Takings Claims in the Aftermath of the Financial Crisis

In times of crisis, governments do things that fall outside—sometimes far outside—the norm and reduce or destroy the value of resources held by firms and individuals. Aggrieved owners may then sue the government, arguing that they are entitled to relief because the public action complained of amounts to a taking of their property. The financial crisis of 2008 and its aftermath have generated a cascade of such lawsuits, including highly publicized ones involving equity holders of Fannie Mae, Freddie Mac and American International Group, Inc.

Although derided as frivolous by some, a number of these suits have shown real staying power. That means that the Takings Clause of the Fifth Amendment to the U.S. Constitution (“[N]or shall private property be taken for public use, without just compensation”) has emerged as an important vehicle for evaluating government action during and after the 2008 financial crisis.

In a recent article, Takings, Legitimacy, and Emergency Action: Lessons from the Financial Crisis of 2008, I examine these developments and offer three observations.

First, these suits have already served an important purpose by uncovering information about how and why the United States Department of the Treasury, the Federal Reserve, and other key actors chose to do what they did. Gaining understanding is crucial, for the more we know about the response to the 2008 crisis, the better the odds of avoiding serious error in the next one. However comforting it may be to think that nothing like the most recent financial crisis will ever happen again, history suggests that financial crises occur regularly. In addition, many experts on financial regulation doubt that the Dodd-Frank Wall Street Reform and Consumer Protection Act and other post-crisis laws and regulations adequately address the financial system’s vulnerabilities. Consequently, it only makes sense to learn what lessons we can. To that end, the “bailout” litigation continues to produce nuggets of information about government decision making under conditions of extreme pressure. More information about the response to the financial crisis can also increase government transparency and accountability.

Second, the availability of relief for takings claims can bolster the legitimacy of public action that flows from financial crises. In dealing with perceived emergencies, governments tend to venture beyond the clear bounds of their authority, often imposing heavy costs on a select few firms or people. Afterward, we may prefer to forget that the government took actions of questionable legitimacy and legality and move on. To the extent the crisis is recalled, what the government did and to whom may be cordoned off in the public mind as an anomaly. This approach has a real downside, for it keeps us from confronting hard questions raised by government action and ensures that the government’s conduct is not subjected to the searching oversight judicial process can provide.

Takings claims are a means to come to terms with and, up to a point, rectify the past. Because the ordinary remedy for a successful takings claim is “just compensation,” the takings doctrine can ensure than the burden of addressing a financial crisis is widely shared. To be sure, “just compensation” is an imperfect remedy, in part because it does not entail compensating owners for all the types of losses they suffer. But even if “just compensation” does not give the dispossessed owner what to her is “full compensation,” the fact it provides for some payment means that the costs of government response to crisis are spread more evenly and do not fall so heavily on those in the wrong place at the wrong time. If we think the measures taken to combat financial crises were intended to create and maintain the public good of a healthy institutional infrastructure, then this “cost spreading” makes sense. Just as the expense of the physical infrastructure of roads, bridges, and utilities is a shared burden, so ought to be the costs of the financial system that undergirds economic growth and national prosperity.

This leads to the essay’s final point, which concerns the political economy of measures to contain financial crises. Government choices regarding who gets help, how much, and with what strings attached inevitably yield winners and losers. In time of crisis, the danger that privileged interests will manipulate the government for their own ends is especially acute, as the need for swift action can short circuit normal safeguards. Insulating these decisions from later review can facilitate the use of crisis to subvert government for private ends and stoke public fears that crises provide a smokescreen for the powerful and ruthless to profit at the public’s expense. Particularly at a time when anxieties about corruption, “crony capitalism” and the outsize influence of elites are running high, this is the wrong impression to create. The availability of takings clause review sends the far more positive message that the United States can handle a serious domestic crisis without jettisoning or even significantly fraying its system of constitutional governance.

The full article is available here.