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D. Application of Proposed Contract

Clause Principles to Contract Clause

The purpose of this Section is to describe briefly the Supreme Court's approach to the Contract Clause and to consider that approach in light of the original meaning principles articulated and explained in Parts A, B, and C of this Section, above. The Section will begin by addressing the Court's most recent decisions in this area and conclude by addressing certain of the Court's earlier rulings. A more complete discussion of the Supreme Court's contract clause jurisprudence is contained in Appendix A to this Report.


Recent Supreme Court Contract Clause Cases


In four recent cases, the Supreme Court has undertaken a major reevaluation of its prior jurisprudence under the contract clause. In the first three of those cases, the Supreme Court explicitly adopted and applied a balancing of interests approach to the contract clause. Thus, in the 1977 case of United States Trust Co. v. New Jersey, 194 the Court ruled that a state law that impairs the obligation of a contract may nevertheless be valid if it is "reasonable and necessary to serve an important public purpose.” 195 Similarly, in the 1979 case of Allied Structural Steel Co. v. Spannaus, the Court found the state's asserted interest was insufficient to outweigh the infringement on private contract rights because, among other reasons, the state law in question applied only to a “narrow class” of contracting parties.



193 A very recent case, Keystone Bituminous Coal v. DeBenedictis, 107 S. Ct. 1232 (1987),

deals with the contract clause only in passing. See note 203, infra. We do not view

Keystone as a particularly significant contract clause decision. 194 431 U.S. 1 (1977). 195 Id. at 25. Applying the above test, the Court held that parallel New York and New

Jersey statutes retroactively repealing a previous statutory covenant which had limited the ability of the Port Authority of New York and New Jersey to subsidize rail passenger transportation from revenues and reserves pledged as security for consolidat

ed bonds issued by the Port Authority violated the contract clause. Id. at 28-32. 196438 U.S. 234 (1978). 197 Id. at 247-51. In Spannaus, the Court held that a Minnesota statute requiring corporations with pension plans to pay pension benefits to employees whose pension


The Court further refined its balancing test for the contract clause in the 1983 case of Energy Reserves Group v. Kansas Power and Light, setting forth the following comprehensive three-part standard for evaluating contract clause claims:

1. The threshold inquiry is “whether the state law has, in fact, operated as a substantial impairment of a contractual relationship.” The severity of the impairment is said to increase the level of scrutiny to which the legislation will be subjected.

2. If the state regulation constitutes a substantial impairment, the State, in justification, must have a significant and legitimate public purpose behind the regulation.

3. Once a legitimate public purpose has been identified, the next inquiry is whether the adjustment of the “rights and responsibilities of contracting parties [is based) upon reasonable conditions and [is] of a character appropriate to the public purpose justifying [the legislation's] adoption.” Unless the State itself is a contracting party ... "[a]s is customary in reviewing economic and social regulation, ... courts properly defer to legislative judgment as to the necessity and reasonableness of a particular measure.

» 199

Applying this test, the Court held that a state law that placed a statutory ceiling on the price increases a natural gas supplier could charge a public utility under the price escalator clause of a pre-existing contract did not violate the contract clause because the law was a narrowly-tailored means of promoting the important state interest of safeguarding consumers from market price imbalances caused by federal disruption.


There is no support in the text or history of the contract clause for the balancing approach developed by the Supreme Court in the above cases. More particularly, there is no textual or historical support for the idea that severity of a contract impairment should increase the level of contract clause scrutiny, 201 nor is there any textual or historical support for the Court's "significant and legitimate” public purpose and least restrictive means requirements.

rights had not yet vested under those plans violated the contract clause. Id. 198 459 U.S. 400 (1983). 199 Id. at 410- 13. 200 Id. at 413-19.



The Supreme Court's most recent significant contract clause case, Exxon Corporation v. Eagerton, seems to suggest that the Court may no longer be satisfied with balancing principles it developed in United States Trust, Allied Structural Steel, and Kansas Power and Light. Mosi notably, the Court in Eagerton failed to mention the comprehensive three-part balancing test articulated in Kansas Power and Light. Instead, the Court in Eagerton upheld a state law prohibiting producers from passing through to consumers state severancé taxes on oil and gas because (1) the law did not prescribe a rule limited in effect to contractual obligations or remedies, but instead imposed a generally applicable rule of conduct designed to advance a “broad societal interesi," and (2) the effect of the law on existing contracts that cont, cu a pass-through provision was incidental to its main effect of shielding consumers from the burden of the tax increase, a legitimate police power goal related to promoting the general welfare. 204

The first of the Court's above-mentioned reasons for sustaining the state law in Eagerton properly eschews a balancing approach, but appears to be unprincipled for other reasons. Specifically, holding that a state law can violate the contract clause only if its sole aim is to impair contractual obligations imposes a limitation not found in the text or history of the clause. The words of the clause plainly forbid the states to

201 Indeed, the clause explicitly forbids impairment of any degree. See pp. 45-49, supra. 202 There also is no textual or historical support for the Court's holding in United States

Trust that state impairments of the obligations of public contracts should be subjected to stricter review under the contract clause than state impairments of the obligations of private contracts, 431 U.S. at l. For a more elaborate criticism of the Court's holding in

United States Trust on this point, see Kmiec & McGinnis, supra, at 46-47. 203 462 U.S. 176 (1983). The Supreme Court very recently addressed the contract clause in pass any law that impairs the obligation of contracts, without providing any exception for laws that also have other, non-contract-impairing effects.

passing in Keystone Bituminous Coal Ass'n v. DeBenedictis, 107 S. Ct. 1232 (1987). In Keystone a five Justice majority rejected a contract clause challenge to a Pennsylvania law that prohibited a coal mining company from holding surface owners to their contractual waiver of liability for surface damage due to mining activity. The Court acknowledged that the law substantially impaired contractual relations. It reasoned, nevertheless, that the state's “police power” interest in preventing harm to surface structures justified the contractual impairment. Keystone is discussed in greater detail

in Appendix C of this Report, infra. 204 Id. at 191-92.


The second of the Court's reasons for sustaining the state law in Eagerton, which focuses on the direct and incidental effects of the state law, is more consistent in theory with the original meaning of the contract clause. 206 Unfortunately, the outcome in Eagerton reveals the dangers of applying a “direct and primary effect” test without additional guidance concerning what the words “direct” and “primary" mean. If the state law in Eagerton is constitutional because its direct effect was to protect the economic interests of third parties to the contract in question (oil and gas consumers), the debtor-relief laws the contract clause was designed primarily to prohibit also would be constitutional if reenacted today, since they also could be defended as necessary to protect the economic interests of third parties (such as the families of contract debtors) or to prevent debtors from becoming public charges. Thus, Eagerton illustrates the enormous difficulties in applying a police power exception to the contract clause that has no apparent justification in the text of the clause.

2. Earlier Supreme Court Contract Clause Cases

Without attempting to discuss each of the numerous contract clause case decided by the Supreme Court prior to the cases discussed above, we can briefly suggest how the original meaning principles articulated in Section A above might apply to the most important of the Court's earlier cases. To begin, the Court's early holdings that the contract clause applies retrospectively but not prospectively 207 and that the clause applies to public contracts as well as to private contracts 208 seem to be fully consistent with the clause's original meaning. Similarly, we believe the Court probably was correct in finding that state grants of corporate

205 See Epstein, 51 U. Chi. L. Rev. at 740 (words “pass any law” in the contract clause

encompass general legislation as well as legislation favoring single producer). 206 For a discussion of the historical basis for the “direct and primary effect” standard, see

pp. 70-71, supra. 207 See Ogden v. Saunders, 25 U.S. (17 .Wheat.) 217 (1827). 208 See Dartmouth College v. Woodward, 17 U.S. (4 Wheat.) 518 (1819); New Jersey v.

Wilson, 11 U.S. (7 Cranch) 164 (1812); Fletcher v. Peck, 10 U.S. (6 Cranch) 187 (1810).

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