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Managed Care Liability

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issue brief

Managed Care Liability

August 1, 2000
Energy & EnvironmentRegulations
Legal ReformOther
Health PolicyDrug Development

Richard Epstein, a graduate of Yale Law School, is the James Parker Hall Distinguished Service Professor of Law at the University of Chicago Law School, where he has taught since 1972. He’s a member of the American Academy of Arts & Sciences, and a Senior Fellow at the McClain Center for Clinical Medical Ethics at the University of Chicago Medical School. He is Editor of the Journal of Law and Economics and has authored numerous articles on a wide range of legal and interdisciplinary subjects, and several book length treatments in the field of law and economics, including Principles for a Free Society: Reconciling Individual Liberty and the Common Good (Perseus, 1998).

My talk tonight is about the liability of health care organizations under the official title of “Managed Care Liability.” This issue has frayed nerves and raised tempers. It has been the source of a tempestuous debate that has generated more heat than light. But however unsound individual arguments may appear, the debate itself will not have small or insignificant causes. To analyze the question one has to look for key distinctions in order to ferret out fundamental errors. The rival positions cannot be both correct, but they can be internally consistent, such that the identification of one key issue will organize the entire debate that follows.

In searching for that central issue, it is important to recognize that no one writes on a blank page. For every great public policy debate of today, there is some antecedent dispute that offers instructive parallels and perhaps ominous warnings of what may happen in our immediate future. Consequently, to resolve a contemporary dilemma, it is instructive to look back at earlier disputes of equal bitterness and equal futility to extract the wisdom they hold for the present.

Industrial Accidents. Quite frequently workers were injured on the job. Sometimes the loss was a pure accident; sometimes it was attributable to the negligence of the worker himself. On other occasions it was the negligence of a fellow employee, and on still other occasions the fault lay with the employer in the provision of equipment for the workplace. Owing to the high rate of accidents in the railroad, mining and manufacturing sectors, the question of the employer’s liability for these accidents was one of the main political issues at the time. In which instances, or rather for which accidents, could the employee sue the employer, and if so, why? Those who sought to hold the employer broadly liable invoked the themes of vicarious liability and supervisory negligence. Those who sought to limit the liability of the employer thought in terms of assumption of risk (by the worker upon taking the job) and contractual freedom. The method of integration of these two themes speaks volumes about the soundness of the modern analysis of managed care liability.

To establish the terminological groundwork for both the historical and modern disputes, vicarious liability refers to a system in which one individual, or one organization is held responsible for the acts of another individual or another organization, solely by virtue of the business or management relationships between them, even if the party that is vicariously liable is guilty of no wrongful act or omission. The standard illustration speaks of a railroad whose engineer runs down a pedestrian standing by the tracks. Does liability only attach to the individual or does it also run to the firm? In the end, the decisive argument for comprehensive vicarious liability was this: if the law allowed a firm to hide behind the misdeeds of individual employees, then that firm would tend to delegate responsibility to insolvent individuals. As they could not be liable, neither could the firm. Consequently, individual liability only yields an overproduction of certain services and an over production of accidents because the people exposed to suit will not be financially answerable for the losses they have inflicted on others. Faced with that specter, the 19th century judges rightly rose up in indignation against the possibility of employers deflecting liability to individual workers who were known to be unable to meet their legal obligations. No one who thinks about the subject regards this evasion as a suitable legal response.

Yet there is one key variation on this theme. Suppose an employer hires two workers, and one of them, in the course of employment, injures the other. The issue is whether the basic regime of vicarious liability that applies to strangers should carry over to disputes inside the firm. This one issue generated a passionate debate. That debate eventually coalesced around the alleged efficiency of market arrangements on the one hand, as opposed to the metaphors of industrial exploitation on the other. A very strong socialist element lined up on the second side of the issue, and in the end the legal response split.

The classical common law, which was more or less efficiency oriented, reasoned somewhat as follows: When one worker decides to work with a second particular employee in the presence of an employer, then the three can so organize their affairs to require full tort liability (pain and suffering, lost wages, medical expenses, death benefits), no liability, or liability somewhere in between. To the extent that the three parties have made some contractual arrangements amongst themselves, the judiciary should not upset that arrangement on either the choice of liability rule or the measure of damages. The judiciary reasoned that the same bias against judicial oversight of private contracts should apply to liability as it does over contracting for tenure of employment or applicable wages. The “classical” judges were willing therefore to adopt a hands-off posture towards contract over industrial accidents.

Now the standard critics of classical common law insisted that this laissez-faire attitude was shocking because it gave employers carte blanche to run and hide from all liability. In short, they posited a world in which firms would unilaterally replicate the worst scenario that one could imagine if they could simply refuse to honor their liability to strangers.

Fortunately, the historical record falsifies that prediction. In practice, firms entered into very sophisticated contractual arrangements—particularly in the mines and on the railroads, the most dangerous forms of employment—in which the employees agreed to assume greater liability than the common law imposed upon them in exchange for a lower level of damages. In time these private arrangements became the protocol for the workmen’s compensation statutes of the next generation.

The lesson we should take from understanding these situations is that the voluntary structuring of liability arrangements, even for parties of vastly different sizes, works quite differently from liability in stranger arrangements. The reason is that the company that wants to exclude liability after the fact of injury is the identical company that will have a heck of a time in attracting workers or patients before the fact. If so, then market constraint tends to falsify the socialist and labor vision of employer dominance, and to vindicate the classical market oriented understandings of employer’s liability law.

Sexual Harassment. Fast forward now to another modern case that raises the same issue in slightly different form: sexual harassment. No one wants to write a brief defending the practice of sexual harassment, but if we are looking for an explanation as to why this topic became such a contentious political issue, it would be on account of the judicial and legislative insistence that any individual worker must have a right of action against the employer when a fellow employee has engaged in acts of harassment.

In the alternative, I would argue that the appropriate response would be to allow them to work out their liability relationship by contract. Why? Since an employer has strong incentives to keep and attract workers, it will offer a mixture of contract terms and job opportunities that minimize the risk of harassment, without creating undue costs and complications. The inability to allow for contractual correction of the collective legal judgment about the right rule of liability is the source of most of our difficulties and public recrimination. The law locks parties into an arrangement that gives rise to opportunities for massive litigation.

On to Managed Care. This basic theme carries to the contentious question of liability for managed care organizations, or medical providers, for the injury that their employees are claimed to have done. It is useful to frame the current disputes with a bit of legal history. When I was first addressed the question of medical liability in the mid ’70s the topic of concern was the medical malpractice liability of individual physicians and, to a lesser extent, hospitals as well. What was wrong with malpractice liability in the 1970s? The courts had designed a regime of negligence that they thought was so persuasive, they were prepared to apply it across the board. Their decision was in defiance of the logic of private contracting, which always raised the possibility that some other arrangement for dealing with medical mishaps would prove superior in terms of its long-term sustainability.