Deterring and Compensating Oil-Spill Catastrophes: The Need for Strict and Two-Tier Liability

By Viscusi, W. Kip; Zeckhauser, Richard J. | Vanderbilt Law Review, November 2011 | Go to article overview

Deterring and Compensating Oil-Spill Catastrophes: The Need for Strict and Two-Tier Liability


Viscusi, W. Kip, Zeckhauser, Richard J., Vanderbilt Law Review


The BP Deepwater Horizon oil spill highlighted the glaring weaknesses in the current liability and regulatory regime for oil spills and for environmental catastrophes more broadly. This Article proposes a new liability structure for deep-sea oil drilling and for catastrophic risks generally. It delineates a two-tier system of liability. The first tier would impose strict liability up to the firm's financial resources, including insurance coverage. The second tier would be an annual tax equal to the expected costs in the coming year beyond this damages amount. Before beginning a risky operation, the proposed liability scheme would identify a single firm-the operator of an oil well-as responsible for generating the risk. That firm would be expected to contract with other participants in order to be reimbursed in the event of an accident. The proposed liability scheme would also require the responsible firm to demonstrate substantial ability to pay in the first tier before being permitted to engage in the risky activity. This structure provides for efficient deterrence for environmental catastrophes since the responsible party is expecting to bear the risks that it is imposing. The two-tier system also addresses the challenges posed by the fattailed distributions of catastrophic environmental risks and provides for more assured and adequate compensation of potential losses than do current liability and regulatory arrangements.

I. INTRODUCTION: THE CHALLENGE OF CATASTROPHIC ENVIRONMENTAL RISKS ........................................................... 1718

II. EFFICIENT SAFETY LEVELS ...................................................... 1725

III. BEHAVIORAL DECISIONS, FAT TAILS, AND THE SEPARATION OF PROBABILITY AND SIZE OF LOSS ................ 1730

IV. INSURANCE PRINCIPLES, COMPENSATION, AND NONTRANSFERABLE LOSSES .................................................... 1735

V. THE CURRENT LIABILITY STRUCTURE: RETROSPECTIVE LIABILITY ...................................................... 1737

VI. WHO SHOULD PAY FOR THE DAMAGES? ................................. 1744

VII. PUNITIVE DAMAGES .................................................................. 1750

VIII. PROSPECTIVE LIABILITY AND GOVERNMENT REGULATION ............................................................................... 1751

IX. PROCEDURES FOR COMPENSATORY DAMAGES PAYMENTS ................................................................................... 1755

X. NATURAL RESOURCE DAMAGES .............................................. 1756

XI. CONCLUSION ............................................................................... 1761

I. INTRODUCTION: THE CHALLENGE OF CATASTROPHIC ENVIRONMENTAL RISKS

On April 20, 2010, an explosion on the BP Deepwater Horizon rig set off the nation's largest coastal oil spill.1 This disaster killed eleven workers, ultimately dumped an estimated 4.9 million barrels of oil into the Gulf of Mexico,2 and imposed financial costs in the tens of billions of dollars.3 President Obama declared it the worst environmental disaster in U.S. history.4 Matters could have been much worse, both financially and environmentally. Had a mediumsized or even large firm, rather than a giant like BP, generated the spill, the financial consequences would have been far graver. Resource damages would have been left unabated, and financial losses would have been at best partly compensated. BP's unusually deep pockets made full compensation feasible.

Just like the financial damages, the environmental damage turned out to be less than feared. The best-estimate projections of environmental harm were well above the damage that the spill actually inflicted.5 Far greater ecological harms were expected, including severe long-term damage to prime beach areas along the Gulf Coast. Among the factors that reduced costs below expectations were the underanticipated capabilities of the oil-eating microbes that broke down much of the crude oil and the Gulf currents that conveyed the oil away from areas where it would have caused greater damage. …

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