Imagine the nation’s five biggest tobacco companies secretly arranging to milk consumers for billions in new profits by raising and fixing prices, colluding to maintain their respective market shares, and using carrots and sticks to get discounters and other small producers to raise their own prices enough to hold their combined market shares around 1 percent.
Once they got wind of the deal, the anti-tobacco public health groups would be in a rage; the state attorneys general and their trial-lawyer allies would be suing the companies en masse for conspiring to violate the antitrust laws; and the feds would be doing their best to put the ringleaders in prison. Wouldn’t they?
Actually, no. For the facts are that the tobacco companies have already created just such a cartel-and that the attorneys general, trial lawyers, and anti-tobacco groups were (and are) in on the deal, as is the Clinton Administration. Although detailed in public documents, the cartelization of the tobacco industry-with the blessings of its harshest critics-was camouflaged so well that almost nobody noticed it.
Drafted in almost impenetrable language, this profit-raising, price-fixing cartel deal was slyly slipped into the widely publicized multistate tobacco settlement signed in November 1998. That’s the Clinton-supported deal in which the five companies agreed to pay $206 billion to 46 states over 25 years for the supposed costs of treating smokers’ illnesses, in exchange for the states’ agreement to drop their lawsuits. Combined with the $40 billion that the companies had previously agreed to pay the other four states, the states’ total take comes to $246 billion in "damages."
It was apparent from the start that the 1998 tobacco deal would effectively tax smokers to cover most of this $246 billion. But most of us had no idea that it had also set up a mechanism allowing the tobacco companies to collude in raising prices even more-much more-than necessary to cover their "damage" payments. Why would big tobacco’s biggest enemies sign on to an agreement further enriching big tobacco? Part of the answer is that the deal, while providing zero compensation for the sick smokers who are the tobacco industry’s supposed victims, funnels big chunks of tobacco money to the industry’s adversaries. All of them.
The states, of course, get most of the $246 billion. This is a windfall because (studies show) states pay out less to treat smoking-related illnesses than they save in pension payments and elder care when smokers die prematurely. The trial lawyers who cooked up the states’ lawsuits have become multimillionaires and in some cases billionaires. The attorneys general (or most of them) and the Clinton Administration’s political cadres (including Al Gore) get some of the trial-lawyer money in the form of campaign contributions-not to mention publicity, political points, and future employment options. Anti-tobacco groups get paid millions of dollars to do studies on such things as why children smoke. And all of them thus have major financial interests in ensuring big tobacco’s profitability so that the companies can keep up their payments.
Less selfishly, these anti-tobacco forces hope that the price hikes, and the agreement’s restrictions on advertising, will avert thousands of premature deaths by bringing about a big reduction in teen smoking. How much of this hoped-for reduction will materialize is hotly disputed.
"Essentially, the major cigarette makers … have purchased, with smokers’ money, permission to raise prices collusively and suppress competition," a lawyer named Thomas C. O’Brien wrote in a compelling but little-noticed analysis published by the libertarian Cato Institute in May. The new profits have come from raising revenues roughly twice as much, by some estimates, as necessary to cover the payments to the states.
O’Brien spent the better part of four months deciphering the 190-page agreement reached in 1998 and writing his 29-page critique as an uncompensated personal project, while on leave from his job as assistant general counsel for Corning. He and Cato’s Robert A. Levy have also helped develop a legal theory for suing to strike down the seemingly ironclad agreement.
This theory is now before the U.S. Court of Appeals for the 3rd Circuit in a class action against the three biggest tobacco companies brought by two cigarette wholesalers (A.D. Bedell Wholesale Co. and Triangle Candy & Tobacco Co.). The theory may also figure in future lawsuits by smokers and others. It hinges on a little-known constitutional provision specifying that "no state shall, without the consent of Congress, … enter into any agreement or compact with another state." The Founders designed this "compacts clause" to bar states from banding together to usurp the powers of Congress. And that, O’Brien argues, is precisely what the state attorneys general (in an unholy alliance with big tobacco) did in 1998. Indeed, by imposing the functional equivalent of a big new federal tax on the nation’s 45 million smokers, the 1998 compact amounts to taxation without representation. It also invades the power of Congress to regulate interstate commerce.
Might the Supreme Court take a step one of these days toward taming the runaway litigation system over which the Justices have so passively presided, by taking a break from legislating about prayer, abortion, and the like for long enough to strike down this state-sponsored cartel? It’s a long shot, but a possibility.
The tobacco cartel is the sort of thing that results when courts open their doors to people seeking to bypass Congress and state legislatures by bringing lawsuits to regulate entire industries. To be sure, the results are not all bad: Hitting today’s smokers with a new national cigarette tax may well deter some teens from smoking. But does this benefit warrant distorting the constitutional process to impose taxation without representation? And taking billions of hard-earned dollars from smokers to further enrich some rich lawyers? And deceiving the public by pretending that the deal penalizes big tobacco when in fact it rewards big tobacco’s bad conduct by swelling its profits? And does it warrant government sponsorship of the mother of all price-fixing conspiracies?
O’Brien’s paper explains in illuminating detail how the 1998 agreement’s fine print cartelized the industry. Various complex provisions such as the allocation of "damage" payments among companies based on their market shares make it unprofitable for any participating company to increase market share through price-cutting.
To eliminate the risk that the five big companies might lose market share to importers or new entrants that have not been held liable for "damages"-and would therefore have a big cost advantage-the big companies and the states agreed to measures designed to force all other tobacco producers, and all other states, to join the settlement/cartel.
Any states refusing to join would get none of the $246 billion in "damages" being paid by (among others) their residents. (No state refused.) Any cigarette producers refusing to join would be forced to increase their prices, freeze their level of sales, or get out of the business. In one transparently anticompetitive gimmick, the 1998 deal makes states ineligible for shares of the $246 billion unless their legislatures require any new cigarette producers either to pay "damages" (which new entrants could not possibly have caused) based on their current market shares or to deposit large amounts into a so-called "escrow" account. This money would be held as "security"-for 25 years-for any "damages" that might result from any illegal conduct by these new entrants in the future.
(For details, see O’Brien’s May 18 paper, "Constitutional and Antitrust Violations of the Multistate Tobacco Settlement," at www.cato.org, under "Policy Analysis.")
Five antitrust suits challenging the 1998 agreement have so far been dismissed by various federal courts on the basis of the so-called "Noerr-Pennington" and "state action" doctrines, which exempt from antitrust liability both companies that collaborate in petitioning government bodies and those that join in anticompetitive agreements with states. But these doctrines cannot shield the 1998 agreement, because the states had no constitutional authority to sign it, O’Brien and Levy argue in an amicus brief for the two wholesalers in the pending 3rd Circuit case.
Meanwhile, O’Brien marvels (in an interview) at the ingenuity of the lawyers who contrived to make big tobacco’s lemons into lemonade by crafting an airtight cartel agreement, with the help of big tobacco’s biggest critics. "It’s beautifully drafted," O’Brien says. "It’s masterful. I read it with anger and awe." It’s also, he stresses with a bit more anger than awe, "illegal and unconstitutional."