Top 10 Myths of Forensic Economics

"In no other science is there so much quackery and it must be our province to expose it and bring it into 'merited contempt.'”

– Richard T. Ely (co-founder of the American Economic Association in 1885). Taken from Ely, R. T. (1886). Report of the organization of the American Economic Association. Publications of the American Economic Association, 1(1), 15.

  1. Earnings Increase at a Constant Rate – Like any science, economics is about explaining the world as we see it.  Individual earnings rising at a constant rate (rates that are independent of age and experience) are only consistent with a world in which every individual necessarily earns the same amount.  That this is not true in the real world is obvious.  Consequently, legitimate economics would never recognize a principle that supports an assumption that earnings rise at a constant rate.  It is like assuming that the Earth is flat.  The generally accepted method within economics for analyzing the earnings of an individual is referred to as the human capital earnings function, the age-earnings profile or simply the Mincer equation.

  2. Earnings Rise at a Constant Rate Relative to the Discount Rate (i.e., the net discount rate) – Since interest rates are independent of age and experience, the so-called net discount rate method for estimating the present value of earnings is equivalent to an assumption that earnings rise at a constant rate.  Therefore, it is unsupported by legitimate economic principles for the same reasons discussed in Myth No. 1.  Again, the Earth is not flat.  (Besides, to which interest rate should earnings growth rates relate?  There are hundreds.)

  3. Consumption is a Percentage of the Decedent’s Earnings – According to economic theory, an individual’s consumption is based on his or her expected future income.  That income is household income, not individual earnings.  (Does a house-spouse not consume?)  Moreover, calculating consumption as a simple percentage of earnings implies that consumption ceases with retirement.  Again, reality is quite distinct from this forensic myth.

  4. The Value of Fringe Benefits Is Their Cost to the Employer – The loss of fringe benefits is the value to the injured employee or to his or her family, in the event of death.  That value is not the same thing as the cost to the employer.  For example, Social Security is a tax on earnings paid equally by the employer and the employee.  The employer, as well as the employee, pays that tax to the Internal Revenue Service, not to the employee.

  5. The Value of Household Services Is the Replacement Cost of Time Spent – The pertinent question relates to the value of the services provided that now must be replaced to keep the plaintiff whole.  It does not relate to the value of the time the injured or deceased person devoted to providing those services.  (Slower does not mean more valuable.)  Allowance must also be given for the services which a decedent would have provided themselves, as opposed to those provided for other members of the household, as well as the value of those services provided by other family members for the decedent.

  6. Present Value/Discount Rate Is Either Historical or Present Treasury Note Rate – Scientifically, absent a statutory mandate, the best measure of the present value of a future stream of damages is usually the cost to the plaintiff of an annuity.  As an alternative, a portfolio of U.S. Treasury securities or AAA-rated municipal bonds should be used.  Interest rates on short-term Treasuries are rarely appropriate as discount rates.  Risk and uncertainty associated with future earnings should not be overlooked in the determination of their present value.  In no serious analysis would the appropriate discount rate be a simple average of any historical interest rates.  Investors do not select short-term notes for long-term needs for a reason.

  7. Inflation of Medical-Related Goods and Services in Life Care Plans Mirrors Historical Medical Inflation – Historical rates of “medical inflation,” as measured by changes in the medical components of the Consumer Price Index (CPI), are not indicators of expected future medical price inflation.  The upward bias to the medical CPI is well known.  Moreover, the components of the medical CPI are unrelated to most of the items in the typical life care plan and vice versa.

  8. Future Inflation and Future Productivity Mirror History – The Livingston Survey, conducted by the Federal Reserve Bank of Philadelphia, the President’s Council of Economic Advisors and the relationship between indexed and non-indexed Treasury bonds are the best indicators of future inflation.  All three point to the same long-term rate of future inflation.  None uses simple averages of past inflation or the “opinion” of a single person.  Legitimate surveys of the alternative methods for projecting future inflation do not include historical averages any more than serious forecasters of the weather would consider simple historical averages.

  9. Forensic Economics Is a Field or Branch of Economics – As with any “forensic science”, forensic economics is the application of economic science to matters of the court.  Forensic medicine can involve the principles of, for example, cardiology or obstetrics in cardiac or delivery matters in court.  Similarly, forensic economics can involve the principles of labor economics in matters involving an individual’s earnings and industrial organization to antitrust cases.  Just as “forensic cardiology” must apply the principles of cardiology as taught in medical school and practiced in a hospital, “forensic labor economics” must apply the principles of labor economics taught in graduate school and practiced in the real world.  There is no room for economic methods that are only found in a court of law.

  10. The Relevant Scientific Community Is that of “Forensic Economists” – Since forensic economics is not a separate field of economics but the application of the principles of various fields of economics to matters of the court, there can exist no difference between the methods of economics and those of their forensic application.  Consequently, it is nonsense to delineate between the community of legitimate economists applying those principles outside of litigation and the community applying the same principles to matters of the court.