The Klaxon Decision

The Klaxon Decision

The question Erie left open reached the Supreme Court in Klaxon Co. v. Stentor Electric Manufacturing Co., and the Court answered it: a federal court sitting in diversity must follow the conflict of laws rules of the state in which it sits. Justice Reed framed the issue as whether federal courts in diversity cases must follow the conflict of laws rules prevailing in the states where they sit. The Court had left that point open in Ruhlin v. New York Life Insurance Co., and the Third Circuit's opinion in this case took a different approach from the First Circuit's in Sampson v. Channell. That conflict, together with the frequent recurrence of the problem, led the Court to grant certiorari.¹

Erie had already answered whether state or federal law governs: in a diversity case, “there is no federal general common law,” and the Court sent the case back to the Second Circuit to determine and apply Pennsylvania state law.² Lawyers call that choice between federal and state law vertical. Klaxon raised the horizontal choice that follows, between the laws of two states.³ No one disputed that Erie required the federal court to apply state law to the interest question on this contract claim. The court had to decide instead whether to apply the prejudgment interest rules of Delaware, where the case was brought, or of New York, where the contract was entered into and performed.⁴

The plaintiff had sued in the federal court in Delaware on June 1, 1929. In 1939 it won a jury verdict of $100,000 and moved to add interest at six percent from the filing date. The motion rested on § 480 of the New York Civil Practice Act, which directs that in contract actions interest be added to the principal sum “whether theretofore liquidated or unliquidated.” The district court granted the motion, taking the view that New York law governed the parties' rights and that under New York law the interest was mandatory. The Supreme Court limited its review to whether § 480 applies in an action in the federal court in Delaware.⁵

The fight over interest looks technical, but it carried real money. After ten years of litigation, New York's six percent rate could come close to doubling the $100,000 judgment, while Delaware's rule, which the Court never states, might have allowed no interest at all or a lower rate. The choice between Delaware and New York law could therefore change the plaintiff's recovery by a large amount.⁶

The Third Circuit applied the New York statute. The Supreme Court read its opinion as reaching that result by an independent determination of the “better view” of conflicts law, made “without regard to Delaware law,” because the court cited and discussed no Delaware decision or statute.⁷ The error lay in who made the choice. A federal court had selected the governing law as though the selection were its own to make.

The Supreme Court reversed because the choice belongs to Delaware. Subject only to the Supreme Court's review of any federal question, Delaware “is free to determine whether a given matter is to be governed by the law of the forum or some other law,” and the Supreme Court's own views “are not the decisive factor in determining the applicable conflicts rule.” The federal court in Delaware therefore had to follow the conflicts rules prevailing in Delaware's state courts, and the proper function of that court “is to ascertain what the state law is, not what it ought to be.”⁸ The next section takes up the Court's further reasons for the rule.

The third step explains why Klaxon left the outcome open. If Delaware's courts would treat interest on this New York contract as governed by New York law, § 480 applies in the Delaware federal court and the six percent is added. If they would apply Delaware's own rule, or would refuse to enforce § 480 because it interferes with Delaware's local policy, the interest is not added, and the Full Faith and Credit Clause does not alter that result.⁹ Either answer is consistent with the holding. Only the Third Circuit's course is ruled out, because it skipped the Delaware question altogether.

The Supreme Court did not choose between the two states' laws. Klaxon, the petitioner, relied on one group of Delaware decisions to show that Delaware's courts would refuse to apply § 480, and the respondent relied on another group to show the opposite. The Court made no analysis of those decisions and left that task to the Court of Appeals on remand.¹⁰ It reversed the judgment and remanded for decision in conformity with the law of Delaware.¹¹ The disposition shows what the holding does: Klaxon fixes the method of selecting law and leaves the result to the forum state's own rules.

That distinction guards against the most common misstatement of the case, the slogan that a federal court in diversity applies the substantive law of the state where it sits. The slogan misleads. Under Klaxon, the federal court does not apply the law of the state in which it sits; it applies the law that the state in which it sits would apply to the case.¹² Sometimes that law is the forum state's own, and sometimes it belongs to another state. Suppose a federal court in New York hears a diversity tort suit over an accident in Pennsylvania, and New York's state courts would apply the law of the place of the accident. The federal court applies Pennsylvania law. A companion decision, Griffin v. McCoach, applied the same rule to a federal court sitting in Texas.