Disadvantages of Arbitration (MACs/CABs)

Despite the sincerity with which they are held, advocates of mandatory arbitration are entertaining demonstrably false and ultimately misguided views. For some of the aforementioned benefits of arbitration, there is significant empirical evidence to the contrary. In discussing the disadvantages of mandatory arbitration for consumers and employees, I will focus broadly on cost, flexibility, privacy/confidentiality, and finality. The advantage of time/duration that arbitration has over litigation withstands scrutiny; on average litigation does, in fact, take longer from beginning to end than arbitration and must be conceded.¹

Cost

While it may have been possible at one point in time to honestly state that arbitration was cheaper and more cost-effective than litigation, that time has long since passed. The increasing complexity and structural nuances of new forms of MAAs and arbitration, in tandem, has eliminated much of the supposed savings that consumers and employees normally receive. But before comparing simple dollars and cents, there are other, more philosophical objections to consider first, all of which involve the concept of costs.

First, there is a difference in payment structure between arbitration and litigation that affects initial access to arbitration. With arbitration, more of the processing and procedure fees have to be paid upfront whereas with litigation, plaintiffs often work out a deal with their lawyers that involve the latter’s contingency fees. Contingency fees are those agreed upon by a client and his/her lawyer(s) which stipulate that the lawyer(s) will only get paid if their clients win their respective cases. If/when the clients win, the lawyers recover a certain percentage, previously agreed upon, of the case’s award.²

In the rare event of appealing an arbitration award and pursuing litigation under the FAA, this difference in payment structure takes on added significance once it is coupled with the empirical fact that consumers/employees lose at their arbitration proceedings more often than businesses do. A 2011 study involving 1,213 mandatory arbitration cases administered over a five-year period by the AAA compared the outcomes to studies of employment discrimination cases decided in federal courts as well as non-civil rights cases in state courts. The conclusions drawn were that “employee win rates in mandatory arbitration” were just over 20% – approximately one in five employees would win in an arbitration proceeding against their employer. This was much lower, in comparison, than the employee win rates in federal courts (over 36%) and state courts (over 56%) of relevant similarities.³

To make things worse, it is not only the win/loss ratio of arbitration, in comparison to litigation, that could negatively affect lawyers’ participation. Recall that the median award amount for arbitration proceedings is also lower in comparison to litigation cases. Within the Consumer Financial Protection Bureau (CFPB)’s report, even when consumers did win an award as part of their arbitration proceeding, they were only entitled to receive, on average, “57 cents on the dollar” for their claims; barely above half of what they originally requested.⁴

So not only do consumers lose outright more often, as demonstrated by the poor 20% win rate, but also in the event that they do win their arbitration disputes, they receive far less than what they originally sought.⁵ This creates a situation in which lawyers may be reluctant, or perhaps downright unwilling, to take on any arbitration-related litigation that they don’t deem a ‘cinch’ to win. It simply is not worth their time to take such cases, at least from a combined professional and economic perspective. As a result, this further alienates those consumers/employees who are seeking redress for their judicial grievances.⁶

Second, within the context of justifying class action lawsuits, there is a “deterrence power [that] comes in [the] ability to create broad change through classwide injunctive or declaratory relief or through substantial classwide damages or penalties.”⁷ Legal scholar Ben Kaplan notes that Rule 23 of the 1966 Amendments to the Federal Rules of Civil Procedure exists to help vindicate “the rights of groups of people who individually would be without effective strength to bring their opponents into court at all.”⁸ Class-action lawsuits, the Supreme Court has traditionally held, “serve the important policy function of deterring and redressing wrongdoing, particularly where a company defrauds large numbers of consumers out of individually small sums of money.”⁹ Without class-action lawsuits, Barnes argues, many individuals simply couldn’t afford to bring their own case to bear against the business/corporation or find legal representation to do so on their behalf.

Similarly, the prosecution of individual claims, especially when only small sums or values are involved, fails to generate any kind of incentive to the business/corporation to downright stop, or else modify, their unethical and illegal behavior. Depending on the outcome of a cost/benefit analysis, a business or corporation may come to realize that they, in fact, stand to gain in some relevant business way even if they lose each and every single arbitration dispute rather than allowing a class-action lawsuit. This is exactly the kind of situation that class action bans (CABs) aim to bring forth. CABs prevent any collective litigation and, when combined with Mandatory Arbitration Clauses (MACs), they prevent litigation of nearly every kind, effectively exiling consumers/employers from the United States court systems. Those consumers and employees can knock on the door, but they will not be allowed to enter.

Third and finally, there is the issue of whether or not increasing litigation costs would be passed onto consumers or employees in the event that mandatory arbitration was done away with. As Aschen notes, it is a myth that “the use of mandatory arbitration prevents companies from distributing the costs of litigation onto the consumers.”¹⁰ Most recently, the findings of the CFPB’s landmark study “examined the effect that mandatory arbitration clauses have on the price of consumer credit card services” by comparing the financial data of three companies who retained a MAC in their service contracts and four companies which did not. The CFPB’s ultimate conclusions were that “companies were not required to increase costs because of the lack of a mandatory arbitration provision in their service contracts” and that “there was no statistically significant data to suggest that the presence or absence of the clause led to increased or decreased prices for the services.”¹¹

The take-away is that while arbitration may cost less, it also seemingly returns less to the individual consumer/employee in terms of justice. Not only do consumers and employees win awards less often in arbitration than in litigation, but also, when they do, it is almost always for less than what they initially sought. This is not to mention that class-action lawsuits are generally prohibited, forcing individual arbitration, even if it is prohibitively expensive to the consumer/employee (in comparison to the award sought) to do so. And we cannot forget the fact that, by the time arbitration has begun, the consumer(s)/employee(s) have quite possibly already spent several hundreds of dollars in upfront arbitration administration fees. All of these are additional cost-related objections to mandatory arbitration.

Yet, even aside from the previous objections, there is empirical evidence that arbitration actually does not cost less, overall, than litigation, at least in some cases/kinds of cases. The CFPB notes as a general baseline that “the fee for filing a case in federal court is $350 plus a $50 administrative fee, paid by the party filing suit, regardless of the amount being sought.”¹² With that $400 cost in mind, we can compare it to some arbitration proceeding costs.

In current market conditions for arbitration providers, the American Arbitration Association (AAA) is the most dominant and successful, providing a majority of arbitration services to businesses and consumers across the nation. In the arbitration proceedings that AAA arbitrators determine, they cap at $200 the amount of administrative fees that consumers/employees have to pay in order to file an arbitration proceeding.¹³ In addition, “[t]he business shall pay the arbitrator’s compensation unless the consumer, post dispute, voluntarily elects to pay a portion of the arbitrator’s compensation.”¹⁴ The current rate charged by the AAA is $1,700 for 1 arbitrator or $2,200 for 3 arbitrators (if the consumer filed) and $1,900 for 1 arbitrator or $2,400 for 3 arbitrators (if the business filed).¹⁵

Yet the business does not lose this money, or at least not all of it. AAA’s ‘Filing Fees Refund Schedule and Arbitrator Compensation Cancellation Policy’ states that “if the case is closed as settled or withdrawn prior to the AAA’s correspondence communicating the “answer” due date, 75% of the business’s portion of the filing fee will be refunded to the business.” But “if the case is closed as settled or withdrawn after the AAA’s correspondence but before an arbitrator is appointed, 50% of the business’s portion of the filing fee will be refunded to the business.”¹⁶ Moreover many of the other related expenses that could arise are the financial responsibility of the business. The notable exception to this general principle is if an arbitrator deems such reallocation necessary to his award following the arbitration.

While the AAA seems to be a reasonably just arbitration provider, insofar as it is concerned with the costs passed on to consumers/employees, it is important to remember that there are still a significant number of arbitration providers who do not adhere to this same institutional framework or set of organizational practices. As a result, those consumers and/or employees do not receive the same treatment or have the benefit of the same safeguards when they go to other such arbitration providers. Moreover, the AAA, as well as other arbitration providers, are still subject to the same criticisms about mandatory arbitration, particularly with the “repeat-player,” poor win/loss rate for consumers, and poor award amount problems.

Another arbitration provider, National Arbitration and Mediation (NAM), provides some of the same services, but at different costs. For instance, NAM charges each party to an arbitration proceeding an administration fee of $545 (based on a rate for less than 4 parties involved) which includes one hour of reserved time with a Hearing Officer (arbitrator). After that first hour, however, it is $330 for each additional.¹⁷ Not only is this prohibitively expensive, but it also puts a tremendous pressure on the consumer or employee to settle quickly to save costs, even if it may not be in their best interest. This refers back to the unequal bargaining power objection.

Though there are no direct publications about how many proceedings NAM handles each year, there is indirect evidence that can be drawn from their Testimonials section of their website. Take, for example, a testimonial from Steven Goldstein, Esquire of Goldstein & Handwerker, LLP who states that he has “been a completely satisfied client of NAM since 1998. In that time I have either settled or disposed of via arbitration over 100 cases.”¹⁸ But he is just one person representing one organization. There are numerous other testimonials on their website, including some from big name companies and organizations such as Toys R’ Us, CNBC, Liberty Mutual Insurance, and the New York Law Journal.¹⁹ To give a reasonable, yet conservative, guess, it seems fair to say that NAM likely handles hundreds of arbitration proceedings a year or, at the very least, at least 100. That means, potentially, hundreds of consumers or employees each year who are being subject to higher costs, in addition to the other disadvantages of mandatory arbitration about to be discussed.

And NAM is not the only other arbitration provider. There are some that are state-specific ones like WAMS (Washington Arbitration and Mediation Services) that also handle arbitration proceedings according to their own internal policies.²⁰ NAM and WAMS are just two instance of those kinds of cases in which arbitration may actually cost more than litigation (lawyers’ fees not included). There are likely many others which just increases the scope of this empirical objection about cost.

Flexibility

It is true that arbitration is, generally speaking, more flexible than litigation. As a simple matter of comparing respective structures, arbitration can either shorten, or altogether avoid, certain cumbersome elements of court case proceedings. More so, even if an arbitration proceeding retains many, or almost all, of the same structures as a court case, the duration will be shorter since there will not be a jury present and there are very few successful litigatory appeals brought against the awards by way of the FAA and the Supreme Court’s accompanying interpretation.

However, the argument can and should be made that, since its origins, arbitration has become increasingly more complex and, in relevant ways, has become increasingly similar to litigation. For instance, the decision to use multiple arbitrators for proceedings has complicated the overall process as has a more expansive discovery process, prehearing conferences between the parties, and, in some cases, motion practice.²¹ On one hand, these developments are positive insofar as they represent a genuine effort by businesses/corporations to engage with the concerns and questions of those consumers/employees negatively affected by arbitration proceedings. But on the other hand, this progressive formalization has come at the high price of arbitration’s prior mentioned structural flexibility.²²

Next, there is the objection from the ‘unequal bargaining power’ between the two parties of an arbitration proceeding, especially at the point of initial contracting.²³ There is, in the average case at least, a large discrepancy between the resources (personnel, time, money, etc.) available to the consumer and those available to the business/corporation, both in quality and quantity.²⁴ Nowhere is this advantage more visible than when a dispute arises and the signed contract stipulates the use of mandatory arbitration.

To be fair, however, the mere existence of a discrepancy in the respective resources of the two parties taking part in an arbitration proceeding is not, inherently, bad. If two parties involved in any kind of economic or legal transaction (e.g. an arbitration proceeding), had to have equal qualities and quantities of resources, as a matter of principle, then many aspects of our interconnected economic/political/social lives would be severely impoverished. But this line of reasoning misses the overall thrust of the ‘unequal bargaining power’ criticism which is aimed more at the claim that the two parties involved in an arbitration proceeding benefit from exercising more autonomy than they would in litigation.

Even though the arbitration process, once initiated, is genuinely flexible and may emphasize collaborative dispute resolution, the fact remains that it is the business/corporation who ultimately decides what arbitration-related clauses make it into the consumer’s original contract. This means that there is great potential for the consumer or employee, insofar as they are the ones initiating the arbitration proceeding, to be disadvantaged, depending on the types of clauses chosen.^25,26 For instance, some businesses/companies may resort to the use of “losers pay” arbitration clauses in which the individual who sought arbitration has to pay, not only for their own arbitration/legal fees, but also those of the business/company who won the proceeding.²⁷ Not only does this add insult to injury, but it unfairly and unnecessarily burdens the individual seeking redress for their grievances.²⁸

This situation is made worse when we consider the trusting relationship between consumers/employees and businesses/employers, respectively. For instance, as Aschen points out, consumers are often “more willing to trust the reputation of [well-known companies]” and therefore “feel comfortable signing an agreement with a limited understanding of the terms.” This is especially the case when in the combined context of FOMO (‘fear of missing out’) as experienced by contemporary youth and flash sales/events by a business. The pressure not to be the only person who does not own X or has not experienced Y, along with the constant barrage of advertisements in the media expressing the urgency to take advantage of a particular sale or event, has a distinct psychological effect that businesses are likely well aware of. ²⁹

This particular example about unequal bargaining power also ties into the objection above related to cost, namely that, prohibitively high costs are likely to deter individuals from seeking redress for their grievances at all. For if an individual has to be certain (or at least more certain than not) that his/her arbitration proceeding will be decided in his/her favor, then many people will forego using it at all, determining the risk to be too great against the background of the potential benefit(s) given the amount of uncertainty involved.³⁰ Thus, the business or corporation is in a position of superior bargaining power before, during, and after the arbitration proceeding.

Similarly, there is the objection from questionable consent. While consent and cooperation are necessary elements for successful arbitration, these elements only come after the initial contract has been signed. As Aschen explains, “consumers often lack the opportunity to make the choice whether to enter into the agreement.”³¹ Most products or services in our times are sold/leased on the basis of a contract of adhesion, that is, on a “take it or leave it” basis. There is no opportunity for negotiation at the time of purchase; if the consumer refuses, the business simply does not sell the product or service.³²

Therefore, the flexibility that is claimed to be an advantage of arbitration contra litigation turns out to be a disadvantage instead. For one, arbitration has become sufficiently complex in the development of its own internal rules and procedures that its flexibility in comparison to litigation is increasingly negligible. This progressive complexity will have ramifications for the time duration, as well as the cost, of arbitration proceedings. For two, rather than fixing problems and resolving disputes, arbitration’s flexibility, insofar as it relates to the specific terms and conditions of consumer/employee contracts, provides ample opportunity for a variety of ethical wrongdoings to be committed against consumers/employees.³³

Privacy/Confidentiality

Next, there is the claimed advantage of privacy/confidentiality in arbitration proceedings. Keeping information safe from the prying eyes of the public appears to be a good idea on the surface. It will keep the identities and reputations of each party private (which may be a good thing depending on the circumstances). But when we consider the larger context of arbitration is the world of business, one in which businesses/corporations can fundamentally and unfairly “shape an insider system with its own political economy” through the use of MACs/CABs, keeping information private is the opposite of what is currently needed.³⁴

Though there are other aspects of the privacy/confidentiality objection that could be addressed, here I focus my attention on the deterrent effect that bad publicity has on businesses. A relevant, though seemingly sui generis, example comes from a situation involving General Mills. General Mills served as a forerunner of sorts in that it adopted a mandatory arbitration clause (MAC) that was initiated whenever consumers interacted with their website such as downloading available coupons for products or commenting on their statuses/posts on their Facebook page. Once discovered, this General Mills policy was met with fierce public resistance and even fiercer media condemnation. Immediately, the media fueled the backlash by covering it extensively in blogs and news vignettes across the nation.³⁵ General Mills quickly removed the MAC and apologized to its consumers.³⁶

Had there not been a barrage of complaints from consumers and the collective media, however, it seems as though General Mills would have been successful in further expanding the domain of mandatory arbitration. Thus, what is needed is the airing of this dirty laundry. Businesses ought to have their misdeeds publicized, regardless of whether mandatory arbitration is the forum for dispute resolution. It is only by being forced to confront their failure(s) and wrongdoing(s) that they have any chance of learning and growing from it (or simply being deterred from ever doing it again). The utility of sharing arbitration proceedings, including business wrongdoings, with the public cannot be understated.

Finality

With regards to the finality of arbitration proceedings, it is not the mere fact that they are final that makes them questionable. Rather, it is the questionable process by which proceedings are decided, coupled with this finality, that provides the premise for this next objection. One such objection is known as the “repeat-player” problem. By the very structure of contemporary arbitration proceedings, there is an implicit pressure exerted upon arbitrators. Insofar as arbitrators may be called upon again by businesses/corporations, but not as likely as by consumers/employees, there is pressure to rule in favor of the business/corporation to ensure future work. This is because, whereas a business or corporation may go through dozens, hundreds, or even thousands of arbitration proceedings in their ‘lifetime,’ an individual consumer or employee will, undoubtedly, go through less. As legal scholar Drew J. Hushka notes, it is plausible to assume that corporations that utilize arbitrators will approve of those arbitrators who issue favorable decisions against consumers. Such an arrangement may create a quid pro quo future financial relationship between these two parties.³⁷ Moreover, even some arbitrators have admitted to feeling, and acting upon, those same pressures.³⁸

From another perspective, a more sophisticated version of the “repeat-player” problem relies less on arbitral susceptibility to that structure pressure and may focus on it from the business’s perspective. The business may, from day one, proactively seek to better understand how the arbitrators in its cases make decisions, learning all they can about their chosen arbitrator beforehand, as well as during the proceedings, so as to try to further influence the outcomes to favor them. A business could then begin filtering out those who may be unsympathetic and holding on to those arbitrators who will defend them.³⁹ This, in turns, allows them to systematically stack the odds of success in their favor and represents a huge realm of potential abuses.⁴⁰

While it may seem that this is a baseless assertion, the empirical data paint a different picture. In one study involving 2,802 mandatory employment arbitration cases that were decided between 2003 and 2014, the goal was to study the relationship between numbers of cases involving the same employers and their outcomes. After preliminary analysis, they found that employers won more often the more times they appeared before the same arbitrator. More specifically, whenever an employer came before an arbitrator, the employee had about an 18% chance of being awarded. After the employer had had four cases with the same arbitrator, however, the employee’s chance of being awarded dwindled to about 15%. After twenty five such cases before the same arbitrator, the employee’s chance of being awarded was reduced to a mere 4.5%.⁴¹

Finally, there is the objection to finality based on the lack of a safeguard to prevent arbitrary awards being given out by the arbitrator. Here, we are referring to the lack of continuity and precedence in arbitration proceedings. Given that (i.) arbitrators do not have as extensive of knowledge of law and legal proceedings (nor are they required to), (ii.) that the results of arbitration proceedings are rarely, if ever, made public, and (iii.) that the common law doctrine of stare decisis cannot be invoked with any semblance of legal authority, there is less to compel arbitrators to issue awards in a consistent or coherent manner.⁴² Furthermore, the Supreme Court has ruled that even when arbitrators make a factual error, one that is fundamental and affects justice itself, those are not sufficient grounds to vacate the award of an arbitration proceeding.⁴³

Recall that an arbitrator typically has the authority to determine what types of evidence and testimony he/she will take into consideration during a particular arbitration proceeding (since he/she is not bound by the same regulations and procedures as litigation). Say, for example, one party in an arbitration proceeding presented some evidence based on voodoo rituals or Ancient Alien Theory (AAT) predictions or scientology’s economics and the arbitrator decides to allow the evidence. Then, let us say that the arbitrator, for whatever remotely plausible reason, finds it utterly convincing. The arbitration proceeding could, in theory, be decided by an appeal to, and favorable evaluation of, such claims made by voodoo or AAT or scientology.

To give an equally absurd example of possible consequences, an arbitrator could flip a coin for each case involving a particular topic and issue an award according to the outcome of said coin flip (heads for the consumer or employee, tails for the business).⁴⁴ Or he/she could play rock-paper-scissors with the two parties and whoever beats the arbitrator in a best 3-out-of-5 contest would be awarded at the end of the proceeding. While an arbitrator would likely, and hopefully, never do such a thing, the fact that there is no safeguard in place to keep it from happening is a serious strike against the credibility of mandatory arbitration.⁴⁵ 

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Notes

Tagged: CABs, Common Law, Federal Arbitration Act, MACs, Mandatory Arbitration, SCOTUS