The Real Problem with Arbitration? The Alternative

Class action lawsuits were supposed to promote judicial efficiency and provide a means to resolve small harms committed on a large scale, but they rarely work that way. Large class actions are not justice. They are a racket.

These lawsuits have become the holy grail of plaintiff's lawyers because they can be used to magnify even flimsy and inconsequential claims into large legal threats. Settlements of these cases are notorious for resulting in huge fees for attorneys while providing little actual benefit to the people in the class, some of whom receive awards worth less than the postage to send the claim forms.

A Consumer Financial Protection Bureau study, prepared in advance of the bureau's recent proposal to restrict arbitration clauses, confirms this. It found that 87% of class actions provided no money to class members and in settled cases only 4% of class members received a payout, which averaged just $32. Many settlements actually harm class members. These cases are an abuse of the judicial process and in some cases can pose a significant threat to legitimate businesses.

The CFPB's May proposal limiting the use of arbitration to settle disputes would inevitably lead to be more class actions. But class actions pose too many problems in their present form to serve as a good way to resolve disputes. They are riddled with conflicts of interest. Because the class lawyers control the litigation, they effectively decide when to settle and their decision is primarily based on the size of the fees awarded to them, not what the class members receive.

It is no exaggeration to say that most class actions are simple extortion committed in the name of people who have no real role in the process.

This is acknowledged in the handbook provided to federal judges for handling class actions. It notes that "[b]ecause the class itself typically lacks the motivation, knowledge, and resources to protect its own interests, and because settling counsel for both plaintiff and defendant have little or no incentive to offer information adverse to [a] settlement …", the judge must function as a "fiduciary of the class" and become an advocate for the class. In other words, the lawyers are in it for themselves and cannot be expected to protect their purported clients. It is astonishing that supposedly neutral judges would be made a fiduciary for a party in a disputed case.

Class action advocates point out that most consumers do not know their loan agreements contain arbitration provisions, but consumers likewise rarely know when an attorney has filed a class action lawsuit in their name. Class actions allow the class lawyers to conscript claims of people without their consent and class members rarely play any meaningful role in managing the case. Class members often find out a lawsuit was filed in their names only when notified of a pending settlement. And because the settlements so often provide little or no money for class members, most people don't bother to even fill out the papers necessary to establish their claim.

At a minimum, we need new rules for class actions to stop this abuse.

Class actions should not be allowed unless actual control over the litigation is restored to the class members. The conflict of interest is obvious when a lawyer controls a settlement.

More control for class members could be achieved by expressly requiring each class member to opt in to the lawsuit at the outset. Class attorneys would surely protest such a requirement, but they can't credibly argue that they should be able to file a complaint in a person's name without that person's knowledge and consent. Once they are identified, class members can elect a panel to manage the litigation going forward much like a creditors' committee oversees a bankruptcy case. The committee would protect the plaintiffs' interests and decide whether and when to settle and for how much.

A class established in this way would still serve the interests of justice while restoring control of the lawsuit to its rightful claimants, who will not be inclined to waste their or anyone else's time pursuing flimsy claims that will likely result in no meaningful benefit to them.

George Sutton is an attorney at Jones Waldo Holbrook & McDonough. From 1987 to 1993, he was the Utah commissioner of financial institutions.