by Jurgen Brauer, September 2004
Copyright: J. Brauer. No reproduction without permission.

If reduced risk of environmental damage and natural resource harm is the objective, an economist would want to think about the incentive structure offered by alternative liability regimes that can be encoded in law to achieve that objective. Thus we ask what are the factors that demarcate the effectiveness of such regimes?

One factor is whether the magnitude of the risk is primarily influenced by actions of the injurer or also affected by those of the victim. If the latter is the case, the liability regime must provide incentives to the potential victim to reduce environmental and natural resource risk. For instance, in the Kosovo war of 1999, reports are clear that Serbians took risk reduction measures by emptying storage tanks of dangerous chemicals so that the environment would not be unduly stressed in case of a direct hit on the facilities. Similarly, Nato took evident care in selecting targets and using precision munitions to isolate certain targets while sparing others. Both sides, injurer and victim, took measures to reduce risk.

A second factor is whether environmental risk stems primarily from the level of care taken to prevent an incident or from the level of activity that entails an environmental risk. Oil-spill risk thus stems not only from preventive action but also from the amount spilled when prevention fails. Incentive regulation would therefore craft liability rules that induce parties not only to increase the level of care (e.g., double-hull tanker regulation) but also to limit the amount of oil that they transport in the first place. A long war implies an increased activity level as compared to a short war – the amount of bomb tonnage dropped, the number of munitions fired – and liability incentive regulation should be designed not only to prevent war, but to keep war short.

A rule that distributes liability equally across all parties for injury done by any one of them will not create an incentive to limit risk.

Third, liability rules must consider whether there are multiple injurers. If so, rules must be designed to induce each to limit injury-causing risk. A rule that apportions liability across all for injury done by any one of them will not create an incentive to limit risk. To the contrary, if I cause one hundred percent of the injury but will be liable for only my contributed share to a coalition force, then the liability regime encourages me to take environmental risk I otherwise would not take. It is easy to see that states would not become signatories of and ratify and accede to an international treaty with such a liability rule.

A fourth factor influencing risk reduction behavior concerns whether a potentially liable party can pass risk to other parties to which it is linked. In labor law for instance, employers can be held liable for employee actions toward customers. In international environmental law there will need to be made provisions that deal with the possibility of liability shifting. A fifth factor recognizes that liability assignment is useless unless the injurer is capable of compensating the victim or, alternatively, unless the victim is able of claiming injury in the first place. The cost of litigation may be too high or the injurer may not possess sufficient assets to pay.

These factors result in certain behavioral predictions. First, parties who are liable for damage possess an incentive to reduce risk. For instance, under a “unilateral care” standard, if I hurl myself in front of your car, I can sue for damages because under that standard you are obliged to take care but I am not. This is patently absurd. Hence, law includes a negligence rule that requires the victim to have taken due care to avoid injury (the “bilateral care” standard). If the injurer was not negligent, the victim bears the entire risk of loss. (Moreover, the injurer can sue the victim for negligence.) Second, the larger the (enforceable) penalty, the more risk reducing care may be expected – and vice versa. Third, the possibility of liability (or cost) shifting results in inefficiently small risk reduction. The more the party liable for injury can shift compensation costs to other parties, the less incentive there is for it to reduce its risky behavior. Fourth, contracts can facilitate liability shifting. In the international context, these may be political “contracts” that allow one country’s obligations to be picked up by another (say Israel’s by the United States). Fifth, if the cost of taking care can be shared between potential injurers and victims, the liability burden should be placed on the party better able to bear the cost of prevention. And sixth, factors that reduce an injurer’s liability (e.g., high victim litigation cost, uncertainty of liability assignment, limited injurer assets) will reduce the amount of care taken.

We learn that economics, by focusing on incentives and behavior, can make a useful contribution to the field of law.

[This column is based on Kathleen Segerson’s introduction to her book Economics and Liability for Environmental Problems, Burlington, VT, Ashgate, 2002, but many of the examples are mine.]