Deterring and Compensating Oil-Spill Catastrophes: The Need for Strict and Two-Tier Liability

The BP Deepwater Horizon oil spill highlighted the glaring weaknesses in the current liability and regulatory regime for oil spills and for environmental catastrophes more broadly. This Article proposes a new liability structure for deep-sea oil drilling and for catastrophic risks generally. It delineates a two-tier system of liability. The first tier would impose strict liability up to the firm's financial resources, including insurance coverage.

The second tier would be an annual tax equal to the expected costs in the coming year beyond this damages amount. Before beginning a risky operation, the proposed liability scheme would identify a single firm-the operator of an oil well-as responsible for generating the risk. That firm would be expected to contract with other participants in order to be reimbursed in the event of an accident. The proposed liability scheme would also require the responsible firm to demonstrate substantial ability to pay in the first tier before being permitted to engage in the risky activity.

This structure provides for efficient deterrence for environmental catastrophes since the responsible party is expecting to bear the risks that it is imposing. The two-tier system also addresses the challenges posed by the fat- tailed distributions of catastrophic environmental risks and provides for more assured and adequate compensation of potential losses than do current liability and regulatory arrangements.