On April 20, 2010, 11 workers were killed in an explosion on the Deepwater Horizon rig in the process of drilling the Macondo well off the Gulf of Mexico. The blowout ultimately resulted in between 4 and 5 million barrels of oil leaking into the Gulf of Mexico. Early estimates of the damages from the oil spill are in the range of $20 billion with an addition $17 billion in fines.[i]
Prior to the Gulf oil spill the primary form of regulation of offshore oil drilling was a set of highly prescriptive command-and-control regulations requiring significant redundancy in safety systems; an approach I call “belts and suspenders.” The belts-and-suspenders regulations were coupled with a strict liability regime where the operating company (BP in this case) was strictly liable for damages up to $75 with additional damages covered from a government pool of funds generated through taxes on oil.[ii] Arguable this coupling of regulatory systems should have created the right incentives for companies to manage the human dimension of risk so that risks are minimized. The safety technologies are in place and if you are financially on the hook for damages you should have the right incentives to ensure that all these systems are working properly. Nonetheless, a disaster occurred.
There are plenty of culpable parties in the Gulf oil spill, and the government has not escaped the blame-for-all. Understandably, there was concern that the current system of regulations was insufficient. In the aftermath of the crises, the Minerals Management Service (MMS) was restructured as the Bureau of Ocean Energy Management, Regulation and Enforcement (BOEMRE) and BOEMRE quickly issued several revisions to offshore drilling regulations. The first new regulation, the Drilling Safety Rule (DSR), added more belts and suspenders to the previous regulatory regime.
The second rule, the Workplace Safety Rule (WSR), represents a more fundamental departure from the status quo. The WSR is based on the “Safety Case” regulations used in Canada, the UK, Norway, and Australia and requires that each drilling operation have a complete Safety and Environmental Management Program (SEMP). Under the SEMP, each drilling operation must develop a detailed risk analysis and safety plan that demonstrates to the regulators that their proposed operation can be carried out safely and that they have the appropriate contingencies in place to handle any accidents. This type of regulation is referred to as Management-based regulation; regulation that “directs regulated organizations to engage in a planning process that aims toward the achievement of public goals, offering firms flexibility in how they achieve public goals.”[iii]
What do we know about SEMS, the Safety Case, or MBR in genearl? The Chemical Safety Board, an independent government agency tasked with investigating all chemical accidents in the United States, convened a public hearing on regulatory approaches to offshore oil drilling. At the hearing, there was a panel of representatives from the UK, Norway and Australia that discussed the use of the Safety Case in those countries. Without exception the representatives believed that the Safety Case had improved safety and reduced the likelihood of a large-scale disaster in their countries. But almost equally without exception these views were based on anecdotes and some limited (and not fully disclosed) analysis of near-miss data. More detailed research, perhaps using international data on near-misses, could help illuminate the impact of the safety case on offshore drilling risk (dissertation anyone?).
Evidence from academic research is no more conclusive. The theory of management-based regulations suggests that management-based regulations are best suited for situations where there is significant heterogeneity among regulated entities, performance cannot be directly measured, and there is complementarity in management effort and risk reduction/environmental improvement.[iv],[v] All of these conditions are likely to hold for offshore oil drilling.
While MBR may be well-suited, theoretically, to situations where performance cannot be directly measured, the inability to measure performance makes empirical analysis of regulatory effectiveness nearly impossible. In typical program evaluations (also called impact evaluations), the outcomes of the “treated” group are compared to the outcomes of a comparable “control” group. But all of these methods require detailed and comprehensive data on outcomes. For offshore drilling the outcome we are interested in is safety, but it is latent, or not directly observable to the regulator/public. Observing the absence of an oil spill does not necessarily mean the drill rig is safe. Put another way, a very safe and less safe operation may both succeed in drilling without a major oil spill. The absence of an event is not particularly informative about the outcome we are most interested in, namely safety.
We do have empirical evidence on government-mandated MBR in state pollution prevention programs and from voluntary or self-regulatory adoption of MBR through the use of environmental management systems. Summary of this extensive empirical literature suggests that MBR can be effective at inducing firms to improve environmental metrics under some circumstances.[vi] To what extent these findings extend to offshore drilling remain unknown.
My skepticism about SEMS as a regulatory salve concern how SEMS will or will not actually changes the day-to-day decision making on a drill rig. If we assume that decision-makers are profit maximizers (and I’m an economist so I will), then at each decision point with potential safety or environmental consequences the decision maker must weigh the expected costs of following the management plan with the expected costs of not following it. The expected costs of following the plan may be time spent waiting for a second opinion, further analysis, or additional materials and equipment. The expected costs of not following it are some expectation of the damages and fines from any accident resulting from the decision. Accidents are rare and large accidents even rarer, so the likelihood that any one short cut leads to an accident is very low. This is particularly true if you believe that if the short-cut you take turns out badly another safety system will catch that mistake before a significant accident occurs. In essence, the probability of an accident from any one decision is small, and the conditional probability of an accident from that decision given other safety systems may be viewed as close to zero. Of course, if everyone making decisions views the problem this way then things can go very wrong.
What the addition of a SEMS does to change that underlying calculation is not obvious. It may help change the culture of some firms to be more focused on safety. Or it may be a document that quickly collects dust on a shelf. Or, even worse, it may add to the sense of security that others are appropriately avoiding risk, so that taking a cost-saving gamble has no real negative consequences. In other words, it could just be another set of suspenders.
[i] “The Oil Well and the Damage Done,” The Economist, June 17, 2010. Available at: http://www.economist.com/node/16381032. Last accessed: October 14, 2011.
[ii] Steve Hargreaves, “Cap on Oil Spill Damages Under Fire.” CNNMoney. Available at: http://money.cnn.com/2010/05/25/news/economy/BP_liability/index.htm. Last accessed: October 14, 2011.
[iii] Coglianese, C. and D. Lazer “Management-Based Regulation: Prescribing Private Management to Achieve Public Goals” Law and Society Review 37(4): 691-730. DOI: 10.1046/j.0023-9216.2003.03703001.x
[iv] ibid
[v] Bennear, Lori S. (2006) “Evaluating Management-Based Regulation: A Valuable Tool in the Regulatory Tool Box?” in Coglianese, Cary and Jennifer Nash, eds. Leveraging the Private Sector: Management-Based Strategies for Improving Environmental Performance (Washington D.C.: Resources for the Future Press).
[vi] Bennear, Lori S. and Cary Coglianese “Flexible Approaches to Environmental Regulation,” to be included in: Kamieniecki, Sheldon and Michael Kraft eds. Oxford Handbook of U.S. Environmental Policy, expected publication 2012.