Op-Ed Contributors

BP oil spills regulation lessons all over

By Kenneth Rogoff (China Daily)
Updated: 2010-06-04 07:54

The basic problem of complexity, technology, and regulation extends to many other areas of modern life. Nanotechnology and innovation in developing artificial organisms offer a huge potential boon to mankind, promising development of new materials, medicines, and treatment techniques. Yet, with all of these exciting technologies, it is extremely difficult to strike a balance between managing "tail risk" - a very small risk of a very large disaster - and supporting innovation.

Financial crises are almost comforting by comparison. Speculative bubbles and banking crises have been regular features of the economic landscape for centuries. Awful as they are, societies survive them.

True, people who thought, "This time is different", before the recent Great Depression were proven wrong. But, even if we are not getting any better at dealing with financial crises, things have not necessarily been getting worse, either. Perhaps the G20 leaders have not done quite as brilliant a job plugging the hole in the financial system as they claim. The raging sovereign-debt problems in continental Europe, and the brewing ones in the US, Japan, and elsewhere are proof enough of that. But, compared to BP's efforts to plug its deep-sea oil hole, the G20 leaders look omnipotent.

If ever there were a wake-up call for Western society to rethink its dependence on ever-accelerating technological innovation for ever-expanding fuel consumption, surely the BP oil spill should be it. Even China, with its "boom now, deal with the environment later" strategy should be taking a hard look at the Gulf of Mexico.

Economics teaches us that when there is huge uncertainty over about catastrophic risks, it is dangerous to rely too much on the price mechanism to get incentives right. Unfortunately, economists know much less about how to adapt regulation over time to complex systems with constantly evolving risks, much less how to design regulatory resilient institutions. Until these problems are better understood, we may be doomed to a world of regulation that perpetually overshoots or undershoots its goals.

The finance industry is already warning that new regulation may overshoot - that is, have the unintended effect of sharply impeding growth. Now, we may soon face the same concerns over energy policy, and not just for oil.

Given the huge financial stakes involved, achieving global consensus will be difficult, as the Copenhagen climate change fiasco proved. The advanced countries, which can best afford to restrain long-term growth, must lead by example. The balance of technology, complexity, and regulation is without doubt one of the greatest challenges that the world must face in the 21st century. We can ill afford to keep getting it wrong.

The author is professor of Economics and Public Policy at Harvard University and former chief economist at the IMF. Project Syndicate

(China Daily 06/04/2010 page9)