII Code was a significant step forward for a country not then
known for robust corporate governance standards. However, the CII Codes
voluntary nature did not result in a broad overhaul of governance norms and
practices by Indian companies. Although the CII Code was welcomed with
much fanfare and even adopted by a few progressive companies, many thenbelieved that under Indian conditions a statutory rather than a voluntary code
would be more purposeful and meaningful.32
3 0 CONFEDERATION OF INDIAN INDUSTRY, DESIRABLE CORPORATE GOVERNANCE: A CODE (1998) [hereinafter CII
Code].
3 1 Id. at 1.
3 2 NATIONAL FOUNDATION, supra note 27, at 7.
3 3 Id. at 7-8.
3 4 SHRI KUMAR MANGALAM BIRLA ET AL., THE SEC. EXCH. BD. OF INDIA, REPORT OF THE KUMAR MANGALAM BIRLA
COMMITTEE ON CORPORATE GOVERNANCE 2.5 (1999), available at http://www.sebi.gov.in/commreport/
corpgov.html [hereinafter Birla Report].
3 5 Id.
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41
governance. These rules contained in Clause 49, a new section of the Listing
Agreement took effect in phases between 2000 and 2003. The reforms applied
first to newly listed and large companies, then to smaller companies, and
eventually to the vast majority of listed companies.43
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Id.
Id. 3.8.1.1, 3.8.1.2.
Id. 3.5.2.4.
Id. 3.5.1.7.
MURTHY REPORT, supra note 44, 3.2.2.3.
Id. 3.4.1.5.
Id. 3.11.1.3, 3.11.2.4.
SEBI, ISSUES UNDER CLAUSE 49 AND PROPOSED AMENDMENTS 1 (2003), available at http://www.sebi.gov.in/
commreport/clause49.html.
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43
committee appointed by the MCA was formed in August 2002, following the
enactment of Sarbanes-Oxley in the United States in July 2002. Chaired by
Shri Naresh Chandra, a former Cabinet secretary, the committee was charged
with undertaking a wide-ranging examination of corporate auditing and
independent directors, although its report focused primarily on auditing and
disclosure matters.58 The Chandra Committee made a series of recommendations regarding, among other matters, the grounds for disqualifying auditors
from assignments, the type of non-audit services that auditors should be prohibited
from performing, and the need for compulsory rotation of audit partners. In
addition, the Chandra Committee recommended greater consultations between
SEBI and the MCA, noting that the overlap has adverse consequences. . .
with investors, companies and other stakeholders falling between the cracks.59
Despite much fanfare, the recommendations of the Chandra Committee did
not result in legislative changes, although certain of its recommendations were
incorporated in the report put forth by the Murthy Committee.
The MCA again sprang into action to attempt to revise the Companies
Act after the appointment of the Murthy Committee by SEBI and revision of
Clause 49. In December 2004, the MCA convened the Irani Committee.60 The
committee was led by J.J. Irani, a director of Tata Sons, Ltd., the primary
shareholder in the large business conglomerate, the Tata Group.61 The Irani
Committee was charged with evaluating the Companies Act, with a focus on
combining internationally accepted best practices in corporate governance with
attention to the particular needs of the growing Indian economy.
The Irani Committee concluded that the best approach to corporate
governance in India would be to construct a single framework of governance
provisions applying to all companies so that all companies would be required to
comply with a uniform set of rules.62 However, the Irani Committee resisted the
view that the regulation of public companies should be handed over entirely to
SEBI, and argued that the central government should play an important role
with respect to corporate governance matters.63
Unlike the two SEBI-appointed committees, the Irani Committee
recognized that requirements of special or small companies be accounted for
5 8 NATIONAL FOUNDATION, supra note 27, at 8.
5 9 Sucheta Dalal, Mouthing the DCAs Views, FIN . E XPRESS , Mar. 10, 2003, available at http://
www.financialexpress.com/news/mouthing-the-dcas-views/76027/ (quoting Chandra Committee).
6 0 JAMSHED J. IRANI ET AL., EXPERT COMMITTEE ON COMPANY LAW, REPORT OF THE EXPERT COMMITTEE TO ADVISE THE
GOVERNMENT ON THE NEW COMPANY LAW 3 (2005), available at http://www.primedirectors.com/pdf/
JJ%20Irani%20Report-MCA.pdf [hereinafter IRANI REPORT].
6 1 Tata Group-Our Businesses-Tata Sons, http://www.tata.com/company/profile.aspx
?sectid=DpOT+Lbrdvg= (last visited Jan. 8, 2010).
6 2 IRANI REPORT, supra note 60, at 8-9.
6 3 Id. at 10-11.
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through a series of exemptions, so that new small businesses are not burdened
with the same level of compliance cost as larger, established corporations. In
keeping with this theme, the Irani Committee recommended a wider set of
classifications for companies than just the public or private labels, as the
committee believed that the binary system of classification was too narrow to
account for the varying needs of companies with different sizes and resources.
The Committees goal was to expand the system of classifications and exemptions
to tailor compliance costs to needs, while maintaining sufficient regulatory
stringency for large listed companies that access public capital.64 Furthermore,
significant differences existed between the proposals contained in the Irani
report and the requirements of Clause 49. In particular, the proposals differed
with respect to employment requirements, requisite number, and age and term
limits of independent directors.
6 4 Id. at 11-12.
6 5 Corporates Train Their Guns on Listing Clause, HINDU BUS. LINE, Oct. 22, 2003, available at
http://www.thehindubusinessline.com/bline/2003/10/23/stories/200310230268 0100.htm.
6 6 Corporates Train Their Guns, supra note 65.
6 7 See T.N. Pandey, SEBI Move: Clause and Effect, REDIFF.COM, Dec. 29, 2003, available at http:/
/www.rediff.com/money/2003/dec/29guest3.htm (arguing that SEBIs actions went beyond the
scope of the power conferred by Section 11(1) of SEBI Act and Section 10 of Securities Contracts
(Regulation) Act); S. Balakrishnan, SEBI, A Law Unto Itself, H INDU , Oct. 10, 2005, at 19,
available at http://www.hindu.com/2005/10/10/stories/2005101000441700.htm.
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Exchange (BSE) and the National Stock Exchange (NSE) in India, and crosslisted on the New York Stock Exchange (NYSE) in the United States. Remaining
on these exchanges required Satyam to comply with Clause 49, Sarbanes Oxley,
and NYSE Listed Company Manual. Satyams promoters, represented by Mr.
Ramalinga Raju and his family, held 8% shares in the company at the end of
2008.75 The company, however, had a majority independent Board of Directors,
comprised of various luminaries in India, thus complying with the requirements
of Clause 49.76 As scholar Umakanth Varottil notes, At a board level, it can be
said that very few Indian boards can lay claim to such an impressive array of
independent directors.77
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47
Chairman of the Board, and B. Rama Raju served as the Managing Director
and Chief Executive Officer.83 This made the proposed deal a related party
transaction. If effected, the transaction would have resulted in a significant
amount of cash flowing from Satyam . . . to its individual promoters, the Raju
family.84
At the December 16, 2008 Board meeting, independent directors
questioned the proposed transaction. Dr. Mangalam Srinivasan questioned the
initiative and timing of the proposal.85 She also suggested that the Board be
involved in the transaction from the beginning to avoid the impression that the
Board was being used as rubber stamp to affirm the consequent or decision
already reached.86 Professor M. Rammohan Rao and Vinod K. Dham were
concerned about Satyam venturing into a wholly unrelated business.87 Others
were concerned with verifying the benefits to shareholders if the transaction
was completed, especially due to the related parties in the transaction.88
Despite these concerns, the Board adopted (without any dissent
whatsoever) a unanimous resolution to proceed with the proposed acquisition.
Satyam notified the stock exchanges of the board approval as required under
the listing agreement. 89 The market reacted badly to the news. Almost
immediately, the stock price of Satyams American Depository Receipts
collapsed.90 Within eight hours of the announcement, Satyam was compelled to
withdraw the Maytas proposal.91
8 3 See The men who certified Satyams fudged account, ECON. TIMES, Jan. 10, 2009, available at
http://economictimes.indiatimes.com/infotech/software/The-men-who-certified-Satyams-fudgedaccount/articleshow/3955882.cms; A. Saye Sekhar, Satyam chief admits to fraud, quits, HINDU,
Jan. 8, 2009; see also Satyam turns out to be a big lie, ECON. TIMES, Jan. 11, 2009.
8 4 Varottil, Evolution of Independent Directors, supra note 74, at 334.
8 5 Id.; see also Satyam Computer Services Limited, Minutes of the Meeting of the Board of
Directors of the Company Held on Tuesday, Dec. 16, 2008 at 4:00 p.m. at Satyam Infocity,
Hitech City, Madhapur, Hyderabad 500 081, available at http://online.wsj.com/public/resources/
documents/satyam01115.pdf.
8 6 Varottil, Evolution of Independent Directors, supra note 74, at 335.
8 7 See id. at 335; Satyam Board Minutes, supra note 85, at 4.
8 8 See Varottil, Evolution of Independent Directors, supra note 74, at 335; Satyam Board Minutes,
supra note 74, at 335.
8 9 See Varottil, Evolution of Independent Directors, supra note 74, at 335; see also N
Balasubramanian, Is corporate governance mere lip service?, ECON. TIMES, Dec. 23, 2008, available
at http://economictimes.indiatimes.com/articleshow/3877025.cms; Satyam independent directors
watching situation, HINDU, Dec. 27, 2008.
9 0 See Corporate round-up, ECON. TIMES, DEC. 23, 2008; Raju familys stake in Satyam halves, BUS.
STANDARD, Dec. 30, 2008.
9 1 See Varottil, Evolution of Independent Directors, supra note 74, at 335; Somasekhar Sundaresan,
Year of Al-Pervasive Poor Governance, BUS . S TANDARD , Dec. 29, 2008, available at http://
www.business-standard.com/india/news/yearall-pervasive-poor-governance/01/06/344577/; see
also S. Nagesh Kumar, Independent Directors Put Tough Questions, But Gave Blank Cheque,
THE HINDU, Jan. 14, 2009.
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Unfortunately, this botched transaction was not the only issue with
Satyam. On January 7, 2009, Satyams Chairman of the Board, Ramalinga
Raju, confessed to falsifying the financial statements of the company, including
balance sheet errors showing fictitious cash assets of over US $ 1 billion.92 The
confession furthered revealed that the proposed Maytas acquisitions were just
illusory transactions intended to manipulate the balance sheet of Satyam and to
wipe out inconsistencies therein.93 As a result of this information, Satyams
stock price dropped another 70%, essentially obliterating the wealth of the
Satyam shareholders.94
2. The Aftermath
As a result of the scandal, the MCA, Government of India, and SEBI
initiated investigations.95 The police arrested the Chairman, Ramalinga Raju,
Satyams Managing Director, and CFO within a few days of the confession.96
Two Partners from Lovelock & Lewis, an Indian affiliate of
PriceWaterhouseCoopers and Satyams auditor, were also arrested.97
Further, the Government nominated and replaced remaining Satyam board
members with candidates of its choice.98 Under the new leadership, Satyam
was able to make a remarkable turnaround.99 In April 2009, Tech Mahindra
purchased the company through a global bidding process. The Transaction
received uniform adulation for the alacrity with which the various players . . .
acted to resuscitate the company and protect the interests of its stakeholders.100
92
See It was like riding a tiger, not knowing how to get off without being eaten, Fin. Express, Jan.
8, 2009, available at http://www.financialexpress.com/news/it-was-like-riding-a-tiger-notknowing-how-to-get-off-without-being-eaten/407917/; Mandar Nimkar, How much is Satyams
stock actually worth?, E CON . T IMES , Jan. 8, 2009 available at http://economictimes.
indiatimes.com/articleshow/3960070.cms?prtpage=1; Heather Timmon & Jeremy Kahn, Indian
Company in a Fight to SurviveN.Y. Times, Jan. 9, 2009,
9 3 Varottil, Evolution of Independent Directors, supra note 74, at 337.
9 4 Id.
9 5 See Oomen A. Ninan, Satyam Episode: SEBI Enquiries Will Focus on Three Areas, THE HINDU
B US . L INE , Jan. 16, 2009, available at http://www.hindu.com/2009/01/16/stories/
2009011660111800.htm; Souvik Sanyal, Government Refers Satyam Case to Serious Frauds
Investigation Office, THE ECON. TIMES, Jan. 13, 2009.
9 6 See Satyam Fraud: Raju Sent to Central Prison; CFO Vadlamani Arrested, ECON. TIMES, Jan.
10, 2009, available at http://economictimes.indiatimes.com/infotech/software/Satyam-fraudRaju-sent-to-central-prison-CFO-Vadlamani-arrested/articleshow/3961163.cms ; Satyams Raju
Brothers Arrested by AP Police, ECON. TIMES, Jan. 9, 2009, available at http:/economictimes.
indiatimes.com/Infotech/Software Satyams _Raju _brothers _arrested _by_AP_ Police/
articleshow/3957655.cms .
9 7 See Jackie Range, Pricewaterhouse Partners Arrested in Satyam Probe, WALL ST. J. ASIA, Jan.
25, 2009.
9 8 Mukesh Jagota & Romit Guha, India Names New Satyam Board, WALL ST. J., Jan. 12, 2009,
available at http://online.wsj.com/article/SB123165785513571443.html.
9 9 Varottil, Evolution of Independent Directors, supra note 74, at 338.
100 Id. at 59.
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sound and legal manner.108 Despite its belief that most Indian corporations are
well-run and comply with good corporate governance, the CII task force put
forth important recommendations.
In its recommendations, the CII task force attempted to strike a balance
between over-regulation and promotion of strong corporate governance norms
by recommending a series of voluntary reforms. In the preamble of its report,
the task force reinforced this message:
Large, highly visible and publicised corporate scandals often
provoke legislative and regulatory actions. CII advocates caution
against overregulating. It needs to be recognised that while the
super-structure of corporate governance is built on laws and
regulations, these cannot be anything more than a basic framework.
Much of best-in-class corporate governance is voluntary of
companies taking conscious decisions of going beyond the mere
letter of law. The spirit of this Task Force Report is to encourage
better practices through voluntary adoption - based on a firm
conviction that good corporate governance not only comes from
within but also generates significantly greater reputational and
stakeholder value when perceived to go beyond the rubric of law.
Therefore, it is only natural that this report should focus on
recommendations, which are being placed before corporate India
for adopting voluntarily. It is the belief of CII that Indian Industry
would respond spontaneously and help set standards, which would
define global benchmarks in the medium term.109
In addition to the CII, a number of other corporate groups have joined
the corporate governance dialogue. The National Association of Software and
Services Companies (NASSCOM, self described as (the premier trade body
and the chamber of commerce of the IT-BPO industries in India)110 also
formed a Corporate Governance and Ethics Committee chaired by Mr. N. R.
Narayana Murthy, one of the founders of Infosys and a leading figure in Indian
corporate governance reforms.111 The Committee issued its recommendations
in mid-2010, focusing on stakeholders in the company.112 The report emphasizes
108 Id. at 1.
109 Id. at 2.
110 NASSCOM, About Us, available at http://www.nasscom.in/Nasscom/templates/NormalPage
.aspx?id=5365.
111 NASSCOM, NASSCOM Governance And Ethics Committee Releases ITs Recommendations
For The IT-BPO Industry, April 27, 2010, available at http://www.nasscom.in/Nasscom/
templates/NormalPage.aspx?id=59083; see also Afsharipour, supra note 1, at 371-372.
112 Umakanth, Varottil, Nasscom on Corporate Governance, Indian Corporate Law Blog, May 12,
2010, available at http://indiacorplaw.blogspot.com/2010/05/nasscom-on-corporate-governance
.html
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51
2. Government Responses
a. SEBI Reforms
SEBIs response to the Satyam scandal has been somewhat muted when
compared to its primary role in Indian corporate governance reforms over the
past ten years. In 2009, SEBI made several announcements regarding disclosure
and accounting reforms that could result in changes to the Listing Agreement.
In September 2009, the SEBI Committee on Disclosure and Accounting
Standards published a discussion paper seeking public comment on several
governance issues.116 The committees paper addressed proposed reforms
directed, among other matters, to the role and function of the audit committee
and of external auditors, including the appointment of the chief executive officer
(CEO) by the audit committee and the rotation of audit partners every five
years. In November 2009, SEBI announced that they would amend the Listing
Agreement to address disclosure and accounting concerns. SEBI instituted these
amendments in early 2010, although they appear to be somewhat minimal with
respect to substantive changes in corporate governance norms.117
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2010]
53
that the guidelines are a first step and that the option remains open to perhaps
move to something more mandatory.127
It remains to be seen whether such an approach will be effective.128
The voluntary guidelines do not provide a perfect solution. For example, when
recently asked about the new voluntary corporate governance guidelines, Deepak
Parekh, Chairman of the Housing Development Finance Corporation (HDFC),
Indias leading housing finance company, noted, You can frame any amount of
rules, regulations and guidelines and laws. But corporate governance must come
from within . . . . It has to be voluntary, it should come from the top, and it
should percolate down to the entire organization.129 Mandatory requirements
may work better in certain contexts, but they are of little use without effective
enforcement. Of course it may be that for the Indian context the best approach
to corporate governance would combine mandatory rules (minimums) with
flexible voluntary guidelines.130
As discussed above, the MCA has also announced that the ministry will
consider changes to the Companies Bill 2009. Further potential reforms include
mandatory disclosure of share pledges by promoters and amendments to the
SEBI Takeover Code in order to exempt potential acquirers from making open
tender offers.131 Some commentators, however, have argued that in regard to
post-Satyam government action, [n]othing meaningful has been done to prevent
more Satyam-like scams, nor will it ever be.132
IV. THE CONTINUING CHALLENGES OF THE INDIAN CORPORATE GOVERNANCE
FRAMEWORK
A. Compliance and Enforcement Efforts
Clause 49 of the standard listing agreement with Indias stock exchanges
is a key component of Indias top-notch governance framework.133 However,
127 Id.
128 See Varottil, Rhetoric or Reality, supra note 117, at 12-19; see, also, Sridhar Arcot, et al.,
Corporate Governance in the UK: Is the Comply or Explain Approach Working? (July 1, 2009,
INTL REV. L. & ECON., Forthcoming), available at http://ssrn.com/abstract=1532290 (finding
that the Combined Code of Corporate Governance in UK fostered compliance, but that firms
that did not comply with the Code often did a very poor job of providing explanations or did
not provide any explanations for their non-compliance).
129 Inside Story: How they Saved Satyam, News Center, Jan. 26, 2010, available at http://
www.moneycontrol.com/news/business/inside-story-how-they-saved-satyam_432170.html.
130 See Khanna, supra note 9, at 186.
131 Umakanth Varottil, The Year That Was: A Round-up of 2009, India Corporate Law Blog, Dec.
31, 2009, http://indiacorplaw.blogspot.com/2009/12/year-that-was-round-up-of2009.html.
132 No meaningful reform yet to prevent another Satyam, HINDUSTAN TIMES, Jan. 12, 2010, available
at http://www.hindustantimes.com/No-meaningful-reform-yet-to-prevent-another-Satyam/
Article1-496321.aspx.
133 Joe Leahy, Corporate Governance: Sustained Growth Needs Better Company Practices, FIN.
TIMES, Jan. 24, 2008 (quoting Manesh Patel, Partner, Ernst & Young), available at http:/
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134
135
136
137
138
139
www.ft.com/cms/s/0/762d26ac-c946-11dc-9807-000077b07658,dwp _uuid=56c2aff4-be8c11dc-8c61-0000779fd2ac.html.
PSUs are state-owned enterprises and represent the Indian governments socialist policies prior
to 1991. See Lawrence Sez & Joy Yang, The Deregulation of State-Owned Enterprises in
India and China, 43 COMP. ECON. STUD. 69, 76 (2001).
For an illuminating study of the compliance of Indian listed companies with the director
independence requirement of Clause 49, and the effectiveness of such directors, see Varottil,
Evolution of Independent Directors, supra note 74, at 343-374.
CLAUSE 49 (2004) supra note 2, VI(ii).
NSE, L ISTING OF S ECURITIES 38 (2009), available at http://nseindia.com/content/us/
fact2009_sec3.pdf.
Corporate Filing & Dissemination System, Companies Not Complying with Clauses 49 & 40A,
available at http://www.corpfiling.co.in/notcomplying/links.aspx (last visited April 6, 2010).
As of December 2009, 4955 companies were listed on the BSE. BSE, Key Statistics, available
at http://bseindia.com/about/st_key/list_cap_raised.asp (last visited April 6, 2010). As of March
2009, 1432 companies were listed on the NSE. NSE, LISTING OF SECURITIES 38 (2009), available
at http://nseindia.com/content/us/fact2009_sec3.pdf.
See Directors Database, http://directorsdatabase.com/; V. Venkateswara Rao, Clause 49: Needed,
better compliance, BUS. LINE, May 27, 2009, available at http://www. thehindubusinessline.com/
2009/05/27/stories/2009052750430800.htm.
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55
investors of these firms also viewed the Clause 49 reforms positively.140 In fact,
what is shocking is how little opposition there was to the corporate governance
reforms initially proposed through Clause 49. Despite the fact that the most
active proponents of these reforms were large firms who could more easily
bear their implementation costs, smaller firms voiced little opposition to the
reforms.
Larger Indian firms in particular seemed to welcome Clause 49s reforms
because they appear to have benefited from the more robust corporate
governance rules imposed by Clause 49. In their event study of the impact of
Clause 49 reforms on the market value of Indian firms, Professors Black and
Khanna found a significant rise in the share price of large firms following SEBIs
initial announcement to adopt corporate governance reforms similar to those
proposed by the CII. This result reflected investor expectations that corporate
governance reforms would increase the market values of larger Indian public
firms.141 Furthermore, Professors Black and Khanna found that fast-growing
and cross-listed firms both reacted more positively than other firms, consistent
with the theory that faster-growing firms are more likely to raise equity capital,
and may benefit more from the bonding to good governance and cross-listed
firms may have greater investment by governance-sensitive foreign
investors.142
While large corporate entities have been relatively successful in
implementing Clause 49s reforms, PSUs and small- and medium-sized
enterprises have struggled with the implementation process. One of the biggest
failures of corporate governance reforms in India has been the inability of
corporate governance reforms to reach these entities. Many experts believe
that despite Indias formal governance standards, the fundamental reality of
Indian business most are still controlled by family shareholders or are
government-controlled undermines the effectiveness of these standards.143
The bulk of the compliance problem appears to rest with PSUs and
companies outside of the top private sector firms. As explored in Parts C and D
below, this is in part due to political pressures regarding the PSUs and in part
due to the traditional closed ownership structure of Indian firms. In January
2006, when revisions to Clause 49 went into effect, the top ten private sector
companies were all in compliance.144 In marked contrast to top private sector
companies, PSUs were mostly noncompliant with Clause 49 by large margins
140
141
142
143
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at the time it went into effect.145 And so they have remained; as of December
2009, 21 of 43 listed PSUs do not have the required number of independent
directors required by SEBI and thus are noncompliant with Clause 49.146
The Satyam scandal is a reminder that formal compliance does not mean
that the companies have necessarily implemented strong corporate governance
and financial controls. According to a 2009 study by Prithvi Haldea of Prime
Database, less than a fourth of all independent directors are really independent
in the sense that they have no connection with the promoters.147 In addition,
more than 3,000 people who were on the boards of various companies on
January 1, 2006 were re-designated as independent directors to comply with
Clause 49 and in around 30 per cent of the companies, promoters simply redesignated themselves calling themselves non-executive chairmen meant their
companies could get by with a smaller proportion of independent directors (onethird, instead of half).148
The Satyam scandal has had both positive and negative repercussions
for Clause 49 compliance. The Satyam scandal has acted as a wakeup call in
enhancing board practices.149 Recently, Arun Duggal150 observed in the Wall
Street Journal that:
The first reaction of corporate boards when Satyam blew in January
2009 was to have an independent verification that the cash, bank
deposits and financial investments recorded in the companys books
were accurate. The board of directors, particularly independent
directors, met with the external and internal auditors to assure
themselves that the reported financial statements were true and
accurate and that the auditors were independent and diligent. Over
100 independent directors resigned from various boards as they
realized that with directorship come certain responsibilities and
obligations.
Over the last year, there has been a steady improvement in the
functioning of boards. The audit committee function has become
145 Id.
146 PSUs Fail to Meet SEBI Criterion on Directors, BUS. STANDARD, Dec. 26, 2009, available at
http://www.business-standard.com/india/news/psus-fail-to-meet-sebi-criteriondirectors/380762.
147 Clause 49, RIP? BUS. STANDARD, May 29, 2009. For further detailed information on directorships
at BSE companies, see http://directorsdatabase.com/default_indir.asp.
148 Id.; see also Prithvi Haldea, The Naked Truth About Independent Directors (2009), available
at http://www.directorsdatabase.com/IDs_Myth_PH.pdf.
149 Enhanced Corporate Governance Practices, India Corporate Law Blog, Feb. 10, 2010, http:/
/indiacorplaw.blogspot.com/2010/02/enhanced-corporate-governance-practices.html.
150 Arun Duggal, What Have We Learned in the Year Since Satyam, WALL ST. J., Feb. 7, 2010,
available
at
http://online.wsj.com/article/SB126560328884842541.
html?mod=
googlenews_wsj.
2010]
57
2. Enforcement
Not only has compliance with Clause 49 been weak, enforcement has
also been lacking. Clause 49 contained certain penalty provisions for
noncompliance. While the initial penalty for failure to comply with Clause 49
was delisting, severe financial penalties for directors of non-compliant firms
were introduced in 2004.153 However, as argued by the ACGA, India has a
penchant for setting up official committees and enacting new regulations, but
under-investing in enforcement and implementation. Neither SEBI nor MCA
seem [sic] to have enough competent staff who truly understand the capital
markets . . . it will be quite a while before serious changes are seen.154
Perhaps because it has observed the difficulties companies have had in
complying with Clause 49, SEBIs enforcement philosophy has changed since
Clause 49s effective date. Early statements from Chairman Damodaran
indicated that SEBI would prosecute noncompliant companies with enthusiasm;
in fact, SEBI anticipated the receipt of compliance reports from the stock
exchanges within a month of Clause 49s effective date.155 Not only was it
eager to track down noncompliant companies, but it also seemed anxious to
151 Id.
152 Clause 49, RIP? BUS. STANDARD, May 29, 2009. For further detailed information on directorships
at BSE companies, see http://directorsdatabase.com/default_indir.asp.
153 See The Securities Laws (Amendment) Act, 2004 11, No. 1, Acts of Parliament, 2005,
available at http://indiacode.nic.in/fullact1.asp?tfnm=200501; see also Dharmapala & Khanna,
supra note 12 (finding a large and significant positive effect on the value of firms as a result of
Clause 49 reforms and the 2004 sanctions).
154 Asian Corporate Governance Association, infra note 165.
155 SEBI Gets Tough with Corp Governance Defaulters, ECON. TIMES (India), Jan. 11, 2006, available
at 2006 WLNR 538409.
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2010]
59
60
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a Special Secretary to the Ministry of Finance noted that SEBI must accept
that its powers are limited and subordinate to the MCA and not coextensive
with it, and hence, has to refrain from framing its own rules concerning corporate
governance.168 According to the author, SEBI may adopt rules that stem from
the Companies Act regarding listing agreements, but cannot frame independent
rules in this regard coextensive or more than what is there in the Companies
Act and then try to say that non-compliance would result in delisting.
One of the most significant issues with respect to the reform process
related to SEBIs conduct vis--vis the MCA and SEBIs decision to pursue
corporate governance reform through amendments to the Listing Agreement,
rather than through revisions to the Companies Act with participation from the
legislative branch. Accordingly, throughout the Clause 49 adoption and
amendment process, rather than engaging with SEBI on corporate governance
standards, the MCA responded by establishing its own separate committee.
While the Companies Act certainly needs to be amended to better account for
corporate governance issues, the MCAs process, however, has been fraught
with tensions with SEBI which appear to be unhelpful in any process to amend
the Companies Act.
One of the reasons that corporate governance reforms were pursued
through SEBI was that, as an independent market regulator, SEBI provided
some flexibility to a corporate governance regime primarily characterized by a
need for constant amendment of the Companies Act. The promulgation of
comprehensive reforms in the form of Clause 49 demonstrates this. Although
SEBI has had long-standing tensions with the MCA over who should be handling
the various tasks involving reform and enforcement of corporate governance
standards, it is worth noting that since SEBIs inception, it has taken significant
steps to pursue adoption of corporate governance reforms through changes to
the Listing Agreement, while MCAs proposed reforms of the Companies Act
have languished in drafting and review.
Despite SEBIs ability to push Clause 49 through, the MCAs resistance
to its provisions, including recommendations by MCA-appointed committees
that conflicted with Clause 49, has significantly undermined SEBIs authority
and lifted much of the pressure from non-complying companies. Many
commentators view the conflicts between SEBI and the MCA as a leading
cause of lax enforcement of corporate governance standards.169 Experts have
168 T. N. Pandey, Distortions in SEBIs Enforcement of Corporate Governance Norms, Jul. 9,
2009, available at http://www.lawyersclubindia.com/articles/Distortions-in-SEBI-s-Monitoringof-Corporate-Governance-Nor/1325/.
169 Ambarish Mukherjee, Delayed Action Against Errant CoTurf War Between SEBI and DCA,
HINDU BUS. LINE, July 16, 2001, available at http://www.hindu onnet.com/businessline/2001/07/
16/stories/14161830.htm (noting turf war caused delay of investigations).
2010]
61
noted that the [l]ack of cooperation and coordination between key government
departments, in particular MCA and SEBI, further weakened enforcement
and implementation efforts, resulting in overlap of jurisdiction or regulatory
gaps. 170
Corporate governance leaders in India have recognized the negative
externalities of these inter-agency struggles. In a recent interview, former SEBI
chairman Damodaran commented on the nature of corporate governance
standards.171 When asked about agency problems and the enforcement of Clause
49, Damodaran noted that the major question is: Who is responsible for ensuring
corporate governance? He noted in some places the securities market regulator
would be responsible for ensuring corporate governance and in others the Ministry
of Corporate Affairs would take on that role. Moreover, he recognized that
corporate governance reform efforts cannot be implemented through SEBI
alone. Damodaran expressed that certain corporate governance reforms related
to the protection of minority shareholders need to be incorporated in some sort
of legislation, such as the Companies Act: Going forward, we should see
provisions in the Companies Act that stipulate what needs to be done by way of
structural arrangements rather than leaving it to the Listing Agreement, which
would not have the same legislative strength as the Companies Act.172
2. Access to Courts
One of the factors behind the continuing shortcomings in the enforcement
of Indias corporate governance reforms is the lack of meaningful enforcement
through the courts. The Indian judicial system is characterized by staggering
delays in adjudication. Moreover, Indian investors are reluctant to bring class
action suits given the high costs of such suits and the unavailability of a
contingency fee system.173
Recently, SEBI has made efforts to assist select investor associations in
investor education and awareness programs and in bringing securities class
action suits.174 For example, in 2009, SEBI agreed to fund an Indian investors
association that sought to bring a securities class action suit against Satyam,
170 Asian Corporate Governance Association, supra note 165.
171 M. Damodaran, The Courage of Conviction is More Evident Today, INDIA KNOWLEDGE AT WHARTON,
available at http://knowledge.wharton.upenn.edu/india/articlepdf 4429 . pdf?CFID =500856&
CFTOKEN=75360366&jsessionid=a83042d418eff89b91026127358482c217b1.
172 Id. at 2.
173 See Umakanth Varottil, Shareholder Activism and Class Action Lawsuits, Indian Corporate
Law Blog, June 1, 2009, http://indiacorplaw.blogspot.com/2009/06/shareholder-activism-andclass-action.html.
174 See SEBI (Investor Protection and Education Fund) Regulations, 2009 and the SEBI (Aid for
Legal Proceedings) Guidelines, 2009, available at http://investor.sebi.gov.in/; Anindita Dey,
SEBI Proposes to Fund Class Action Suits, BUSINESS STANDARD, Jun. 1, 2009.
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and its former promoters, auditors, and directors.175 In the class action context,
SEBIs funding is limited to seventy-five percent of the total expenditure by the
association in such legal proceedings and to cases where at least one thousand
investors are affected, or likely to be affected, by issues such as misstatements
in offer documents or fraudulent and unfair trade practices or market
manipulation.176 However, SEBI will not fund cases where it has initiated
enforcement action.177 It is too early to tell whether SEBIs recent efforts will
lead to marked increase in securities class action litigation.
Indian investors are also reluctant to access the courts due to the significant
delays in adjudication. According to a report by the World Bank, the process
under which cases brought pursuant to the Companies Act is adjudicated has
been mired in delay and ineffectiveness. For example the Company Law Board
(CLB), the primary judicial authority for enforcement of the Companies Act,
experienced significant delays and a large backlog of cases.178 The delays at
the CLB level were further compounded by the ability of parties to appeal CLB
decisions to the high courts and Supreme Court.
Efforts to address these shortcomings have themselves been thwarted
by litigation.179 In order to ameliorate the extreme backlog of corporate law
cases and to consolidate various duties previously allocated to several different
government bodies, in 2002, the Indian Parliament amended the judicial structure
with respect to corporate law matters. Under the Companies (Second
Amendment) Act, 2002 (2002 Act), the government created a new National
Company Law Tribunal (NCLT), along with its appellate body, the National
Company Law Appellate Tribunal (NCLAT), to enforce the provisions of the
Companies Act.180 The governments hope was that corporate governance
175 SEBI to Fund Class Action Suit Against Satyam, E CON . T IMES , July 17, 2009, http://
economictimes.indiatimes.com/sebi-to-fund-class-action-suit-against-satyam/articleshow/
4787131.cms.
176 See SEBI (Investor Protection and Education Fund) Regulations, supra note 174, at clause (g)
of sub-regulation (1) of regulation 2 (definition of legal proceedings includes any proceedings
before a court or tribunal where one thousand or more investors are affected or likely to be
affected by: (i) mis-statement, misrepresentation or omission in connection with the issue, sale
or purchase of securities; (ii) non-receipt of securities allotted or refund of application monies
paid by them; (iii) non-payment of dividend; (iv) default in redemption of securities or in
payment of interest in terms of the offer document; (v) fraudulent and unfair trade practices or
market manipulation; (vi) such other market misconduct which in the opinion of [SEBI] may
be deemed appropriate.).
177 See id.
178 See WORLD BANK REPORT, supra note 163, at 21.
179 Umakanth Varottil, The Year That Was: A Round-up of 2009, Indian Corporate Law Blog, Dec.
31, 2009, http://indiacorplaw.blogspot.com/2009/12/year-that-was-round-up-of-2009.html.
180 The Companies (Second Amendment) Act, 2002, No. 11, Acts of Parliament, 2003. There is
debate as to whether establishing these tribunals will provide speedy and fair resolution of cases.
See Kumkum Sen, SCs NCLT Decision Welcome, Despite Concerns on Speedy and Fair Trial,
BUS. STANDARD, May 24, 2010, available at http://www.business-standard.com/india/news/sc%5Csnclt-decision-welcome-despite-concernsspeedyfair-trial/395843/; NCLT Would Speed Up
2010]
63
181
182
183
184
185
186
187
188
Corporate Disputes Redressal: Experts, BUS . S TANDARD , May 16, 2010, available at http://
www.business-standard.com/india/news/nclt-would-speedcorporate-disputes-redressal-experts/
94493/on; SC Clears Way for Tribunal to Speed up Corporate Cases, ECON. TIMES, May 12,
2010 available at http://economictimes.indiatimes.com/news/economy/policy/SC-clears-wayfor-tribunal-to-speed-up-corporate-cases/articleshow/5919613.cms
See Afsharipour, supra note 1, at 360-363 for an examination of the purpose of the NCLT.
National Company Law Tribunal Held Unconstitutional, HINDU B US . L INE , Apr. 11, 2004,
available at http://www.thehindubusinessline.com/2004/04/11/stories/2004041101480
100.htm.
SC Refers NCLT Issue to Constitutional Bench, ECON. TIMES (INDIA), May 18, 2007, available at
http://economictimes.indiatimes.com/News/PoliticsNation/SC_refers_NCLT_issue_
to_constitutional_bench/articleshow/2059145.cms.
Union of India v. R. Gandhi, President Madras Bar Association (Sup. Ct. 2010) available at
http://www.barandbench.com/userfiles/files/File/national_company_law_tribunal.pdf.
Id. at 2.
Id. at 86.
Id. at 52.
Id. at 53.
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Id. at 15.
Id. at 71, 72.
Id. at 70.
Id. at 69.
Id. at 82.
Id. at 82-84.
MCA Seeks Law Ministry Help to Make New Tribunal SC-Compliant, ECON. TIMES, May 26,
2010, available at http://economictimes.indiatimes.com/articleshow/5974875.cms
196 Figuring Out What Shape the National Company Law Tribunal (NCLT) Will Take, ECON. TIMES,
May 27, 2010, available at http://economictimes.indiatimes.com/articleshow/5978966.cms.
197 Indias experience with corporate ownership resembles that of most emerging economies.
Jayati Sarkar & Subarata Sarkar, Debt and Corporate Governance in Emerging Economies:
Evidence from India, 16 ECON. OF TRANSITION 293, 295 (2008); see also Ananya Mukherjee Reed
& Darryl Reed, Corporate Governance in India: Three Historical Models and Their Development
2010]
65
199
200
201
202
203
204
205
206
Impact, in CORPORATE GOVERNANCE, ECONOMIC REFORMS, AND DEVELOPMENT: THE INDIAN EXPERIENCE 25,
3136 (Darryl Reed & Sanjoy Mukherjee eds., 2004).
See Varottil, Evolution of Independent Directors, supra note 74, at 286-289; Chakrabarti et
al., supra note 18, at 59; see also Family Businesses Raise Corporate Governance Concerns,
Says Moodys, INDIAN EXPRESS, Oct. 23, 2007, available at http://www.indianexpress.com/story/
231282.html [hereinafter Moodys].
See Satheesh Kumar T. Narayanan, Indian Family-Managed Companies: The Corporate
Governance Conundrum, 5 ICFAI J. CORPORATE GOVERNANCE 20 (2006), available at http://ssrn.com/
abstract=1093230. For a more detailed overview of the corporate governance concerns that
arise in these businesses, see Varottil, Evolution of Independent Directors, supra note 74, at
286-289.
See id. at 21; Chakrabarti et al., supra note 18, at 59.
Narayanan, supra note 199, at 20.
Moodys, supra note 198.
A promoter is any person or persons that have, directly or indirectly, control of the company.
See Chakrabarti et al., supra note 18, at 61.
K.S. Chalapati Rao & Atulan Guha, Ownership Pattern of the Indian Corporate Sector:
Implications for Corporate Governance 1, 11 (Inst. for Studies in Indus. Dev., Working Paper
No. 2006/09, 2006), available at http://isidev.nic.in/pdf/wp0609.pdf.
Id. at 1114.
Id. at 13.
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exceed half, given that promoter shareholding is often hidden in the form of
other corporate bodies or individual shareholders. Regardless of how frequent
such hidden holdings actually are, it is clear that concentrated ownership still
dominates the Indian corporate landscape. However, this concentration of
ownership in India is slowly shifting. For example, non-promoter institutional
investors, both Indian and foreign, are making significant inroads into the
ownership of large Indian firms.207
The closed ownership structure of many Indian firms explains the
compliance discrepancy between top private sector companies and other private
companies. While top companies have strong incentives to increase transparency
and compliance as they are competing for foreign direct investment, smaller
private companies continue to face many compliance obstacles. 208 The
traditional closed or government-controlled ownership structures of Indian firms
have resulted in weak boards and weak board practices. As identified by the
World Bank, a key missing ingredient in India today is a strong focus on director
professionalism.209
The closed ownership structure of Indian firms has also meant that there
is little shareholder activism in India, and investors spend little time communicating
their concerns to the board of directors or the management of a firm.210 In
India, there are no significant shareholder associations, and minority shareholders
have minimal avenues for protecting their rights.211 Even large institutional
investors show minimum involvement in corporate governance issues.212
The family business structure of many Indian firms compounds this
difficulty; family control can contribute to issues of adaptability and transparency,
and many family businesses do not have nomination committees.213 One of the
main concerns regarding Clause 49 has been whether it can be effective given
the structure of many Indian businesses, where board members may be reluctant
207 See Chakrabarti et al., supra note 18, at 62. But see Rao & Guha, supra note 204, at 18.
208 Punish Cos for Clause 49 Non-Compliance, BUS. LINE (MUMBAI), Feb. 20, 2007, available at
http://www.blonnet.com/2007/02/20/stories/2007022005030100.htm..
209 Michael F. Carter, Country Director, India, The World Bank Group, Address at the National
Conference on Corporate Governance Trends in India (Oct. 18, 2004), available at http://
web.worldbank.org/WBSITE/EXTERNAL/TOPICS/EXTGOVANTI CORR/0,,contentMDK :
20269936~menuPK:3036142~pagePK:64020865~piPK:149114~theSitePK:3035864,00.html)
(emphasis omitted).
210 See Jayati Sarkar & Subrata Sarkar, Large Shareholder Activism in Corporate Governance in
Emerging Economies: Evidence from India, 1:3 INTL REV. FIN. 161 (2000); M.C. Vaijayanthi,
Shareholder Activism, HINDUSTAN TIMES, Dec. 26, 2007, available at http://www. hindustantimes
.com/StoryPage/StoryPage.aspx?id=4b5beaf0-3847-47ad-994b-38f92a294d22
&&Headline=Shareholder+activism.
211 This may gradually change with recent SEBI efforts to recognize and support investor associations.
See supra notes 173-177 and accompanying text.
212 Vaijayanthi, supra note 210.
213 Leahy, supra note 13333.
2010]
67
to question leaders of family run businesses. For example, many argue that it is
highly unlikely that a board would ever oust leaders like Ratan Tata of the Tata
Group. 214 Thus, family control . . . [raises] corporate governance concerns in
areas including adaptability, leadership transition, checks and balances and
transparency.215
Indias corporate governance reforms, while laudable, do not address
the fundamental corporate governance issues that arise in closely held businesses.
In a recent article examining Indias corporate governance reforms and the
ownership structure of Indian firms, scholar Umakanth Varottil has
comprehensively demonstrated that due to the concentrated ownership structures
in Indian companies, it is the minority shareholders who require the protection
of corporate governance norms from actions of the controlling shareholders.
Board independence, in the form it originated, does not provide a solution to this
problem.216 In fact, even those that argue that listed companies in India are
well regulated admit that oppression and mismanagement will remain always
and [need] to be tackled carefully.217
A number of experts have put forth suggestions to address the potential
for oppression of minority shareholders.218 These suggestions include: (i)
alterations in the nomination and appointment process for independent directors;
(ii) changes in the election of independent directors to give greater role to minority
shareholders; (iii) encouraging investor activism; (iv) clarifying the advisory
and monitoring role of independent directors; and (v) principles to help increase
the qualifications and commitments of independent directors.
Some of the most recent and interesting set of recommendations have
been put forth by the Asian Corporate Governance Association.219 The ACGAs
goal is to help address critical corporate governance areas that (ACGA) thus
far remain to be addressed- particularly relating to the accountability of
promoters (controlling shareholders), the regulation of related party transactions,
and the governance of the audit profession.220 According to the ACGA, a
key challenge at the heart of the governance problem is the accountability of
promoters to other shareholders.
214
215
216
217
Id.
Id.
Varottil, Evolution of Independent Directors, supra note 74.
See Satyam Lessons and Corporate Reforms, Pushkar Chandna, Feb. 13, 2010, http://
pushkarchandna.sulekha.com/blog/post/2010/02/satyam-lessons-and-corporate-governancereforms.htm.
218 See, e.g., Varottil, Evolution of Independent Directors, supra note 74.
219 ACGA White Paper on Corporate Governance in India, available at http://www.acga-asia.org/
public/files/ACGA_India_White_Paper_Final_Jan19_2010.pdf.
220 Id. at 5.
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221 Id.
222 See Lawrence Sez & Joy Yang, The Deregulation of State-Owned Enterprises in India and
China, 43 COMP. ECON. STUD. 69, 76 (2001).
223 Goswami, supra note 43, at 135.
224 PANAGARIYA, supra note 13, at 302-303.
225 PSUs Fail to Meet SEBI Criterion on Directors, supra note 126.
226 SEBI Cracks Whip on 20 Firms for Clause 49 Violation, BUS. STANDARD, Sept. 12, 2007, available
at http://www.business-standard.com/india/news/20-firms-in-focus-for-clause-49-violation/
297650/.
227 Richa Mishra, ONGC Faces Threat of Delisting, HINDU BUS. LINE, Nov. 12, 2007, available at
2007 WLNR 22305224.
228 K.R. Srivats, Independent Directors Should Form 1/3 of Board Irani Panel Submits Report
on Company Law, HINDU BUS. LINE, June 1, 2005, available at http://www.blonnet.com/2005/
06/01/stories/2005060102690100.htm.
2010]
69
According to other PSU leaders, while they recognize the need for more
independent directors, the process for appointments takes significantly more
time than private company appointments because the government must appoint
these directors.229 Former SEBI Chairman M. Damodaran has suggested the
government is dragging its heels in appointing independent directors because it
does not want to lose control over PSU companies.230 He was particularly
concerned that if people were investing in Indian companies based on the
perception that Indian corporates are trying to get their act together on corporate
governance, Indian companies should follow through on that perception.231
Recently, the government has begun to consider a proposal to restrict the
role of administrative ministries in the appointment of independent directors and
to give more autonomy to state-owned companies in the selection of independent
directors, as it prepares them for listing on the stock exchanges.232 The proposal
is intended to encourage better corporate governance among PSUs and to benefit
all PSUs looking for early listing.233 In addition, in March 2010, the Indian
government announced that all Central Public Sector Enterprises (CPSEs), a
proportion of PSUs, will be required to comply with the corporate governance
norms, some of which mirror those required by Clause 49. While commentators
have welcomed these reform efforts, the mandatory guidelines may be of no
avail if they continue to perpetuate the dominance of the controlling shareholder,
being the Government.234
V. CONCLUSION
Since the late 1990s, significant efforts have been taken by Indian
regulators, as well as by Indian industry representatives and corporations, to
achieve an overhaul of corporate governance in Indian firms. Not only were
reform measures put into place prior to discovery of major corporate governance
scandals, but both industry groups and government actors have sprung into
action following the Satyam scandal. Despite these commendable efforts, the
actual implementation and enforcement of corporate governance reforms remain
challenging. As discussed in this article, these challenges arise because of a
229 PSUs Must Meet Clause 49 Norms, BUS. STANDARD, Jan. 3, 2008, available at 2008 WLNR
96448.
230 No Exemption for Listed PSUs on Independent Director Norms, HINDU BUS. LINE, Jan. 3, 2008,
available at 2008 WLNR 93975. See also PSUs Must Meet Clause 49 Norms, supra note 229;
SEBI Wont Budge on Clause 49 Norms, F IN . E XPRESS , Jan. 2, 2008, available at http://
www.financialexpress.com/news/Sebi-wont-budge-on-Clause-49-norms/257004/.
231 No Exemption for Listed PSUs, supra note 230.
232 Dheeraj Tiwari, PSUs to get leeway in independent directors selection, ECON. TIMES, Jan. 23,
2010, available at http://economictimes.indiatimes.com/news/economy/indicators/PSUs-toget-leeway-in-independent-directors-selection/articleshow/5490712.cms
233 Id.
234 Umakanth Varottil, Corporate Governance Norms for Central PSUs, available at http://
indiacorplaw . blogspot.com/2010/03/governance-norms-for-central-psus.html.
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number of social, political and economic conditions in India. While this short
article cannot expand in further detail the potential solutions to these challenges,
it is hoped that further research can help develop solutions that take them into
account.
2010]
71
I. INTRODUCTION
The global reputation of Indian courts, and perhaps their national reputation
as well, as judicial innovators and as defenders of the interests of the
disadvantaged and downtrodden, rests largely on Public Interest Litigation (PIL),
a new set of procedures for expanding access to justice that were developed
some thirty years ago. Although assessments of PIL in India range from the
laudatory to the cynical, recent scholarship has developed a widely held narrative
that runs as follows.1 PIL or social action litigation, as some call it, originated
in the late 1970s when the judiciary, aiming to recapture popular support after
its complicity in Indira Gandhis declaration of emergency rule, encouraged
litigation concerning the interests of the poor and marginalized, and to do so
loosened rules and traditions related to standing, case filing, the adversarial
process, and judicial remedies. The Supreme Court pronounced a number of
landmark social justice judgments in the 1980s and early 1990s, including key
rulings on the rights of prisoners, bonded laborers, pavement dwellers, and
children.2 The frequency of PIL cases in the Supreme Court and the High
Courts increased as claimants and their lawyers learned how to take advantage
of the more liberal procedures associated with PIL.3 By the middle to late 1990s,
Senior Economist, The World Bank, Washington D.C. The author would like to thank Afroza
Chowdhury, Kabir Duggal, Kaushik Krishnan, and Yamini Jaishankar for excellent research
assistance. This paper has also benefited from very helpful comments from Daniel Brinks,
Vikram Raghavan, Arun Thiruvengadam, and the participants in a session of the Law and Social
Sciences in South Asia Conference in New Delhi in 2009. The views presented in this paper are
those of the author alone and do not necessarily represent the views of the World Bank or its
Executive Directors.
Elements of this broad narrative are supported in UPENDRA BAXI, THE INDIAN SUPREME COURT AND
POLITICS (1980); JUDGES AND THE JUDICIAL POWER: ESSAYS IN HONOUR OF JUSTICE V.R. KRISHNA IYER (Rajeev
Dhavan et al. eds., 1985); S. P. SATHE, JUDICIAL ACTIVISM IN INDIA: TRANSGRESSING BORDERS AND ENFORCING
LIMITS 25-62 (Oxford University Press 2002); J. Cassels, Judicial Activism and Public Interest
Litigation in India: Attempting the Impossible?, 37 AM. J. COMP. L. 495, 496-97 (1989); Arun K.
Thiruvengadam, Evaluating Contemporary Criticisms of Public Interest Litigation: A progressive
Conception of the Role of a Judge (2009) (paper presented at the 2009 inaugural LASSNET
Conference, New Delhi).
See, e.g., Sunil Batra v. Delhi Administration (1978) A.I.R 1978 S.C. 1675 (prison conditions);
Upendra Baxi v. State of Uttar Pradesh (1983) 2 S.C.C. 308 (prison conditions); Peoples Union
for Democratic Rights v. Union of India, A.I.R. 1982 S.C. 1473 (bonded labor); Bandhua Mukti
Morcha v. Union of India, A.I.R. 1984 S.C. 802 (bonded labor); Olga Tellis v. Bombay Municipal
Corporation, A.I.R. 1986 S.C.180 (pavement dwellers); Sheela Barse v. Union of India (1986) 3
S.C.C. 596 (rights of children).
See, e.g., J. Cassels, Judicial Activism and Public Interest Litigation in India: Attempting the
Impossible?, 37 AM. J.COMP. L. 495, 508 (1989) (Perhaps of more immediate consequence, the
relaxed test of standing and the expedited fashion in which cases can be brought in public interest
matters put enormous strains on already extremely scarce judicial resources. Some High Courts
are reported to receive 50 to 60 public interest letters per day. In the fifteen months from 1
January 1987 to 31 March 1988, the Supreme Court received 23,772 letters.).
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the range of issues the courts were addressing had expanded to include complex
environmental concerns, such as urban pollution and solid waste disposal, as
well as explicitly political issues, such as official corruption and elections. More
recently, PIL has also addressed social issues, such as the decriminalization of
homosexuality in India.4 At the same time, some claimants and their lawyers
learned to dress up private disputes as PIL. Human rights activists began to
grow disenchanted with courts failure to enforce sweeping directives. Many
have questioned the appropriateness of judicial intervention in the legislative
and executive spheres, as well as the constitutionality of the courts efforts to
implement many of their expansive orders.5
Drawing on that narrative, concerns regarding the value and impact of
PIL now take a number of forms. These will be described in more detail below,
but in general terms, they can be categorized into two groups questions related
to the separation of powers, and a set of queries regarding judicial attitudes.
The first group of concerns asks whether courts should be involved in
environmental, social, and economic matters at all. Are not the legislative and
executive branches better equipped to address these matters? Does not judicial
activism, precisely because the courts do not and cannot enforce many of
their broad directives in these areas, erode the legitimacy of the courts? Are not
PIL cases draining substantial resources from an already overburdened legal
system in which ordinary civil cases can languish in courts for many years?
Since many PIL cases are patently frivolous and many others never enforced,
is not PIL a device for the judiciary to expand its own powers and autonomy
under the mantle of a popular social justice agenda? A separate set of questions
involves the beneficiaries of PIL: Do PIL cases continue to benefit the poor
and disadvantaged, or have not lifestyle issues and middle class concerns become
predominant in PIL cases? Are not judges manifestly less disposed to the interests
of the poor and marginalized than they were two decades ago, during the heroic
years when PIL originated?
4
5
Manoj Mitta & Smriti Singh, India decriminalizes gay sex, TIMES OF INDIA, July 3, 2009, available
at http://timesofindia.indiatimes.com/articleshow/4726608.cms.
PIL has sparked concerns regarding judicial encroachment and the separation of powers that
actually go back to the early days of the Indian Republic. Soon after independence, the Congress
government enacted the First Amendment, creating the Ninth Schedule deemed beyond judicial
review, out of concern that the judiciary would find planned land reforms unconstitutional, a
belief soon to be substantiated in a set of cases in which the Supreme Court did just that. This back
and forth over land reform, and over the Ninth Schedule, continued for decades. Famously, the
Court held that Parliament did not have the power to amend the Constitution if such amendments
abridged the fundamental rights guaranteed in the Constitution (Golaknath v. State of Punjab,
A.I.R. 1967 S.C. 1643) and/or altered the basic structure of the Constitution itself (Kesavananda
Bharati v. State of Kerala, A.I.R. 1973 S.C. 1461), to which the Indira Gandhi government
responded by departing from the seniority tradition in judicial appointments and attempting to
dissolve the Kesavananda majority. On judicial sovereignty in India, see P.B. Mehta, The Rise
of Judicial Sovereignty, 18 J. DEMOCRACY 70 (2007).
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73
6
7
8
L. L. Fuller & K. I. Winston, The Forms and Limits of Adjudication, 92 HARV. L. REV. 353, 359
(1978).
Thiruvengadam, supra note 2.
STEPHEN HOLMES & CASS R. SUNSTEIN, THE COST OF RIGHTS: WHY LIBERTY DEPENDS ON TAXES (1999); HENRY
SHUE, BASIC RIGHTS: SUBSISTENCE, AFFLUENCE, AND U.S. FOREIGN POLICY (2d ed. 1996).
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aid from the entity from whom rights are claimed, and that a reasonably effective
and well funded state is a sine qua non for all rights.9
Most of the criticisms of PIL in the Indian courts have not taken this
somewhat old-fashioned form, perhaps because in a country where the scale
of needs is so large it is hard to say that social and economic priorities are less
commanding than civil and political ones. They have rather argued that the
social and economic domain should largely be the prerogative of the other
branches of government, which are better equipped to analyze, formulate, and
implement complex policies, and that much of PIL is inappropriate judicial
activism or adventurism. For instance, in an assessment of the activities of
the Supreme Court in the M.C. Mehta v. Union of India (Delhi Vehicular
Pollution) and Almitra Patel v. Union of India (Municipal Solid Waste
Management) cases,10 Rajamani admonishes that policy, environmental and
social, must emerge from a socio political process and must be considered in a
legitimate forum not a judicial one.11 Citing cases in which courts formulated
explicit guidelines, such as cases related to vehicular pollution, the management
of the Central Bureau of Investigation, adoption by foreign nationals, custodial
torture, and sexual harassment, Desai and Muralidhar note that while in some
cases, the Court has expressed its reluctance to step into the legislative field, in
others it has laid down detailed guidelines and explicitly formulated policy.12
In their 2003 article, Rosencranz and Jackson welcome the environmental and
health impact of the Supreme Courts 2001 decision13 requiring the Delhi
government to convert its commercial vehicles to a fleet running on Compressed
Natural Gas (CNG), but then plead for leadership on the part of the regulatory
and legislative authorities: Some of the roadblocks to CNG implementation
could have been avoided, or at least minimized, had the conversion been originally
mandated through the normal legislative process.14 Thiruvengadam documents
a spate of similarly motivated criticism of PIL as an incursion into lawmaking
from sitting and former judges of Indias Supreme Court and High Courts,
including comments from Justice Hidyatullah in 1984,15 Justice Srikrishna in
9
10
11
12
13
14
15
Varun Gauri, Social Rights and Economics: Claims to Health Care and Education in Developing
Countries, 32 WORLD DEVELOPMENT 465, 467 (2004).
A.I.R. 1991 S.C. 1132 & A.I.R. 1998 S.C. 993 respectively. For a commentary on these cases,
see Lavanya Rajamani, Public Interest Environmental Litigation in India: Exploring Issues of
Access, Participation, Equity, Effectiveness and Sustainability, 19 J. ENVTL L. 293, 296 (2007).
Id. at 319.
Ashok H. Desai & S. Muralidhar, Public Interest Litigation: Potential and Problems, in SUPREME
BUT NOT INFALLIBLE: ESSAYS IN HONOUR OF THE SUPREME COURT OF INDIA 14 (B. N. Kirpal et al. eds., 2000),
available at http://www.ielrc.org/content/a0003.pdf (last visited April 30, 2010)
M. C. Mehta v. Union of India, A.I.R. 1991 S.C. 1132.
Armin Rosencranz & Michael Jackson, The Delhi Pollution Case: The Supreme Court of India
and the Limits of Judicial Power, 28 COLUM. J. ENVTL. L. 223, 252 (2003).
Justice M. Hidayatullah, Highways and Bye-Lanes of Justice, (1984) 2 SCC J-1.
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75
2005,16 and, perhaps most intemperately, Justice Katju in 2008,17 who said PIL
has developed into an uncontrollable Frankenstein.18
A motivation for some of this criticism is a suspicion that the courts have
used their post-Emergency popularity, to which PIL has significantly contributed,
to expand their own powers and shield themselves from scrutiny and
accountability. To some, it appears as though the courts may be spending time
on frivolous and ineffectual PIL cases at the expense of the real administration
of justice, and choose to do so because PIL burnishes their popularity.19 Reported
instances of frivolous PIL include prayers to rename India Hindustan,20
rename the Arabian Sea Sindhu Sagar,21 and replace the national anthem for
one offered by the petitioner22 (and partly sung before the Chief Justice).23 At
the same time, the systems of civil and criminal justice suffer enormous delays
and arbitrary pre-trial detentions.
These concerns are echoed widely enough that there is now visible a
clear backlash against this perceived usurpation of powers by the courts, including
a Bill tabled in the Rajya Sabha in 1996 to regulate PIL,24 a 2007 statement by
the Prime Minister warning against judicial overreach,25 recent calls from the
Bench to set parameters for PIL,26 and efforts to establish the National Judicial
Council, a body to investigate complaints against judges. Some of these
1 6 B.N. Krishna, Skinning a Cat, (2005) 8 SCC (J) 3, available at http://www.ebc-india.com/lawyer/
articles/2005_8_3.htm (last visited April 30, 2010).
1 7 Tannu Sharma, Court monitoring committees illegal...stop PIL blackmail: Justice Katju slams
his own, INDIAN EXPRESS, Apr. 12, 2008, available at http://www.indianexpress.com/news/courtmonitoring-committees-illegal...stop-pil-blackmail-justice-katju-slams-his-own/295916/0.
1 8 Thiruvengadam, supra note 2, at 22.
1 9 See, e.g., Madhav Khosla, Bitter PIL, INDIAN EXPRESS, Nov. 18, 2008 (The Supreme Court has
failed to differentiate between frivolous petitions and appropriate representation.).
2 0 Petition To Rename India, Arabian Sea http://heartx.sulekha.com/blog/post/2007/07/petitionto-rename-india-arabian-sea-3.htm (last visited Apr. 30, 2010).
2 1 Id.
2 2 Id.
2 3 Arun Thiruvengadam, Recent PIL cases decided by the Supreme Court, (2007), http://
lawandotherthings.blogspot.com/2007/07/recent-pil-cases-decided-by-supreme.html (last visited
Apr 30, 2010).
2 4 Geetanjali Jha, Problems facing public interest litigation in India, http://www.legalservices
india.com/articles/pil_ind.htm (last visited Apr. 30, 2010); Ashok H. Desai & S. Muralidhar,
supra note 12, at 15.
2 5 Shylashri Shankar & Pratap Bhanu Mehta, Courts and Socioeconomic Rights in India, in
COURTING SOCIAL JUSTICE: JUDICIAL ENFORCEMENT OF SOCIAL AND ECONOMIC RIGHTS IN THE DEVELOPING WORLD
146 (Varun Gauri & Daniel M. Brinks eds., 2008). See also, Line dividing activism and overreach is a thin one: PMs caution to Bench, INDIAN EXPRESS, Apr. 9, 2007.
2 6 See, e.g., Sachidanand Pandey v. State of West Bengal, Should appear as A.I.R 1987 S.C. 1109
(Public interest litigation has now come to stay. But one is led to think that it poses a threat to
courts and public alike. Such cases are now filed without any rhyme or reason. It is, therefore,
necessary to lay down clear guide-lines and to outline the correct parameters for entertainment
of such petitions. If courts do not restrict the free flow of such cases in the name of Public
Interest Litigations, the traditional litigation will suffer and the courts of law, instead of dispensing
justice, will have to take upon themselves administrative and executive functions.).
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complaints involve corruption: there have been allegations that about twenty
percent of judges are corrupt.27 Related complaints include the use of the law
of privileges and contempt on the part of courts to shield themselves from
criticism, resistance to efforts to require sitting judges to disclose their financial
assets, and the uncomfortably close relationship between some members of the
judiciary and the Bar.28 Roy goes so far as to assert that judicial accountability
is so low that we live in a sort of judicial dictatorship.29
A few comments about separation of powers are in order. First, policy
formulation by the courts or its agents is, to some extent, inevitable. Judicial
review of any sort requires ongoing commentary on laws and policies, including
guidelines regarding their proper content. Because dispute resolution entails an
elaboration and application of the normative structures of society as the necessary
ground for the dispute resolvers decision, judges inevitably involve themselves
in rule making, which is a form of lawmaking whether in common law or civil
law jurisdictions.30 Courts have not traditionally been significant actors in the
area of social and economic policy; and resistance to PIL and the court directives
it prompts in these areas may stem more from the novelty of the phenomenon
than from anything like a real judicial dictatorship. Reluctance on the part of
the Indian judiciary to be held accountable for performance and probity is certainly
problematic from the point of view of democratic theory, it limits the power of
the people to review public action. The expansion of judicial power in the area
of social and economic concerns, on the other hand, catalyzes legislative and
executive activity more often than it paralyzes it. That is because, as an empirical
matter the world over, PIL typically spurs judicial dialogue with the other
branches: rarely do courts issue all-or-nothing demands, backed with common
law contempt power or its civil law counterparts,31 in a way that requires the
state to restructure its policy framework. Courts decisions do not so much
stop or hijack the policy debate as inject the language of rights into it and add
another forum for debate.32 As Fredman puts it, PIL allows the judicial forum
to become, potentially, a space for democratic deliberation among equal citizens,
2 7 Rajeev Dhavan, Judicial Corruption, T HE H INDU , Feb. 22, 2002, available at http://
thehindujobs.com/thehindu/2002/02/22/stories/2002022200031000.htm.
2 8 Upendra Baxi, Structural Adjustment of Judicial Activism, Inaugural Lecture at the West Bengal
National Academy of Juridical Sciences (10 June 2006).
2 9 Arundhati Roy, Scandal in the Palace, (2007), available at http://www.zmag.org/znet/viewArticle/
14376 (last visited Apr. 30, 2010).
3 0 Alec S. Sweet, Judicialization and the Construction of Governance, 32 COMP. POL. STUD. 147
(1999).
3 1 These would include the astreinte in France; the amparo in Mexico and Venezuela; the tutela in
Colombia; and the mandado de segurana in Brazil.
3 2 Daniel M. Brinks & Varun Gauri, A New Policy Landscape: Legalizing Social and Economic
Rights in the Developing World, in COURTING SOCIAL JUSTICE, 304 (Varun Gauri & Daniel M. Brinks
eds., 2008).
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77
rather than a place of interest group bargaining, which prevails in the legislature.33
In addition, an important use of PIL is to make public and scrutinize
hidden or obfuscating information, including cost of potential social programs,
which the state and corporate entities on occasion have reasons to exaggerate
or hide. In India, PIL during droughts in Rajasthan and Orissa in 2001 disclosed
the extent of unreleased government grain stocks,34 and subsequent PIL disclosed
that state governments could in fact afford to widen several statutory food and
nutrition programs, including the midday meals scheme in schools, despite official
protests to the contrary.35 In the Delhi vehicular pollution debate, the Delhi
Health Minister claimed that air pollution did not increase the risks of heart or
lung disease; the Delhi government said that the timely installation of CNG
stations would be impossible; the Ministry of Petroleum and Natural Gas argued
that CNG bus conversion would not be sustainable in the long run; producers of
commercial vehicles stated that the conversion to CNG was not economically
cost-effective; and others argued that CNG is explosive. The Court, largely by
empowering certain technical committees, played a significant role in helping to
ascertain accurate information on these issues. It was, moreover, not an instance
of judicial fiat but rather a judicial-executive branch collaboration: Government
experts essentially became advisors to the Court as it drove policy implementation
forward.36
The argument that PIL constitutes judicial overreach, resulting in poor or
inefficient decision making, is not really a separation of powers claim. The
balance of power among government organs, as Madison conceived it, was not
primarily about a strict separation of powers but the partial interpenetration of
relatively autonomous and balanced powers.37 In other words, the separation
of powers was not conceived as a design for the promotion of efficient decision
making by preventing undue encroachment from one institution upon the
prerogatives of another, but rather a check on the ability of any group or faction
to dominate government from its enclave in a specific organization. The doctrine
of separation of powers seeks to accomplish this precisely by opening certain
governmental tasks to competing competences and concurrent powers of review.
Despite occasionally hyperbolic claims on the part of critics, Indian judges and
their professional social classes are not using the courts as a staging ground to
3 3 S. FREDMAN, HUMAN RIGHTS TRANSFORMED: POSITIVE RIGHTS AND POSITIVE DUTIES 149 (2008).
3 4 See Human Rights Features, Right to Food: The Indian Experience, available at http://
www.hrdc.net/sahrdc/hrfeatures/HRF58.htm (last visited Apr. 30, 2010).
3 5 Id.
3 6 Ruth G. Bell et al., Clearing the Air: How Delhi Broke the Logjam on Air Quality Reforms, 46
ENVIRON. 22, 35 (2004).
3 7 Guillermo ODonnell, Horizontal Accountability: The Legal Institutionalization of Mistrust, in
DEMOCRATIC ACCOUNTABILITY IN LATIN AMERICA 41 (Scott Mainwaring & Christopher Welna eds.,
2003).
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threaten the Indian state. There have been specific rulings, such as
Kesavananda Bharati 38 or Advocates-on-Record, 39 or the ruling on the
Jharkhand legislative procedures, 40 in which courts assumed powers not
delineated in the Constitution. Even in those cases, it is arguable that in so doing
the Court restored a constitutional balance because the executive and legislature
had themselves been engaging in extra-constitutional activities.
These criticisms regarding separation of powers are better cast as
concerns related to the impact of judicial intervention on sectoral governance.
Does judicial involvement through PIL improve state performance in a given
sector? Is forest policy, for example, more equitable, efficient, and effective as
a result of court involvement? That is an empirical question, but most treatments
of the issue do not take the empirical challenge seriously. Rosencranz and Ll
believe that the Supreme Courts intervention following the Godavarman v.
Union of India41 hurts the process of governance, but adduce little evidence
about the capacity and authority of central and state executive agencies prior to
and after the Courts assumption of powers.42 Writing in 2003 on the Delhi
Vehicular Pollution case, Rosencranz and Jackson speculated that
strengthening the Pollution Control Boards (PCBs), rather than Supreme Court
action, would seem to provide the most effective long-term solutions [to air
pollution in India] and worried that the Courts action seems likely to impede
capacity building in the pollution control agencies, and thereby to compromise
the development of sustained environmental management in India.43 This is
fundamentally an empirical claim, and one can examine whether PCBs are
weaker now than they were before the Court proceedings in the Delhi Vehicular
Pollution case. A cursory review suggests that it is not obvious that they are
weaker the budget of the Central Pollution Control Board has nearly tripled
since the year of the Courts order in 2002, and a number of efforts are underway
to strengthen them and fill staffing vacancies in Central and State PCBs.44
Another problem with criticisms like these is that they compare an ideal or
hypothetical legislative intervention to a real judicial one when it is often the
3 8 Kesavananda Bharati v. State of Kerala, A.I.R. 1973 S.C. 1461.
3 9 Satya Prakash, SC rap for advocates-on-record, HINDUSTAN TIMES, Apr. 5, 2010, available at http:/
/www.hindustantimes.com/rssfeed/india/SC-rap-for-advocates-on-record/Article1-527171.aspx.
4 0 See generally J. Venkatesan, Supreme Courts indelible record, T HE H INDU , Dec. 30, 2005,
available at http://www.hindu.com/2005/12/30/stories/2005123003391600.htm.
41 T.N. Godavaraman Thirumulpad v. Union of India, (2008) 1 M.L.J. 997 (S.C.).
4 2 A. Rosencranz & S. Ll, Supreme Court and Indias Forests, 43 ECON. POLIT. WKLY. 11, 13
(2008).
4 3 Rosencranz & Jackson, supra note 15, at 240, 249.
4 4 The sanctioned budget was Rs 1592.58 lakhs 2001-02, and 4500.00 lakhs for 2007-08. These
budgets are available at: http://www.cpcb.nic.in/upload/AnnualReports/AnnualReport_6_
annualreport2001-02.pdf (last visited Apr. 30, 2010) and http://www.cpcb.nic.in/upload/Annual
Reports/AnnualReport_34_final-report-06-07-A.pdf (last visited Apr. 30, 2010).
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79
real-world failings of the other branches that prompted litigation in the first
place. Thiruvengadam describes the deliberative failings of Indias Parliament,
noting that of the total 36 Bills passed in 2008, sixteen were passed in less than
twenty minutes, most without any debate whatsoever.45
Why do analysts tend to describe issues of sectoral governance with
the language of the separation of powers? The motivation stems in part from a
belief, sometimes inarticulate, that governance should look similar the world
over. In this case, courts, in order to be courts properly understood, must limit
their tasks to interpreting laws, rather than writing or enforcing them. But it is a
mistake to speak of courts as such. The task of judicial institutions depends
on the way they interact with the other institutions of their society. It is less
useful to assess judicial activity against a preconceived institutional design than
to evaluate, using normative benchmarks, the (positive or negative) contribution
of courts to the key tasks of governance in any specific sector.46 In the same
way that careful studies of the institutional foundations of economic growth in
East Asia have challenged the rule of law orthodoxy, showing that successful
market-sustaining institutions need not take the specific form that courts,
corporate boards, and bureaucratic agencies have taken in, say, the United
States or the United Kingdom;47 studies of PIL should recognize that courts
may play a variety of roles in different settings. There is less institutional
convergence in the world than believed, and it is important not to confuse
institutional function and institutional form (emphasis in original).48
What, then, are the normative benchmarks that should be used to assess
the contribution, or lack thereof, of courts toward sectoral governance? Those
depend on the sector, of course they would look different in health than in
forestry. But, generalizing, one can identify three key elements of governance
for the broad category of tasks in government service delivery: the capacity
and authority of the organizations charged with delivery or oversight, the
availability of information and transparency regarding service delivery, and state
accountability for performance. An empirically minded assessment of PIL in
India, then, would take the form of a series of case studies based on those
normative benchmarks. The case studies would focus on these questions: Did
the capacity and authority of institutions tasked with addressing the social
problems increase or decline as a result of PIL? Was accurate information on
sectoral concerns more widely available before or after judicial intervention?
4 5 Thiruvengadam, supra note 2, at 32.
4 6 MICHAEL J. TREBILCOCK & RONALD J. DANIELS, RULE OF LAW REFORM AND DEVELOPMENT: CHARTING THE FRAGILE
PATH OF PROGRESS (2008).
4 7 TOM GINSBURG, JUDICIAL REVIEW IN NEW DEMOCRACIES: CONSTITUTIONAL COURTS IN ASIAN CASES (2003).
4 8 Dani Rodrik, Growth Strategies 26 (National Bureau of Economics Research, Working Paper
No. 10050, 2003).
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2010]
81
and political rights over socio-economic rights has affected the thinking of the
Indian judiciary.54 In a related vein, Ramanathan writes that increasingly, the
constituency on whose behalf the enhancement of judicial power has been
strengthened began to emerge as the casualty of the exercise of that power.55
These claims tend to be based on a set of exemplary cases, rather than
a systematic review of PIL case law and implementation. It is also important to
realize that judges, and the courts that they constitute, are creatures of their
environment, and that patterns of judicial recruitment and appointment will almost
always ensure that courts reflect the dominant political trends of their countries.56
Some argue that the Indian courts are an exception to this rule, having obtained
as much, if not more, autonomy regarding judicial appointments than any other
courts in the world. But that constitutional autonomy is constrained by the Indian
civil service traditions under which courts operate, as well as the social
dependence of judges on the Bar and on political and economic elites. Leaders
of the Indian Bar, writes Baxi, whether elected or otherwise, have always
wielded historically disproportionate influence over the Justices.57 In addition
to the embedding of judges in their social and political milieu, strategic factors
also limit judicial autonomy: courts in every country depend on the other branches
of government for their political survival, so they will, by and large, take care
that their decisions garner sufficient support from key political actors.58 In short,
because ideological orientations in the larger Indian political economy have drifted
rightward over the past two decades or so, it is to be expected that the courts
will have followed. Assessments of the extent to which PIL supports the poor,
then, need to develop an implicit benchmark of what can be expected of courts
in the specific contexts in which they operate.59
To fill in some of the information needed for a more complete assessment
of PIL in India, four different samples of PIL and fundamental rights cases at
the Supreme Court level were examined: (i) cases that, according to the Supreme
Court Registrars office, the Court has itself classified as PIL from 1988-2007
(some 2800 cases overall); (ii) all Supreme Court cases in the Manupatra
database 60 that involved fundamental rights and that addressed concerns
regarding women and children rights, whether or not explicitly admitted as PILs
5 4 Balakrishnan Rajagopal, Pro-Human Rights but Anti-Poor?: A Critical Evaluation of the Indian
Supreme Court from a Social Movement Perspective, 18 HUM. RTS. REV. 157, 168-177 (2007).
5 5 Usha Ramanathan, Of Judicial Power, 19 FRONTLINE (2002), available at http://www.thehindu.com/
fline/fl1906/19060300.htm .
5 6 Robert Dahl, Decision-Making in a Democracy: The Supreme Court as a National PolicyMaker, J. PUB. LAW 279 (1957).
5 7 Baxi, supra note 29, at 10.
5 8 LEE EPSTEIN & JACK KNIGHT, THE CHOICES JUSTICES MAKE (CQ Press, 1998).
5 9 For an extended discussion of inequality in social and economic rights litigation, see Daniel M.
Brinks & Varun Gauri, supra note 32, at 334-342.
6 0 Manupatra is a popular online legal database.
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(86 cases); (iii) all Supreme Court cases in the Manupatra database that involved
fundamental rights and were related to issues regarding Scheduled Castes/
Scheduled Tribes/ Other Backward Classes (SC/ST/OBCs), whether or not
explicitly admitted as PILs (180 cases); (iv) all Supreme Court cases in the
Manupatra database that the Supreme Court explicitly called a PIL (44 cases).
For the set of cases involving women and childrens rights, these search
terms, among others, were used: women and children and abuse;
violence and women and neglected children; juvenile justice and Article
21; trafficking and women and Article 21; labour children and
Article 14; custodial violence and children; education and fundamental
right and Article 14; gender and fundamental right; prison rights and
children; rape and Article 21; emancipation and women and children.
The SC/ST/OBC search used the terms scheduled caste or scheduled tribe
or other backward classes in conjunction with cases that addressed
fundamental rights and constitutional concerns. Note that the data from the
Supreme Court were a listing of orders related to PIL cases, and not necessarily
a list of cases per se. But an examination of the names of the cases revealed
that of the 2,800 separate orders, instances of duplicate or once repeating nearly
identical plaintiff and defendant names occurred fourteen times, triplicates once,
and quadruplicates once. Still, because of uncertainty regarding the basis for
the listings, this paper refers to this list as constituting cases rather than cases
per se. The Manupatra database captures about 80-90% of Supreme Court
cases for which judgments are reported.61 While this results in something less
than complete compendium of court decisions and orders in the selected topic
areas, there is no evidence that the database censors certain categories of
cases in a systematic fashion. There is no evidence, in other words, of significant
sample bias.
Figure 1 shows the number of PIL cases instituted per year, whether
brought to the court for admission (admission matters in the Courts terms) or
argued on the merits (regular matters), from 1997-2007, based on data from
the Supreme Court itself. The figure shows that there has been a slight upward
trend in PIL matters over the last ten years. It also shows that there are some
260 cases instituted per year, on average. This compares to about 60,000
cases per year overall, based on data publicly available in the Supreme Courts
Court News publication. So, on average, some 0.4% of cases before the
Court involve PILs. This suggests that PIL does not drain significant court
resources from the administration of day-to-day justice, contrary to the claims
of some critics; but it also suggests that the outsize reputation of the Supreme
Courts PIL work belies its modest scale. And, contrary to popular conceptions,
6 1 Shankar & Mehta, supra note 26, at 152.
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83
the large majority of the 260 or so PIL cases instituted in the Supreme Court
each year are brought through formal channels; of the tens of thousands of
letters and handwritten petitions that the Supreme Court receives from ordinary
people each year, only a handful are converted into cases.62
The Court instituted a classification system for PILs in 1988. This might
be used to determine whether the concerns cited in PILs have changed over
the years, and if the cases that appear before the Court have shifted to the
concerns of the middle classes. Table 1 shows the breakdown by case type
and year. Unfortunately, the large majority of cases fall in the category of
other, so the classification scheme is not useful for tracking changes in PIL
composition over time. Noteworthy, however, is the increase in cases related
to election commissions, and the relatively low share of cases involving bonded
labor and criminal justice, two of the concerns crucial in the early justifications
for PIL.
Have increasing numbers of cases involved middle class concerns? It is
difficult to say for PILs more generally because an identifiable record of PIL
cases is not available. To address this question, the paper used the set of
fundamental rights cases described above. Fundamental rights cases, at least
those related to women and childrens rights and SC/ST/OBC concerns, may in
fact underestimate the orientation of PILs to the middle classes because they
exclude issues like urban quality of life that have been the concern of recent
prominent litigation.
Figure 2 shows the number of cases in categories related to women and
childrens rights or to SC/ST/OBC issues, or which the SC explicitly called a
PIL, as reported in Manupatra, in which the claimant was likely to have been,
on the basis of a review of the written opinion, a member of the advantaged
classes. For purposes of the coding, a member of the advantaged classes
included a professional (doctors, teachers, members of the armed services,
etc.), a landowner or business person, or someone otherwise in the global middle
class (including formal sector workers and civil service employees not designated
as workers or laborers). Those not in the advantaged classes included those
belonging to a scheduled caste or scheduled tribe or a member of the other
backward classes (unless otherwise designated a member of an advantaged
class), peasants, laborers, and those detained in the criminal justice system.
Where groups or publicly minded individuals made claims in courts, and where
there was no obvious plaintiff, the coders attempted to identify the general
social class of the individuals whose interests were being advocated or defended.
In 48 of the 310 cases in the sample (some 23%), the social class of the
6 2 Interviews with officers of the PIL section, Supreme Court, in New Delhi (Jan. 13, 2009).
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claimant(s) could not be discerned from the written opinion; or, and this was
the more frequent problem, the social class was diffuse. Examples of this included
cases concerning environmental protection of rivers and forest, challenges to
the constitutionality of judicial action, and challenges to the statutory definition
of rape. For these cases, the calculations and figures below considered the
observation to have a missing value for social class. For every case, an effort
was made to identify the individual or class of individuals on whose behalf the
case was instituted in some instances the lawyer or some other publicly
minded individual is listed as the plaintiff/complainant in official records, but the
claimant coded was the person or class of persons whose interests the case
was seeking to advance (e.g., child bonded laborers).
Figure 2 plots the number of cases involving fundamental rights in the
categories described above, and the number of cases in which the claimant
was a member of the advantaged classes. Simple Ordinary Least Squares
estimates are used to identify trend lines, which are inserted in the figure. The
trend lines show that the number of claimants from advantaged classes has
increased at almost the same rate as the overall number of fundamental rights
cases in these categories. This suggests that class bias concerns that stem
from the organizational advantages of the advantaged class are not as
pronounced as some have feared.
Another way to examine this problem of inequality in organizational
resources is to look at the share of fundamental rights cases in which the rights
violation originated in the BIMARU states (Bihar, Madhya Pradesh, Rajasthan,
and Uttar Pradesh).63 Figure 3 plots the share of cases originating in the BIMARU
states. (In 14% of the cases, the location of the rights violation was national or
otherwise impossible to pinpoint.) Figure 3 shows that although the number of
cases originating in rights violations in the BIMARU states has been increasing,
it remains below the share of the national population residing in those states
(some 40%). This suggests that inequalities related to middle class legal
mobilization, though real according to this measure, are declining.
Finally, the data allow a third way to examine the issue of middle class
legal mobilization advantage one can identify for each year the share of
cases initiated by or involving an NGO or cooperative group. Cases that involve
an NGO or cooperative are more likely to involve the concerns of the poor than
the middle class, and are also more likely to result in generalized benefit than
6 3 The BIMARU states are states that continue to face severe poverty and socio-economic challenges
in the country. See, e.g., Bimaru States hampers Indias Growth, TIMES OF INDIA, Sept. 7, 2005,
available at http://timesofindia.indiatimes.com/articleshow/1223697.cms; B. S. Raghavan,
BIMARU or bimari?, THE HINDU, Aug. 12, 2005, available at http://www.thehindubusinessline.com/
2005/08/12/stories/2005081200521000.htm.
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the win rate of claimants who were not from advantaged classes until the late
1980s. Now claimants from advantaged classes have higher win rates than
claimants not from advantaged classes. For example, advantaged class claimants
had a 73% probability of winning a fundamental rights claim for cases in which
an order or decision was rendered from years 2000-2008, whereas the win rate
for claimants not from advantaged classes for the same years was 47%. For
the 1990s, rates were 68% and 47%, respectively. But in the years prior to
1990, claimants not from advantaged classes enjoyed higher success rates than
those from advantaged classes. The differences for the 1990s and 2000s are
significantly different from each other, based on a simple chi-square test and a
simple probit estimation (see Tables 2a and 2b).65 Similarly, when one divides
the claimant into those that are identified as members of SC/ST/OBC and those
that are not, the same pattern emerges: Figure 8 shows that claimants who are
not SC/ST/OBC now have a higher win rate than those who are. Even in the
subset of cases involving SC/ST/OBC concerns, claimants who were not from
SC/ST/OBC began to have higher average annual win rates than those who
were starting around 1990 (see Figure 9).66
These findings are consistent with the claim that judicial receptivity in
the Supreme Court to fundamental rights claims made on behalf of poor and
excluded individuals has declined in recent years. There are other explanations,
however. The decline in the win rates for marginalized individuals could be
attributed to the fact that cases brought on their behalf are weaker, on the
merits, than they used to be, perhaps as a result of changes in statutes, decisions
to litigate more challenging cases, or weaker legal representation. Each of these
possibilities warrants careful scrutiny. Still, the data demonstrate not only a
decline in the win rate for marginalized individuals but a simultaneous increase
in the win rate for advantaged individuals. Though not impossible, it is unlikely
that the quality of legal representation has simultaneously increased for the
advantaged and decreased for the marginalized, and sufficiently to explain the
significant reversal in win rates. Similarly, it is conceivable but not likely that
advantaged clients started to select a less challenging set of cases at the same
time that marginalized claimants did the reverse. The data here constitute a
prima facie validation of the concern that judicial attitudes are less favorably
inclined to the claims of the poor than they used to be, either as the exclusive
result of new judicial interpretations or, more likely, in conjunction with changes
in the political and legislative climate.
6 5 The chi square test is used to examine whether distributions of categorical variables differ from
one another. The probit model is used to study the factors related to a binary outcome variable
(in this case, winning or losing a case).
6 6 The social class of the claimant was not discernible in 1% of the cases related to SC/ST/OBC,
34% of cases related to womens and childrens rights, and 45% of explicit PIL cases.
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IV. CONCLUSION
A number of criticisms of PIL have been voiced in recent years, including
concerns related to separation of powers, judicial capacity, and inequality. While
critics have been persuasive when pointing to particular cases, the sheer number
of cases, as well as the variation in tendencies over time and among court
benches, have made reaching a general conclusion difficult. This paper has
argued that complaints related to separation of powers concerns are better
understood as criticisms of the impact of judicial interventions on sectoral
governance, and that structured case studies of sectoral governance are
necessary to assess those criticisms. On the issue of inequality, this paper
contributes to an overall assessment by systematically examining the relative
magnitude, case composition, and geographical origins of, as well as legal
representation and the claimants social class in, PIL and fundamental rights
cases that reached the Indian Supreme Court.
The analysis of PIL cases shows that they do not appear to consume
a significant share of the resources of the Supreme Court; they constitute less
than 1% of the overall case load. The subject matter of PIL cases and orders
remains difficult to discern because over 70% of them are classified as other,
which is problematic from the point of view of judicial transparency. Concerns
regarding inequality appear to be validated by some of the quantitative data on
fundamental rights cases. On the one hand, although the number of fundamental
rights cases related to womens and childrens rights and to the concerns of
SC/ST/OBC, as well as cases explicitly called a PIL in the Courts written
opinions, appear to have increased; and the rate of increase has been similar
for claimants belonging to both marginalized and advantaged population segments.
The share of cases from BIMARU states also appears to be climbing. On the
other hand, a very low share of the cases are brought by cooperative entities,
such as NGOs, which is a useful predictor of the likelihood that benefits will
generalize to the larger population. Most striking, win rates for fundamental
rights claims are now significantly lower when the claimant is from an
advantaged social group than when he or she is from a marginalized group.
That constitutes a social reversal both from the original objective of public interest
litigation and from the relative win rates in the 1980s.
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Table 1
Fundamental Rights cases in the Indian Supreme Court, % of Cases Submitted by Subject Matter
Subject
1997
Child Labour Matters
Including Neglected
Children
Air Pollution Matters, 2.58
i.e.Industrial,Vehicular,
Power Stations etc.
Water Pollution:
1.94
Industrial, Domestic,
Sewage, Rivers&Sea
Noise Pollution:
0.65
Industry and Vehicular
Ecological Imbalance: 8.39
Protection and
Conservation of
Forests throughout the
Country,Protection of
Wild Life, Ban on
Felling of Trees and
Falling of Under
Ground Water Level
Bonded LabourMatters 2.58
Matters relating to
Custody Harassment, 3.87
Jails, Complaint of
Harassment, Custodial
Death, Speedy Trial,
Premature Release,
Inaction by Police etc.
Matters relating to
0.65
Harassment of SC/ST/
OBC and Women.
Matters relating to
3.23
Unauthorized
Constructions
2002
2007
2.8
2.58
2.34
5.32
8.3
5.78
2.88
6.4
2.58
4.3
2.84
0.72
2.22
1.44
1.2
0.43
0.35
1.81
1.33
0.83 1.46
3.2
3.43
0.4
1.29
1.72
2.73
4.44
4.33
1.56
0.35
0.48
0.44
0.36
0.96
0.89 0.49
0.36
0.48
1.44
0.44
5.77
0.43 0.39
0.36
0.98 0.83 0.36
84.12 82.81 82.27 80.87 83.11 79.51 63.64 70.07
0.48
72.6
0.4
3.6
3.19
1.42
1.72
5.47
2.84
1.72
0.39
1.42
0.36
including Encroachments,
Sealing, Demolitions,
Urban Planning
Matters relating to
1.29 1.6
Election Commissions
Scam Matters
1.94
Others
72.9 7 8
Natural and Man Made
Disasters Including
Riots
Numbers are in Percentages
3.25
0.48
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Table 2a: Win rates in selected fundamental rights cases before the Indian
Supreme Court, Claimants from Advantaged and Disadvantaged social classes
Social class
Advantaged
Disadvantaged
1961-1989
57.9%
71.4%
1990-1999* 2000-2008*
68.1%
73.3%
47.1%
47.2%
-0.37
(0.29)
0.57*
(0.21)
80
0.02
1990-1999
0.54*
(0.25)
-0.07
(0.15)
114
0.03
2000-2008
0.69*
(0.32)
-0.07
(0.21)
66
0.05
90
Figure 3
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Figure 4
Figure 5
91
92
Figure 7
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Figure 8
Figure 9
93
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I. INTRODUCTION
It is universally accepted that there is a growing need to control
environmental pollution. Several international agreements, including the recently
concluded Copenhagen Accord, recognise the critical impact of increasing
pollution and call upon nations to take steps necessary to control this.1 The
relative abundance of resources such as air, water and soil, and the difficulty
associated in pricing these commodities has meant that traditional market forces
of price and quantity have proven ineffective in accounting for the true social
cost of such resources.2 There has consequently been a more than optimal
consumption of such resources and an almost negligible attempt at replenishing
them. It is for this reason that classic theories of regulation would classify
environmental pollution as an externality; a disutility generation which is not
internalised in the cost structure facing individuals, consequently resulting in
excessive production of the disutility.3
This failure of the market seems intuitively to provide sufficient
justification for state agencies to intervene. There has unsurprisingly been a lot
of debate surrounding the desirability of such intervention and the extent to
which such intervention may be necessary. Sufficient scholarship has been
devoted to understanding the problem and various measures have been devised
to address its different attributes. Most of these measures rely more heavily on
using market machinery to achieve an optimal result, while a few others tend to
favour a greater degree of intervention from state machinery.4
Unfortunately, the choice and effective application of any such measure
to control pollution at the ground level is plagued with difficulties. To illustrate,
the ban on chlorofluorocarbons (CFCs) proved extremely effective in shifting
the refrigeration industry away from this pollutant. States, in this instance, used
*
1
2
3
4
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95
fully their coercive abilities to achieve the desired result.5 But would a similar
measure prove as effective in a different sector? Could one realistically envisage
a similar ban on all polluting fuels from being used in automobiles? Even if one
were to momentarily ignore the political unfeasibility of such a decision, would
the State, having imposed such a ban, be in a position to effectively implement
it? Probably not!
The inability of a ban on automobile pollutants similar to that on CFCs to
achieve the desired effect (of a reduction in pollution) stems in large part from
a fundamental difference in the nature of the problem sought to be cured in
each instance - the move away from CFCs was facilitated largely by the
availability of alternatives, the ability of manufacturers to implement the change
with little friction to their production processes and the almost negligible effect
of such a change on anyone other than the industries sought to be regulated by
such a move.6 Contrast that with the automobile industry and the reason why
the measure would be unfeasible seems obvious.
It is these differences inherent across polluting sectors that render a
one-size-fits-all approach thoroughly inadequate. The choice of a measure is
for that reason an extremely important decision. The first step in choosing a
measure that best addresses the peculiarities of an industry must therefore be
one that is directed at understanding the complexities of the sector in question.
In its attempt to shed some light on pollution in the automobile sector, this
essay will start by attempting to understand the peculiarities of this sector, which
has easily been the single largest contributor towards air pollution worldwide.7
In addition to the sheer volume of its influence, vehicular pollution exhibits an
industry-specific interconnectedness a concept I will discuss in greater detail
below, which poses a complexity that deserves special treatment.
5
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While the essay does not seek to identify with precision the exact modes
of intervention that would solve the problems posed in the sector, it will seek to
provide a worldview of the problems which a government should wish to tackle
if it has to effectively combat the problems that plague the industry. It will also
seek to provide some understanding on how best to target any such intervention
to achieve the most optimum results.
The essay will first seek to identify peculiarities in the automobile sector
that have influenced the ability of the industry to tackle the problem of air
pollution. It will then consider the electric car as a technological alternative,
which could help reduce the environmental impact of the sector. It will, then
seek to explain why, given the peculiarities of the sector, market forces would
prove inadequate in adopting this technological alternative. The essay will then
seek to make a case for heightened degrees of government regulation on the
premise that the government is the only actor that will be able to accelerate the
movement towards this goal. The essay will then seek to provide some current
relevance to the discussion by considering the theory in the context of recent
developments in the automobile sector in India.
B. Arthur, Competing Technologies, Increasing Returns and Lock-in by Historic Events, 99 THE
ECONOMIC JOURNAL 116, 116-117 (1989).
9 G.C. Unruh, Understanding Carbon Lock-in, 28 ENERGY POLICY 817, 818 (2000).
1 0 P. Anderson & M. Tushman, Technological Discontinuities and Organizational Environments, 35
(3) ADMINISTRATIVE SCIENCE QUARTERLY 439 (1986).
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and the petroleum refining industry grew, both in size and in technical capability.
The increasing need to commute long distances was thus made possible. In
addition, constant servicing, break-down management and car repairs were
increasingly becoming important, resulting in an increase in demand for
mechanics. The dominant engine design made it easier for educational institutions
to train people along this model and more people were trained in the ICE
framework to meet this increasing demand. These networks in-turn added to
the existing dominance of these engines.19
Since the emergence of this process of consolidation more than a century
ago, this dominance within the automobile engine design industry has remained
unchallenged and firmly entrenched. Economically speaking, an entrenechment
of technology is ordinarily an extremely desirable phenomenon. It provides much
needed stability in a volatile system, encourages investment, spurs innovation
and consequently reduces cost. The entrenchment becomes problematic when
it is caused as a result of a commitment of decision-makers to an ineffective
course of action a phenomenon more commonly referred to as a lock-in. A
lock-in serves to prevent a competing variant which is technologically superior,
from entering the system.20
In the context of the ICE, it is true that significant advancements have
been made. However, there have been equally significant shortcomings that
are inherent in the design the polluting attribute being the most relevant for
current purposes. The result is an inertia in the system against change that
prevents superior technologies that could cure this limitation, from entering the
system.
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advantages that can lead to market domination, they effectively keep out a later
entrant. Unruh also identified the importance of path-interdependencies towards
this inertia.22
In the context of the ICE, the existence of this inertia has been a cause
for much concern. The inability of the industry to move away from this lock-in
and the consequent need for legislation to propel this move, was felt to an
appreciable extent for the first time in the 90s in the United States.23 Inspired
by volatility in oil prices and increasing environmental awareness among
consumers, this period witnessed a shift away from the fuel dependency of the
then-current engines. Although most developments were sporadic, a major trend
emerged with the California Air Resources Board (CARB) imposing a
mandatory requirement on auto companies to produce a certain percentage of
zero emission cars.24 Car manufacturers in the US and outside upped the
tempo and by 1997 an electric vehicle suited for everyday use emerged in the
market.25
The most successful car under this venture in terms of mass appeal and
affordability the EV1 produced by General Motors emerged as quickly as it
disappeared.26 Despite its success, within a year of its entry into the market, the
project was abandoned and all existing cars destroyed as part of a strategy by
auto makers to oppose the CARB initiative on the grounds of technological
and economic unfeasibility.27 GM itself suggests that low profitability was the
primary reason for shelving the EV1.28 Critics of the decision use the market
success of the EV1 and the widespread discontentment at the shelving of the
project, to support their argument that lobbying by powerful oil companies, a
lack of sufficient incentives on part of major car companies, an indecisive
government and insufficiently developed alternative technologies were the
reasons actually underlying the auto-makers decision to oppose the initiative.29
2 2 Unruh, supra note 9.
2 3 R. Cowan & S. Hulten (1996), supra note 12, at 72-74.
2 4 CALIFORNIA AIR RESOURCES BOARD, 1990A, FINAL REGULATION ORDER, LOW-EMISSION VEHICLES AND CLEAN
FUELS. CALIFORNIA EXHAUST EMISSION STANDARDS AND TEST PROCEDURES FOR 1988 AND SUBSEQUENT MODEL
PASSENGER CARS, LIGHT-DUTY TRUCKS, AND MEDIUM-DUTY VEHICLES.
2 5 R. Cowan & S. Hulten (1996), supra note 12.
2 6 C. Paine, WHO KILLED THE ELECTRIC CAR? (Sony Pictures Classics 2006).
2 7 S. Shaheen, J. Wright & D Sperling , Californias Zero Emission Vehicle Mandate - Linking Clean
Fuel Cars, Carsharing, and Station Car Strategies, Research Paper, UC Davis: Institute of
Transport Studies, University (2001) available at http://escholarship.org/uc/item/447386zj.For
the reasons forwarded by auto-makers from the opposition, see S. Sharma, The GM EV1: What
could have been, THE ECONOMIC TIMES, October 23, 2008.
2 8 D. Levy and S. Rothenberg, Heterogeneity and change in environmental strategy, in ORGANIZATIONS,
POLICY AND THE NATURAL ENVIRONMENT: INSTITUTIONAL AND STRATEGIC PERSPECTIVES 173 (Hoffman and
Ventresca eds., Stanford University Press 2002).
2 9 Paine, supra note 26.
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Economic theory reveals that there may be some weight behind the critics
argument. As Unruh suggests, producers are usually unwilling to switch
technologies which they have developed to the level of domination by investing
significant resources.30 They benefit from production economies of scale and
investments in research and development.31 In addition, in an industry that
depends on ancillary industries for supplying constituent components, the ability
of established manufacturers to take advantage of existing relationships with
parts and service suppliers makes it very difficult for a manufacturer to embrace
a technological change.32
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limitation in the functionality of the ICE which does not affect its primary purpose,
i.e. facilitating commuting, a crisis.
As regards technological breakthrough and scientific results, there has
over the years been significant advancement in greener technological alternatives.
Hydrogen fuel cells and electric cars have emerged as two of the most viable
alternatives available. However, given the difficulties and costs associated with
extracting and storing hydrogen, and certain fundamental safety concerns
involving the use of hydrogen fuel cells, the electric car has so far received
greater support.34 The electric engine is therefore currently touted to be the
most viable alternative to the ICE.35 However, since the analysis applied to
electric cars fits as well into the context of hydrogen fuel cell cars, this essay
will not attempt a definitive conclusion of their relative merits.
Most of the concerns raised by manufacturers against the electric car
have been addressed to an appreciable extent in recent times. The Tesla and
the Tara Tiny are among the latest developments in the field. The former is a
symbol of superior engine performance, minimal servicing costs, minimal
environmental damage and improved mileage per recharge,36 while the latter is
3 4 See Reuel Shinnar, The Hydrogen Economy, Fuel Cells, and Electric Cars, 25(4) TECHNOLOGY IN
SOCIETY 455 (2003); Joseph Rom, The Car and Fuel of the Future, 34(17) ENERGY POLICY 2609
(2006).
3 5 Despite wide-ranging support for the idea that the electric car is indeed the most viable green
alternative, there have been some issues raised against its use. It is argued that currently, most of
the electricity generation is from power plants that burn coal for electricity generation. Connecting
the electric car to the electricity grid, would, instead of reducing pollution, pass on the burden of
power generation to coal-based systems, which are more inefficient that fossil fuel based
technologies. (Chip Grebben, Debunking the Myth of EVs and Smokestacks, available at http://
www. electroauto.com/info/pollmyth.shtml). The response to this objection is three- fold:
empirically, it is proven that a centralized production of electricity, irrespective of the means,
would cause lesser pollution than automobiles. An increase in demand would lead to expansion of
the power plants and consequently economies of scale will result in production. Secondly, the
cost of monitoring compliance of individual engines of the several million cars coming on to the
streets every year is much higher than monitoring a more centralized power production facility.
Even if a particular engine design is approved on grounds of acceptable pollution limits, the
subsequent usage and maintenance of the car has important repercussions for the pollution it
ultimately produces. Supervising such maintenance is either impossible, or only possible at very
high costs. On the other hand, holding power production plants to improve their technology and
supervising their maintenance of these levels is less expensive. Thirdly, a centralized power
production plant is better able to find alternative sources of generation. The possibility of an
extensive use of nuclear energy, or renewable sources of energy like tidal, wind or solar energy
most of which cannot be possible adopted by automobiles themselves, can serve to completely
obviate the pollution problem. (Thomas Blakeslee, Electric Cars Make Fuel-Free Power Grid
Practical, available at http://www.renewableenergyworld.com/rea/news/reinsider/story?id=54046
(last visited Feb 20,2010).
3 6 A. Cooper, Charging Ahead, http://www.popsci.com/cars/article/2008-12/charging-ahead(last visited
Feb 20, 2010).. For technological superiority, see http://www.teslamotors.com/performance/. The
superiority is also demonstrated by a barrage of awards and accolades. The Tesla stood second in
the list of Times Best Inventions of 2008, available at http://www.time.com/time/specials/
packages/0,28757, 1852747,00.html (last visited Feb 20, 2010).
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a live example of the economic feasibility of the electric car.37 The question
now is whether this advancement merely establishes the superiority of the electric
car over the ICE or, whether it represents an improvement so drastic as to pull
the industry out of its lock-in.
Given that technology ultimately functions within a market driven by
consumer demand, the significance of technological advancements depends
upon their perception by consumers. Consequently, a technological advancement
will only be considered drastic if the consumers feel that the advancement is a
significant improvement aligned to their preferences. As an illustration David
(1985) found that the Dvorak keyboard could make a 20-30% time saving in
typing as against the existing QWERTY keyboards.38 Even this significant
advancement was incapable of bringing about change because the consumers
did not believe the advancement was significant enough for them to change
their preferences. Since the issue of consumer preferences is also relevant to
evaluate the influence of the fourth of the factors identified above change in
consumer tastes, it would be worthwhile to devote some time to understanding
this crucial influence.
There has in recent times, been a surge in awareness and environmental
consciousness across the globe. The need to move towards cleaner, greener
technologies is universally accepted. The question however is to what extent
has this increase in environmental consciousness translated to a shift in preference
to a greener alternative among consumers? The answer depends on an
assessment of the respective costs and benefits associated with the transition.
Consumers weigh the costs of perceived environmental harm and the benefits
of a cleaner environment against the costs of transition to newer technologies
and the benefits of status quo.
Unfortunately, economic theory suggests that in the context of the
automobile engine design, this assessment is extremely unlikely to aid the
transition necessary (and even if it does, it will certainly not do so at a time
when it ideally should). This is because on the one hand the externality attribute
of automobile pollution, like any form of pollution, results in an inaccurate valuation
of its environmental harm. Despite a consensus on the importance of greener
technology, at the individual level, the true costs of environmental harm are
never internalised and are hence grossly undervalued.39 On the other hand, the
benefits of status quo and the costs of transition lean heavily against change.
3 7 The Tara Tiny, said to be the most inexpensive electric car to hit the market is priced on par with
the Tata Nano which is currently the most inexpensive ICE engine driven car available in the
market. See Ashoke Nag, Tara Internationals Tiny joins Nano race with worlds cheapest car,
THE ECONOMIC TIMES (INDIA), Feb 15, 2008.
3 8 P. David (1985), supra note 11.
3 9 Meade, supra note 3, at 10-25.
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market where the internal combustion engine has a stronghold. Even if these
enterprises are capable of handling this risk and can successfully project the
electric car as a viable and desirable commodity, the success of the electric car
is not assured, because there is still a residuary risk the uncertainty of
coordination from supporting industries and the lack of supporting infrastructure
- of a nature that these enterprises cannot influence. This risk could prove vital
in dissuading enterprises despite their willingness to fully embark on this venture.
So while taking new initiatives appears promising, it seems unlikely by itself to
bring about the necessary shift in automotive technology.
A. Externalities
An externality is a phenomenon where activities have an impact on a
party that is not directly involved in the transaction. In such a case, prices do
not reflect the full costs or benefits in production or consumption of a product or
service. Government intervention is considered legitimate when such an
externality leads to a misallocation of resources.
As outlined in the previous sections of the paper, carbon lock-in in the
automobile industry is a result of a path dependent process of development. All
actors within the automobile industry not merely those involved with the
development of the technology - benefitted from this process and achieved
reduction in their costs of production owing to systemic economies of scale.
Since this industry-wide externality operates fundamentally through its influence
on costs and prices, it falls within the category of a pecuniary externality.47
4 6 The classification is based on the framework provided in A. OGUS, REGULATION: LEGAL FORM AND
ECONOMIC THEORY (Oxford. Clarendon Press: The Clarendon Law Series, 1994).
4 7 A pecuniary externality is defined an effect of production or transactions on third parties
through prices but not real allocations. See T. Scitovsky, Two Concepts of External Economies,
62 JOURNAL OF POLITICAL ECONOMY 143 (1954).
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B. Coordination Problems
Actions of individually rational actors may sometimes result in an action
that is collectively less than optimal. A typical example of this is an act that
necessitates cooperative behaviour between participants. The classic illustration
of this is the prisoners dilemma,49 where, the prisoners choose a strategy that
is rational but not the most optimal for the class of prisoners as a whole. This
sub-optimal situation results because the prisoners are unable to coordinate
their actions in a manner that allows them to reach a collectively optimal solution.
4 8 R.G. Holcombe & R.S. Sobel, Public Policy towards Pecuniary Externalities, 29(4) PUBLIC FINANCE
REVIEW 304, 304-306 (2001).
4 9 A classic example of the prisoners dilemma is as follows: Two suspects are arrested by the police.
The police have insufficient evidence for a conviction, and, having separated both prisoners,
visit each of them to offer the same deal. If one testifies for the prosecution against the other
and the other remains silent, the betrayer goes free and the silent accomplice receives the full
sentence. If both remain silent, both prisoners are sentenced for a minor charge. If each betrays
the other, each receives half the full term of the punishment. Each prisoner must choose to
betray the other or to remain silent. Each prisoner, acting to maximise his own interests will
choose to testify against the other. The ultimate result is therefore one where both prisoners
confess and are sentenced to half the full term of the punishment. See Prisoners Dilemma,
STANFORD ENCYCLOPAEDIA OF PHILOSOPHY (2007).
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C. Public Goods
A public good is a good which is non-excludable and non-rival.52 Because
of these attributes, private players cannot fully recover the value of their
investment in the production of such goods. This results in the underproduction
5 0 C.R. Sunstein, The Functions of Regulatory Statutes, in, AFTER THE RIGHTS REVOLUTION: RECOVERING THE
REGULATORY STATE 51 (Massachusettes: Harvard University Press).
5 1 K. B. Clark, et al., Product Development in the World Auto Industry, 3 BROOKINGS P APERS ON
ECONOMIC ACTIVITY 729 (1987).
5 2 HAL R. VARIAN, MICROECONOMIC ANALYSIS 415 (1978).
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of such goods in the market. The need for government intervention to encourage
production of such goods is well recognised. 53
In the context of the automobile industry and specifically in the context
of this essay, there are two public goods that are relevant clean air and
supporting infrastructure. The public good dimension of clean air is well
recognised.54 What is more interesting in a discussion about the desirability of
government intervention in automobile industry carbon lock-ins is the issue of
supporting infrastructure. Supporting infrastructure here covers a wide spectrum
of facilities that helps the use of a particular technology. In the context of the
automobile industry, this includes facilities such as refuelling stations, trained
mechanics, university curriculum etc. Each of these facilities can be used by
automobile manufacturers to their advantage, without them having to invest in
the generation of these facilities. Yet, it is the inability to control the further use
of the facility that dissuades them from investing in their generation.
Looking at the current state of infrastructure supporting the ICE, one
may argue that despite this limitation the production of these supporting facilities
has been adequate. Notwithstanding the force of this assertion, a question arises
as to whether a similar degree of confidence can be reposed on the market if a
new technology were to be introduced. The abundance of infrastructural facilities
in the current environment is largely a result of the profitability of this
infrastructure. If however a technological change were to be introduced into
the market the profitability of investment in such new technology would be less
than obvious. In a situation where other private actors are unsure of investing,
the responsibility of investment falls upon the shoulders of the manufacturer
who seeks to bring about this change. Given the public good dimension of such
investment, the manufacturer will have a less than optimal incentive to invest.
A push in the right direction by the government in such a situation could
help overcome this obstacle. The push could be either by way of the government
investing, or by encouraging private actors to invest, in the generation of such
facilities. Absent this, it may be long before the market find such an investment
profitable.
IV. AN ASSESSMENT
It is clear from the above discussion that the carbon lock-in of the
automobile industry presents a failure of market failure not remediable by existing
market forces. Even to the extent that market forces can try to remedy it, there
5 3 R. CORNES AND T. SANDLER, THE THEORY OF EXTERNALITIES, PUBLIC GOODS AND CLUB GOODS 240 (2d ed.,
1996).
5 4 M.A. Brown, Market Failures and Barriers as a Basis for Clean Energy Policies, 29(14) ENERGY
POLICY 1197, 1202-1203 (2001).
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A. A Case Study
Automobiles have hitherto been too expensive to be able to reach the
masses in India a significant percentage of whom could not afford even lowend economy cars.55 The lower-middle class who constitute the largest segment
of the population have, given this limitation, been constrained to use either
two-wheelers, or public means of transport.56 The inherent risks and limitations
of the two-wheeler, together with the deplorable state of public transport in
India, has meant that the lower-middle class is a segment that could easily be
tapped if the price barrier was breached.57
In this context, Tata Motors announced earlier last year the launch of
their new car the Tata Nano, into the Indian market. The car, proclaimed to be
the most inexpensive car to reach mass production, is targeted at this class.58 It
is touted that with the introduction of the Tata Nano, the number of households
who can afford a car will increase to 15 million a 65 percent increase.59
5 5 C. Lim et al., Low-cost disruptive innovation by an Indian automobile manufacturer, MMRC
DISCUSSION P APER SERIES (October 2009), available at http://merc.e.u-tokyo.ac.jp/mmrc/dp/pdf/
MMRC280 _2009.pdf (last visited Feb 20, 2010).
5 6 A. Mukherjee and T. Sastry, Recent Developments and Future Prospects in the Indian Automobile
Industry (2002), available at http://hdl.handle.net/1721.1/1633 (last visited Feb 20, 2010).
5 7 Id.
5 8 Tata Motors Press Release, The Tata Nano Arrives (March 23, 2009), available at http://
www.tatamotors.com/our_world/press_releases.php?ID=431&action=Pull. See also Worlds
cheapest car is launched, BBC NEWS ONLINE, Mar 23, 2009, available at http://news.bbc.co.uk/1/
hi/7957671.stm.
5 9 Tata Nano may expand market by 65%: CRISIL, THE E CONOMIC TIMES O NLINE , Jan 12, 2008,
available at http://economictimes.indiatimes.com/news/news-by-industry/auto/automobiles/TataNano-may-expand-market-by-65-CRISIL/articleshow/2694186.cms.
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While the significance and repercussions of this move are manifold, what
is most relevant to the context of this essay is the implication of this development
vis--vis pollution in India. The first set of cars entering the market have been
combustion-engine driven. With petrol fuelled engines, they have been built to
the most recent emission specifications and conform to the standards required
of present day cars. It is claimed that the Tata Nano is one of the most fuel
efficient petrol cars to be introduced into mass production.60
Normally, this set of facts would have been sufficient to impress even
the most vehement of environmentalists. Upon consideration of the earlier
sections of this essay, however, things do not look as appealing. The introduction
of the Tata Nano has in some ways created a hitherto non-existent market
that of the lower-middle class car owners. Driven by the sheer number of
people constituting this class, who are now subsumed within the category of
car users, the reach of the automobile has increased manifold and consequently
the technology underlying the automobile. This increase in usage following the
introduction of the Tata Nano represents a new wave of entrenchment of
existing technology. The sudden increase in the number of cars that operate on
existing technology, the consequent increase in demand for supporting industries
to this technology, the increased relevance of familiarity with existing technology
all represent different aspects of this entrenchment. Given the magnitude of
this entrenchment, the carbon lock-in will become only too firmly embedded.
Any attempt thereafter to pull the industry out of this technology will have to be
extremely distortionary.
Nevertheless, the veracity of such a conclusion may be questioned given
recent developments in the automobile industry in India. Recognising the growing
concerns about environmental pollution and the impact of the Tata Nano in
heightening such a concern, Tata Motors expressed their intentions, quite early
in the life of the Nano, to come out with an electric variant of the car.61 They
even forged a partnership with a Norwegian electric car specialist firm Miljoebil
Grenland, to accelerate the launch of the electric variant.62 Certain other
companies have also expressed their interest in launching electric versions of
low-cost automobiles targeted at a similar segment of the population as the
Nano.63 Given these developments, one could justifiably question whether the
phenomenon of the carbon lock-in is indeed as serious as the theory in the
previous sections projects it to be.
6 0 Supra note 58.
6 1 Tata Plans Electric Version of Nano, T HE TIMES OF INDIA , Aug 21, 2008, available at http://
timesofindia.indiatimes.com/articleshow/3386709.cms.
6 2 Id.
6 3 Supra note 33.
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To answer this question, one must consider the ability of the electric cars
to compete with their ICE counterparts during this new wave of entrenchment.
The discussions in the previous sections, equally applicable here, tend to suggest
that the electric car is unlikely to be able to do so. Let us consider two illustrative
aspects here to verify this proposition in the specific context of the Tata Nano.
1. After-sales services
The specific segment of the population which is being targeted by the
Tata Nano is the lower-middle class for whom cost is one of the most important
factors.64 Costs include not only the initial expenditure of buying a new car but
also the cost of operation, maintenance and repair. As has been witnessed over
the past years, for each of these, company run servicing programs tend to be
expensive. Consequently, for the cost-conscious, especially when the value of
the automobile is low, the mechanic down the road tends to be the preferred
option.65
A mechanic at the local garage, given the long-standing presence of the
ICE engine, will be extremely familiar with the existing technology, and will
consequently be able to provide the service necessary to such automobiles.
Given this, the consumer is likely to feel quite confident of getting his servicing
done through the mechanic at the local garage for his ICE engine driven
automobile. On the other hand, a consumer with an electric car is likely to be
much less comfortable. He will in turn have to depend on company-run servicing
chains. Given that such servicing is likely to be expensive and because such
service centres are as yet not quite as numerous as a consumer would desire,
the electric variant is faced with a significant barrier. Consequently, on this
count, the target consumers will be extremely unlikely to prefer the electric
version.
2. Support facilities
An automobile requires certain basic infrastructure to be able to provide
the services required of it most significantly, an adequate number of refuelling
stations. Inadequacy of such a facility could seriously undermine the viability of
a technology which demands it.66
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V. CONCLUSION
The case of the carbon polluting technological lock-in in the automobile
industry provides an excellent example of a market failure where the ability of
market participants to correct inefficiencies, is severely constrained. Private
interests, coordination problems, consumer uncertainty, lack of infrastructure,
increased levels of risk etc., together provide sufficient economic justification
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against change. Even the initiative of market pioneers could prove insufficient
to get out of this vicious cycle given the innumerable risks that even such market
leaders will not be able to handle. Unbridled by the limitations the market forces
are constrained by, the government appears to be best able to respond to these
shortcomings.
Traditionally popular instruments such as emission standards and pollution
taxes which have hitherto operated on the understanding that the problem of
automobile pollution is merely a problem of an environmental externality are
thoroughly inadequate in dealing with the carbon lock-in which is inherently a
more complicated arrangement. Emission standards and taxes work on a snapshot basis they prescribe levels of acceptable pollution bearing in mind the
existing levels of pollution and technology, while completely ignoring the long
term effects of adhering to a particular technology. They at best galvanise the
industries towards further improving their existing technology (which in effect
further entrenches the technology) rather than pushing them in the direction of
a transition in technology. For an intervention by the government towards
remedying problems associated with the carbon lock-in, to be effective, it is
necessary that the government fully understands the underlying problem and
devises suitably targeted mechanisms.
An intervention which seeks to solve the problem of the carbon lock-in
must not only be aimed at regulating the extent of pollution that automobiles
produce in the short term, but must be such as to achieve the long term goal of
working towards zero-emissions. Given the various levels at which the
complexity of the carbon lock-in operate, any intervention must necessarily
target all levels at which the inefficiency operates.
As the previous sections of this essay have stated, inefficiencies in the
market can broadly be categorised as arising from: 1) problems of inertia; 2)
technological limitations; 3) consumer indeterminacy; 4) inadequacy of
infrastructure; 5) uncertainty of future development; and 6) lack of supporting
facilities. Each of these concerns can be addressed by the government in many
ways by encouraging investment (and if need be, investing itself) in supporting
infrastructure (such as refuelling stations, service stations etc.), in training people
in the use of greener technology, encouraging investment in and investing itself
in research and development of greener technology, spreading awareness
amongst the masses about the desirability of shifting towards greener technology,
encouraging use of greener technology by providing suitable incentives etc.
The specific method the government adopts is not quite as crucial as is
the basis for adopting a measure. So long as the measures are targeted at
particular problems of the lock-in and are adopted with the aim of guiding the
numerous interdependencies in the automobile industry towards greener
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technology, there is some hope that a technological discontinuity will result. The
timing of any such intervention however is crucial. The embedding of technology
and its processes over time mean that early intervention is necessary. This is
especially so when there is a possibility of further entrenchment of technology.
There are of course complications arising from implementing any such
intervention, and the fairly over-arching discussion such as carried out in this
essay does not consider all of them. It does, however, aim to identify certain
key aspects which are cause for significant concern. Unless the government
makes a serious effort to prevent the further entrenchment of polluting technology
and takes proactive steps in working towards it in the near future, shifting away
from such a technology may prove too difficult a task to achieve.
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I. INTRODUCTION
The institution of independent directors and the design of rules governing
their independence have long been a subject of intense academic debate. The
corporate governance fiasco earlier this year at Satyam Computers Ltd. in
India has brought this issue into focus again. The Indian corporate governance
system has borrowed the norm defining independence of directors from
contemporary Anglo-American experiments in corporate law and governance.1
I analyze this norm in the law and economics framework, drawing from the
rules versus standards literature. 2 The rules versus standards debate is
ubiquitous in law. Legal scholars have applied the dialectic to various areas of
law, more particularly, antitrust,3 international trade law4 and private law.5
The law defining independence is rules-based; one that seeks to define
ex ante, all the trappings of independence. Such ex ante definitions are perceived
to foreclose all conflicts of interest that may affect the objectivity of outside
directors and induce genuinely independent behaviour.6 The present corporate
governance law embodied in Clause 49 of the Listing Agreement of securities
exchanges for example, defines the expression independent directors up front,
detailing all such financial and familial links as would compromise the
independence of an outside director.7 The recent reform proposal Companies
Bill, 2009 too defines independent directors in terms of the prevalent ruleoriented language.8
*
1
3
4
5
6
7
8
LL.M., University of Columbia Law School; B.L.S. LL.B., Government Law College, Mumbai
University.
See Afra Afsharipour, Corporate Governance Convergence: Lessons From The Indian Experience,
29 NW. J. INTL & BUS. 335, 383 (2009) (observing that the Sarbanes-Oxley Act and Clause 49
define independent director similarly).
For a survey of rules-standards literature, see generally Pierre Schlag, Rules And Standards, 33
UCLA L. REV. 379 (1985); Cass Sunstein, Problem With Rules, 83 CAL. L. R. 953 (1995); Louis
Kaplow, Rules Versus Standards: An Economic Analysis, 43 DUKE. L. J. 557 (1992).
Daniel Crane, Rules Versus Standards In Antitrust Adjudication, 64 WASH. & LEE. L. REV. 49
(2007).
Joel Trachtman, The Domain Of WTO Dispute Resolution, 40 HARV. INTL. J. 333 (1999).
Duncan Kennedy, Form and Substance of Private Law Adjudication, 89 H ARV . L. R. 1685
(1976).
See Usha Rodriguez, The Fetishization Of Independence, 33 J. CORP. L. 447, 455 (observing that
behind all these rules lurks a belief that by closing off connections to the management, rulemakers
can create the ideal board).
See infra note 12.
See The Companies Bill 2009, S. 132(5). The Bill was initially tabled in October, 2008 in the
House. However, owing to the lapse of then House on account of elections, it was re-tabled again
on August 3, 2009 without any changes.
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This section borrows partly from Mandar Kagade, Jus Cogens: A Rules-Standards Analysis, 6
GLC LAW REVIEW (2007) 101, 103-4. See sources cited in supra note 2 for more general reading on
the rules versus standards literature.
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allows the discretion to make a casuist analysis of each case of speeding and
then decide the quantum of penalty. Such open ended and heuristic directives
are called standards.
The form of a directive as a rule or standard depends upon various factors
for instance, a legal system might want to deter actors from crossing the 100
mile threshold because it was found that speeds in excess of 100 miles are
more likely to lead to accidents. A standard will be more likely to be used when
the law makers do not know what particular speed is more likely to result in an
accident. Thus the cost of gathering information is a key dimension on which
the form of a legal directive is contingent.
There could be other reasons too. Sometimes institutions dictate the form
of a legal directive; for example, constitutional norms dictate that criminal law
give precise notice of the conduct that is criminalized. That explains detailed,
even complex, drafting of the criminal laws. Similarly the unfairness associated
with retrospective taxation would explain the need to make the tax law as
precise as possible. First order rules of a legal system, like Constitutions for
example, are, on the other hand, designed for longevity and that explains their
design as standards as they are robust to obsolescence.
The difference between rules and standards is the amount of work
required to be done in order to generate the content of the law before or after
actors act.10 Where the amount of work is less after the act, the directive is
more likely to be a rule; when the work is more, the directive is more likely to be
a standard. That being said, it is best to view the rules-standards universe as a
continuum. Courts may over time develop exceptions to rules and they may
morph into de facto standards. Similarly, the weight of precedent may rulify
standards with the passage of time.
To summarize, rules have the following characteristics:
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unable to engage in concerted lobbying with the regulator. On the other hand,
corporate insiders and securities intermediaries like securities exchanges have
strong incentives to lobby the regulators for the type of law that suits them. The
supply of regulation in corporate governance through the Listing Agreement
reflects this theory of regulatory capture.27 In the process, this policy imposes
agency costs on the real beneficiaries of regulation the outside investors.
Other institutions like judiciary cater to diverse constituencies; the judges have
security of tenure and post-retirement perquisites. Resultantly, judiciary is a
more objective medium to articulate law. However, because the Listing
Agreement is enforced by the securities exchanges as counter-party, the scope
for judiciary to shape the corporate governance discourse has been minimal.
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fails to account for complex vectors like structural bias that may interfere with
the objectivity of otherwise independent director.29 Further, it fails to capture
idiosyncratic variables like character, work ethic for example, that an independent
director must possess to participate actively in supervising the management of
firm.
Finally and perhaps most significantly, rule-oriented definition of
independent directors results in a regime where firms truly dedicated to corporate
governance cross-subsidize the agency-risks imposed by other firms who are
merely compliance-driven. The present regime ipso facto precludes firms from
recruiting independent directors from certain categories. Doing so, it inhibits
promotion of deliberative shareholder democracy in corporations truly dedicated
to corporate governance. This also potentially inhibits creation of shareholder
value for these good firms. Firms dedicated to corporate governance might
truly believe for example, that a related outsider, like a material supplier, has
considerable firm-specific human capital (by virtue of the fact that he is a material
supplier for a significant number of years for instance), and considerable
incentives as counterparty to the issuer in being truly independent. It would
therefore make good sense to have him on board to curb the risk-taking tendencies
of the executive component of the board. In the rule-based regime however, he
is ipso facto barred from being appointed as independent director. On the
contrary, the under inclusivity of the framework gives ample room to free-rider
owner-managers from bad firms to appoint nominally independent directors
and subvert the purposes of corporate governance architecture by remaining
compliant with the text of the law.
accounting for soft ties and relations as well as structural bias that comes from being part of same
epistemic community. Note that in similar circumstances, the Delaware Chancery Court found
independence of outside directors on board of Oracle Corporation to have been compromised.
See In re Oracle Corp. Derivative Litig., 824 A.2d 917, 920 (Del. Ch. 2003) (Delawares
contextual jurisprudence underscores the aptness of standard-oriented form for defining directorial
independence that is the essence of this paper. Mangalam Srinivasan, a US based academician and
TR Prasad, a retired civil servant officer were the other independent directors.) See TR Prasad,
Other Independent Directors Blame PwC, THE ECONOMIC TIMES, 8th January, 2009, available at
http://economictimes.indiatimes.com/articleshow/3949689.cms (last visited September 24, 2009)
(identifying the independent directors and reporting their resignations). On the Satyam scam,
see James Fontanella-Khan, Timeline: The Satyam Scandal, FINANCIAL TIMES, 7th January, 2009,
available at http://www.ft.com/cms/s/0/24261f70-dcab-11dd-a2a9-000077b07658. html?nclick
_check=1 (last visited September 24, 2009). See generally on structural bias, Anthony Page,
Unconscious Bias and the Limits of Director Independence, 2009 U. ILL. L. R EV. 237 (2009)
(arguing that Directors may have preferences even though they may not be consciously aware of
them and that regardless of their good faith, unconscious cognitive forces will prevent directors
decisions from being unaffected by their preferences). Page points out that Delaware Courts
have acknowledged the existence of structural bias. Id. at pp. 246 & nn. 57-61.
2 9 Structural bias is likely to promote group-think in the Boardroom. Group-think chills dispassionate
deliberative discourse in the boardroom. Governance mechanisms should therefore aim for
negating its influence.
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interest and rational choice.32 These biases, (especially norm compliance), are
more likely to be material when the entrepreneurial class comprises of closelyknit social groups, as is the case in India. In so far as directorial behavior is
characterized by diverse preferences beyond the (homo economicus) default
rule, my normative claim is consistent with the Kaplowean thesis.
32
33
34
35
relevant to determination of independence. In other cases, for e.g. Beam ex rel Martha Stewart
Living Omnimedia, Inc. v. Stewart, 833 A.2d 961, 979 (Del. Ch. 2003), the court noted that
some professional or personal friendships, can exceed family loyalty and may raise a reasonable
doubt about independence. CEOs brother-in-law (Harbor Financial Partners v. Huizenga, 751
A.2d 879, 889 (Del. Ch. 1999)) grandfather-grandchild, (Mizel v. Conelly, No. CIV.A. 16638,
1999 550369, at 4 (Del. Ch. Aug. 2, 1999)) tutor to the ward of the interested executive, (In Re
Walt Disney Co. Derivative Litig., 731 A.2d 342, 359 (Del. Ch. 1998)) are other relationships
that have been claimed to prejudice independence.
See Russell Korobkin, Behavioral Analysis And The Legal Form: Rules Versus Standards Revisited,
79 OR. L. REV. 23, 44 (2000).
Because they have more specific skill sets, regulators are more likely to find post-tenure
employment in the same sector. This post-employment prospect among regulatory personnel
may have perverse effects incentivizing regulatory capture ex ante.
Describing the purpose of publicity in 1913, he said: Sunlight is the best disinfectant, implying
that the obligation to disclose all material information to the public will deter fraud in the capital
markets. See, LOUIS BRANDEIS, OTHER PEOPLES MONEY WHAT PUBLICITY CAN DO (1914), available
at http://www.law.louisville.edu/library/collections/brandeis/node/196.
A case in point is the maze of press notes issued by the Udyog Bhavan in the context of Foreign
Exchange Management Act, 1999 that has often confounded practitioners, including yours
truly.
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that led the courts to hold them non-independent, will, with the passage of time,
give the regulator sufficient information to collect a list of proxies that may act
as signaling devices.
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ties with the owner-managers.48 The significance of this interaction is that the
insurance intermediary will have, in its possession, certain soft variables that
may generate agency costs, which will factor in the premium payable by the
issuer. (Inter alia, these may include factors like structural bias, character,
beholdenness towards the owner-managers, motive behind assuming
independent directorial post and commitment to the cause). If the premium and
other details of the D&O liability insurance that they purchase for the independent
directors are communicated to the stakeholders in the securities market, it will
improve capital market efficiency through the signaling effect provided by these
details.49 This disclosure will signal capital and corporate control markets and
subject issuers with high agency costs to capital market discipline.
After the regulator mandates that all issuers ought to disclose the premium
payable on the D&O liability insurance they have bought and other details about
the same, the securities exchanges may set up specific ceilings for premium
payable based on the industry of the issuer concerned and subject the issuers
that breach that ceiling to penalties including mandatory delisting etc.50
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the fact that these concerns equally arise in the context of rule-like definition
of independence.53 Each iteration adds a fresh category of persons to the
excluded list. Such ipso facto and blanket exclusion should in fact invoke more
supply-side concerns than ones associated with open-ended definition. In ruleoriented framework, firms who genuinely believe in the independence of a related
outside director have no opportunity to justify their choice before objective fora
like courts. A standard-like definition, on the other hand, allows a wide autonomy
to the corporation in appointing its independent directors. Far from creating
supply-side concerns in the independent director market, a standard-like
definition of independence eases those concerns for the good firms who
genuinely believe in independence of their related outsiders (and who will
therefore justify their belief before D&O underwriters, shareholders and the
courts). It is true that boards will be much more wary while appointing directors
and may incur costs by investing in legal advice and buying D&O insurance to
retain talented personnel with them. However, it is unlikely that these premiums
will be substantial for genuine issuers and will hardly add to their cost. So,
conceding that uncertainty will add to the cost of issuers, these costs will only
be substantial for firms having high agency-risk; and that of course is entirely
justifiable.
Finally, it may be argued that a standard-like definition of independence
will add to the cost of learning the law, for issuers. Indeed, economic analysis
reveals that standards are costlier to comply than rules.54 However that is not
always the case. As behavioral analysts have shown, standards that require
adjudicators to judge citizens actions on the basis of whether those actions
comply with community norms might require even less effort for citizens than
would be rules.55 The institution of independent directors and the object it seeks
to achieve has decided fairness underpinnings a norm which actors may
easily understand. In so far as fairness is easily assimilated concept, the argument
that a standard-like construction of the definition will be costlier to comply
than a rule-based definition requires further investigation. Secondly, the present
Clause 49 is a complex rule in the rules-standards binary not a pure one.56 A
complex rule, because of the severity of factors involved, is a standard
masquerading as a rule.57 The increase in cost of compliance in a regime where
5 3 See Somasekhar Sundaresan, Independent Directors Do Not Grow On Trees, BUSINESS STANDARD,
Mar. 22, 2007, available at http://www.business-standard.com/india/news/independent-directorsdo-not-growtrees/278528 (arguing that it was time to address supply side for independent
directors and criticizing amendments to Clause 49 that creates these concerns).
5 4 See Kaplow, supra note 2, at 569.
5 5 Korobkin, supra note 32, at 35.
5 6 The difference between a complex rule and a simple (pure) rule is that while the latter is a
relative scalar, the outcome whereof depends only upon one factor, the complex rule is a
relative vector where the outcome depends upon a variety of factors.
5 7 Notice the references to standard-like expressions like material in some sub clauses of Clause
49, supra note 12.
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independence is defined as a pure standard (as for example is the case with the
model I propose in this paper), would be marginal, if at all.
VIII. CONCLUSION
This paper argues that a rule-oriented definition of independent directors
is under-inclusive and suffers from democratic deficit. Worse, as it disqualifies
desirable persons from being appointed as directors, it could be destructive of
shareholder value. It argues, placing reliance on the economic analysis of
independent director and policy, that standards are the more appropriate legal
form for defining independence. This paper proposes a standard-like definition
of independence. It demonstrates that regulatory capture has diluted both the
supply and enforcement of corporate governance law at the regulator-level,
and argues that the aforementioned reform ought to be introduced through
primary legislation. It proposes that this structural reform will catalyze the D&O
liability insurance market and unlock a hitherto dormant gatekeeper in the form
of the D&O liability insurer. It seeks to demonstrate that none of the arguments
against having an indeterminate standard-like definition for independence are
strong enough not to adopt a regime of pure standards defining independence.
Law and economics scholars have for long, applied their tools to appreciate
and propose solutions to vexed issues in corporate governance and practice.
The debate surrounding directorial independence is one such issue. The
economics of standards-induced uncertainty may well be the Holy Grail that
solves the directorial independence conundrum, particularly the strategic action
problem that leads to insiders appointing their cronies as independent directors.
In fact, if policymakers introduce changes in the incentive structure in
the legal services market that align the interests of lawyers and petitionershareholders, ex ante standards in substantive law and ex post risk of class
actions will make this model even more effective.
Finally, though the focus of this essay is India, the argument that it makes
against rule-oriented definitions of independence and for standard-like definition
is applicable more generally. Indeed, the paper is a response to and in furtherance
of the insight inviting attention to Delawares contextual jurisprudence of
directorial independence and comparing it with (federalized) rule-oriented norms
implemented in the US and extolling the merits of the former approach.58 The
argument made in favor of standard-like definitional reform in the paper holds
true especially in the United States, which has (regrettably) witnessed a
movement towards rule-oriented norm-making in corporate law and governance.
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ESSAY
REFUSE TO CHOOSE: THE ROLE OF METHODOLOGICAL PLURALISM IN
THINKING ABOUT LAW AND ECONOMICS IN INDIA
Bikku K. Kuruvila*
I...have ropes around my neck, I have them to this day, pulling me
this way and that, East and West, the nooses tightening, commanding,
choose, choose. I buck, I snort, I whinny, I rear, I kick. Ropes, I do not
choose between you. Lassoes, lariats, I choose neither of you, and both.
Do you hear? I refuse to choose.1
I. INTRODUCTION
The inaugural issue of an Indian journal on law and economics offers
productive opportunities to reflect on the discipline, open new lines of inquiry
and frame terms of discussion moving forward. Opening moments offer important
chances to understand critical paradigms assess intellectual needs and suggest
new ways of understanding the world.
What, then, is law and economics? In simple terms, the field is understood
as the economic analysis of law. Writing in 1975, Richard Posner defined the
field as:
the application of the theories and empirical methods of economics
to the central institutions of the legal system, including the common
law doctrines of negligence, contract, and property; the theory
and practice of punishment; civil, criminal and administrative
procedure; the theory of legislation and of rulemaking; and law
enforcement and judicial administration.2
Henry Manne, Dean Emeritus of George Mason University School of
Law and another founding father of the discipline, adds that core tools would
include such standard apparatuses as demand elasticity, economic cost concepts
(including opportunity cost), production functions, property rights (the economic,
not the traditional legal concept that is, the objective characteristics of
ownership), transactions costs, the nature and formation of market prices,
competition and monopoly, theory of the firm (old and new varieties), publicchoice theory, and the rudiments of quantitative methods, including statistics,
finance and accounting.3
*
1
2
3
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What, then, is Indian law and economics? While the level of development
of the countrys economy and reach of the state have been, and are, debated at
length, aside from practitioner publications on issues of commercial law. Indian
legal scholarship appears to be intermittently developed and dependent upon
the efforts of talented individual scholars; notwithstanding studies of law and
the economy or the application of economic methods to Indian law.4 Individual
pieces exist assessing various commercial regimes,5 though these efforts do
not seem to form a part of a broader body of scholarship. Furthermore, the
emergence of such scholarship does not seem likely in the absence of an
institutional basis or incentive structure to suggest that such literature would
develop.6
In a negative and normative sense, what Indian law and economics should
not be, is also clear. Without elaborating at length, an authentically Indian
approach to law and economics seems no more desirable or possible than an
authentically Indian chemistry or physics. That a law and economics scholarship
grounded in Indian institutional, social, economic, historical, and political realities
would have distinct concerns and flavors appears similarly unremarkable. To
say, for example, that law and economics studies of the SEBI Act of 1992
would provide different findings than similar studies of the U.S. Securities and
Exchange Act of 1934 is, on an obvious level, banal and does not further our
understanding of legal institutions in any great depth.7
As I will elaborate in subsequent sections, law and economics has
developed distinct ways of thinking (to quote Richard Posner) that are by
definition interdisciplinary and intellectually productive. Law and economics
4
See generally, BIBEK DEBROY, IN THE DOCKABSURDITIES OF INDIAN LAW (2000) (One of many books
by noted economist and scholar on Indian law); Website of Upendra Baxi, www.upendrabaxi.net
(listing the papers of this eminent human rights lawyer).
See Haitian Lu, Hong Huang & Swati Deva, Unraveling the Puzzle of Differing Rates of FDI &
FVCI in India & China, 4 ASIAN JOURNAL OF COMPARATIVE LAW (2009); John Armour & Priya Lele,
Law, Finance & Politics: The Case of India (ECGI Working Paper Series in Law, Working Paper
No. 107, 2008); Raffiq Dossani & Martin Kenney, Creating an Environment: Developing
Venture Capital in India (BRIE Working Paper No. 143, June 6, 2002); Afra Afsharipour,
Corporate Governance Convergence: Lessons from the Indian Experience (UC Davis Legal
Studies Research Paper Series, No. 81, June, 2009).
Reasons for the relative lack of institutional development of Indian legal or Indian financial legal
scholarship could lie in the relative privileging of other fields such as economics post-Independence
to the development, only in recent decades, of national law schools with the ability to produce
high grade law graduates on a more systematic basis as well as the rise in social status of the legal
profession, though these conjectures are quite speculative and require further investigation. See,
Indian Corporate Law Blog, http://indiacorplaw.blogspot.com/ (With varying contributors, offering
timely discussions of the rulings of key tribunals). Hopefully, the initial publication of the Indian
Journal of Law and Economics signals a greater interest in and trend towards deeper and more
diverse legal writing in the country going forward.
Though a more thorough comparative study of the legal regimes created by these two acts, the
ways that they might shape and be shaped by social, commercial forces, could no doubt be of
great interest to those interested in the Indian subcontinent.
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has also inspired many applications of the field methods and core premises to
new areas of inquiry.8 Yet, to fix the boundaries of the field (in India or elsewhere)
would come at significant intellectual cost. Our understanding of what counts
in the field should be dynamic. As I explain in more detail below, in extending
law and economics to the Indian context, scholars and practitioners should not
lose sight of the productive possibilities of reading different disciplines together.
Through the very act of juxtaposing multiple bodies of knowledge, scholars
foreground and question fundamental assumptions about any given body of
knowledge. In doing so, legal theorists can tease out, frame, and realize a deeper
sense of context and understanding of the workings of legal institutions and
processes as well as social and commercial forces in the subcontinent.
I argue, on a very general level, that those interested in law and economics,
in the Indian context, should explore a broad variety of fields to understand the
complex interactions of law, legal processes and institutions, and socio-economic
relations. In particular, I emphasize the role of history as a useful example of
disciplinary endeavors that would supplement, broaden, and enrich our
understanding of these interactions. Fields from behavioral finance to legal and
political science scholarship about institutional design would also add to inquiries
about legal processes, institutions, and society. I also use case studies involving
issues of regulatory design and Indian financial law to illustrate the intuitive,
though perhaps under-theorized and less-appreciated value of these approaches.
While this paper does not attempt a comprehensive inventory of the extensive
number of fields that could be brought to bear on studies of law and economics
and India, the act of reading together key themes and trends can suggest
informative ways of looking at the law, its institutions, doctrines, texts, and
practices, in the subcontinent (and beyond). Rushdies whimsical quote is a
paean to cultural hybridity and the many influences on a traveler, though the
line, as with much of Rushdies work, references somewhat older, broader, and
more complex debates in the social sciences about interdisciplinary work and
the production of knowledge.9 For purposes of this discussion, somewhat aside
from the original reference to East and West, Rushdies injunction can be seen
as a serious warning against remaining within the disciplinary confines of any
mode of study. Applied to methods and an understanding of the law, Rushdies
words are instructive; refuse to choose.
8
Posner, supra note 3, at 779-782. Perhaps surprisingly, Posner offers a somewhat qualitative or
less mechanistic definition of the field as a way of thinking and a knack for looking at things a
certain way.
See HOMI K. BHABHA, THE LOCATION OF CULTURE (2004); COSMOPOLITANISM (Carol A. Breckenridge,
Sheldon Pollock, Homi K. Bhabha & Dipesh Chakrabarty eds., 2002); SALMAN RUSHDIE, SATANIC
V ERSES (2008) (arguably referencing academic debates in history, sociology, anthropology,
philosophy, linguistics and literature in the late 1980s and 1990s about the social construction of
identities, cultural hybridity and revisionist approaches to history).
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A. Method
Law and economics can be understood through methodology. Richard
Posner divides the field into two broad forms. One, an older and more literal
understanding of law and economics, would simply apply principles of economics
to explicitly economic areas of regulation; antitrust, trade, corporations and labor
law, taxation, securities regulation and corporate finance.10 These involve
regulations grounded in conventional principles of economics. The role of
economics in ordering such regulation is perhaps straightforward and
uncontroversial. Second, as suggested above, is the economic analysis of law
writ large, the extension of economic analysis to a range of non-market behavior:
from doctrines of negligence and legislation to criminal law and legal procedure,
social discrimination, gender relations and even charity and love.11 Economic
approaches to law assume that those involved in the legal system act as rational
maximizers of their preferences,12 while the doctrines, procedures and institutions
of the legal system would be organized or assessed in the light of promoting
economic efficiency and the efficient allocation of resources.13 Economic analysis
is helpful in designing reforms to legal rules, processes, and institutions,14 just as
quantitative studies of legal systems in presenting these institutions in broader,
10
11
12
13
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B. Analysis
What insights do law and economics frameworks direct us towards?
Invoking Posner, Anthony Ogus reminds us that law and economics provides
important positive or interpretive, not simply normative, observations about the
world. 16 Ogus argues that the purchase of law and economics on legal
scholarship, notwithstanding controversy over the theoretical basis and
methodological dimensions of the field,17 can be understood in the sense that the
field is seen as making a major contribution to the traditional central task for
legal scholarship, promoting coherence and systematic orderliness in the law.18
First, Ogus writes that efficiency interpretations interpretations of the
law based in economic analyses of allocative efficiency can provide a firmer
foundation and less ambiguity than notions of morality or corrective justice,
which are often asserted to be the basis of legal rules.19 For example, law
and economics scholars can be found arguing that the morality of breach of
contracts can be ascertained, for legal purposes, in the context of incomplete
agreements, by reference to whether the cost of performance for a seller of
services exceeds the value of such performance to the buyer.20 To return to
Ogus, the tendency of courts to impose liability for omissions on those involved
in a pre-tort relationship with a victim, such as employers in the case of workplace
accidents, can be understood through arguments that employers assume
responsibility for positive steps to secure the health and safety of employees,
the cost (in part, at least) being offset against wages and other benefits
provided.21 Here, (t)he law performs the useful economic function of imposing
the solution which parties themselves would rationally have reached if they had
1 5 Id. Posner asserts that statistical study can contribute much to our knowledge of legal systems
and that economists are perhaps best trained in these methods. In 2010, thirty five years after
the writing of this article, the use of rigorous quantitative analysis in disciplines from political
science, education and even literature is, perhaps, unremarkable. See, e.g., Franco Moretti,
Graphs, Maps, Trees: Abstract Models for Literary History 1, 24 NEW LEFT REVIEW 67 (2003).
1 6 Anthony Ogus, What Legal Scholars can learn from Law and Economics, 79 CHI.-KENT L. REV.
383, 383 (2004).
1 7 See infra, notes 45-56 and accompanying text.
1 8 Ogus, supra note 17, at 395.
1 9 Id.
2 0 Steven Shavell, Why Breach of Contract May Not Be Immoral Given the Incompleteness of
Contracts, 107 MICH. L. REV. 1569, 1580-81 (2009) (suggesting different definitions of morality
and arguing that given incompletely specified agreements, a buyer is made whole if she receives
expectation damages, so she should not be discouraged from contracting under a regime with
breach and payment of these damages, and that different criteria may be employed for
choosing among definitions of morality: consistency with the moral beliefs found in the
population; derivation from favored underlying principles; and the advancement of the welfare
of contracting parties, where, according to welfare criteria, breach and payment of expectation
damages raise the well-being of both sellers and buyers.
2 1 Ogus, supra note 17, at 396-99.
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C. Program
Law and economics has a normative dimension. Bracketing the role of
analysis for the moment, law and economics can come with a program. Henry
Manne argues straightforwardly that only capitalism and free markets can
deliver on the promise of material goods that has come to be expected throughout
the world,28 and that the substantive protection of property rights and freedom
of contract necessary for a free market economy can be achieved through
judges applying the methods of law and economics.29 Judges should still be
2 2 Ogus, supra note 17, at 396-99. Ogus argues that, (i)n general, it is cheaper for someone already
engaged in an activity to take steps to constrain risks arising from it than for a passive agent to
respond to a risk created by another. This is because the active agent has already selected that
activity which presumptively generates for herself the greatest utility: the added cost of taking
care in that activity might be relatively small.
2 3 Ogus, supra note 17, at 399-401.
2 4 Posner, supra note 3, at 769; Manne, supra note 4, at 35.
2 5 Posner, supra note 3, at 770; GARY BECKER, THE ECONOMICS OF DISCRIMINATION (1971); Gary
Becker, Crime and Punishment: An Economic Approach, 76 J. POL. ECON. 169 (1968);
2 6 Louis Kaplow, Taxation and Redistribution: Some Clarifications, 60 T AX L. R EV . 57 (2008)
(noting that the most redistributive tax, a 100 percent tax with proceeds rebated pro rata to the
population, is a flat tax, or that depending on exemption levels, poor people might be taxed less
under flat taxes than graduated income taxes).
2 7 See also Posner, supra note 3, at 770 (suggesting that law and economics studies of tax might
make comparisons of the social cost of income tax evasion with examinations of revenue loss,
discuss what might be an optimum system of tax penalties or whether the marginal product of
various forms of tax enforcement activities, such as audits, exceed the marginal cost).
2 8 Manne, supra note 4, at 11. (speaking at a symposium panel of the (U.S.) Federalist Society
published by the Harvard Journal of Law and Public Policy titled What is the Law in Law and
Economics).
2 9 Manne, supra note 4, at 31. Manne states that (f)ortunately, however, the part of the common
law tradition that is more important for a free-market economy namely, the substantive
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D. Avatars
Law and economics has a number of offspring and other disciplinary
relations, for example, public choice, mechanism choice, and new institutional
economics. Public choice scholarship is an extensive field. Within finance, public
choice studies look at the political economy of subjects such as the delisting
process and insider trading, banking deregulation, the politicization of corporate
governance, lawyer self-regulation, externalities and legal opinions in structured
finance, stock-transfer restrictions and issue choice in trading venues, federalism,
broker-dealer law and subprime mortgages, and the application of economic
reasoning to case law.36
30
31
32
33
34
35
36
protection of property rights and freedom of contract can be achieved judicially in other
ways. Judges could simply establish, through case decisions, a set of rules of law consistent with
the efficient functioning of a market economy.
Manne, supra note 4, at 32.
Manne, supra note 4, at 33.
Manne, supra note 4, at 12-13. Manne uses the term dispute resolution as the application of law
to, or resolution of legal disagreements (through arbitration, litigation or regulation, for example)
over changes in rules, taxation, individual acts of crime, public regulation and private contracts
Manne, supra note 4, at 16-17.
Manne, supra note 4, at 17.
Manne, supra note 4, at 14-15.
See, e.g., the work of one public choice scholar, prominent Yale Law School professor Jonathan
Macey; Jonathan Macey, Helping Law Catch Up to Markets: Applying Broker Dealer Law to
Subprime Mortgages, 34 J. CORP. L. 789 (2009); Jonathan Macey, Down and Out in the Stock
Market: The Law and Economics of the Delisting Process, 51 J.L. & ECON. 683 (2008); Jonathan
Macey, A Close Read of an Excellent Commentary on Dodge v. Ford, 3 VA. L. & BUS. REV. 177
(2008); Jonathan Macey, Getting the Word Out About Fraud: A Theoretical Analysis of
Whistleblowing and Insider Trading, 105 MICH. L. REV. 1899 (2007); Jonathan Macey, Too Many
Notes and Not Enough Votes: Lucian Bebchuk and Emperor Joseph II Kvetch about
Contested Director Elections and Mozarts Seraglio, 93 VA. L. REV. 759 (2007); Jonathan Macey,
The Politicization of American Corporate Governance, 1 VA. L. & BUS. REV. 10 (2006); Jonathan
Macey, Commercial Banking and Democracy: The Illusive Quest for Deregulation, 23 YALE J. ON
REG. 1 (2006); Jonathan Macey, Occupation Code 541110: Lawyers, Self-Regulation, and the
Idea of a Profession, 74 FORDHAM L. REV. 1079 (2005).
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NIE analyses are associated with the works of Ronald Coase, Douglass
North, Oliver Williamson, Claude Menard, Avner Grief and Harold Demsetz.
NIE studies can be seen as an elaboration of earlier versions of neoclassical
microeconomics and assumes bounded rationality, imperfect information and
uncertainty, and positive transaction costs.43 Applied to the law, NIE analytics
investigate issues such as informal procedures and non-market organizations
that efficient organizational structures are dependent on, contracting costs,
contractual problems such as renegotiations under duress and incompletely
specified agreements.44
E. Critiques
Law and economics has been critiqued on many fronts; for the fields
assumptions and discursive parameters, for implicit understandings of the role
and functioning of law on its own terms, and politics. Starting with assumptions
and how law and economics frames debates, scholars like Anthony Ogus, argue
that the law reflects values and goals other than allocative efficiency,45 and
that while interpreting the legal entitlements in the light of allocative efficiency
can provide the law with firmer foundations, such assessments do so by
sacrificing moral concerns, or at least morality as commonly understood.46
Gregory Alexander, for example, argues that the law must balance a plurality of
values in these inherently complex conflicts and that no algorithm is available
ex ante by which we can reduce all these goods and ills into a singular scalar
metric which can then be straightforwardly applied in future conflicts of this
kind.47
In particular, law and economics scholarship, especially the first generation
of this work, has been critiqued for assumptions of rational choice and market
efficiency embedded in these paradigms. While these debates have not been
fully settled, some scholars find that traditional rational choice models offer the
best point of departure, even if departures must be made, while others find that
in these cases, empirical evidence demands a more comprehensive reevaluation
4 3 Richter, supra note 41, at 27. The traditional picture of neoclassical microeconomics, of course,
suggests a model assuming individual rationality, perfect information and zero transaction costs.
See RICHARD A. POSNER, ECONOMIC ANALYSIS OF LAW 18-21 (6th ed. 2003) (defending assumptions of
perfect rationality).
4 4 Richter, supra note 41, at 33-36. (discussing the seminal work in New Institutional Economics
of Oliver Williamson in developing his transaction cost approach and other scholars).
4 5 Ogus, supra note 16, at 383.
4 6 Id. at 396; Though, see Shavell, supra note 20, at 1581.
4 7 Gregory S. Alexander, The Social-Obligation Norm in American Property Law, 94 CORNELL L.
REV. 745, 805 (2009); See also Mark V. Tushnet, Law, Science, and Law and Economics, 21
HARV. J.L. & PUB. POLY 47, 49 (1997) (arguing that (i)f as I think, neither law and economics
nor law and literature, nor anything else, offers privileged access to general ways of understanding
the law, it is hard for me to see any ground on which to rest the claim that one or another way
of arriving at understanding is generically preferable).
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of the basic postulates of rationality and market rationality.48 Lynn Stout, for
example, argues that efficient market theory in finance can be critiqued for
presumptions of homogeneous investor expectations, effective arbitrage, and
investor rationality. In turn, he states that an expanding body of work on asset
pricing investigates heterogeneous expectations of investors, that theoretical
and empirical scholarship demonstrates how and why arbitrage may move certain
types of publicly available information into price more slowly and incompletely
than earlier writings suggested, and that the burgeoning literature in behavioral
finance provides indications of what happens to prices when market participants
do not all share rational expectations.49 Indeed, the premise of this article is that
the study of law and economics in India should be supplemented by, and involve,
a re-examination of, those avenues of inquiry that are foreclosed by traditional
applications of the methods of the field.
Second, law and economics can also be critiqued for its approach to and
understanding of the autonomy of law. With regards to the role and function or
autonomy of law, law and economics as a discipline appears to have an essentially
unidirectional mandate: to bring to bear the tools of economic analysis to the
law. As discussed earlier, this endeavor is tremendously productive on its own
terms precisely by ordering debates of the law with clear frameworks for thinking
about the costs of decision and error. Law and economics scholars also concede
that any interpretive theory is of necessity simplifying and that law and economics
scholarship should be assessed for its predictive power.50 Lawyers, however,
shirk the unique contributions that we are best positioned to make, by refusing
to theorize legal texts, doctrines, discussions, institutions, and processes on their
own terms; terms that are not fully reducible to economic terms. As suggested
by University of Chicago and Harvard Law School scholar, Cass Sunstein, law
operates in the realm where people may agree on particulars while disagreeing
on principles, where people occupying certain institutional roles are required to
look at certain considerations and not others.51 To use one example, individuals
4 8 Douglas G. Baird, Richard A. Epstein & Cass R. Sunstein, Symposium on the Law and Economics
of Consumer Choice, 73 U. CHI. L. REV. 1 (2006).
4 9 Lynn A. Stout, The Mechanisms of Market Inefficiency: An Introduction to the New Finance, 28
J. CORP. L. 635 (2003) [hereinafter Stout, The Mechanisms of Market Inefficiency]; See also Lynn
A. Stout, The Investor Confidence Game, 68 BROOK. L. REV. 407 (2002). (Examining rational
expectations in the context of retail investor behavior and highlighting the importance of
understanding how investor confidence may be cultivated as well as destroyed).
5 0 Posner, supra note 3, at 774 (arguing that a scientific theory necessarily abstracts from the
welter of experience that it is trying to explain, and is therefore necessarily unrealistic when
compared directly to actual conditions, but that such theory is still useful if it correctly predicts
the behavior of a wide variety of phenomena in the real world, and that lack of realism does not
invalidate the theory; it is, indeed the essential precondition of a theory. Indeed, a theory
cannot be overturned by pointing out its defects or limitations but only by proposing a more
inclusive, more powerful, and above all more useful theory).
5 1 Sunstein, supra note 4, at 89-94 (arguing provocatively that the key to social stability in a
pluralistic society lies in the phenomenon of incompletely theorized agreements).
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may agree on the need for enforcement of contracts while disagreeing on first
principles about the role of the state. Or, to use another, a judge tasked with
interpreting the intended meaning of the Foreign Exchange Management Act,
may, unsurprisingly, issue rulings for textual, interpretive or doctrinal reasons, or
for reasons related to beliefs about the role of the judiciary and respect for
precedent, not for reasons having anything to do with allocative efficiency. In
situations like this, to fail to understand the principles or concerns behind such
practices on their own terms, or to reduce such actions to purely economic
terms, whatever the interpretive or normative value of such analyses, misses
an opportunity to theorize the interplay between legal values, institutions and
processes and broader social, economic or other forces. In these murky areas,
those familiar with the law can shed valuable light.
Third, the programmatic agenda of law and economics scholarship has
been heatedly discussed, though I argue, at least for the purposes of this paper,
that charged discussions about the politics of law and economics would distract
attention from the methodological and interpretive points that I would like to
make. As discussed above, the politics of at least the first generation of law and
economics scholarship seems clear.52 The statements of Henry Manne regarding
capitalism and free markets, property rights, freedom of contract, the appropriate
interpretive posture for judges deciding cases, precedent, equal application of
the law, and the role of government hardly need elaborating. In turn, law and
economics has been critiqued for having a conservative bias and for the links
between the field and right-wing American social movements.53 Still, the position
that ideology, worldviews, political and institutional positions ,and historical context
are an irreducible part of argument does not lead to the conclusion that such
argument can be reduced to polemic.54 Additionally, for example, to highlight
the efficiency implications of a particular set of rulings as an interpretive matter
does not necessarily lead to the conclusion that efficiency must be adopted as
an important or paramount value.55 Finally, Richard Posner argues that the
motivations and personal opinions of researchers ought to be irrelevant to the
appraisal of their work, as should be the political implications, if any, of that
work, and that (t)he validity of research is independent of the motives behind
5 2 See, supra section II.C.
5 3 See Mark Tushnet, The Rise of the Conservative Legal Movement: The Battle for Control of The
Law, 87 TEX. L. REV. 447 (2008). (Discussing the active support of the John M. Olin Foundation
for law and economics as a means of promoting American conservative causes ranging from
faculty wars at Harvard Law School to scaling back the regulatory state).
5 4 STANLEY FISH, THERES NO SUCH THING AS FREE SPEECH: AND ITS A GOOD THING, TOO (1994) (seen light of
this article, arguing that the act of offering analysis makes no sense absent an existing, and for the
time being, unquestioned ideological vision); Posner, supra note 3, at 775-76 (arguing that
research that provides support for social democratic positionsliberal in American termsis
not equally identified and criticized on the same grounds).
5 5 Id.
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it or the uses to which it might be put.56 While the notion that the motivations
and implications of scholarship have some relationship to positions taken seems
intuitively straightforward, and perhaps interpretively unavoidable, to reduce
scholarship to politics also, is, no doubt, equally a mistake.
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B. Behavioral Finance
Behavioral law and economics uses cognitive psychology to develop
better understandings of decisions and choice.65 In finance, this work can
examine matters such as asset pricing when investors have heterogeneous
expectations, how and why arbitrage may move certain types of publicly available
information into price more slowly and incompletely, and the uneven signaling
effects of prices when all market participants do not share rational
expectations.66 If public choice advocates suggest that administrative agency
functioning is best explained by rent-seeking behavior, scholars using cognitive
psychology frameworks for assessing administrative agencies observe that
criteria such as the use of heuristics, framing and expert overconfidence or
myopia can provide equally rich understandings of agency failure. Concepts
such as expertise, seeing a given situation repeatedly and the human ability to
categorize offer useful schema to guide a regulatory bodys decision-making.67
US public choice literature is deeply skeptical of the ability of legislatures to
further general welfare, finding them obsessed with furthering geographic,
parochial interests and finding them to often fall prey to rent-seeking interest
groups.68 Judiciaries are cast as independent from regional and interest group
pressures, while agencies are held to be largely responsible to the executive
branch and whose decisions are worthy of deference. Cognitive legal literature
would suggest that judicial tools, often limited to interpretive techniques or
invalidating a particular statute, are crude tools for stopping bad policy. Agencies
could pander to legislatures from whom they seek funding, or if autonomous,
be unaccountable. While legislatures, with their committee structures, yet
requirements for passage of legislation by the votes of the full generalist body,
offer the institutional set-up for developing expertise while avoiding regulatory
capture.69 As will be discussed in more detail below, delegation of authority
over, for example, foreign exchange law, to the independent central bank could
lead to policy decisions for which the bank is formally unaccountable, though
subjecting these regulatory decisions to the political process does not necessarily
6 5 Cass R. Sunstein, Behavioural Analysis of Law, 64 U. CHI. L. REV. 1175 (1997).
6 6 Stout, The Mechanisms of Market Inefficiency, supra note 50.
6 7 Jeffrey J. Rachlinski & Cynthia R. Farina, Cognitive Psychology and Optimal Government
Design, 87 C ORNELL L. R EV . 549, 558-60 (2002) (Offering alternative paradigms to assess
administrative agency decision-making, suggesting, for example, that expertise produces a useful
set of schema to guide decisionmaking, but like all schema, limit a decisionmakers ability to
think differently about a problem and to recognize the limitations inherent in that schema);
Jeffrey J Rachlinski, Rulemaking Versus Adjudication: A Psychological Perspective, 32 FLA. ST.
U. L. R EV. 529, 546 & 549 (2005) (Arguing, for example, that an agency developing policy
through adjudication will often see an issue repeatedly, and in different contexts, before it makes
a decision. Also analogizing to the value that human expertise in administrative agencies would
offer by pointing out that experts on artificial intelligence have been unable to simulate the
human power to identify structure and patterns).
6 8 Id. at 583.
6 9 Id.
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offer grounds for optimism that policy decisions would be made in an engaged
matter.70 Different insights highlighted by varied disciplinary endeavors will no
doubt have to come together to provide a composite picture of the problems
studied by law and economics in India.
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Specifically, the role of Indias central bank is highly contested with some
arguing that the Reserve Bank of Indias (RBI) cautious approach to global
financial integration protected India during the current global financial crisis;73
while others argue that there is no evidence to support the claim that an Indian
style license-permit raj, coupled with Indian-style capital controls, was needed
to avoid a financial crisis in 2008.74 Looking at questions of institutional design,
these claims are given meaning by the regulatory authority given to the RBI to
manage foreign exchange transactions and capital flows.75 That central banks
should enjoy autonomy with regards to the conduct of monetary policy is, of
course, a widely and consensually held position, although the extent of central
banks mandates with regards to broader issues such as financial stability is
vigorously debated.76
Looking to history, early twentieth century commentary on the creation
of the central bank, including statements from figures such as John Maynard
Keynes and Sir Basil Blackett, the colonial Finance Minister of India from 1923
onwards about the creation of the RBI, emphasize the role of central bank
independence from political influence as a check on nationalist attempts to
concentrate power in the hands of the legislature.77 Talking specifically about
India, Keynes states that banking business must be outside the regular
government machine, ignorant of proper channels, and free of the official
hierarchy where action cannot be taken until reference has been made to a
higher authority.78 Regulatory actions by administrative agencies are typically
seen as policy decisions subject to the political process and the specific textual
7 3 See Y. V. REDDY, INDIA AND THE GLOBAL FINANCIAL CRISIS 275-85 (2009) (By the Governor of the RBI
until the latter part of 2008, expressing skepticism about the benefits of liberalizing capital
flows); Pranab Bardhan, Notes on the Political Economy of Indias Torturous Transition, 44
ECON . P OLIT . W KLY. 31 (2009), (stating that relatively cautious financial regulation and state
control over banks may have insulated the Indian economy somewhat from the recent global
financial crisis).
7 4 Ila Patnaik, No one like us, I NDIAN E XPRESS , Aug. 31, 2009, available at http://
www.indianexpress.com/news/no-one-like-us/509056/0. (Arguing that countries and regions with
rather different macroeconomic and micro-prudential frameworks like Canada, Mexico, Latin
America and South Korea did just fine in avoiding a financial crisis in 2008 and that a country like
South Korea is an open capital account country and more open than it was prior to the Asian
Crisis of 1997).
7 5 Foreign Exchange Management Act, 1999, No. 42 of 1999 6 (stating that the Reserve Bank
may specify (a) any class or classes of capital account transactions which are permissible; (b)
the limit up to which foreign exchange shall be admissible for such transactions, and further
granting the RBI the authority to prohibit, restrict or regulate specific forms of financial
transactions such as those involving debt, equity, currency and property).
7 6 See COMMITTEE ON FINANCIAL SECTOR REFORMS, A HUNDRED SMALL STEPS 5, 12-14 (2009) (arguing that the
RBI, as one of many institutions responsible for financial sector regulation, should have a single
objective, inflation-targeting, and should avoid excessive regulatory micromanagement).
7 7 See A.J. Saunders, The Indian Reserve Bank and Sir Basil Blacketts Work in India, 38 THE
ECONOMIC JOURNAL 405, 408-409 (1928); G. Findlay Shirras, The Reserve Bank of India, 44 THE
ECONOMIC JOURNAL 258, 260-264 (1934).
7 8 G. Findlay Shirras, A Central Bank for India, 38 THE ECONOMIC JOURNAL 573, 574-586 (1928).
2010]
151
IV. CONCLUSIONS
The inaugural issue of an Indian journal on law and economics offers
productive opportunities to reflect on the discipline, open new lines of inquiry
and frame terms of discussion going forward. Opening moments offer important
chances to understand critical paradigms, assess intellectual needs, and suggest
new ways of seeing. I have argued in this paper that to freeze the boundaries of
the field (in India or elsewhere) would come at significant intellectual cost.
While law and economics frameworks offer productive analyses of a broad
range of subjects, those interested in law and economics should also pay attention
to the values, processes, and ways of thinking that are necessarily foreclosed
by the economic analysis of law. Scholars and practitioners should not lose
sight of the productive possibilities of reading different disciplines together, of
emphasizing and scrutinizing closely the fundamental assumptions of any body
7 9 See Steven G. Calabresi & Saikrishna B. Prakash, The Presidents Power to Execute the Laws, 104
YALE L.J. 541 (1994); and, Frank H. Easterbrook, Unitary Executive Interpretation: A Comment,
15 CARDOZO L. REV. 313, 318-19 (1993); with Lawrence Lessig & Cass R. Sunstein, The President
and the Administration, 94 COLUM. L. REV. 1, 93-106 (1994) and Cynthia R. Farina, The Consent
of the Governed: Against Simple Rules for a Complex World, 72 CHI.-KENT L. REV. 987 (1997)
(elaborating a heated debate in the 1990s, though a debate of earlier provenance and one that still
continues today, over issues of the extent of executive branch authority over the U.S.
administrative state, ultimately grounded in constitutional and textual or interpretive concerns
over separation of powers).
8 0 In any case, it is not clear that separating regulatory functions from monetary authority, or
subjecting the former to the political process would have the results desired by proponents of a
limited role for the RBI. See Bibek Debroy, A lethargic 100 days for UPA II, The FINANCIAL
EXPRESS, Aug. 31, 2009, available at http://www.financialexpress.com/news/column-a-lethargic100-days-for-upa-ii/509003/0# (finding that the second UPA governments first 100 days in
office has been marked by inaction on a wide variety of issues from issues with the proposed
unique identity card and the revamping of the National Rural Employment Guarantee Act to the
National Food Security Act, higher education matters, land acquisition, rehabilitation and
resettlement, and judicial not to mention financial sector reforms); See also Chevron U.S.A. Inc.
v. Natural Resources Defense Council, Inc., 467 U.S. 837, 842-45 (1984) (reflecting settled
constitutional doctrine in the US known as the Chevron doctrine requiring courts to defer to an
agencys interpretation of a statute unless Congress has directly determined the issue under
consideration); See also Manne, supra note 4, at 23-24 (holding that there was considerable
debate during the 1930s about the extent to which courts could override administrative agencies
interpretation of the authority granted by the US Congress, though this battle was almost
completely won in the US Supreme Court by advocates of administrative discretion). Obviously,
precedents from American regulation need not translate into similar outcomes in Indian contexts,
though the example is certainly a possibility, and instructive. Regulatory authority over foreign
exchange matters granted to an administrative agency hived off from the RBI may lead to no
different policy decisions.
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I. INTRODUCTION
People, who combine together, to keep up prices, do not shout it
from the housetops. They keep it quiet. They make their own arrangements
in the cellar where no one can see. They will not put anything into writing
nor even into words. A nod or wink will do.1
Competition law broadly relates to efforts at promoting competition
through the means of legislature. Competition in competition law, however, is
a misnomer, since competition law deals not so much with competition as the
lack thereof.
The most serious form of anti-competitive agreement is cartel formation.2
Cartels diminish social welfare, create inefficiency in resource allocation, and
transfer wealth from consumers to the participants in the cartel by modifying
output and/or prices.3 Engaging in cartel activities to avoid the rigors of competition
can result in the creation of artificial, economically inefficient and unstable industry
structures, lower productivity gains or fewer technological improvements and
sustained higher prices.4 A law and economics approach can be undertaken to
comprehend the circumstances under which leniency policy can be successfully
used as a tool in preventing the formation of anticompetitive agreements by
competition authorities. Leniency policies can be approached from the point of
view of the prisoners dilemma. A prison official intending to take advantage
of the prisoners dilemma from a law and economics perspective should structure
*
1
2
3
4
IV Year, B.A., LL.B. (Hons.), West Bengal National University of Juridical Sciences, Kolkata.
Lord Denning in Registrar of Restrictive Trading Agreements v. W. H. Smith & Son Ltd., [1969]
3 All E.R. 1065 (H.L.).
Different definitions of the term cartel have been provided by different Competition Authorities.
Some of them are discussed here under:
Cartels mean express or tacit conventions, promises or agreements among firms to fix price
and limit volume of production and sales, and selection of trading partners. They are classified in
terms of the object of restriction into price cartels, volume cartels, market allocation cartels,
and bid riggings. (See What Practices are Subject to Control by the Antimonopoly Act?, JAPAN
FAIR TRADE COMMISSION, available at http://www2.jftc.go.jp/e page/aboutjftc/role/q-3.htm). Cartel
definition: Arrangement(s) between competing firms designed to limit or eliminate competition
between them, with the objective of increasing prices and profits of the participating companies
and without producing any objective countervailing benefits. (See GLOSSARY OF TERMS USED IN EU
C OMPETITION P OLICY , available at http://europa.eu.int/comm/competition/publications/
glossary_en.pdf).
EUROPEAN COMMISSION, XXXIIND REPORT ON COMPETITION POLICY 2002, available at http://ec.europa.eu/
competition/publications/annual_report/2002/en.pdf, at p. 28.
VINOD DHALL, COMPETITION LAW TODAY - CONCEPTS, ISSUES AND LAW IN PRACTICE 14 (2007).
154
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7
8
9
Hans W. Friederiszick & Frank P. Maier-Rigaud, The Role of Economics in Cartel Detection in
Europe, in THE MORE ECONOMIC APPROACH TO EUROPEAN COMPETITION LAW (Dieter Schmidtchen, Max
Albert & Stefan Voigt, eds. 2007), available at http://www.esmt.org/fm/312/Role_of _
Economics_in_Cartel_Detection_in_Europe.pdf, at 13.
Leniency is a key tool in detecting and deterring cartels in New Zealand. The Commerce
Commission of New Zealand released its updated Cartel Leniency Policy on 1 March 2010. This
assists the Commission to be better able to detect and break up cartels operating in New Zealand,
providing benefits for consumers, businesses, markets, and the economy. It also fosters the
deterrence of new cartels.
G. R. Bhatia, Combating Cartel in Markets- Issues and Challenges, EXECUTIVE CHARTERED SECRETARY,
654-657 (July 2006).
OECD REPORTS, FIGHTING HARD CORE CARTELS: HARM, EFFECTIVE SANCTIONS AND LENIENCY PROGRAMMES 12
(2002).
Bhatia, supra note 7.
2010]
155
lessening the pressure of competition as well as the risk of potential entry in the
business by new players.10
Oligopolistic firms regularly face a dilemma, which consists of a tradeoff between two alternatives: to opt for collusion that consents to joint profit
maximization, or to opt for competition, rising the own net income and market
share to detriment of adversaries. Oligopolistic firms should, therefore, estimate
and compare the expected financial results of following or breaking the cartels
rules. If the firm decides to infringe a cartel arrangement by decreasing prices
and increasing production levels, it should consider two inversely proportional
effects: 1) the quantity effect11 , since expanding production raises total revenues
(being an oligopoly, unlike perfect competition, marginal revenue to the firm
exceeds the marginal cost); and 2) the price effect, since increasing production
raises the number of sold product units, but simultaneously decreases the price
of the last marginal unit sold as well as all other units sold before. If the quantity
effect prevails over the price effect, the firm will benefit from cheating the
cartel by facing a situation of decreasing price and increasing production; on
the other hand, if the quantity effect is dominated by the price effect, the firm
will not benefit from violating the bargain. Which one of the two effects will
prevail depends substantially on competitors reaction.
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PLAYER 2
Confesses
PLAYER 1
Confesses
(-10, -10)
(0, -20)
PLAYER 1
(-20, 0)
(0,0)
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157
V. TASK
OF THE
COMPETITION AUTHORITY
All of this makes the role of the competition authority critical: it can
create distrust and construct a more favourable prisoners dilemma, i.e. one in
which confession appears as the dominant strategy. In order to do this, it will
often revert to the use of evidence concerning relatively minor crimes (which
are often ancillary to a price-fixing16 scheme) as leverage to spur confession
from one of the cartelists. Not always, however, will such evidence be available.
Moreover, authorities are frequently called to make a strategic choice in the
matter: even in case they do have substantial evidence to convict, they might be
able to inflict bigger sanctions by waiting a bit longer so as to collect more
information. Since the authorities do not normally have the occasion to meet
personally with cartel members to foster confessions, the situation results in a
much more complicated form than the basic prisoners dilemma: they have to
take utmost care in sending signals to the cartelists, in order to get them to play
the same game that they are playing: a strategic game theory.17
Moreover, it is not only the first whistle-blowing party that can get away
with paying no fines, but also subsequent parties who can cooperate to get
decreased penalties. To encourage confessions adequate protection must be
provided to whistleblowers. At the commencement of the interrogation the
authority should make it clear to the whistleblower that that the interview is
1 6 Price fixing is an agreement among competitors to raise, fix, or otherwise maintain the price at
which their goods or services are sold. It is not necessary that the competitors agree to charge
exactly the same price, or that every competitor in a given industry join the conspiracy. Price
fixing can take many forms, and any agreement that restricts price competition violates the law.
1 7 Nicolo Zingales, European and American Leniency Programmes: Two Models towards
Convergence?, (2008) 5(1) COMP. L. REV. 8.
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1 8 The Whistleblower Protection Act of 1989 is a United States federal law that protects federal
whistleblowers, or persons who work for the government who report agency misconduct. A
federal agency violates the Whistleblower Protection Act if it takes or fails to take (or threatens
to take) a personal action with respect to any employee or applicant because of any disclosure of
information by the employee or applicant that he or she reasonably believes evidences a violation
of a law, rule or regulation; gross mismanagement; gross waste of funds; an abuse of authority; or
a substantial and specific danger to public health or safety. See Whistleblower Protection Act
Information, U.S. SECURITIES AND EXCHANGE COMMISSION, available at http://www.sec.gov/eeoinfo/
whistleblowers.htm.
1 9 Jaishree J. Vyavaharkar, Blowing the Whistle on Cartels in India and beyond, 1 COMPETITION LAW
REPORTS 272, 273 (2008)
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VII. CONCLUSION
There is a universal interest in the use and development of leniency
programs as a means of detecting and cracking international cartel activity.
The message has been clear that leniency programs can provide antitrust
enforcers with an unprecedented tool for detecting and investigating cartel
activity. The formula for a successful anti-cartel enforcement program should
include equal share of stiff potential penalties, high detection rates, and
transparent enforcement policies. This will prevent most groups from ever
engaging in cartel activity. However, when cartels are formed, we have found
that the amnesty Program, with its lure of leniency in exchange for self reporting
and full cooperation, is the most effective investigative tool for cracking cartel
activity.
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I. INTRODUCTION
Employment contracts, attributing rights and responsibilities between the
parties to the bargain, are contracts of service in varied sectors such as
construction, finance, business etc. Although, they have been subject to strict
legal/contractual scrutiny, the emerging area of Law and Economics has
endeavored to analyze their economic basis, with regard to termination clauses
or covenants to compete. In such a sphere, aviation contracts, specifically
termination clauses of airhostesses, present an interesting case study insofar as
they reflect the competing ideals of economic efficiency and social justice. This
can be evidenced by the Delhi High Court decision in Sheela Joshi v. Indian
Airlines Ltd.1 wherein the termination of overweight airhostesses was upheld
in light of the competitive and cosmetic nature of the airline industry.
This note critically examines the employment terms of airhostesses
pertaining to their strict appearance requirements to evaluate their economic
efficiency, in light of Sheela Joshi, without considering their social and moral
probity. Part II of this note lays down the current practice and legal rule, tracing
the transformation of the courts approach qua airhostesses as victims of
appearance-based discrimination and the change evidenced in Sheela Joshi.
Part III undertakes an economic analysis of the airlines decision to value
appearance and purportedly customer preference over experience.
II. THE CURRENT PRACTICE AND LEGAL RULE: BACKGROUND OF THE SHEELA
JOSHI JUDGMENT
The liberalization of the Indian aviation industry saw the emergence of
new players in direct competition with the government-run airlines. To escape
the organizational and managerial inefficiencies which had beset the national
carriers, these private airlines streamlined their operations and spruced up their
image2 by employing attractive airhostesses, ordering designer staff uniforms
*
1
III Year, B.A., LL.B, (Hons.), National Law School of India University, Bangalore.
2000 (54) D.R.J. 276 (Del.). The High Court here held that an airhostess can be dismissed from
employment for being fat since it was an industry which paid attention to cosmetic factors and
in the time of increased competition, the government airlines can fire for such reasons. The
appeal is currently awaiting decision in the Supreme Court.
Shashi Sharma, Aviation Industry in India: Challenges for the Low Cost Carriers, available at
http://works.bepress.com/cgi/viewcontent.cgi? article=1000 &context=shashi_sharma (last
visited 20th February, 2010).
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161
With the introduction of Kingfisher Airlines, with their designer uniforms, model airhostesses
and the idea of luxury travel, both Air India and Indian Airlines were forced to adapt by giving a
new look to their cabin crew, in line with contemporary fashion.. See Correspondent, United
Colours of Air India Crew, REDIFF N EWS , June 11, 2007, available at http://www.rediff.com/
money/2007/jun/11ai.htm (last visited 16th February, 2010)
4 Bharwada Bhoginbhai Hirijibhai v. State of Gujarat, A.I.R. 1983 S.C. 753.
5 For instance in rape cases, courts have noted that the prevailing mores in Indian society would
not facilitate a lie by the prosecutrix in a rape case since it would adversely affect her chances of
getting married. See Sunil Kahar v. State of Bihar, 1992 CRI. L. J. 3647 (Pat.); Jito v. State of
Himachal Pradesh, 1990 Cri. L. J. 1434 (H.P.).
6 State of Madhya Pradesh v. Babulal, 2008 (1) S.C.C. 234.
7 A.I.R. 1981 S.C. 1829.
8 Id.
9 Id. Fazal Ali J. stated that such an approach appears to be in bad taste and is proof positive of
denigration of the role of women and a demonstration of male chauvinism and verily involves
nay discloses an element of unfavourable bias against the fair sex which is palpably unreasonable
and smacks of pure official arbitrariness.
1 0 The airhostesses were told that they would be treated on leave if there was any leave to their
credit and that if there was none it would be deemed to be leave without pay. They challenged
this on the ground that although the airline had always insisted on weight regulation and checks,
they had never strictly enforced them. Then they had suddenly, in a series of circulars, reduced
the grace in the quantity of excess weight and in May 2006 finally withdrew even the 3 k.g. grace
amount.
1 1 Sheela Joshi v. Indian Airlines Ltd., 2000 (54) D.R.J. 276 (Del.).
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marks on the face... looks matter in this line of work, and therefore we are
giving it a lot of importance.21 These cosmetic changes have a direct bearing
on the image and hence success of air carriers, which explains the description
of Kingfishers airhostesses as flying models.22
This note will thus seek to analyze whether the decision in Sheela Joshi
was premised on economically sound principles or was a knee-jerk judicial
reaction pandering to the concerns of the national carriers facing stiff competition.
2 1 Monica Chadha, No acne allowed for airhostesses, BBC NEWS, February 19, 2004, available at
http://news.bbc.co.uk/2/hi/3502493.stm.
2 2 Careers with Kingfisher Airlines, available at http://www.flykingfisher.com/exp_crew.asp?id=112.
(last visited February 16, 2010).
2 3 R. POSNER, ECONOMIC ANALYSIS OF LAW 615 (3d ed., 1986).
2 4 John J. Donohue III, Is Title VII Efficient?, 134 U. PA. L. REV. 1411, 1412 (1986).
164
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2010]
165
have been found to be more inelastic for firms providing higher satisfaction32
which incentivizes airlines to create a long-run reputation effect of maximizing
customer satisfaction which would insulate them from varied industrial and
price fluctuations.33
Many economists believe that in the long run taste-based discrimination
will eventually peter out in light of increased competition.34 Using race as an
example, Becker argues that eventually a factory owner will employ a black
worker who gives him a higher per capita productivity at the same wage rate
as opposed to a white employee, and his success would impel others to follow
suit.35
This argument is however premised on the assumption that there is an
aversion qua certain groups even though all the workers are equally
productive.36 Therefore, this analysis will not apply to the aviation sector, since
the discrimination is not on account of the personal preferences of the employer,
but on the personal preferences of the passenger. Instead of firms aiming for
profit maximization by eventually employing the most productive worker, airlines
achieve wealth maximization by maximizing consumer satisfaction by pandering
to their preferences which necessitates appearance discrimination.
These considerations raise important questions regarding statistical
methods of discrimination wherein airlines use group characteristics as a costefficient method of predicting individual worker attributes.37 The preferences
of most customers here are attributed to all customers and thus, credence is
given to general rather than specific passenger preference which might harm
the airhostesses. For instance, even though some customers might value prompt
and efficient service over the appearance, it is impossible to actually determine
each preference and employers have to engage in statistical discrimination.
However, efficiency qua airlines is maximized if the gains from imposing
appearance requirements outweigh the loss to the airhostesses who might be
grounded.38
32
33
34
35
36
37
38
intentions of the consumers, which in this case, would imply not visiting the restaurant again. F.
HERZBERG ET AL., THE MOTIVATION TO WORK 23 (12th ed., 2009).
See supra note 31, at 141.
Id.
S.J. Schwab, Employment Discrimination, 572, 576 (Cornell University School of Law, Working
Paper No. 5530, 1999), available at http://encyclo.findlaw.com/5530book.pdf (last visited
February 20, 2010)
GARY S. BECKER, THE ECONOMICS OF DISCRIMINATION 15 (2d ed., 1971).
Id. at 14-18, 39-54.
Supra note 36, at 576.
Michael Sattinger, Statistical Discrimination with Employment Criteria, 39(1) INTL ECON. REV.
205, 222 (1998).
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167
IV. CONCLUSION
This paper sought to analyze whether the ruling of the Delhi High Court
in the Sheela Joshi50 case prioritizing appearance/taste based discrimination
over employee performance in cases of termination was economically efficient.51
This was contextualized by outlining the competitive nature of the industry post
liberalization.
44
45
46
47
48
49
50
51
Jet Airways, for instance, prefers its cabin crew to be aged between 18-27 years.
Supra note 44, at 11.
Supra note 44, at 39.
Each airline would have its own crop of experienced and new airhostesses. Thus, if they have to
recruit, they would prefer younger airhostesses, since their life span being so short, they would
want to catch them young and unblemished. As age increases, chances of weight loss and wrinkles
etc, also increase.
Supra note 44, at 39.
Supra note 44, at 11.
Sheela Joshi v. Indian Airlines, 2000 (54) D.R.J. 276 (Del.).
This question is based on the assumption that even if arguments relating to the impact of weight
on the performance of the flight attendants were not considered, would airlines be justified in
imposing weight restrictions?
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5 2 Robert D. Cooter, Market Affirmative Action, 31 SAN DIEGO L. REV. 133, 137 (1994).
5 3 Supra note 35, at 573.
5 4 2000 (54) D.R.J. 276 (Del.).
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169
REVIEW
THE AMBIVALENT LIFE OF DEAD AID
Priya S. Gupta*
Dead Aid: Why Aid is Not Working and How There is a Better Way
for Africa. By Dambisa Moyo. New York: Farrar, Straus & Giroux. 2009.
pp. 208. Cloth, $24.00.
I. INTRODUCTION
As of May 2010, a Google search for Dead Aid Moyo yielded over
300,000 results. The Dambisa Moyo page on Facebook has over 8,500 fans.
Academics, policymakers, journalists, and even Elle Magazine1 all have
something to say about the book, about her. Why? What is it about this book
that has touched a chord, or in many cases, a nerve, with so many people?
Perhaps it is her message: Western countries should completely turn off the
tap of foreign aid to Africa (yes, all African countries are aggregated by their
continent) and Africa should use financial alternatives to achieve development
instead. Perhaps it is Moyo herself: highly educated, professionally experienced,
African, female, and a zealous advocate for her cause. This review attempts to
address this question and offer an argument defending the importance of this
book despite its substantive flaws.
Dambisa Moyos diverse qualifications and work experience place her
in an ideal position to offer credible insight into foreign aid. She has a Ph.D. in
Economics from Oxford, and a Masters Degree from Harvard. She has worked
for the World Bank and Goldman Sachs. Indeed, her expertise with financial
instruments is obvious, and demonstrated by her seemingly effortless explanations
of complex financial instruments for a diverse audience of readers.
Previous commentators have focused on the ideal combination of Moyos
resum and Zambian upbringing.2 She is a unique success story from a country
*
Assistant Professor, Jindal Global Law School (JGLS); Assistant Director, Centre for Women,
Law, and Social Change, Sonipat, NCR of Delhi, India.
The author would like to thank Emily Bosch, of the OECD, for her insights and discussions
regarding aid and economic growth.
Les Femmes de la Semaine, ELLE, Oct. 2, 2009, available at http://www.elle.fr/elle/Societe/Lesfemmes-de-la-semaine/Les-femmes-de-la-semaine-02-10-2009/Dambisa-Moyo/%28gid%29/
987364.
See, e.g., Jagdish Bhagwati, Banned Aid: Why International Assistance Does Not Alleviate Poverty,
FOREIGN AFFAIRS, Jan./Feb. 2010, at 120 (referring to Dambisa Moyo as a young Zambian-born
economist with impeccable credentials); Paul Collier, Dead Aid by Dambisa Moyo: Time to
Turn off the Aid Tap?, THE INDEPENDENT, Jan. 30, 2009, available at http://www.independent.co.uk/
arts-entertainment/books/reviews/dead-aid-by-dambisa-moyo-1519875.html referring to Moyo
as an African woman, articulate, smart, glamorous, delivering a message of brazen political
incorrectness).
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See, e.g., Voice of Disenchantment, THE ECONOMIST, Mar. 12, 2009 ([T]he intellectual arguments
about aid are still conducted largely within a small circle of Western white men. So it is good to
welcome a new voice to the debate, and a black African woman too); and Bhagwati, supra note
2, at 120 (stating that aid debates have largely been the province of Western intellectuals and
economists and that with Dead Aid, the African silence has been broken).
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171
Once she has defined the parameters of aid and Africa, she then
provides A Brief History of Aid from the end of the Second World War
(Chapter 2). Along the way, she highlights a few reasons why these aid efforts
have failed, including lending to un-creditworthy governments and central banks,
lending to countries with poor records of good governance, and shifting focuses
in aid policy from poverty to development to governance to glamour aid.
While she covers an impressive amount of history in a mere eighteen pages,
she glosses over many significant nuances of the complex political economic
history of aid. I will explore one of these in particular, governance, before
returning to the rest of her argument.
Early in the book, Moyo introduces a thread of an argument regarding
good governance, which she picks up again later in the book. According to
Moyo, while governance remains at the heart of aid today, it is an open
question whether this aid strategy has had any long-term effects (p. 23).
Despite Africans having had train[ing] in ethics and good governance at Western
universities, and despite radical reforms aimed at improving transparency
and efficiency, it is debatable whether these initiatives have had any real bite
in countries which still opt to be dependent on aid (p. 23). So, if aid efforts
have been unable to establish practices of good governance, how are such
practices to come about? Later in the book, Moyo offers her answer:
But where private capital trumps aid every time is on the question
of governance. You can steal aid every day of the week, whereas
with private capital you only get one shot. If you steal the cash
proceeds of an international bond issue, you most certainly will not
be able to get more cash this way. The capital markets may be
forgiving, but not as forgiving as to be fooled by the same culprit
twice. And without cash to assuage the restlessness of an army,
no despot can stand (p. 142).
The oversimplified solution she offers above is not an oversight she
goes on to say:
In a world of bad governance the cost of doing business is much
higher.. since the risk premium associated with the unpredictable
behavior of a bad government always looms large. As long as
issues of bad governance linger overhead (guaranteed to be the
case in a world of aid-dependency), the cost of investing in Africa
will always be exorbitantly high. .Yet in a world of good
governance, which will naturally emerge in the absence of
the glut of aid, the cost (risk) of doing business in Africa will be
lower (p. 143, emphasis added).
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were redirected were useful ones or not. A similar missing citation is (not)
found regarding the IMF, when she tells us that [t]he evidence against aid is so
strong and so compelling that even the IMF . . . has warned aid supporters
about placing more hope in aid as an instrument of development than it is capable
of delivering . . . [and] also cautioned governments, donors and campaigners to
be more modest in their claims that increased aid will solve Africas problems
(p. 47).
Additionally, she undermines her main thesis condemning aid with its
own oversimplification. She highlights the seeming paradox of a small scale
mosquito net producer who is put out of business by aid efforts providing free
nets in order to demonstrate aids ineffectiveness in the long term (by decreasing
local production) even when it appears successful in the short term (in providing
free nets) (pp. 44-45). This example in particular illustrates how her thesis
could have used some nuance. Several paragraphs after the mosquito net
example, she offhandedly mentions food aid which purchases from local
producers, as the right kind of thinking (p. 45). In doing so, she (implicitly)
supports an argument in favor of aid itself just the right kind of aid. Indeed, a
nuanced thesis would have incorporated this kind of thinking, perhaps arguing
that this constructive kind of aid could be worked into a model which provided
immediate mosquito nets to prevent the spread of malaria while supporting
local production for long term supplies. In her argument, however, this macromicro paradox of the mosquito net producer is used simply as an example of
why aid just does not work.
Her next chapter attempts to further the anti-aid argument by explaining
how aid is The Silent Killer of Growth (Chapter 4). Perhaps if she had
convinced us in previous sections that aid was completely ineffective, we might
have been able to make this cognitive leap off the foreign aid cliff with her.
Instead, her argument sounds incendiary, to the point of caricature.5 This
overstatement is unfortunate in that it partially distracts readers from several
important insights she offers, such as how free aid money reduces government
accountability to their constituents because governments are left less dependent
on tax revenues (p. 58). This is a compelling point if corrupt leaders can get
away with opacity and poor rule of law with little financial consequence, they
probably have little incentive to improve. However, insights such as these do
not save this chapter, or this half of the book. This chapter, the last one before
she explores the capital alternatives, was her chance to tie together her argument
and evidence and offer a final convincing blow to aid. Instead, at the close of
this part of the book, it remains unclear how evidence supports doing away with
5
I agree with the Economist on this point. THE ECONOMIST, supra note 2 ([Moyo] overstates her
case, almost to the point of caricature).
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aid entirely, rather than just redirecting its flow to its effective outlets.
After the tumult and anticlimax of the first half of the book, the second
part of the book lays out what she refers to as the Dead Aid prescriptions.
Here is where Moyo shines, and her experience and her analysis serve her
arguments well. She provides easily understood explanations of several
international and domestic market based solutions to encourage growth:
international and domestic bond offerings, cooperation with China to gain more
foreign direct investment (FDI), lowering of barriers to trade, and regulatory
reform to facilitate remittances and microfinance (p. 77-140).6 She defends
these solutions thoroughly: for example, spending almost ten pages discussing
the viability of bonds from emerging markets despite common misconceptions
(pp. 77-86). She provides practical details surrounding the solutions, such as
advice to get a credit rating (p. 78), and to have the bonds guaranteed by the
World Bank (p. 95). And, she provides examples of success stories, including
that of her own country of Zambia (p. 89). Despite the current financial downturn,
these capital solutions are worth considering, especially in a time when donor
governments are tightening their belts in efforts abroad.
Moyo also fails to distinguish the market-based approach of the Washington Consensus from the
market-based solutions offered in Dead Aid. While I believe that her approach does avoid some
of the shortcomings of the Washington Consensus (for example, by advocating for particular
kinds of capital liberalization, FDI, and south-south trade relations), an explicit discussion of the
differing content and rationale of the two market-based approaches would have been helpful.
7 Os First Ever Power List, O, T HE O PRAH M AGAZINE , Aug. 11, 2009, available at http://
www.oprah.com/world/Os-First-Ever-Power-List/10.
8 Les Femmes de la Semaine, ELLE, Oct. 2, 2009, available at http://www.elle.fr/elle/Societe/Lesfemmes-de-la-semaine/Les-femmes-de-la-semaine-02-10-2009/Dambisa-Moyo/%28gid%29/
987364.
9 The 2009 TIME 100: The Worlds Most Influential People, TIME , Apr. 20, 2009, available at
http://www.time.com/time/specials/packages/article/0,28 804,1894410_1893209_ 1893459,
00.html.
1 0 Readers are cautioned against generalizing Kagames reception as indicative of the response of all
of Africa, or even of Rwanda.
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And, at the same time, many development scholars have been less than
thrilled with the book. Her own mentor, Paul Collier, wrote a review in The
Independent in which he stated that I doubt that many of Africas problems
can be attributed to aid. It is, in my view, something of a sideshow.11 Adekeye
Adebajo, the executive director of the Centre for Conflict Resolution in Cape
Town, reviewed Dead Aid in Business Day, and called it one of the most
dangerously influential books in recent times.12 And, shortly after the book
was released, she engaged in a back and forth column war on rather personal
terms in The Huffington Post with Jeffrey Sachs, who is a leading expert on
aid, Special Advisor to the UN Secretary General, and former professor of
hers. 13
These skeptics, as well as others, often raise the following three criticisms:
Dead Aid fails to distinguish between effective aid and ineffective aid (and
therefore the prescription to end all aid is too extreme); Moyos figures are
questionable, and her argument is not an important contribution to the aid dialogue;
and, she oversimplifies and overstates her case.
A. Dead Aid Fails to Distinguish between Effective Aid and Ineffective Aid
Shortly after Dead Aid was released, Jeffrey Sachs had the following to
say in the Huffington Post:
Moyo, Easterly, and others lump all kinds of programs - the
good and the bad - into one big undifferentiated mass . . . Here are
some of the most effective kinds of aid efforts: support for peasant
farmers to help them grow more food, childhood vaccines, malaria
control with bed nets and medicines, de-worming, mid-day school
meals, training and salaries for community health workers, allweather roads, electricity supplies, safe drinking water, treadle
pumps for small-scale irrigation, directly observed therapy for
tuberculosis, antiretroviral medicines for AIDS sufferers, clean
low-cost cook stoves to prevent respiratory disease of young
children.14
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they have been picked up by popular press, and appreciated by people like Kofi
Annan20 and Paul Kagame21, and have lead to her own presence in those closed
doors where aid is or its alternatives are formulated so perhaps she will
accomplish nuanced policy goals in the end.
The overstatement of her case works in her favor as an advocate as
well. If we recast this book as a clarion call as she would have us do (p. xv),
and not (only) as a scholarly work, we might no longer expect her to apologize
for her overstatement. Indeed, what advocacy effort has succeeded without
some radical overstatement, some poking at the embers to get the debate fired
up?
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remembered, and not a heavy tome extrapolating high theory and collecting
dust on shelves across the West. Her book was meant to reach a wide audience,
and it has. It was on a New York Times Bestsellers List.23 Development
economists such as Paul Collier and Jeffrey Sachs have published reviews of
it. Political leaders such as Kofi Annan and Paul Kagame have praised it.
This response is in itself accomplishing something. It has catalyzed dialogue
where there wasnt enough of one. What remains to be seen are the fruits of
such dialogue. What happens next? Will African countries pursue financial
alternatives? Will donors find a welcome reason to cut back on aid (a fear
shared by Sachs and Adejabo alike)?24 And, most importantly, will the least
developed African countries finally achieve sustained measurable growth or
alleviation of poverty?25
V. CONCLUSION
Dead Aid is a fascinating book, not only for its content but also for its
phenomenon. In a time of tightened purse strings of donor countries, and in an
often patronizing or condescending Western dialogue26 about aid, Dead Aid
offers some feasible, positive alternatives for African policymakers.
So why did people react so strongly to the book? It is succinct, easily
understood, and has a timely and incendiary message. Moreover, it comes from
an articulate woman who has both the Western educational and professional
qualifications so highly valued in development policy circles as well as an
African upbringing.
Perhaps the response would have been more shocking if it had been any
less than it was.
2 3 Aprils Poli-Book Best-Seller List, The N.Y. Times, Apr.18, 2009, available at http://
thecaucus.blogs.nytimes.com/2009/04/18/aprils-poli-book-best-seller-listhfo/
?scp=4&sq=%22dead%20aid%22&st=cse.
2 4 Sachs, Aid Ironies, supra note 13 (Americans are predisposed to like the anti-aid message. They
believe that the poor have only themselves (or perhaps their governments) to blame); Adejabo,
supra note 12.
2 5 It is worth noting that GDP growth in sub-Saharan Africa averaged 5 6% in the decade
preceding 2009, albeit led by South Africa, Nigeria, and oil exporters. Economic Growth, African
Economic Outlook, available at http://www.africaneconomicoutlook.org/en/outlook/
macroeconomic-performances-in-africa/economic-growth.
2 6 See Wade, supra note 22.
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