Concept
The Clearfield Trust Case
Federal common law
The Clearfield Trust Case
Clearfield Trust Co. v. United States shows federal common law surviving Erie. The United States sued a bank over a forged government check, and the district court, applying Erie, looked to Pennsylvania law and barred the government's recovery. The Supreme Court held instead that federal law governs the government's rights on the commercial paper it issues, and that when no Act of Congress supplies the rule, the federal courts fashion one themselves.1
Erie had declared that, except in matters governed by the Constitution or acts of Congress, the law to be applied in any case is the law of the state.2 The check dispute seemed to fit that description, because no federal statute addressed the effect of the government's delay. Clearfield matters because the Court held that Erie did not reach the dispute, and its reasons mark the point where Erie's command stops.
The case decided two questions, and the second does not follow automatically from the first. The first was which law governs, federal or state. The second was what the federal rule says once federal law governs, since a court could hold that federal law controls and still adopt a state's rule as the federal one.3 The subsections below follow that order: the facts and the route to the Supreme Court, the holding that federal law governs, and the content of the rule the Court chose.
The Forged Check
On April 28, 1936, a $24.20 check was drawn on the Treasurer of the United States through the Federal Reserve Bank of Philadelphia, payable to Clair A. Barner for services he had performed for the Works Progress Administration.4 The check, dated at Harrisburg, Pennsylvania, was mailed to Barner at his address in Mackeyville, Pennsylvania. He never received it.5
Some unknown person obtained the check in a mysterious manner and presented it at the J. C. Penney Co. store in Clearfield, Pennsylvania, representing that he was the payee and identifying himself to the satisfaction of the store's employees.6 Clearfield Trust Co. then collected the check from the United States through the Federal Reserve Bank of Philadelphia and paid Penney the full amount. Neither company knew or suspected the forgery, and each acted in good faith.7 The loss therefore fell on the Treasury, and the government's claim against Clearfield Trust rested on the bank's express guaranty of prior endorsements.8
The United States sued in 1939, invoking Section 24(1) of the Judicial Code.9 Federal jurisdiction rested on the fact that the controversy was one to which the United States was a party, and diversity of citizenship played no part.10 J. C. Penney Co. intervened as a defendant, and the court heard the case on the complaint, the answer, and a stipulation of facts.11 After Erie, a grant of jurisdiction over a kind of case no longer justified an exercise of lawmaking authority, so the jurisdictional ground could not settle which law applied.12
The district court held that Pennsylvania law governed and that, because the United States had unreasonably delayed in giving Clearfield Trust notice of the forgery, the rule of Market Street Title & Trust Co. barred recovery.13 In effect, the court read Erie to send the question to state law.14 The defense was one of timeliness, which is why the case resembles Guaranty Trust Co. v. York, where the Court later held that state law governed timeliness in an equitable diversity proceeding.15 The court of appeals reversed, and the Supreme Court granted certiorari because of the importance of the problems raised and a conflict with the Ninth Circuit's decision in Security-First National Bank v. United States.16
The facts framed two questions. Which law governs the United States' rights and duties on a check it issued, federal law or Pennsylvania's? And did the government's delay in giving notice bar recovery from the bank that had guaranteed the endorsements? The answer to the first controlled the second. Under the Pennsylvania rule the district court applied, unreasonable delay barred recovery, while under the federal rule the Court adopted, delay bars recovery only if the defendant shows that it caused damage.17 The choice of governing law decided a $24.20 dispute.
Federal Law Governs
The Court agreed with the court of appeals that Erie did not apply, and it held that the rights and duties of the United States on commercial paper it issues are governed by federal rather than local law.18 The holding needs explanation, because the district court's instinct looked sound: no federal statute addressed the effect of delay, and Erie sends questions outside the Constitution and acts of Congress to state law. The Court gave two reasons, one about the source of the government's rights and one about the need for a single rule.
On the first, the Court wrote: “When the United States disburses its funds or pays its debts, it is exercising a constitutional function or power.”19 The check was issued for services performed under the Federal Emergency Relief Act of 1935, so the authority to issue it originated in the Constitution and statutes of the United States, and the duties the government assumed and the rights it acquired by issuing the check have the same federal roots.20 Federal law touched the transaction at other points as well. Treasury regulations required the guaranty of prior endorsements on which the suit rested when such checks were presented to Federal Reserve banks or member depositories, other regulations governed payment and reimbursement when a check bore a forged endorsement, and forging the check was an offense against the United States.21
That federal origin separates the case from what Erie condemned. Erie discarded general-law rules in areas where the Constitution granted no federal power, and disbursing federal funds is not such an area; it is an exercise of constitutional power, which disposed of any Erie problem.22
A federal source for the right did not by itself supply the rule, because Congress had enacted nothing applicable to delay. The Court filled the gap itself: in the absence of an applicable Act of Congress, it is for the federal courts to fashion the governing rule of law according to their own standards.23 That sequence recurs throughout this chapter. A court first decides that federal law governs the subject. Only if no enacted text supplies the rule does it use its freedom to choose one, and that freedom is what makes the result federal common law.24
The second reason is practical. The United States issues commercial paper on a vast scale, and transactions in that paper, from issuance to payment, commonly occur in several states.25 The places named in the record for this check (Harrisburg, Mackeyville, Clearfield, and Philadelphia) are all in Pennsylvania, but the Court reasoned from the government's paper generally.26 State law would subject the government's rights and duties to exceptional uncertainty and would make identical transactions turn on the vagaries of the laws of the several states, and the Court called the desirability of a uniform rule plain.27 Without a uniform rule, the government would have to navigate many inconsistent state laws instead of following a single one.28
The two reasons answer different questions, and the doctrine needs both. The federal source shows that the subject lies within federal competence, which answers the Erie objection. Competence alone, however, would not displace equally valid state law; the second element is a strong need for national uniformity.29 That requirement lets courts differentiate among subjects, and it is also the source of additional difficulty in the cases that follow.30
Deciding that federal law governs does not decide what the rule says. The Court acknowledged that in choosing the applicable federal rule it had occasionally selected state law, but it found the reasons that may make state law the appropriate federal rule “singularly inappropriate” for government checks.31 The scale of issuance and the multistate path of government paper point toward one national rule. Borrowing state law as the content of federal law therefore remains possible in principle, and a later section examines when courts do it.32
Guaranty Trust Co. v. York marks the boundary from the other side. The Court there put to one side the questions that arise when a federal court adjudicates a claim based on federal law, citing Clearfield among its examples, and confined itself to transactions whose rights and obligations a state creates and for which, in case of diversity of citizenship, Congress has made a federal court available.33 Its starting point was the policy of federal jurisdiction that Erie embodies.34 Both cases involved timeliness, yet they fall on opposite sides of the line, and the hinge is the origin of the right.35 The government's claim on its own check arose from federal power, so Pennsylvania had no claim to say whether delay forfeited it. The rights in York existed because a state had created them. The usual error is to reason that a federal court may fashion its own rule whenever Congress has been silent. Silence mattered in Clearfield only after the Court found a federal source for the right and a strong need for uniformity, and in a diversity suit over state-created rights it leaves Erie in place.
The Court could have rested its result on the jurisdictional grant that let the United States sue, but it did not; the rule rested on the federal character of the government's commercial paper.36 Clearfield also speaks to the rights of the federal government itself, not to rights in government-issued paper generally, and litigation between private parties over such paper is not governed by federal law on that basis. A later section takes up the point.37
The reasoning has a name. The Clearfield Trust doctrine describes the federal courts' power to make federal common law when there is both federal lawmaking power to do so and a strong federal interest in a nationally uniform rule.38
The Federal Rule Chosen
Deciding that federal law governs left the content of that law open, and the Court drew on a source with an unusual history. It looked to the federal law merchant, the body of commercial rules that federal courts had developed for about a century under Swift v. Tyson, and called it “a convenient source of reference for fashioning federal rules applicable to these federal questions.”41 The Court conceded that those rules had been general commercial law and not a choice of a federal rule designed to protect a federal right.42
Borrowing from Swift's body of law seems to contradict Erie, which condemned the general common law that Swift produced, but the contradiction disappears once authority is separated from content. The authority in Clearfield came from federal power over the disbursement of federal funds. The law merchant supplied only content. Federal courts create common law whenever a dominant federal interest within a constitutional grant of federal power goes unaddressed by written federal law, and some of that law comes from decisions made during Swift's reign. Swift-era rules in areas where the Constitution gave no federal power fell with Erie, while rules in areas where federal power existed were recharacterized from general law to federal common law. Clearfield applied one that the Court had announced decades before Erie.43 A rule's Swift-era pedigree therefore neither condemns nor validates it. The question is whether federal power supports its use on the subject at hand.
That recharacterization also changes how the law operates. Swift's general law applied only when diversity or supplemental jurisdiction brought state-law claims into federal court. Federal common law applies in state and federal court alike and offers the prospect of national uniformity through Supreme Court oversight.44 Choosing content is also a separate step from choosing federal law, because a court may occasionally select state law as the federal rule, a course the Court thought singularly inappropriate in Clearfield.45
One question about delay was already settled by the Court's own precedent. In United States v. National Exchange Bank, the Court had held that prompt notice of the discovery of a forgery is not a condition precedent to suit, meaning a step that must occur before the right to sue exists.46 Clearfield adhered to that case's conclusion that the drawee's right to recover accrues when payment is made, whatever theory is taken, and found no other barrier to the suit.47 It also set aside the Price v. Neal theory of drawee responsibility where the drawer's signature is forged, because a drawee, whether the United States or another, is not chargeable with knowledge of the payee's signature.48 The claim is complete when the Treasury pays, and the government need not prove its own promptness to get into court.
National Exchange Bank went no further than that, so it left open whether lack of prompt notice might be a defense. The Court held that it may: if the drawee, on learning of the forgery, failed to give prompt notice and damage resulted, recovery is barred.49 The drawee's identity does not change the rule. The United States as drawee stands in no different light than any other drawee, and neither the size of its dealings nor its need to act through agents excuses it from the general rules governing drawees. In the Court's earlier words, “The United States does business on business terms.”50
The federal rule's distinctive demand is proof of damage. The Court reasoned that a party who accepts a forged payee signature does not deserve preferred treatment, because its own neglect or error in accepting the forger's signature occasions the loss, and that it may shift the loss to the drawee only on a clear showing that the drawee's delay in giving notice caused it damage.53 The reasoning tracks the chain of events. The loss exists because someone accepted the forger's endorsement, and the drawee's later delay adds to it only if the delay destroyed a chance of recovery that prompt notice would have preserved. Presuming that harm would let the party that made the first mistake escape by pointing to the second without showing that the second mattered.
The district court had applied the Pennsylvania rule of Market Street Title & Trust Co., under which the government's unreasonable delay barred recovery.54 The Supreme Court refused to let mere delay suffice, and it affirmed the court of appeals' reversal.55
The two versions differ in one fact: proof that the delay cost the bank something real. The Pennsylvania rule applied in Clearfield made unreasonable delay enough, so the government would have lost in both versions. Under the federal rule the bank prevails only in the first. That difference in content is why the choice between federal and state law decided the case.