Striking the proper balance: redress under section 13(b) of the FTC act

• Author: J. Howard Beales III and Timothy J. Muris
• Position: Professor of Strategic Management and Public Policy at the George Washington School of Business/George Mason University Foundation Professor of Law
• Pages: 1-45

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STRIKING THE PROPER BALANCE: REDRESS UNDER SECTION 13(b) OF THE FTC ACT

J. HOWARD BEALES III

TIMOTHY J. MURIS*

In the fall of 1981, the Federal Trade Commission was emerging from a period of extended controversy and facing continued threats to key aspects of its jurisdiction. In consumer protection, the Commission had sought to become the second most powerful legislature in Washington. Using its unfairness authority under Section 5,¹but unbounded by meaningful standards, in the 1970s the Commission embarked on a vast enterprise to transform entire industries. Over a 15-month period, the Commission issued a rule a month, usually without a clear theory of why there was a law violation, with only a tenuous connection between the perceived problem and the recommended remedy, and with, at best, a shaky empirical foundation.²This enterprise foun-

* J. Howard Beales III is Professor of Strategic Management and Public Policy at the George Washington School of Business, and Timothy J. Muris is George Mason University Foundation Professor of Law. While at the FTC from 1981–1987 and 2001–2004, the authors had at least supervisory responsibility for the cases discussed herein that were on the FTC’s docket during those years. Our views are solely our own; they do not represent those of the current Commission or of any of the parties with whom we have consulted. We thank Anna Aryankalayil, Brady Cummins, Larry Demille-Wagman, Brianne Gorod, Maryanne Kane, Kevin McDonald, Lee Peeler, and anonymous referees for numerous helpful comments.

¹ Section 5 of the Federal Trade Commission Act makes “unlawful” “unfair or deceptive acts or practices in or affecting commerce.” 15 U.S.C. § 45.

² See Timothy J. Muris, Rules Without Reason—The Case of the FTC, REGULATION, Sept./ Oct. 1982, at 20. For similar criticisms of the FTC’s rulemaking binge, see the extensive, contemporaneous studies by BARRY BOYER, REPORT TO THE ADMINISTRATIVE CONFERENCE OF THE

UNITED STATES, TRADE REGULATION RULEMAKING PROCEDURES OF THE FEDERAL TRADE COM-MISSION (1979); and Teresa Schwartz, Regulating Unfair Practices Under the FTC Act: The Need for a Legal Standard, 11 AKRON L. REV. 1 (1977). In 1980, the Commission itself recognized that Section 5 unfairness should be circumscribed. See FTC Policy Statement on Unfairness, appended to Int’l Harvester Co., 104 F.T.C. 949, 1070 (1984). In 1982, the Commission again clarified the reach of unfairness, eliminating the possibility that public policy could form an independent basis for a finding of unfairness. See Letter to Senators Packwood and Kasten, Mar. 5, 1982, reprinted in Antitrust & Trade Reg. Rep. (BNA) 1055, at 568–70. In 1994, Congress codified the definition in 15 U.S.C. § 45(n).

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2 ANTITRUST LAW JOURNAL [Vol. 79 dered, not only because of these substantive flaws, but also because of the internal inadequacies of the Commission’s procedures and because of intense opposition from members of both parties in Congress.

Clearly, the Commission needed a new vision of its consumer protection mission. As discussed in detail elsewhere,³the FTC should be a referee, not a star player, in the economy, enforcing basic rules to protect consumers and the market process. Fraud was a major problem consumers faced, the consumer protection analog to price fixing in antitrust. The prestigious Kirkpatrick Commission of the American Bar Association had recommended in 1969 that the FTC systematically attack fraud, but the FTC largely had ignored this recommendation.

Given the limited set of tools the FTC thought it had, there was considerable justification for its decision to continue to ignore fraud. Fraudsters are unlikely to obey legal rules unless they are forced to do so, and the FTC had little ability to compel compliance. It had no criminal authority to impose personal sanctions, and its traditional remedy, the cease-and-desist order, left untouched the monetary gains from fraud.

To help remedy these problems, after years of trying, Congress had amended the FTC Act in 1975 to expand the FTC’s ability to obtain monetary relief.⁴Primarily because the FTC Act’s basic prohibitions against unfair and deceptive acts or practices were both broad and often ill defined, Congress rejected open-ended monetary relief. Instead, it enacted two provisions that provided for monetary relief, but only under carefully circumscribed conditions. Section 19 permitted the agency to seek consumer redress in federal court after an administrative proceeding to determine whether a violation had occurred, but only for practices that a reasonable person would have known were “dishonest or fraudulent.”⁵Section 5(m)(1)(B) permitted the Commission to obtain civil penalties when a company engaged in an act or practice that the Commission had previously determined, in a litigated proceeding, was unfair or deceptive, but again only if the company had actual knowledge of that determination.⁶Although both of these provisions were potentially useful tools, neither would work against fraud. Each had the same fundamental flaw, namely, that the investigative target would have time to hide the money well before it could be ordered to pay redress.

³ See Timothy J. Muris & Robert Pitofsky, More than Law Enforcement: The FTC’s Many Tools—A Conversation with Tim Muris and Bob Pitofsky, 72 ANTITRUST L.J. 773 (2005).

⁴ See infra Part I.C.

⁵ 15 U.S.C. § 57b; see also infra Part I.C.

⁶ See 15 U.S.C. § 45(m)(1)(B); see also infra note 76. In addition, Congress enacted Section 18, which also provided for monetary relief. 15 U.S.C. § 57a. Section 18, however, first required the Commission to promulgate a rule. Section 19, 15 U.S.C. § 57b, authorizes civil penalties for rule violations. See infra note 102 and accompanying text.

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2013] STRIKING THE PROPER BALANCE 3

Thus, it was critical that the FTC be able to freeze assets pending a final determination on the merits. The agency therefore turned to the second proviso of Section 13(b), added to the FTC Act in 1973, which provides that “in proper cases the Commission may seek, and after proper proof, the court may issue, a permanent injunction.”⁷Relying on the authority to obtain permanent injunctions permitted the use of a single forum to attack fraudulent practices. The federal district court could not only issue an ex parte order freezing assets and enjoining ongoing violations, it could also dispose of the case on its merits, ordering, if appropriate, that the frozen assets be returned to consumers and that a permanent injunction be issued. This use of Section 13(b) became known as the “Section 13(b) Fraud Program.”⁸Admittedly, this use of Section 13(b) was something of a “stretch.” Although many on the FTC staff, including the authors of this article, supported the new program, there was some internal opposition, arguing, with considerable force, that the 1975 amendments provided the exclusive road to financial relief. The response was two-fold. First, because the ability to freeze assets rested on a strong foundation, it would be nonsensical to force the Commission into three separate legal proceedings to resolve a single matter, as would have been required under Section 19.⁹Indeed, in the legislative history of the 1975 amendments, Congress recognized that judges might be reluctant to is-

⁷ 15 U.S.C. § 53(b). The first part of Section 13(b) provides, in pertinent part:

Whenever the Commission has reason to believe—(1) that any person, partnership, or corporation is violating, or is about to violate, any provision of law enforced by the [FTC], and (2) that the enjoining thereof pending the issuance of a complaint by the [FTC] and until such complaint is dismissed by the [FTC] or set aside by the court on review, or until the order of the [FTC] made thereon has become final, would be in the interest of the public—the [FTC] by any of its attorneys designated by it for such purpose may bring suit in a district court of the United States to enjoin any such act or practice. Upon a proper showing that, weighing the equities and considering the [FTC’s] likelihood of ultimate success, such action would be in the public interest, and after notice to the defendant, a temporary restraining order or a preliminary injunction may be granted without bond.

Id.

⁸ See generally David R. Spiegel, Chasing the Chameleons: History and Development of the FTC’s 13(b) Fraud Program, ANTITRUST, Summer 2004, at 43. The Commission had begun to explore possible uses of Section 13(b) and Section 19 before the fraud program launched late in 1981, but there was no systematic effort to attack fraudulent practices. After the fraud program was launched, two of those exploratory cases resulted in highly useful Circuit Court opinions in 1982 granting preliminary relief. See Appendix.

⁹ See David M. Fitzgerald, The Genesis of Consumer Protection Remedies Under Section 13(b) of the FTC Act 11–12, available at http://www.ftc.gov/ftc/history/docs/fitzgeraldremedies. pdf (“To obtain complete final relief, the Commission would need to litigate and win three separate actions: (1) a Section 13(b) preliminary injunction proceeding to obtain a preliminary asset freeze; (2) an administrative proceeding leading to a final cease and desist order; and (3) a district court action to obtain consumer redress under Section 19.”); see also id. at 19 (describing such a “three-part process” as “lengthy and cumbersome” and noting that “[t]he permanent injunction proviso of Section 13(b) . . . offered a much more effective and efficient weapon against fraud”).

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4 ANTITRUST LAW JOURNAL [Vol. 79 sue preliminary relief unless it could assure that a final decision on the merits could occur expeditiously.¹⁰Second, and equally important, because the Commission was attacking fraud, it was respecting the carefully crafted congressional compromise that authorized monetary relief only when the...