That’s the classic question that Steven Shavell posed 25 years ago, and the debate over whether these two are potentially substitutes continues today.
The BP catastrophe has certainly brought more than its share of discussion on the issue. Paul Krugman weighs in on the side that the continuing spill is Exhibit A that liability is a failure the private sector needs a stern regulatory hand to guide it. Tyler Cowen frames the argument and takes Krugman to task on one point:
There is in fact an agency regulating off-shore drilling and in the case under question it totally failed.
Of course, not all regulation is as inept as the Minerals Management Service (MMS) seems to be in this case. One problem is that MMS is charged both with regulating environmental and safety concerns AND is responsible for approving leases to the provide sector.
And, which do they choose? According to the Washington Post:
Minerals Management Service officials, who can receive cash bonuses in the thousands of dollars based in large part on meeting federal deadlines for leasing offshore oil and gas exploration, frequently changed documents and bypassed legal requirements aimed at protecting the marine environment, the documents show.
Emphasis is mine, though the point sort of jumps out at you, doesn’t it? But, it’s not like the appearance of financial impropriety is a new thing with the MMS. On the heels of the spill, in fact, President Obama recommended bifurcating the agency to mitigate the clear incentive compatibility problem.
Though cash bonuses hardly seems like the only thing the MMS regulators are getting:
Staff members at an agency that oversees offshore drilling accepted tickets to sports events, lunches and other gifts from oil and gas companies and used government computers to view pornography, according to an Interior Department report alleging a culture of cronyism between regulators and the industry.
In at least one case, an inspector for the Minerals Management Service admitted using crystal methamphetamine and said he might have been under the influence of the drug the next day at work, according to the report by the acting inspector general of the Interior Department.
The report cites a variety of violations of federal regulationsand ethics rules at the agency’s Louisiana office. Previous inspector general investigations have focused on inappropriate behavior by the royalty-collection staff in the agency’s Denver office.
For those scoring at home, this sounds like a capture story to me.