The Rise of Arbitration Legislation

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Subject Matter Jurisdiction:
A court’s power to hear and decide a case of the type which raises the question at hand. In other words, not every court is empowered to hear every type of case. If a court has the authority to hear the type of case before it, the court is said to have subject matter jurisdiction.

Diversity Jurisdiction:
A case brought in a state court may be removed to federal court on the basis of diversity jurisdiction if (1) no plaintiff and defendant are from the same state, and (2) there is enough money at stake. The idea is to prevent a party from being unfairly treated by a state court because of her status as an out-of-stater.

In 1925 Congress passed a law which laid the foundation for the Federal Arbitration Act (9 U.S.C. § 1) (FAA). Five years earlier, in 1920, New York became the first state to pass a statute permitting parties the ability to agree to settle future disputes, as well as current disputes, through binding arbitration. Thirty years later, the Uniform Arbitration Act (UAA) was based on the New York rule, and many states have since passed their own laws based on the UAA. Today, every state in the union has enacted legislation in part or in whole based on the UAA or the more recent Revised Uniform Arbitration Act (RUAA).

So by the mid-1950s, the federal government as well as a number of states, had legislation in place permitting and validating arbitration as a binding alternative to a trial. These acts, however, went beyond mere authorization of arbitration; some see the acts as a means of encouraging parties to enter into arbitration as a means of dispute resolution.

This reading of the acts as encouraging arbitration, is certainly not a simple and universal proclamation that the law favors arbitration over litigation:

The provisions of the Federal Arbitration Act manifest a liberal federal policy favoring arbitration agreements, and questions of arbitrability must be addressed with a healthy regard for the federal policy favoring arbitration. There is, however, no federal policy favoring arbitration under a certain set of procedural rules; the federal policy is simply to insure the enforceability, according to their terms, of private agreements to arbitrate. -4 Am Jur 2d Alternative Dispute Resolution § 27.

Prior to the passage of the FAA and the various state acts (modeled on the UAA), arbitration proceedings were unenforceable simply because the binding power of contract was not extended to parties’ agreements to arbitrate. Therefore, there was no cause of action available when a party refused to arbitrate, which rendered arbitration provisions useless.

EXAMPLE: Bob is a merchant. Craig is a ship owner. They have done business together in the past, and once again seek to enter into a major deal. As always, they have a written contract detailing the rights and obligations of each party. Included in the contract is an agreement to settle any claims arising from, or in connection with, this transaction by binding arbitration. One of Craig’s duties is to use his best efforts to make sure Bob’s cargo is properly off-loaded at the various ports. Craig, however, gets drunk and stays drunk for the entire trip. As his ship arrives at and departs from its scheduled ports along the way, Craig does nothing to oversee his men. As a result, much of Bob’s cargo ends up in the wrong places, and much of it also seems to disappear into thin air, with nobody quite certain which port it might have been left at.

When Bob learns of the disaster he informs Craig that he is going to commence arbitration proceedings. “Go right ahead,” Craig slurs, “it’s just a waste of time, ‘cause I ain’t showin’,” Craig then passes out drunk. If a court will not enforce the arbitration clause in the contract, Bob cannot force Craig to attend and seek resolution in that way. Of course, he is not left helpless; he can still sue Craig for breach of contract. But this is more costly and less speedy than arbitration, and Bob would have strongly preferred to arbitrate (hence the clause in the agreement).

The FAA nicely addresses Bob’s dilemma. Chapter 1, § 2 of the FAA is titled “Validity, Irrevocability, and Enforcement of Agreements to Arbitrate,” and is the driving force behind the act. It reads as follows:

A written provision in any maritime transaction or a contract evidencing a transaction involving commerce to settle by arbitration a controversy thereafter arising out of such contract or transaction, or the refusal to perform the whole or any part thereof, or an agreement in writing to submit to arbitration an existing controversy arising out of such a contract, transaction, or refusal, shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract. (Emphasis added.)

The last part of this very long sentence makes clear that the Act is telling courts that they must view agreements to arbitrate just as they would view any other contractual agreement. Of course, the FAA is limited to maritime conflicts and transactions “involving commerce,” but the act is nonetheless a tremendous step forward for arbitration in the United States.

By the time the Supreme Court decided the case of Textile Workers Union v. Lincoln Mills of Alabama, 353 U.S. 448 (1957), arbitration was becoming more and more an integral part of the dispute resolution landscape. With the Lincoln Mills case, as well as the “Steelworkers Trilogy” cases of United Steelworkers of America v. American Mfg. Co., 363 U.S. 564 (1960), United Steelworkers of America v. Warrior & Gulf Navigation Co., 363 U.S. 574 (1960), and United Steelworkers of America v. Enterprise Wheel & Car Corp., 363 U.S. 593 (1960), arbitration became a permanent part of dispute resolution in the United States, having both legislative authority and the Supreme Court’s approval. It took just forty years from the first state act on arbitration for it to become an integral and permanent part of the American legal landscape.

Today, the enforceability of arbitration agreements in a wide range of disputes is, as a general rule, without question. The effect of Chapter 1, § 2, of the FAA is to give federal courts subject matter jurisdiction over claims involving maritime transactions and “commerce.” But the “commerce” limitation is now read quite broadly to bring most parties’ disputes under the FAA, given today’s economy, in which few transactions fail to cross state lines. See, e.g., Citizens Bank v. Alafabco, Inc., 539 U.S. 52 (2003).

This is not to say that every agreement to arbitrate is “valid, irrevocable, and enforceable” under the FAA. Even a contractual agreement to arbitrate which attempts to incorporate the FAA into the contract might be revocable.

EXAMPLE: Frankie is a New York resident who enters into an employment contract with UniView Inc, a New York corporation. Frankie moves to Vermont where he is to fulfill his duties under the contract. The contract has an arbitration clause which requires that any disputes will be arbitrated under New York law by Arbitration Is Us. As a  dispute arises, Frankie sues in a Vermont court. The case ends up in federal court based on “diversity jurisdiction.” The Supreme Court in Bernhardt v. Polygraphic Co. of America, 350 U.S. 198 (1955) found that the lower court’s order to stay proceedings in accordance with FAA Chapter 1, § 3, was improper. The Court would likely say the following about Frankie and UniView:

  1. The FAA is inapplicable because the Frankie’s duties did not affect “commerce.”
  2. Because Vermont law allows the arbitration agreement to be revoked prior to an arbitrator rendering a decision, Frankie may sue UniView for wrongful discharge despite the arbitration clause of his contract with UniView.

The presence and proliferation of arbitration in the United States is impossible to ignore. We must therefore understand how arbitration differs from mediation, and, perhaps more importantly, how it differs from a case decided by a judge in a court of law. The latter is particularly important to understand in order to decide when to offer (or accept an offer) to arbitrate rather than litigate, and when to include an arbitration clause in a contract currently under negotiation.

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