Andri G. Wibisana
2. THE POLLUTER-PAYS PRINCIPLE
2.2. Application of the Principle
2.2.2. Regulation or liability: defining the polluter
of damage. This creates difficulties for the insurer in insuring environmental risks, since ex ante information on the predictability of environmental risks and its magnitude of damage is often very limited. In addition, the generally accepted techniques to quantify environmental damage may also be absent.24 The second condition deals with the issue of moral hazard and adverse selection. The insurer’s ability to control the behaviour of injurers after they buy insurance determines the effectiveness of insurance. If the insurer does not possess enough control and information about injurers’ behaviour, it might be the case that injurers will no longer have an incentive to take the optimal level of precaution as they would do without insurance. They would do so because with the availability of insurance coverage, the injurers will no longer have to bear the burden of paying full compensation. Since it is assumed that the like- lihood of damage occurring depends heavily on the injurer’s level of care, we could predict that the number of accidents will rise with the availability of insurance. In literature, this problem is referred to as moral hazard.
On the other hand, the insurer’s failure to meet the second condition will create the problem of adverse selection. Since insurance premiums are related to expected losses, the insurer must be able to differentiate some of the injur- ers who are more likely to have losses from those who are less likely. If the insurer is unable to make such differentiation, he will assume the worst scenario and charge a high premium equally for all injurers within the same group. Hence, insurance will no longer be attractive for those who are compar- atively good risks, because the premium becomes too expensive for them. If they leave the insurance, only those with comparatively bad risks will stay.
Finding that only bad risks are left, insurer will further increase the premium, inducing those who have better risks to leave the insurance. At the end, insur- ance will no longer be beneficial for the insurer, and, in the most extreme situ- ation, the insurance market will no longer be available.25
some parties, particularly those who face higher than usual costs of care or who pose less than the usual potential harm, would also be inappropriately induced to satisfy the standard.26Here Shavell divides the injurers into two groups, namely the majority of typical injurers, who should undertake the standard level of care to reduce the expected accident costs; and the minority of atypical injurers of which precaution level will not lower the risk of an acci- dent. It is also assumed that the authority cannot identify the two groupsex ante, so that they will set the standard equally for them; and that the authority cannot fully enforce the regulatory standard so that some injurers may escape the authority’s attention. Obviously, if there were no threats of being held liable, the atypical would be the precaution level that is less than the level required by the regulatory standard, and this is a desirable result.
A different opinion, however, has been put forward by Burrows. He states that the answer to the question of whether or not the non-compliance with a regulatory standard should automatically lead to the imposition of negligence liability will apparently depend on the configuration of the regulatory stan- dard, the negligence standard, and the optimal level of care. If it is assumed that for all injurers the optimal level of care is stricter than the regulatory stan- dard and the regulatory standard is stricter than the negligence standard, imposing a negligence liability for those who fail to meet the regulatory stan- dard could still be beneficial. In this case, the existence of liability could induce the injurers’ level of care to get closer to the optimal level. Yet, if the optimal level of care is stricter than the negligence standard but more lenient than the regulatory standard, imposing liability could pull the negligence stan- dard above the optimal level, namely when the regulatory standard is under- enforced. If, however, the regulatory standard is fully enforced, the additional liability will not alter the injurer’s behaviour, since the injurers are already compelled to take precautions by the regulatory standard. In this case, it is the regulatory standard itself that is responsible for over-precaution, and not the joint use of regulation and liability. Therefore, Shavell’s rejection of using negligence liability for non-compliance with regulatory standard does not seem to be suitable for all situations.27
As to the question of whether compliance with a regulatory standard can be used as a defence to avoid the liability, authors mostly concur with Shavell’s
26 Shavell (1983, pp. 14–15).
27 Burrows also argues that Shavell does not reveal two assumptions that he has probably employed when rejecting the joint use of regulatory standard and liability for those who fail to meet the regulatory standard. The first assumption is that regulation is stricter than the optimal level of care, and this regulation is under-enforced. The second is that the marginal liability is excessive (greater than the marginal of damage).
See Burrows (1999, p. 237).
argument. In relation to this question, Shavell argues that if injurers’ satisfac- tion of the regulatory standard could enable them to avoid liability, then no one would do more than merely satisfying regulatory requirements. Yet, there would be atypical parties who ought to do more than what has been imposed by the regulatory standard, since these parties bear lower costs of taking care or are more likely to generate harms. Again, it is assumed that the authority cannot differentiate the population, so that he sets the standard equally for all injurers. Obviously, without the threat of being held negligent, a typical party would not be induced to take the optimal level of care that in his case is higher than the regulatory standard.28
Faure and Ruegg have added to this point two other reasons for rejecting the use of compliance as a legitimate defence to avoid liability.29 First, the addition of negligence liability to a regulatory standard could function as an effective tool to correct the captured regulatory standard. In this case, liability may serve not only to guarantee that the victims will be compensated for the damage arising from the captured standard, but also to induce the injurers to take the optimal level of care, namely the level that should have been set in the standard. Secondly, assuming that an ex anteregulatory standard is not able to consider all possible precautions, since it only expresses minimum require- ments, exposure to liability would induce the potential injurers to carry out such precautions to avoid harm to other parties.
The conclusions I have mentioned above are based on the assumption that an ex ante regulatory standard has been in place before an ex post liability rule.
Although the results might be somewhat similar, the underlying arguments could be quite different if we envisage introducing a regulatory standard into the incumbent liability system. In this regard, we could refer to Kolstad et al.’s paper concerning the impact of introducing a regulatory standard into the liability system. They conclude that such an introduction could enhance effi- ciency, by driving the potential injurers’ level of care closer to the optimal level, if it satisfies several conditions.30 First, the introduction is justified if uncertainty concerning the legal standard (that is, the negligence standard) is large. Here, Kolstad et al. argue that the more uncertain the negligence stan- dard is, the more likely the injurers are to take less than the optimal level of care. Hence, an ex ante regulatory standard could improve efficiency by reduc- ing uncertainty.
Uncertainty concerning the exact level of the negligence standard could
28 For an atypical party, following a regulatory standard has already been a suffi- cient relief to avoid the sanction of non-compliance with the standard as well as of negligence liability (Shavell, 1983). See also footnote 16.
29 Faure and Ruegg (1994, pp. 55–6).
30 Kolstad et al. (1990, pp. 888–901).
also increase the marginal costs of precaution at the optimal level of care.
When it occurs, injurers will undertake too little care to prevent an accident, due to the fact that by under-compliance, the injurers can greatly reduce their costs of precaution while increasing the expected liability costs relatively slightly. This situation justifies the addition of an ex ante regulatory standard into the liability rule under the second condition, namely if the marginal costs of precaution at the optimal level of care are large.
Thirdly, an ex ante regulation could also be employed if potential injurers perceive the negligence standard to be less than the optimal level. Thus, ex ante regulations could be invoked to ameliorate the injurers’ perception towards negligence standards.
Of importance is that when liability rules are in place, a regulatory standard can be introduced so long as it is set at a point lower than the optimal level. To put it differently, a regulatory standard should prevail and be set at the optimal level when there is no liability in place, or when the probability of a success- ful suit against the injurer is zero. This is an important finding of Kolstad et al.’s work, which favours the use of ex ante regulation. Such a finding holds particularly in case of uncertainty concerning a new harm which is unclear but suspected of being catastrophic or when it is predicted that there will be no (successful) legal suit against the potential injurer.
From the discussion above, we could conclude that the definition of polluter cannot be limited to unlawful activities. It is important to note that although an activity does not constitute any infringement to standards or threshold previously set forth, it can still be considered as pollution if its impacts could lead or have given rise to damage for the environment or victims. This conclusion can be justified for several reasons. First, from the fairness perspective, limiting the financial compensation only to unlawful impairment could burden society with the cost of clean-up from authorized emissions. Secondly, from the appropriateness perspective, limiting compen- sation only to unlawful harms could undermine the incentive for the polluter to reduce its emission level even further.31
2.3. The Polluter-Pays Principle According to Act No. 23 of 1997 Recognition of the polluter-pays principle appears in the elucidation of Article 34 of Act no. 23 of 1997. The elucidation of this article states that the article
‘constitutes the realisation of the environmental law principle that the polluter pays’. Article 34 is actually a provision concerning compensation according to liability based on fault rule. In this case, fault is interpreted as an unlawful act.
31 De Sadeleer (2002, pp. 39–40).
Accordingly, liability will only come into play if the action infringes the law and at the same time gives rise to adverse impacts on other people or the envi- ronment.
Based on our previous discussion, we could argue that Article 34 has reduced the function of the polluter-pays principle only as a part of the liabil- ity system. Instead of placing the principle as an overarching principle that underlies the need to internalize the externalized environmental costs, Article 34 interprets the principle as a basis for the negligence rule. Moreover, Article 34 also requires unlawfulness in order to apply the polluter-pays principle.
We could argue that this interpretation is inconsistent with the aim of the polluter pays principle, since there are several methods that can be employed to internalize the environmental externality; and these methods are not limited only to the negligence rule. Hence, we could propose a new article that could interpret the polluter-pays principle more appropriately. Such an article should place the principle as the basis of any proposed instruments to remedy envi- ronmental externality and should interpret pollution in a broader sense that is not limited only to damage resulting from unlawful acts.