Rent Control In Hawaii Goes All the Way to the Supreme Court:
An Interesting Takings Clause Challenge

Cases involving the Takings Clause have proven to be of continuing interest to the current Supreme Court - and one such case this Term may be especially significant. (The Takings Clause, part of the Fifth Amendment, forbids government from "taking" private property for public use unless government provides "just compensation.")

The case is Chevron v. Lingle, and it concerns a Hawaii rent control statute.

The Facts: Rent Control for Gas Station Operators to Keep Gas Prices Down

Worried about the high retail price of gasoline in the Hawaiian islands, the state legislature passed a law that offers a creative solution: rent control. The statute places a ceiling on the maximum rent that oil companies can charge gas station operators who lease oil-company-owned service stations. Subject to some small adjustments, the law limits the rent that an oil company can charge to 15% of the dealer's profit derived from gas sales and 15% of the dealer's gross sales on products other than gasoline.

The Chevron oil company, which owns and leases 64 gasoline service stations in the state of Hawaii, sued in federal district court to challenge the law. Chevron contends that the statute effects an unconstitutional "regulatory taking" - that is, a taking by regulation rather than by physical invasion of the state -- without just compensation.

Chevron has taken the position that the law should be held invalid unless the state can establish that the rent-control measure would in fact "substantially advance a legitimate state interest." In other words, Hawaii should have to demonstrate in court that the law would, indeed, likely have the intended beneficial effect of reducing gas prices as the legislature hoped.

The United States Court of Appeals for the Ninth Circuit agreed that this was the correct standard by which the law should be judged. Now, the Supreme Court has agreed to weigh in on the issue.

The Key Supreme Court Precedent

Typically, the standard of review when a law regulates economic activity is different, and more deferential to the legislature, than the standard for which Chevron is arguing. Specifically, the ordinary standard for review of such laws is "rational basis" review - under which a law is upheld so long as it is "rationally related" to a legitimate government interest.

The test of "rationality" is easy to pass: As long as any non-crazy legislator might plausibly believe -- based on common speculation, or common sense instinct, with or without the benefit of any social science or other data -- that a law will make even a small dent in a social problem, the law survives review.

Doubtless the Hawaii gas station rent control law would survive this standard: After all, no one can say for sure that limiting the rent oil companies can charge could not possibly reduce retail gas prices in at least some cases. By contrast, the standard for which Chevron argues is much harder to satisfy.

On what basis does Chevron argue in favor of its standard of review? Chevron relies principally on some language in a 1992 Supreme Court decision involving a mobile home park rent control ordinance. In Yee v. City of Escondido, a plaintiff unsuccessfully challenged a local ordinance that placed limits on the rent that each mobile home park owner could charge to its tenants - the mobile home owners who lease space in the park.

But even as the Yee Court rejected the plaintiffs' challenge, it acknowledged that the rent control law might effectively redistribute wealth from the mobile home park owners to the mobile home owners, because the mobile home owners would benefit from the lower-than-market rental rates in perpetuity. Moreover, the Court noted that because a mobile home owner could sell the mobile home to a new owner who would also pay below-market rent of the mobile home park space, the person who owned the mobile home at the time the rent control went into effect could capture a "premium" price for the mobile home unit when he sold it.

Unlike ordinary apartment rent control measures, whose benefits extend not just to the current tenants but to all the future tenants as well, the Escondido mobile home park rent control effectively helped the mobile home owner tenants who leased space from the park at the time the law went into effect - the incumbent mobile home owners. But it did not help future mobile home owners, who would pay lower rents but a higher purchase price that reflected those lower rents.

The Court said the fact that the law "transfers wealth only to the incumbent mobile home owner might have some bearing on whether the ordinance causes a regulatory taking" - an issue not presented in the case - because the existence of such a premium "may shed some light on whether there is a sufficient nexus between the effect of the ordinance and the objectives it is supposed to advance."

Take the Language and Run

Pouncing on this loose language from Yee and from earlier Ninth Circuit cases interpreting it - that the existence of a premium "might have some bearing" on a regulatory takings claim -- the Ninth Circuit in the Chevron case concluded that the possibility that the gas station operators might be receiving a "premium" because of the Hawaii law required a meaningful inquiry into the "nexus between the effect of the ordinance and the objectives it is supposed to advance." Hence, the Ninth Circuit adapted the "substantially advance a legitimate state interest" test to judge the Hawaii statute. It then sent the case back to the district court for a trial on whether the statute would in fact tend to reduce retail gas prices - the "legitimate state interest" that apparently motivated the statute's enactment.

At trial, the expert witness for Chevron argued that the law would not end up reducing gas prices, because whatever money Chevron lost in lower rents it would make up for by charging its dealers higher prices for the gasoline they were obligated to purchase from Chevron. This testimony was thought by the district court to be credible, and outweighed testimony by Hawaii's expert who argued that gas prices could come down. And so the district court found that the overall expenses of operators would likely not be reduced, so that there were no savings that gas station operators were likely to pass onto consumers, which meant that the law was not likely to substantially accomplish its intended objectives. Accordingly, the law was struck down.

There is a certain irony in this result; the "premium" supposedly enjoyed by the gas station owner/lessee that was the trigger for a meaningful judicial scrutiny turns out - if one believes Chevron's expert -- not really to exist, since Chevron was ready willing and able to charge more from the lessees for the gasoline. And yet the scrutiny triggered by the (non-existent) premium ends up invalidating the law.

Notwithstanding that irony, the district court's "factual" finding that gas prices would not be reduced by Hawaii's law was upheld by the Ninth Circuit when the case went back up there, on the ground that such a finding by the district court was well within the court's discretion to make. One Ninth Circuit Judge, William Fletcher, dissented, arguing that the Ninth Circuit had overread Yee in applying it to this context. The Supreme Court then granted Hawaii's petition for certiorari, and the case is scheduled to be briefed and argued later this Term.

The Significance of the Supreme Court's Resolution of the Case

The Hawaii gas station rent control case is an interesting and important one for at least three reasons. First, the case illustrates how far lower courts can take what might be offhand musing language from a Supreme Court opinion. The Yee case did not involve, much less endorse, a claim based on a regulatory takings theory. The entire "substantially advance a legitimate interest" test is teased out of a few sentences in which the Supreme Court says only that the existence of a premium "might have some bearing."

Second, and related, the idea that the existence of a "premium" converts any economic regulation that is not empirically demonstrated to be effective into an unconstitutional regulatory taking seems quite broad. A rezoning law, for example, that allows the owner of one parcel (owner A) to use his property in a way that his neighbor (owner B) cannot confers a lifelong benefit - or premium - on owner A. Does that mean that the rezoning is invalid unless it can be empirically justified in court as likely to accomplish some aesthetic or other community objective? If so, that would amount to a significant change in the law.

The Lesson of the New Deal Cases: The Court Should Not Impose Its Economic Instincts on the Legislature

That brings me to the third and biggest problem of all - the problem of courts subjecting legislation regulating economic activity to empirical scrutiny in trials that ask questions that are very difficult to answer and that turn on contested economic models and premises. Will the Hawaii law reduce gas prices? Perhaps not, but no one really knows, and one's answer depends on how one thinks particular markets are likely to work. Do minimum wage laws decrease employment? Do higher tax rates deter productive activity and actually reduce tax revenues? These are questions on which reasonable people would very much disagree, and until recently I would have thought that, as a matter of constitutional law, they were up to legislatures rather than courts to resolve.

There was a time when courts were in the business of deciding whether contested micro- and macro-economic theories embraced by legislatures were sound bases for economic regulation - it was known as the Lochner era (named after a 1905 case, Lochner v. New York.) In Lochner, the Supreme Court invalidated a law that limited the number of hours per week that bakers could work on the ground that such a law interfered with freedom of contract.

The Lochner doctrine was explicitly repudiated by the Supreme Court after the New Deal - and replaced with the deferential minimum rationality review - precisely to reduce the criticism that unelected courts were simply imposing their own economic theories and preferences on duly-elected legislatures. With the possible exceptions of Dred Scott and Plessy v. Ferguson, there is perhaps no more criticized constitutional law case than Lochner. If the Supreme Court wants to affirm the Ninth Circuit in the Chevron case, it is going to have to explain why we all shouldn't fear Lochner's rebirth.