Torts and innovation.

• Date: 01 November 2008
• Author: Parchomovsky, Gideon

This Essay exposes and analyzes a hitherto overlooked cost of tort law: its adverse effect on innovation. Tort liability for negligence, defective products, and medical malpractice is determined by reference to custom. We demonstrate that courts' reliance on custom and conventional technologies as the benchmark of liability chills innovation and distorts its path. Specifically, recourse to custom taxes innovators and subsidizes replicators of conventional technologies. We explore the causes and consequences of this phenomenon and propose two possible ways to modify tort law in order to make it more welcoming to innovation.

TABLE OF CONTENTS INTRODUCTION I. THE CENTRAL ROLE OF CUSTOM IN TORT LAW A. Custom and Liability for Negligence B. Custom and Product Liability C. Custom and Medical Malpractice II. CUSTOM RULES AND INCENTIVE TO INNOVATE A. Ex Post Effects B. Ex Ante Effects III. REMEDYING THE ANTI-INNOVATION BIAS A. Equalizing Down." Doing Away with Custom Rules B. Equalizing Up: Elevating Innovations to the Status of Custom CONCLUSION INTRODUCTION

Innovation is a key determinant of wellbeing and economic growth. (1) Academic discussions of innovation are typically confined to the domains of patent and trade secret law. This Essay highlights a previously underappreciated connection between innovation and tort law. (2) It seeks to expose and analyze the cost the current design of our tort system imposes on innovation. The main thesis of the Essay is that courts' reliance on customs and conventional technologies as the benchmark for assigning tort liability chills innovation and distorts its path. This reliance taxes innovators and subsidizes users and replicators of conventional technologies.

The centrality of custom to our torts system can best be seen in three main doctrines that make up tort law: negligence, product liability, and medical malpractice. Begin with negligence. In assessing a defendant's conduct, courts presume that a defendant who fails to comply with safety-related customs prevalent in her industry acts negligently. The defendant consequently needs to rebut this presumption, which may in many cases be very difficult to do. Likewise, in product liability, courts turn to custom in determining whether the defendant's product design was defective. Deviation from industry custom, therefore, runs a greater risk of a ruling that the product is unsafe. Finally, in the area of medical malpractice, courts hold doctors to the "customary care" standard. A physician's failure to comply with this standard exposes her to a higher prospect of liability.

In short, custom constitutes the benchmark against which defendants' conduct is evaluated. (3) The law of torts relies on custom not only directly, by associating custom with precautions against harm that a reasonable person ought to take, but also indirectly, through evidentiary rules and presumptions that bolster the centrality of custom to adjudicative determinations of fault. (4) Chief among those rules is the res ipsa loquitur presumption that creates a strong evidential association between safety and conventional precautions against harm. Under this presumption, an unusual occurrence featuring an infliction of harm by an instrumentality over which the defendant exercised exclusive control prompts an inference that the defendant was negligent. (5) Taking conventional precautions against harm removes the occurrence from the "unusual" category. (6) Failure to take conventional precautions, in contrast, indicates negligence on the part of the defendant not only when she takes no precautions whatsoever, but also when she elects to employ a novel--i.e., unconventional--technology] When res ipsa applies, the case goes to trial automatically and the plaintiff is entitled to a jury decision on whether the defendant acted negligently, even when she cannot point to any specific negligent act. (8) The ensuing prospect of losing the case puts the defendant under a serious pressure to settle.

Another rule inimical to innovation is the Frye doctrine (9) that controls the admissibility of expert evidence in many state jurisdictions. (10) Under Frye, expert testimony that falls outside of scientific or technological consensus is inadmissible as evidence and cannot be presented to fact finders. This evidential incapacitation works against innovators and in favor of users and producers of conventional technologies.

To appreciate the combined effect of these doctrines and rules on innovation, consider the following example. (11) Assume that Jane, a physician, invents a new method of stabilizing the heads of patients who suffer back injuries in automobile accidents. Unfortunately, it is not fail-safe: two percent of the accident victims treated with Jane's stabilization method will suffer permanent damage to the spine. Nevertheless, Jane's method is superior to the customary treatment, which injures five percent of the victims. Assume further that the cost of treating patients is the same under both methods. From a social standpoint, it is clear that Jane's method should replace the customary treatment. However, the rules of tort liability will probably prevent this socially beneficial development. Under these rules, physicians using Jane's innovative method will be exposed to a much higher risk of liability than physicians who adhere to the customary method. Indeed, it is quite possible that users of the customary method will successfully fend off all suits against them, whereas adopters of Jane's method will have to compensate the victims in all cases in which the treatment fails. Anticipating this outcome, innovators like Jane may decide in many cases to put their inventive skills to rest and forego their attempts to improve upon conventional wisdom altogether.

The custom-based design of our tort law, especially when coupled with the evidence rules used by courts, subsidizes producers and users of conventional technologies while taxing innovators. Innovation entails three distinct activities: coming up with a viable idea for a new invention, research and development ("R&D"), and commercialization or marketing the invention to the public. (12) Naturally, innovators critically depend on the reaction of the market to their innovation; the market success of a new technology determines the innovator's reward. Failure in the marketplace implies that investments in R&D (and the innovator's opportunity costs) will not be recuperated. As we will show, however, the market's reaction to an innovation is a function not only of the innovation's quality but also of the innovator's expected liability in torts. When an innovator cannot reduce this liability by improving the quality of her innovation, the effect of the law of torts on the incentive to innovate is perverse.

To be sure, we do not argue that tort law stops all innovators dead in their tracks; many innovations are produced even under the current regime. Yet the heightened risk of liability puts a drag on innovation and diverts its path.

The exact effect on innovation is a function of the magnitude of the necessary investment in R&D and the size of the improvement an innovation represents over existing alternatives. The greater the investment in R&D necessary to produce a certain innovation, the greater is the risk that the innovation will not be produced. By contrast, an innovation that substantially improves upon existing alternatives will likely be produced despite the R&D costs. Either way, the increased liability innovators face raises the total cost of producing innovations and, consequently, the price consumers must pay for new technologies and products that do reach the market.

When R&D costs are moderate or low, innovators may elect to complete the development stage, and when possible, even patent their inventions, because they expect no tort liability at these early stages. Many innovators, however, will stop short of commercializing their inventions because commercialization may lead to liability in torts. This dynamic will leave society with a list of unimplemented inventions--both patented and unpatented.

In addition to chilling innovation, the custom rules skew the direction of technological progress. The heightened risk of liability for tort damages induces innovators to limit their R&D endeavors to the conventional technological frameworks. Instead of focusing upon genuine technological breakthroughs, innovators will strive to produce incremental improvements on customary and conventional technologies.

The distortionary effect of the torts system on innovation may be rectified, however. We propose two possible reforms that achieve this goal. First, policymakers can make tort law more welcoming to innovation by eliminating the privileged status of custom and moving to a pure cost-benefit system. We term this alternative "equalizing down." Implementation of this reform will free courts from the need to consider custom in determining defendants' liability and allow them to compare the defendants' conduct to other alternatives without putting a thumb on the scale. We are aware of the fact that the custom rules produce certain social benefits. Adherence to custom facilitates fact-finding, shields defendants from the juries' whims and biases, and makes tort adjudication more consistent and predictable. (13) These benefits are capped, however: they can never exceed the total social value produced by all tort suits. On the other hand, the social value of innovation is virtually limitless. One successful innovation in the area of medicine, for instance, may save thousands of lives and alone outweigh the benefits of the custom rules.

Nevertheless, we recognize the fact that some may be wary of a wholesale abolition of the custom rules. For them, we propose a different and arguably more innovative reform: an "equalizing up" approach. (14) Instead of abolishing the custom rules, it is possible to keep...