Evolution & Effectiveness of US

Regulation of Offshore Oil & Gas

Drilling
Background: The US Oil & Gas Industry
• In this case study, based on a research article by Lori S. Bennear
(Review of Environmental Economics and Policy), we focus on the US
• Comparisons to European counterparts (UK, Norway) help understand
global trends
• Regulation of the offshore oil and gas drilling industry has evolved over
the decades, usually following an accident / incident
• Control-and-command approaches have been common until recently
• Regulatory agency structures have been modified
• The Gulf of Mexico oil spill of 2010 was a major turning point
Regulation Changes
• After 1969:
• Santa Barbara Oil Spill of 1969 – 200K barrels of oil
• Water Quality Improvement Act of 1970
• Outer Continental Shelf Lands Act (OCSLA) of 1978
• Stricter liability (no need to establish guilt) and multiple cleanup funds established

• After 1989:
• Exxon Valdez Oil Tanker ran ashore – 10.8mn gallons of crude oil (est. damange of $5bn)
• Oil Pollution Act of 1990 – established liability limits for different segments of industry
• Oil Spill Liability Trust Fund was funded through taxes of $0.08 / bbl for all oil/petroleum products
• Increased use of command-and-control regulation

• After 2010:
• Gulf of Mexico Spill – largest in US history
• Bureau of Ocean Energy Management (BOEM) & Bureau of Safety and Environmental Enforcement (BSEE)
– split responsibility of revenue management (licensing) and regulation of safety standards
• Drilling Rule (command-and-control) and SEMS Rule (Safety Environmental Management System)
Main Tools/Approaches of Regulation
• Key area of discussion has been effectiveness of the 3 main types of
regulation involved:

• Command-and-control regulation (prior to 2010)

• Liability regimes (prior to 2010)

• Management-based regulation (post 2010)

• Separation of regulators due to conflict of interest (revenue generation vs.

implementing safety regulation)
Private and Social Damage Costs
• Exposures to private firms:
• Loss of revenue
• Costs of repair and reconstruction
• Compensation to employees in case of loss of lives or personal injury (along with loss of human
capital)

• Exposures to society
• Damage to nature
• Loss of habitat
• Cleanup costs

• Estimating probability played an important part to determine ‘expected’ damage costs

(Bennear 2015)
Private and Social Damage Costs
P
SMC
MAC
tax PMC MBAP
MBAS

D D

Q
Z Z* Investment in Safety
Implications of Regulation
• Liability as the cost to the operator formed the ‘tax’, conditional to an incident
occurring
• This plus mandated compliance regulations encouraged drillers to invest in
safety equipment and technology
• A firm could be expected to invest in safety standards and technology to the
point where benefits (avoiding loss of revenue and repair costs) exceeded
costs of investments
• This required firms to estimate probability of occurrences
• Therefore, liability:
• Helped internalize potential social costs in addition to private costs
• Needed to be high enough to compensate for the low probability of occurrence
Which approaches to regulation are effective?
Bennear (2015) offers evidence (theoretical and empirical) in support of and against the
different approaches, based on economic research
• Command-and-control
• A homogenous tool in a heterogeneous industry
• Required regulators to keep up with evolving technologies
• Liability
• Forced firms to internalize social costs
• Probability estimates by firms tend to be systemically underestimated (impact of backups or
‘redundancy’ on reduction of risks overestimated)
• Need to be high enough to ensure social costs are internalized
• Management based approach
• Adoption by multiple countries indicates common belief in insufficiency of command-and-control
regulation
• Little empirical evidence to support that this has been more effective
Comparison to Europe and Other Industries (Bennear 2015)
• Regulation evolution has followed a similar pattern, although timing has been
different
• Europe moved to management based regulation system much before US
• Norway has no liability cap
• Shows ‘convergence’ in regulation across countries
• Little empirical evidence again to show management based is better than
command-and-control
• There is more evidence of effectiveness of management based regulation in
other industries:
• Quality control in manufacturing
• Pollution / Environmental control
Conclusions
• Bennear (2015) suggests more research is required to indicate
effectiveness of different types of regulation
• Countries are using incidents in other nations to review and modify
internal regulation
• Common tools of regulation indicates a common belief across nations in
terms of what type of regulation is needed
References
Bennear, Lori S., 2015. Offshore Oil and Gas Drilling: A Review of Regulatory Regimes in the United States,
United Kingdom, and Norway. Review of Environmental Economics and Policy,, [Online]. volume 9, issue 1,
winter 2015, 2-22. Available at:
http://reep.oxfordjournals.org.libproxy.smu.edu.sg/content/9/1/2.full.pdf+html [Accessed 12 April 2015].