“We deal with them by ignoring them until they happen, and then overreacting”

That’s the answer.  The question is from a nice piece at Slate.com is:  How do we deal with low probability, high consequence events?  And the source of the quotation in this case is John Harrald from George Washington University.

The article is a pretty nice profile of what I would call risk regulation. I am pretty certain risk regulation is somehow different than regulating externalities, but I’m not sure exactly how and I’m not certain that there’s always a bright line. So, I’m asking my political economy class to figure this out for me.

One reason, of course, is that damages are determined in terms of expected values.  Regulating low probability events with highly-uncertain outcomes and benefits is problematic indeed.  Homeland security measures are notoriously difficult to even frame, let assign a “net benefit” to.  How many incidents have our securities regulations discouraged or prevented?  What bad things would have happened? What benefit would we have assigned to them?  See, for example, this paper by Farrow and Shapiro on the analytical tractability of this problem.

So that gets us back to the original question, which is, should we think about the regulatory framework for the current oil spill fiasco in terms of regulating some sort of risk or internalizing an externality? And, does it make a difference which approach we take in terms of the types of regulations we would want?

All that said, I’m not sure we always wait until bad things happen and then overreact.  In many cases, I would think there is excessive ex ante precaution that mitigates the intrepid adoption and diffusion of new technologies.

The good news is that these are exactly the sort of issues we grapple with in the Political Economy of Regulation course.  The bad news is, I’m not sure how far we get with these problems.