Lynch, Paul; Quick, Roger --- "The Williams Review: federal costs and economic rationalism" [1998] ALRCRefJl 28; (1998) 73 Australian Law Reform Commission Reform Journal 47

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Reform Issue 73 Spring 1998

This article appeared on pages 47 – 51 of the original journal.

The Williams Review: federal costs and economic rationalisation

In May, federal Attorney-General Daryl Williams released the report of the Review of Scales of Legal Professional Fees in Federal Jurisdictions. The purpose of the review was to examine difficulties with the current scales and to make recommendations for reform.

Paul Lynch and Roger Quick* argue that if implemented, the recommendations will lead to significantly increased legal fees, and have a disastrous effect upon access to justice.

The review of current costs scales for legal fees, headed by Professor Williams of the University of Melbourne Business School, was a child of the Access to Justice Advisory Committee report Access to Justice, an Action Plan¹ and the federal government’s response in The Justice Statement.² Professor Williams was assisted by an economist, an econometrician and a legal practitioner. The professional background of this principal research team is critical to an appreciation of the theoretical foundations upon which the review is based.

The terms of reference of the review required it to consider policy issues arising from the structure of the present scales of costs utilised in federal jurisdictions, to collect and analyse data relating to federal jurisdiction costs and to make recommendations for change.

At its conclusion, the review formulated two principles which would form the basis for the design of new costs scales.

• The magnitude of any costs award should be determined (as far as is practicable) before litigation.

• The magnitude of the award should make allowance for the weight of the matters at issue.³

These findings represent a triumph for the economic rationalists who inhabit the rarefied world of competition policy, a world where ‘the man on the Clapham omnibus’ has been replaced by a person everywhere implicit in the report, though nowhere mentioned, the ‘modern legal consumer’.

The ‘modern legal consumer’

The ‘modern legal consumer’ is a highly sophisticated decision maker who has a perfect knowledge of the market for legal services. He or she is aware of the relative differences in charge out rates between legal firms in the national, state or regional market in which the consumer operates. The ‘modern legal consumer’ is aware of the relative experience and skill differentials between practitioners and can correlate skill and experience with charge out rates while negotiating a costs agreement. Finally, the ‘modern legal consumer’ is the consummate economic rationalist, whose decisions in relation to the consumption of legal services are determined by an optimisation of the skill/experience factor and the minimisation of the charge out rates.

In addition, in the world created by competition policy, the price elasticity of demand for legal services is extremely sensitive with the ‘modern legal consumer’ able to use his or her perfect knowledge of the legal market to change retainers between competitors in response to small changes in charge out rates or, alternatively, to renegotiate more favourable terms by varying existing costs agreements. But the ‘modern legal consumer’ is nothing more than a pernicious fiction without the foundation in reality of legal fictions such as ‘the man on the Clapham omnibus’.

The real legal world

At the risk of offending the acolytes of competition reform policy it is as well to state some existing features of the legal environment in which lawyers actually operate.

Information about the relative charge out rates of legal practitioners is not only not widely known among legal consumers, but is rather a closely guarded commercial secret.

Most legal consumers are not aware of the size of the market for the provision of legal services in their locality and are not aware of all the participants in the market.

Information about the relative skill and experience levels of competitors in the market for the provision for legal services is not distributed in any systematic way.

Legal consumers are not economic rationalists who negotiate retainers and cost agreements based on the optimisation of skill/experience and the minimisation of costs to the exclusion of other non-economic factors.

Many legal consumers are disadvantaged by the imbalance in both knowledge and power that are evident upon an initial interview with a legal practitioner and this characterises the relationship as a fiduciary one. Consumers do not have the perfect knowledge of the legal market that enables them to negotiate the terms of a retainer. They are often ‘captive’ in the sense that they may be compelled by time limits or other factors to engage legal representatives in some haste.

In addition, unless the client is legally qualified, it is unlikely that he or she will have any familiarity with the processes of litigation. A client may be so intimidated by litigation that the examination of the lawyer’s method of remuneration may be a low priority.

Often, the client is a respondent to litigation and so the decision to defend the claim is not the process of the incisive reasoning of the economic rationalist, but rather the only alternative to the entry of judgment by default. Other factors, particularly in family law disputes, assume much greater importance than the purely economic factors relied upon by the economists.

The reality is that the ‘modern legal consumer’ is a convenient fiction for the economic theoreticians. The notion of a beady-eyed consumer coolly calculating the comparative charge out rate differential and analysing the experience and skill of a prospective lawyer during the formation of the contract of retainer is a nonsense.

Does any practising family lawyer recognise such a character when taking instructions on a child kidnapping or contested residence application? Is the client who is the subject of a bankruptcy notice the master of retainer negotiations, who can overcome the inequality of bargaining power which is inherent in the solicitor-client relationship? Who can recognise the ruthless optimiser in the franchisee whose franchise has failed and whose family home is about to be seized by the secured creditor because of the fraud of a greedy franchisor? These examples, while they may be emotive, demonstrate why competition reform theory provides no answers for legal consumers or the profession in the reality of Australian legal practice.

Multiplicity of policy goals

The review criticises the present federal jurisdiction scales and asserts, among other things, that such scales serve too many policy goals, create a disincentive to settle and encourage waste of resources.

Initially, the review suggests that the existing fee scales have two principal functions. Firstly, as a benchmark for the appropriate fees to be paid to legal practitioners in the event of a dispute concerning solicitor and own client costs in the absence of an enforceable costs agreement. Secondly, as an indicator of the amount of costs that a party in whose favour a party and party costs order is made should receive from the unsuccessful party. However, the review then suggests the present scales are used for the additional purpose of providing a benchmark for determining the reasonableness of a costs agreement. At its highest, the review identifies these three policy goals as the objects of the current scales.

After criticising the current scales, the review champions the new scales because they are designed to fix solicitor and own client costs where there is a dispute, but no enforceable costs agreement, and, secondly, to determine the amount of the indemnity to be given to a party in whose favour a party and party costs order has been made. Therefore, the only change to the policy goals that the new scales effects is the exclusion of the use of the scales as a benchmark for the reasonableness of a costs agreement.

If the real purpose of the review is to prevent the existing scales from being used as such a benchmark, then this object could as well be achieved by confining them to measuring awards of costs between parties or abolishing scales altogether, as in New South Wales. It is not necessary to abolish the existing scales to answer this perceived criticism.

Creating uncertainty

The review constantly asserts that the uncertainty in the determination of legal costs is associated with the form of the current fee scales. However, it is not the scales which make the process uncertain, it is the very nature of litigation.

Existing federal jurisdiction scales are not uncertain and if the elements of the costs multiplicand are known, then an application of the scale will produce a precise result. But the nature of litigation is such that a practitioner often cannot know in advance whether his opponent's client will file proper pleadings, make appropriate discovery, inspection or disclosure and comply in prompt fashion with case management guidelines or whether the action will become considerably more protracted due to non-compliance.

Changing the way legal practitioners are remunerated will not render the litigation process any more certain. Nor will it reduce the steps that a competent legal practitioner must take to protect the interests of the legal consumer.

Disincentives to settlement

The review suggests that because the existing scales calculate remuneration on the basis of items of work under-taken in any given period this creates a disincentive to the settlement of legal disputes because practitioners are remunerated at the same rate - regardless of whether the work is undertaken at the start or end of an action.

This is said to cause litigants to be less likely to settle an action because they draw comfort from the fact that the party and party indemnity will provide the same level of protection regardless of the time of settlement. The review proposes that while the successful party should have the same level of indemnity in total, the ability to pass on the costs of the litigation to the other party should be biased towards the early stages of the litigation so that fewer costs during the actual litigation are able to be passed on to the opposite party.

Acceptance of this suggestion involves the over-indemnification of legal practitioners in the early stages of the litigation and the under-indemnification of the legal practitioner towards the end of the action by the excess provided to them earlier.

Even if the relative magnitudes of the level of the party and party indemnity were known in advance, the above proposition would allow legal practitioners to obtain a windfall, since they would be paid for items of work that may only be contingently undertaken by them in the future, thus representing a penalty imposed on the litigant.

This bizarre disincentive theory rests on a misconception that at each juncture in the litigation the litigant undertakes a notional cost-benefit analysis, taking into account the prospects of success and the future solicitor and own costs of litigation, including the proportion of such costs that can be passed on to the other party.

The theory ignores the reality that most litigants in federal courts pay for solicitor and own client costs either before or at the same time as the practitioner performs the items of work requested for that period. As the matter progresses, the notional calculations of the litigant do not focus exclusively on future costs. Rather, the focus is on the amount paid to date, which is factored into any considerations of settlement and which anecdotal evidence would suggest often becomes an impediment to settlement.

The theory also takes no account of the fact that in family law litigation, the ordinary rule is that each party bear their own costs of the proceedings. Often the legal costs of each party are ultimately borne by them personally and not paid until there has been a distribution of property. In these circumstances, it is unlikely that the issue of the party and party indemnity is of much significance as the action progresses.

In the Federal Court, while the usual rule is that costs follow the event, any party and party costs orders made in interlocutory hearings cannot be recovered by the successful litigant until after the completion of the principal proceedings, so the amount of the party and party indemnity cannot be known until the completion of the matter. The disincentive theory does not take account of these individual rules.

Incentives for wasteful expenditure

The review assumes that litigants in federal jurisdictions are free to decide the extent of the expenditure that they wish to devote to the litigation at each stage. This is the most serious defect in the theoretical basis for the review. Litigation is not in reality an optional activity in many cases, particularly for a respondent. The review fails to comprehend that the number of steps that a prudent legal practitioner must take to protect the interests of the client depends upon the directions made by the court in each case and the particular course of the litigation. But, at the end of the day, it does involve a finite number of actions. If the legal practitioner provides a lower level of service the client's interests will be damaged.

In this context, there is no scope for the optimising litigant to be undertaking a continuous cost-benefit analysis of the extent of the party and party indemnity. At best, decisions about the litigation are made upon a small number of discrete occasions throughout the litigation when sensible options can be discussed, ie, after discovery and inspection of documents. The litigant is committed to at least the next stage of the action by the force of the management of the case.

The structure of the existing scales is not the real source of the suggested disincentive to settlement but rather it is the continued existence of the rule that costs follow the event and the underpinning doctrine of indemnity which the review, paying lip service to the maintenance of the rule about costs following the event, nevertheless seeks to attack. Given that the review does not seek to overturn the party and party indemnity, this criticism of the existing scales cannot be maintained.

The proposed new scales

The review suggests that one of the perverse incentive effects of the existing scales is “...optimistic litigants believing that part of any incremental expenditure will be borne by the other party through an eventual award of costs on a party and party basis. That tends to encourage them to press on with litigation and waste resources more than they would under a regime in which they themselves had to bear the full costs of their decisions...”.⁴

The suggestion really is that litigants who believe that they are going to be successful are more likely to continue with litigation because they believe that their costs will be partially met by the party and party indemnity. This is an entirely expected outcome and a reasonable attitude given the current level of party and party indemnity. However, the review suggests that this attitude results in the waste of resources because litigants, upon proper advice, elect to continue with an action to trial. The solution of the review is to erode the party and party indemnity to a level which effectively penalises the litigant from proceeding to trial. It would be difficult to imagine a more serious impediment to access to justice.

Federal Court proposed scale

The proposed scale for Federal Court proceedings consists of a matrix which awards lump sum costs at five different stages of the litigation. As well, the weight of the matters at issue is given a classification of between one and five. The lump sum amounts which are awarded are based on statistical survey data collected from Australian legal firms. The response rate for this survey was 10 per cent.

On the basis of the new scale, the recent injunctive applications before Justice North, heard in the Federal Court in Melbourne involving the Maritime Union of Australia, in the absence of an order of the court, would, if accorded the highest weight, attract an award of $48,245 including counsels’ fees and all other outlays, except court filing and hearing fees. This allowance is obviously only a fraction of the actual solicitor and own client costs and of the party and party indemnity. It is completely inadequate to remunerate the legal practitioners for the nature and complexity of the work undertaken.

Proponents of the new scale will no doubt, in answer to the criticism, say that the court will retain a discretion to award costs on a different basis from the new scale. But what is the efficacy of the new proposed scales if they merely introduce an additional discretion to be exercised by the judge because of their insufficiency?

The new scale contemplates that a Federal Court judge would make a decision about the weight of the matters at issue on an initial directions hearing, and that once the action is classified in a particular category the court should be reluctant to change the classification.

In most Federal Court applications, the respondent has not even delivered a pleading by the date of the initial directions hearing and, as a result, the issues between the parties are not identified. To expect a judicial officer to come to terms with the complexities of the action in such a confined space of time and to make a considered judgment as to the appropriate classification of the matter is entirely unreasonable.

The suggested classification of the weight of the matters at issue has the effect that cases involving a contravention of Part IV of the Trade Practices Act and cases which claim damages over $1 million will be classified as either category four or five, and will thereby attract the highest party and party indemnity. This suggested classification will result in voluminous pleadings by lawyers in which every conceivable cause of action is pleaded, including, where possible, Part IV breaches, claiming damages in the millions of dollars, so as to attract the highest classification.

A Federal Court judge is expected to deal with these complexities on a directions hearing and to classify the actions accordingly. Such a proposal is unworkable.

An action cannot be properly classified until the pleadings have closed and until the parties have provided the court with detailed submissions about the appropriate classification of the action. This will require a detailed hearing where, no doubt, the parties will be represented by counsel and more costs will be expended by all.

Conclusion

The recommendations of the Williams Review, if implemented, will result in all litigants in federal jurisdictions being required to enter into cost agreements with their lawyers. Most of these agreements will incorporate time costing practices and, as has been the case in NSW, the level of legal fees will significantly increase.

It is unlikely that all these costs agreements will be enforced by the courts having regard to the common law authorities not just relating to the reasonableness of the agreement having regard to the level of charges, but also the fairness of the agreement.

If cost agreements are not enforced then the inevitable result for practitioners will be that work in the federal jurisdictions will become un-economic with disastrous effect upon access to justice.

* Paul Lynch is the Principal, Lynch & Company, Solicitors. Roger Quick is a Partner, Gadens Lawyers.

Endnotes

1. Commonwealth of Australia, Access to Justice Advisory Committee (1994).

2. Commonwealth of Australia, Attorney General’s Department (1995).

3. Williams Review, p.21-22.

4. Ibid., p.21.