Professor Bainbridge...on law, politics, religion, culture & food

The Elasticity of Demand for Legal Services

Dan Slater:

Who underwrites associate salary bumps? The firms, or their clients?

It’s the question grappled with today in an item from The Recorder. Guy Halgren, the chairman of Sheppard, Mullin, Richter & Hampton, said: “The fact is that we only passed on much less than half of the associate salary increases onto the clients, and the partners have absorbed more. The partners made less money.”

At least in California, that seems to be the crie du coeur coming from equity partners who’ve watched helplessly as two associate raises — both coming in a 12-month period in 2006 and 2007 — eat into their year-end take. This year, however, the firms haven’t bumped upwards — at least not yet; a development likely connected, at least in part, to the rather grim forecast for the year.

If I’m remembering my Economics 101 correctly, the fact that firms are limited in their ability to pass these costs on to the consumers of legal services suggests that the supply of legal services is relatively inelastic, while demand is relatively elastic. I suppose that makes sense. If the price of legal services goes up, firms can increase output somewhat but only by getting more hours out of already over worked lawyers or hiring new associates, which suggests that their ability to increase output is limited. Likewise, cutting output in response to a drop in price would require paying associates for doing less or cutting staff. On the demand side, legal services aren’t as essential as, say, food, so we’d expect them to be somewhat elastic.

What’s interesting is the degree to which the respective elasticities appear to have sharply limited the ability of firms to pass the new salary costs through to consumers. Has this always been the case or is it a product of increased cost sensitivity by large clients.