What To Do When Regulators are Unreliable

-- Posted by Neil H. Buchanan

In my FindLaw column this week (available here), I return to the still-expanding environmental crisis in the Gulf of Mexico and discuss appropriate changes in energy policy going forward. I expand on a point from my recent Dorf on Law post on the topic regarding the unknowable nature of "rare disasters," i.e., the pure guesswork involved in assigning expected costs and probabilities to things that we have never before experienced (e.g., all-out thermonuclear war, the death of an entire section of a sea, and so on). I try to make the case that the Gulf disaster calls for a renewed assessment of all of the truly awful scenarios that we have been implicitly assuming would be somehow manageable and remediable at something approaching a reasonable cost.

The point that I want to explore further in this post is the question of how to change the way we regulate businesses in the aftermath of the Gulf disaster. In the FindLaw column, I essentially make the case that we should systematically choose higher-immediate-cost alternatives if those alternatives do not involve huge worst-case scenarios. In the context of energy, that argument implies that coal is better than nukes or oil, because the bad things that happen with coal use (worker deaths and environmental damage) do not include either "known unknowns" or "unknown unknowns" (in the inimitable phrasing of our former Secretary of Defense). Coal is awful, and it needs to be replaced with renewables as soon as possible; but at least it will not lead to the sudden wiping out of entire regions (nukes) or ecosystems (oil).

It would, of course, be possible to instruct regulatory agencies to change their environmental impact statements, etc., to take high-cost, low-probability events more seriously. In other words, rather than saying, "Don't do anything that involves a big, unknowable risk of catastrophe," we could instead say, "Regulators must do a better job of assessing all the risks of various activities, including the ones that seem remote and implausible (so that, for example, we do not issue permits to drill for oil where we lack proven methods to stop oil from gushing out of inaccessible holes)."

At its core, this difference mimics the "conduct vs. structural remedies" debate in antitrust law. There, the basic question when a company is found guilty of monopolistic behavior is either to order it to stop behaving monopolistically (conduct remedies) or to break it up (structural remedies). I argue in yesterday's FindLaw column that the one fact about regulation that we should learn from the Gulf disaster is that regulatory agencies are much worse at enforcing behavioral regulations (conduct remedies) than we previously believed. Part of the outrage of the post-April 20 world, after all, has involved the mounting number of examples of regulatory failure: waivers given to BP to skip environmental impact statements, the mess at the Minerals and Management Service (which apparently began during W's tenure but was never fixed by the Obama people), etc.

I am sure that there are plenty of Poli Sci explanations for how the capture of those agencies has intensified over the years. Whatever the explanation, however, this window into the systematic corruption of regulatory agencies suggests that categorical rules (structural remedies) will be increasingly appropriate going forward. There will still be cases where behavior must be regulated, of course, but the strong preference should now be to choose the form of legal control that does not assume that agencies are (and will remain) competent and uncorrupted.

This conclusion, of course, can (and in my opinion, definitely does) extend beyond energy and environmental policy. In fact, my view turned around pretty dramatically during the health care debate last summer, when I originally argued in favor of strong regulations rather than a public option. When it became clear that neither political party would actually put in place the necessary limitations on insurers' conduct (nor would anyone appropriately arm the agencies that would have to enforce those limitations), I argued that the public option was clearly superior to what turned out to be the ultimate bill (viewed by Obama as a "success"): more of the same, with mild changes to the rules of the road. (Don't get me wrong: the health care bill was better than nothing; but it is still fundamentally based on an untenable model of regulation.)

Similarly, the recently-passed financial regulation bills awaiting reconciliation are based on simply tightening the rules and rearranging the regulatory agencies in the financial sector. Liar's Poker author Michael Lewis recently wrote a humorous but bitterly ironic piece for The New York Times arguing that Wall Street is secretly ecstatic about the bills, despite the presence of some annoying new rules, because nothing in the bills would change the fundamental structure of the financial system. None of our supposed concerns about institutions being "too big to fail" actually infected the bill, and therefore nothing serious will change for the big players.

It is possible, of course, to take my argument to absurd extremes. I am not arguing against behavior-changing rules in every case. I am saying simply this: We now know just how likely it has become for agencies to fail at their jobs. That knowledge should cause us to make choices that reduce the need for ongoing oversight in favor of changing the size and structure of market players. The less we have to rely on watchdogs, the better.