SCOTUS Chides Posner/Easterbrook in Jones v. Harris
In a gentle rebuke to two famous academic judges, Richard Posner and Frank Easterbrook, today the US Supreme Court told them a debate they were airing in a recent case was not for federal judges but for Congress.
The Court, in Jones v. Harris, unanimously vacated as erroneous Easterbrook’s opinion that went out of its way to disagree with well-settled judicial interpretations of a relatively simple federal statute. Posner’s contending opinion engaged directly with the economic and market theories on which Easterbrook drew, both judges wrongly making debate out of the wisdom rather than the meaning of the statute.
The statute says an adviser to mutual funds is “deemed to be a fiduciary with respect to the receipt of compensation for services.” For thirty years, virtually all federal courts take that to mean adviser fees cannot be so disproportionate to services rendered as to indicate lack of an arms-length sort of bargain. Testing that requires considering all relevant factors.
The Court affirmed that interpretation and test as correct, in an opinion written by Justice Samuel Alito. Easterbrook erred when instead saying the fiduciary duty language required only that advisers disclose fees and that no other factor is relevant. The Court indicates that his dissertation on competition in the mutual fund industry and theories of market behavior is irrelevant to federal court business in the case.
Posner’s opinion, in the form of a dissent from the Circuit’s refusal to rehear the case en banc, engaged Easterbrook directly on economic theories and views of market efficacy, including debating empirical academic studies reaching opposite conclusions. The Supreme Court rebuked both, saying their job was to apply the statute not debate its wisdom.
On the merits, the Court recognized that fiduciary duty is not so crimped as Easterbrook thinks, in general or in the statute. Quoting its famous 1939 Pepper v. Litton opinion (by Justice William O. Douglas), fiduciary duty means requiring inherent fairness, under a test asking whether “under all the circumstances the transaction carries the earmarks of an arm’s length bargain. If it does not, equity will set it aside.”
The district court in Jones applied exactly that standard and upheld the fee contract challenged. Easterbrook’s opinion affirmed that , but on the detoured grounds of an anemic notion of fiduciary duty lacking legal support in a curious assertion of judicial competence. Posner’s engagement was proportional to that fault.
The issue of judicial competence is germane because statutory challenges to mutual fund fee contracts like that in Jones require courts to assess whether a deal resembles an arm’s-length transaction. The Supreme Court directs judicial modesty in doing so, that lower courts give weight to the process followed to approve contracts and to be cautious against excessive second-guessing of fee decisions. The Court emphasizes limited judicial competence to make such judgments.
Easterbrook likely would amplify the Court’s caution that judges beware of their limited competence to second-guess the relationship between a fee contract and an adviser’s services. Yet he had no trouble asserting judicial competence to second-guess a legislative determination on how to resolve related disputes. This gets things exactly backwards. In Jones, the Supreme Court emphasizes that federal judges do have a role reviewing mutual fund pay decisions by virtue of a statute whose wisdom federal judges do not have a role in reviewing.