Thomas Merrill & David Schizer, The Shale Oil and Gas Revolution, Hydraulic Fracturing, and Water Contamination: A Regulatory Strategy, Columbia Law and Economics Working Paper No. 440 (2013).
Thomas Merril and David Schizer—a property law theorist and tax law expert— deliver an ostensibly new framework for analyzing tort liability-regulation tradeoffs, standing on the shoulders of the pioneer in this area in the 1980s, Steven Shavell. In The Shale Oil and Gas Revolution, Hydraulic Fracturing, and Water Contamination: A Regulatory Strategy, Merrill and Schizer offer a fairly modest strategy for regulating water contamination from hydraulic fracturing (also commonly known as “fracking”), a practice that is “transforming the energy landscape of the United States.” But their proposals lay the groundwork for a more ambitious project: to reassess the balance between tort liability and regulation in areas that pose emerging, and incompletely understood, health and safety risks. Fracking exemplifies the widespread trend of new, controversial practices with highly uncertain risks. Tort law emerges as a backstop to best practices regulation: tort liability rules provide “a form of protection for those injured by technological innovations, while information gradually accumulates that may eventually lead to more protective ex ante regulation.”
Hydraulic fracturing is a controversial process whereby energy companies pump fluid into shale formations at high pressure to crack the rock and release the gas and oil trapped inside. Merrill and Schizer are not shy about their overall support for the “fracturing boom,” which holds the potential to “increase the competiveness of the United States in the global economy, reduce our reliance on energy imports and enhance our energy security.” At the same time, they acknowledge the potentially high price of fracking: increased air pollution, traffic and congestion (all risks associated with conventional oil and gas drilling) and, most significantly, potential contamination of groundwater (a unique risk associated with fracturing).
Shavell’s classic four-factor approach to choosing an optimal regulatory framework continues to dominate discussion of tort-regulation tradeoffs. Differential knowledge, namely actors’ superior understanding of the costs and benefits inherent in their particular activities (or what Merrill and Schizer term the “heterogeneity of risk” factor), favors liability rules over regulation. Administrative costs likewise advantage ex post tort liability, which is triggered only after an injury, over ex ante regulation, which imposes costs across the board to prevent injuries (not only in the rarer instances in which someone is harmed). Merrill and Schizer add a dimension to administrative costs, which they term “the settlement costs of making ex post case-by-case determinations.” Borrowing self-consciously from the takings literature (but also reminiscent of Neil Komesar’s, Imperfect Alternatives: Choosing Institutions in Law, Economics, and Public Policy), which examines the functioning of tort liability in different injury settings defined by differences in the distribution of the impacts or stakes of the injury and its prevention), Merrill and Schizer point out that “[i]f the sources of an external harm are diffuse, or victims are numerous, the costs of case-by-case adjudication may be prohibitive.”
As in Shavell’s framework, ability to pay and likelihood of escaping suit are factors that point in the opposite direction, towards regulation. (Merrill and Schizer lump insolvency and escaping suit together—“identifying a defendant sufficiently solvent to pay damages”—and fold these considerations into their above-mentioned “settlement costs” factor.) Merrill and Schizer follow Shavell in applying an exclusively economic method of analysis of tort law, one that does not consider compensation of injured plaintiffs (or otherwise repairing harm) as an independent factor. Moreover, the authors do not address interest-group theories of regulation—a significant limitation of Shavell’s analysis, taken up by others—and likely significant when considering the oil and gas industry’s repeat interactions with the state regulators.
In Products Liability Preemption: An Institutional Approach, I suggested an extension of the Shavell framework to address the federalism (state versus national regulation) and institutional (court/jury versus agency decisionmaking) dimensions.
Merrill and Schizer address each of these aspects in turn. Framing the federalism inquiry in familiar terms—“whether a uniform solution is likely to be optimal”—Merrill and Schizer opt for pragmatism, with a recommendation to keep the regulatory center of gravity in the states as opposed to fashioning a new federal regime. The gist of their argument here is path dependence—namely, given the traditional primacy of states in oil and gas regulation, state regulatory commissions have a head start in terms of developing best practices regulations, whereas a federal regime would have to be developed from scratch, as “the federal government has played almost no role in regulating oil and gas production on private land.”
Likewise, with respect to the institutional choice among legislature, administrative agency, or court, Merrill and Schizer again herald historical practice; indeed, they go further to suggest that “[i]nstitutions that have regulated issues in the past will have a presumptive claim to do so in the future, based on their expertise, their relationships with important interest groups, and their natural inclination to protect their turf.” Merrill and Schizer might have devoted more attention to this issue, one that is highly contested in litigation over stringently regulated products such as medical devices and pharmaceuticals. For example, in the context of the question of liability for fracking-caused water contamination, they conclude that “any water contamination causally attributable to the violation of a best practices regulation should be considered negligence per se and should result in liability.” In so doing, they skirt a key question: who should decide—agency or jury/court— whether such a regulation has been violated. Here, I am far less persuaded by Merrill and Schizer’s argument that, in the face of pervasive uncertainty, policymakers should necessarily defer to the existing alignment of institutional authority.
However, the authors effectively highlight two additional factors that should guide regulatory choice in the face of uncertainty: “the magnitude of the expected harm,” and “the novelty of the relevant technology.” To my mind, these are inter-related. At the core is the need for a dynamic regulatory response, one that generates additional information about potential risks and stimulates innovation to reduce these risks. Merrill and Schizer suggest that “[w]ithout experience, we generally will be better off with some form of ex post regulation. . . It took experience to design (and mobilize popular support for) regulations addressing . . . unexpected problem[s].” They provocatively suggest that “steam boilers, organ transplants, and other novel technologies” fit the bill where liability regimes created incentives to develop better information. (Here, they implicitly confront Jerry Mashaw’s contrary thesis that tort liability in the 19th century did little either to improve steamboat safety or to lead to effective regulation.)
Merrill and Schizer’s framework would benefit from a dose of empirical support. Their innate faith in tort law as a means to encourage risk-reducing innovation—based on their belief that “products liability law has transformed the way consumer products are designed, and CERCLA has had a similar effect on waste disposal”—wades into sharply contested waters that lack strong empirical foundations.
But, in the course of developing a highly fact-specific, institutionally-grounded regulatory strategy for addressing the risks posed by hydraulic fracturing, they have enriched Shavell’s classic theoretical framework with consideration of novel risks associated with the latest innovations and, in these ever-changing contexts, the dynamic, information-forcing role that tort liability can play.