In the fall of 2010, policymakers
in Washington were thinking of revamping the U.S. regulatory system for
offshore oil exploration. A disaster at BP's Macondo well in the Gulf of Mexico
earlier in the year had led to the largest offshore oil spill in U.S. history,
and cries for change were everywhere. President Barack Obama had devoted his
first oval office speech to the subject, and his administration had instituted
a moratorium on all deepwater drilling. (See Exhibit 1 for excerpts from Obama's
speech, and Exhibit 8
for a list of directly affected companies.) In addition, Interior Secretary Ken
Salazar had divided the Minerals Management Service (MMS) into three offices.
One would collect royalties, one would lease oil resources, and one would
regulate drilling (though the last two would report to the same assistant
secretary).
Meanwhile,
in Congress, many bills had been introduced. Several sought to punish BP, a few
by raising the liability limit of offshore accidents (retroactively to April
15) from $75 million to
$10 billion, others
by preventing firms that had an accident history similar to BP's from future exploration
and production of oil in the United States. Other bills changed U.S. government
institutions. One, for example, created a special-purpose organization in
charge of responding to future oil spills. As policymakers thought about these
proposed changes, they needed to take into account the role of offshore drilling in the
U.S. economy and the lessons they should draw from the spill.
On the
evening of April 20, 2010, the well at Mississippi Canyon Block 252 (the
Macondo prospect) seemed nearly complete. The Deepwater Horizon rig had reached
its goal of digging 13,000 feet starting at a sea depth of 5,000 feet and had
found oil 41 miles off the coast of Louisiana. Its goal was now to plug the
well so that it could be open later for production. As it was completing the
final steps, there was a blowout: a column of methane traveled up the well and
exploded. Chaos ensued, with crew members moving into lifeboats or even jumping
into the ocean without waiting for instructions. Of the 126 crew members
onboard, 11 died. The $560 million rig sank while a mixture of oil and gas
spewed from the drill hole at the bottom of the sea. By the Lime the flow
of oil was stopped on July 12, 2010, the U.S. National Oceanic and Atmospheric
Administration estimated
that 4.9 million barrels of oil had come out of the hole.The causes of the blowout were
still somewhat uncertain in the fall of 2010. At the hearings conducted jointly
by the U.S. Coast Guard and the Interior Department to find out what had
happened, several witnesses refused to testify. While the hearings were purely
investigative, many civil lawsuits had been filed already and the possibility
of criminal prosecution was in the air. Much effort was thus spent shifting
blame. Anadarko, a 25% minority partner in the project, squarely blamed BP's
"reckless" decisions concerning, for example, the well's design.
BP sought to shift some of the
blame to Halliburton, a contractor in charge of cementing the well. After drilling an oil
well, workers dropped a tubular metal casing in it to stabilize the hole's
walls and then inserted cement around the casing. (See Exhibit 2 for
a diagram.) Cement was also used at Macondo to temporarily plug the well so
that it could be abandoned until the well was put into production. Mistakes in
these cementing processes might have allowed methane to escape. A Halliburton
employee suggested that cement failures might have been due to BP's using too
few centralizers. BP, for its part, issued a statement saying, "If
Halliburton had significant concerns about its abihty to provide a safe and
high-quality cement job in the Macondo well, then it had the responsibility and
obligation to refuse to perform the job. To do otherwise would have been
morally repugnant."1
What seemed
certain was that the well had posed problems for some Lime; an engineer had
even sent an e-mail calling it a "nightmare well." As a result, it
was behind schedule and over budget. On the day of the explosion, some pressure
readings were unusual. This led to arguments, some of which were between BP
employees and employees of Transocean, the company that owned the rig. In the
hearings, there was some jostling concerning which of the two companies had
responsibility for which decisions. It was recognized that BP had ultimate
authority, but BP claimed that Transocean employees determined much of what
went on in the rig.
In drilling an oil well, workers pushed a
material called drilling
mud down through the drilling
string; the mud helped the drilling process itself and was supposed to be heavy enough
to help keep gas and oil from rising through the well. In a decision that may
have been fatal, crew members at the Macondo well chose to take only limited
readings before replacing much of the well's drilling mud with seawater.
Pushing down lighter seawater to recover the mud for future use may thus have
made it easier for methane to escape. While several commentators second-guessed
this replacement decision, it was part of a plan that the MMS had approved just
a few days before.2
The well's
last line of defense, the blowout preventer (BOP), had clearly failed. BOPs sat
on the seafloor and contained several redundant pieces of equipment that were
supposed to close wells in emergencies. When the BOP at the Macondo well failed
to work, BP dispatched underwater vehicles to turn it on from below. This
effort was also in vain, and BP blamed the failure on Transocean's
modifications of the BOP at the Macondo well. Some people speculated that the
problem lay in the BOP's batteries; others suggested that the BOP had in fact
been activated but that it had closed the well only partway. Some of its
elements might have been unable to fight the strong pressure of the oil rising
through the well, while the ultimate line of defense, the shear ram, might have
had trouble cutting through the drilling pipe itself.
Drilling crews regularly tested BOPs by interrupting the drilling,
closing the well using various components of the BOP, and applying pressure.
These tests, which took about eight hours, sometimes revealed problems. A 1999
study reported 117 BOP test failures (of which 20 were safety critical) in a
sample of 83 gulf wells operated for 4,009 BOP days. The Deepwater Horizon's
BOP had been tested in this manner on April 10. The industry had been pushing
the MMS to reduce the frequency of BOP testing, and a consultant's study
sponsored by the MMS and the industry agreed that some testing intervals could
be lengthened.3
Following the blowout, BP
immediately sent skimming vessels and aircraft to the area. The latter released
chemical dispersants, whose purpose was to separate oil molecules so that they
could be more easily digested by bacteria. Environmentalists were concerned
about both the leaking oil and the dispersants, but BP's CEO, Anthony (Tony)
Hayward, said, "Given the current conditions and the massive size of our
response, we are confident in our ability to tackle this spill offshore."
At the time, BP and the U.S. Coast Guard estimated that the spill was spewing
1,000 barrels a day (b/d) of crude oil.4 A week later, the Coast
Guard raised this estimate to 5,000 b/d and BP started to burn oil offshore.
Environmentalists questioned this estimate also, but BP held to it for a month,
even after it had managed to attach a tube to the leaking pipe that was
siphoning off about 1,000 b/d. Eventually, it was thought that the Macondo well
had been leaking about 60,000 b/d.5
The oil reached shore around May
1, prompting Louisiana, Florida, Alabama, and Mississippi to declare states of
emergency. Oyster beds and shrimping grounds in Louisiana were closed, and
lawsuits started to be filed against BP. Hayward accepted responsibility for
paying for the cleanup operation, noting, "Where there are legitimate
claims for business interruption, we will make them good." With polls
saying that 70% of respondents disapproved of BP's handling of the situation,
Attorney General Erie Holder announced that he was looking into filing criminal
charges. The White House's press secretary, Robert Gibbs, said, "We will
keep our . . . boot on the throat of BP to ensure that they're doing all that
is necessary while we do all that is humanly possible to deal with this incident."
Some commentators from the United Kingdom complained that the anti-British
rhetoric was going too far, in part because some U.S. policymakers referred to
BP by its pre-1998 name of British Petroleum.6
At around this Lime, the
federal government designated the spill as having national significance and
named Coast Guard head Thad Allen as incident commander. The increased federal
responsibility led state officials to blame both BP and the federal government
for the insufficient supphes of boom, a vinyl material meant to keep oil from
physically reaching beaches. The governor of Alabama, Bob Riley, was
particularly incensed when the Coast Guard took boom that his state had
specially flown in from Bahrain and gave it to Louisiana. Even where boom deployment
was approved by the Coast Guard, coordination with BP contractors often led to
delays. The governor of Louisiana, Bobby Jindal, was also angered by the
federal government's initial refusal of a permit to build sand berms to
prevent the oil from reaching shore. Eventually, the federal government
relented, and a little later Allen ordered BP to pay for the berms.7
Some Republican commentators
drew parallels with the government's response to Hurricane Katrina, which
Democrats had criticized as being insufficiently vigorous. In a poll at the end
of May, only 35% of respondents approved of the administration's response to
the spill, while 45% disapproved. Sentiment had also turned against offshore
drilling. While 64% had favored increased drilling in 2008, only 45% were so
disposed now. (See Exhibit
7 for other polls.) At this point, Obama sought to extend a
moratorium on deepwater drilling
for an additional six months. 8
In mid-June, Obama chose the
gulf spill as the topic for his first national address from the Oval Office.
The speech sought credit for the government's efforts, assured viewers that BP
would pay for what it had done, and promised to return the gulf to a pristine
state. The next day, June 16, Obama met BP executives in the White House. At the
meeting they signed an agreement under which BP would put $20 billion in an
escrow account for the purpose of compensating victims of the spill. BP and the
White House agreed that this fund would be administered by Kenneth Feinberg, an
arbitrator who had determined the
payments made from the $7 billion fund the government set up to compensate the
victims of the September 11, 2001, terrorist attacks.
BP was to deposit $3 billion
into the fund in the third quarter of 2010, with the rest coming later. It was
also to stop issuing dividends for 2010 and start selling assets. Obama
announced that BP would set aside an additional $100 million to compensate
workers who had been negatively affected by the administration's deepwater drilling
moratorium. The administration had been suggesting that BP should pay the
damages to these workers in full, so this agreement represented a small retreat
in its requests. Having lost about $91 billion in value since the explosion,
BP's stock price rose slightly on the day of this announcement.9
(See Exhibit 3 for
BP's stock price from April to September 2010.)
When Tony Hayward next appeared
in front of a House of Representatives panel, most members lashed out at him.
In reaction to the lashing-out, Texas representative Joe Barton, the ranking
Republican on the energy committee, said, "I'm ashamed of what happened in
the White House yesterday. I think it is a tragedy of the first proportion that
a private corporation can be subjected to what I would characterize as a
shakedown, a $20 billion shakedown." After a furor, Barton apologized for
his comment. Individual donations to Barton's fah 2010 reelection campaign
dropped from past levels, although his donations from political action
committees (several of which were funded by oil and gas companies) rose.10
BP's first major effort at
controlling the leak consisted of placing a giant funnel on top of the blowout
area to capture the spewing oil. Such methods had succeeded in shahow waters,
but the low temperature at Macondo's seafloor impeded success. Later, BP
attempted to clog the leaking pipe by shooting a mix of materials into it.
Meanwhile, BP was drilling
a weh parallel to Macondo. The idea was to reach the same depth as Macondo,
then bore horizontally, perforate Macondo, and fill it with cement from the
bottom. BP expressed confidence that drilling a relief weh would work, though
some observers pointed out that this approach had sometimes proved slow due to
the difficulty of finding the original weh when boring horizontally. Before the
relief weh was ready, BP succeeded in capping the Macondo weh by placing a new
blowout preventer on top of the one that had failed. After this, BP let cement
flow into the weh through the new BOP and, when the cement solidified, removed
both BOPs. The government supervised these activities closely. When BP was
criticized for not having applied its successful solution more promptly, it
pointed to an earlier government veto of the plan; the government had been
concerned that the cap might cause an underground blowout.11
From early
on, BP had engaged in an extensive public relations drive to communicate its
efforts at dealing with the spill and its commitment to make things right. It
had not only purchased traditional advertising but made sure that links to its
own stories were widely available on the Internet. Unfortunately for BP, the
media paid much more attention to what were seen as signs of insensitivity. At
one point in an interview, Hayward had said, "There's no one who wants
this thing over more than I do. I'd like my life back." He later
apologized for that comment; still, BP replaced Hayward with Robert Dudley at
the end of July. Dudley, who had not had direct responsibility over either oil
production or refining, would become the company's first American CEO.12
In 2009, BP's revenues of $367
billion placed it fourth on the Fortune 500 ranking of America's largest
corporations (after Sheh, ExxonMobil, and Walmart) and its profits for that
year totaled $21 billion. While its oil-based products constituted the bulk of
BP's revenue, its slogan "Beyond Petroleum" played up the fact that
the company had made substantial investments in solar panels and wind-power
generation. The company's origins went back to its exploitation of Iranian
wells at
the beginning of the 20th
century. It changed its name from the Anglo-Persian Oil Company to British
Petroleum in 1954, after Iran expropriated its fields. The British government
owned a substantial stake in British Petroleum at the time, though the company
was subsequently privatized. It later acquired the assets of several large U.S.
oil companies and thereby became a major refiner and gasoline retailer in the
United States. In 2010, its U.S. wells in the Gulf of Mexico accounted for 11%
of its production.13
CEO Tony Hayward started BP's
2009 annual report by saying, "Our priorities have remained absolutely
consistent—safety, people and performance — and you can see the results of this
focus with improvements on all three fronts." The report stated that
"safety is BP's number one priority" and Hayward noted that, in 2009,
the number of oil spills (234) and "recordable personal injuries"
(0.34 per 200,000 hours worked) were the lowest in 10 years. Safety measures
determined 15% of one of the bonuses given to executives, headcount and
employee satisfaction determined another 15% of this bonus, and financial and
operational outcomes determined the remaining 70%. DeAnne Julius, chair of BP's
remuneration committee, noted that in 2009, "Nearly all targets were
exceeded, some substantially, with particularly strong performance on cost
reduction, exploration success, production startups and refining
performance."14
Hayward had reason to be happy
with this performance, particularly in deepwater fields (those that lay beneath
1,000 feet of water), which were regarded as the areas of highest potential for
oil exploration. By 2009, BP had become the largest deepwater producer in the
world as well as in the Gulf of Mexico, where it extracted about 400,000
barrels of oil a day. In September 2009, it proudly announced a giant find at
the Tiber well in the gulf. This well, one of the deepest ever (approximately
35,000 feet of total depth) had been dug by the Deepwater Horizon. BP was its operator,
while U.S.- based ConocoPhiUips and the partially state-owned Brazilian company
Petrobras had minority stakes.
BP also had an active research
program. Five days after the Macondo explosion, BP was granted a patent on a
new method for testing blowout preventers. BP's patent covered a method that
cut the required time for these tests by using a digital algorithm rather than
relying on crude visual observations. BP had validated this test with data from
the Deepwater Horizon and had requested that the U.S. Minerals Management
Service allow this new testing method to replace the traditional one.15
Before Hayward became CEO, BP's
safety record was far from exemplary. In 2001, workers at the Prudhoe Bay oil
fields in Alaska complained that, as a result of poor maintenance and staff
reductions, many critical valves were not being properly tested and did not
close properly. The particular spill they regarded as emblematic was initially
dismissed by BP as being like a minor "leaking faucet" that had
fueled a "candle-sized" flame. A subsequent investigation by BP and a
team of consultants revealed that 10% of BP valves failed to pass state tests
and that BP's testing often did not follow the company's own written
procedures.16
In March 2005, oil gushed out of
a relief tank at BP's Texas City refinery; the resulting explosion killed 15
people. While various pressure readings before the explosion were anomalous,
operators did not understand them well enough to prevent the accident.
According to U.S. federal investigators, numerous safety system deficiencies
lay underneath these human errors. The U.S. Chemical Safety Board (CSB) noted
that the Occupational Safety and Health Administration (OSHA) had, at one
point, asked for the replacement of the relief equipment that failed. BP
convinced OSHA that it should be allowed to make a cheaper change, though OSHA,
in turn, never carried out the inspection of the change that it had originally
demanded. Beyond blaming the accident on particular
equipment failures, the CSB blamed it on
maintenance budget cuts, worker fatigue, a routine tendency not to follow
written procedures (while still checking boxes as required by procedures), a
bigger focus on personal safety (shps and falls) than on process safety, and a
culture that did not encourage the reporting of safety incidents.17
Under
Hayward, BP settled all the lawsuits brought against it for the March 2005
explosion, including those brought by the government. It agreed to plead guilty
to one felony violation (for not following proper procedures) and to pay record
fines to OSHA ($21 million) and for violations of the Qean Air Act ($50
million). It also agreed to modify its procedures and make major investments.
Some vii tims sought to have the agreement
with the government scrapped on the grounds that the penalty was too slight and
that BP was not complying with it. While OSHA sided with BP at the end of 2008,
saying that "BP has and is making progress at the facility," it
proposed another $87 million in fines in October 2009 on the basis of 270
failures to comply with its earlier agreement and 439 new violations. BP agreed
in August 2010 to pay part of this fine. Contrary to OSHA, BP still claimed
that its system of pressure relief valves met industry standards.18
As of 2010,
deepwater oil production accounted for about 6.4% of the 84 million barrels a
day of global oil production. (See Exhibit 4 for in formation about the
main producers and consumers of oil.) About a fifth of deepwater oil production
came from the Gulf of Mexico, while a quarter came from Brazil, where huge
reserves had been found recently. Because about half of new oil discoveries in
the last few years had been in deepwater, many observers expected the importance
of deepwater to grow over Lime. In the United States, deepwater production had
risen so rapidly in the recent past that, after years of declines, the country
had recently experienced some growth in total production. The overall growth
had occurred even though production in the shallow waters of the Gulf of Mexico
continued to decline. Major oil companies were excited about deepwater in the
United States. While the drilling costs were obviously larger than in shallow
water, the wells tended to be much more productive.19
Another important trend was that
exploration and production made increasing use of specialized contractors. In
the case of deepwater drilling, it was common for a producer to rent the entire
drilling rig from a company that also provided most of the rig's crew. This
explains why of the 126 people aboard the Deepwater Horizon on the day of the
April 20, 2010, explosion 79 worked for Transocean, 41 worked for other
contractors such as Halliburton, and only 6 worked for BP.20
Transocean had Louisiana origins
but had recently moved its headquarters to Zug, Switzerland, to reduce its
corporate taxes. By the end of 2009, it had become the world's largest
deepwater driller, with a fleet of 39 deepwater rigs. Of these, 13 were in the
Gulf of Mexico. By one metric at least, Transocean's safety record in the gulf
had worsened recently. Between 2008 and 2010, the company accounted for 73% of
all deepwater incidents investigated by the Minerals Management Service even
though it accounted for only 42% of the rigs. These two percentages had been
more closely aligned before 2008.21
The United States also had
underwater reserves elsewhere. After a 1969 blowout that spilled 5,000 barrels
of oil six miles off the California coast at Santa Barbara, however, a combination
of state and federal actions had prevented almost all new offshore drilling except off
the coasts of Texas, Louisiana, Mississippi, and parts of Alaska. On March 31,
2010, Obama proposed to partially reverse this moratorium and open up some
parts of the mid-Atlantic and Florida coasts.
In defending
this proposal, Obama said, "We'll employ new technologies that reduce the
impact of oil exploration. We'll protect areas vital to tourism, the
environment, and our national security. And we'll be guided not by political
ideology, but by scientific evidence." Many environmentalists were
nonetheless opposed to this move, whereas Governor Bob McDonnell of Virginia
said, "The president's decision to allow energy exploration off Virginia's
coast will mean thousands of new jobs, hundreds of millions in new state
revenue and tens of billions of dollars in economic impact for the
commonwealth."22
Until 2010,
the government managed the nation's offshore oil resources through the MMS. The
MMS decided what areas to open for bidding, collected the resulting revenue,
specified the requirements for drilling plans, and occasionally inspected rigs
to verify that oil companies adhered to these plans. As a federal government
revenue source, it was second only to the Internal Revenue Service. There was a
widespread sentiment that the MMS had too few resources to be effective. A
report by the Department of Interior questioned whether the MMS had staff
"with the requisite expertise to review and vet standards" developed
by trade associations. According to the report, almost half the inspectors said
they had insufficient training for their job. Between 1983 and 2007, the
inspection staff had been cut by 36% while the number of leases soared. As a
result, there were only 55 inspectors assigned to the 3,000 facilities in the
Gulf of Mexico.23
One
oft-expressed concern with the U.S. approach to offshore oil production was
that it was too generous to oil companies. Several studies seemed to show this
by comparing the government take in different jurisdictions. (See Exhibit 5 for
an example of one such comparison.) Government take was defined as the ratio
of a government's oil-dependent revenue over extracted oil's value. It thus
included any payments that firms made for the right to drill, any royalty
charged by the govern men L, and any tax on the profit of oil companies
(including the economy-wide corporate profit tax). The precise mix of payments
varied from one country to another. For example, Norway had imposed no
royalties between 1992 and 2002 and gave out large investment tax credits to this
sector. On the other hand, it required all offshore drilling to be made in a 50% partnership
with a majority state-owned oil company (Statoil) and subjected the resulting
profits to a 50% special corporate profit tax rate on oil over and above the
standard 28% corporate profit tax rate.24
The low
government take in the United States helped convince the Alaska legislature to
increase its corporate tax rate on oil firms in 2006. Aside from corporate
income taxes, the U.S. government take came in two forms. First, the MMS held
periodic bids for tracts. Firms submitted sealed bids, and the MMS could then
lease the tracts to the highest bidders for the amount bid. One important
change in 1983 was that the United States increased the number of tracts,
particularly deepwater tracts, it put out for bid on each occasion. The result
was a sharp reduction in the highest bid per tract and in the number of bidders
per tract. In the case of Lease 206 in 2008, which included Macondo, the MMS
put 5,000 tracts out for bid and received 1,057 bids on 615 tracts. The MMS
proudly noted that the high- bid total, $3.7 billion, was a record. The MMS had
the right to reject bids but did so rarely.25
Second, well owners had to pay a
royalty equal to a fraction of their production. The base royalty had recently
been raised to 18.75%. A controversial program remained in place, however, by
which companies drilling
in deepwater could avoid royalties up to a production cap under certain
conditions. Some economists theorized that, even though low royalty rates ought
to lead to higher bids, low royalty rates would still lead to overall revenue
declines. The reason they gave was that a reduction in the royalty rate should
increase the dispersion in bidders' perceptions of the dollar
profits of individual tracts. Bidders
would then have less to fear from shading their bids and would therefore bid
less aggressively.26
Most
offshore drilling
regulations were spelled out in a 470-page block of the U.S. Code of Federal Regulations,
which could be changed only after a period of public comments. In addition, the
MMS issued supplementary Notices to Lessees (NTLs). A relatively small number
of the drilling regulations involved specific details, such as "The
drilling crew must have ready access to a wrench to fit each manual
valve." There were also regulations mandating tests of equipment and of
the well at predetermined intervals. The regulations listed a large number of
industry standards, as specified in publications of trade associations such as
the American Petroleum Institute, by which firms were supposed to abide. There
were also regulations providing objectives such as "You must take
necessary precautions to keep wells under control at all Limes." This was
regarded as important enough that firms were instructed to "use the best
available technology to monitor and evaluate well conditions." One area in
which regulations were more specific was in stating the reporting requirements
of drillers to the MMS. The MMS had to accept a drilling plan before lessees could drill.
Lessees needed to report pollution and to seek approval for particular
procedures, such as the method proposed by BP to temporarily cap the Macondo
well. The MMS gave BP's proposal the go- ahead on April 16, 2010.
Drilling plans in the Macondo area of the
Gulf of Mexico had been exempted from the requirement of giving a scenario
describing a possible blowout. The MMS apparently did not find these scenarios
in formative. Drillers did have to file an Oil Spill Response Plan, which had
to include evidence that the driller had contracts with providers of needed
services after a spill. Firms drilling in the gulf tended to file very similar plans. The
CEOs of BP, ExxonMobil, Chevron, and ConocoPhillips were ridiculed by a
congressional panel for having plans that discussed the protection of walruses
even though there were no walruses in the gulf.27
Environ men
Lalists complained that the MMS had exempted BP's drilling plan for the Macondo
well from having to spell out its environmental impact. As the White House
clarified some Lime later, the MMS had followed a standard procedure based on
the MMS's already extensive environ mental impact analyses for all its proposed
leases. In particular, an 85-page environmental assessment (EA) for Lease 206
had been written before bids were accepted. This EA discussed effects on air
and water quahty, coastal regions, and marine life as well as recreational,
archeological, and human resources. It provided estimates of the likely effect
of the lease on these resources and discussed the steps lessees needed to take
to minimize harm. It anticipated, for example, that 38 green turtles would die
over the 40-year lifetime of the lease as a result of the drilling. The MMS
prided itself on spending considerable resources on environ mental analyses.
The MMS also
anticipated that the leases would have two to three blowouts, though it
expected the impact of these blowouts to be minor. It said that blowouts
"could have modest, short-term economic consequences" and "are
expected to have temporary localized impacts on water quahty." Not
everyone had been so sanguine. At hearings in November 2009, Senator Robert
Menendez had pointed to a photograph of an Australian rig in flames and had
asked whether he was "just being old- fashioned" in worrying about
the possibility of a similar blowout in the gulf.
The dramatic Australian blowout, at the Montara well in the Timor Sea,
had leaked 2,000 barrels a day for 74 days before it was stopped. The MMS's
deputy director, Walter Cruishank, responded to Menendez by saying that U.S.
regulatory requirements "should have prevented the drilling operations in
the Timor Sea, as we understand them." He pointed particularly to the
pressure tests
that the United States required after
cementing jobs that "would have likely identified the problem with the
primary cement job on the Timor Sea well."28
Another reason for the MMS's
optimism was that past spills from platforms in U.S. waters had been small. A
report that the MMS commissioned in 1993, titled "Moving Beyond Conflict
to Consensus," noted that "90% of the wells in the Gulf of Mexico
required artificial lifting of their oil with pumps or the use of gas. . . .
Such reservoir characteristics make extremely large spills improbable."29
Although not in U.S. waters, a blowout had caused a 3-million-barrel spill in
the gulf in June 1979. The Ixtoc spill had occurred in 160 feet of water off
the coast of Mexico. The well's blowout preventer had failed, as had initial
containment efforts, and so Ixtoc spewed oil for almost 10 months.
Critics who
accused the MMS of being too cozy with industry could point to a 2008
government report concerning its Lakewood, Colorado, office. This office
administered a controversial in-kind royalty program in which the MMS took
delivery of oil and had to market it itself. According to the report, 8 of the
60 staff members at the facility had accepted gifts from oil companies in
excess of the allowed $50 a year, and there were some inappropriate relations
between staff and oil executives. The report painted the office's
organizational culture as "lacking acceptance of government ethical
standards." One of Ken Salazar's first acts as interior secretary was to
visit the Lakewood office and give a stem speech in which he said, "The
'anything goes' will end."30
Some congressional leaders renewed their
cries of outrage at the publication in 2010 of a new investigative report. This
one said that, before 2007, a number of employees at the Lake Charles, Louisiana,
facility in charge of offshore inspections had received gifts from oil company
executives. It noted, however, that the "culture of acceptance of
gifts" appeared to have declined after one employee was fired in January
2007.31
These
episodes notwithstanding, the oil industry did not always agree with the MMS.
An analysis of accidents had convinced the MMS that firms should be required to
have a Safety and Environ men Lai Management System (SEMS) focused on four
areas: studying rigs to minimize uncontrolled releases of oil and gas,
determining the possible adverse environ men Lai consequences of modifications,
reviewing operating procedures, and setting up procedures to ensure the use of
environ mentally sound equipment. The MMS proposed specific SEMS regulations in
2009 and BP, Chevron, and ExxonMobil responded with critical comments. They
agreed that SEMSs were useful, but they preferred a voluntary American
Petroleum Institute (API) standard that the MMS had deemed valuable in the past
and with which they already complied. They objected that the rules now proposed
by the MMS were too prescriptive and therefore burdensome.32
On March 24, 1989, the tanker Exxon Valdez
struck a reef near the coast of Alaska and spilled around 500,000 barrels of
oil. In part because the area was remote, the response was slow. The results
included contamination of about 1,300 miles of coastline, deaths of about
250,000 birds and 2,800 otters, and recovery of natural habitats that took
years. Exxon paid for the cleanup itself. A jury initially required Exxon to
pay $287 million in compensatory damages and $5 billion in punitive damages.
Exxon appealed the punitive damage award all the way to the Supreme Court,
which in 2008 cut the punitive damages to about $500 million. While the captain
of the Exxon Valdez
had previously been an alcoholic, had been absent from the bridge when the
tanker ran aground, had been seen drinking on the evening of the accident, and
still had significant alcohol in his blood 10.5 hours after the accident, he
was ultimately cleared of almost all charges filed against him. Explaining why
he was found guilty only of a negligent discharge of oil, and not of
"reckless endangerment," a juror said, "Reckless, no; negligent,
possibly."33
Congress reacted to the Exxon Valdez
spill by passing the Oil Pollution Act of 1990, a law that resembled bills that
had been introduced before while also prohibiting any ship that had spilled
more than 1 million gallons of oil after March 22,1989, from operating in
Alaska. This law put the federal government in charge of significant offshore
oil cleanup operations while still requiring firms that caused oil spills to
pay for the cleanup costs. It also limited these firms' liability for damages.
In the case of oil tankers, this liability cap depended on the vessel's tonnage
while it equaled $75 million for offshore facilities. This cap did not apply,
however, if the spill was caused by gross negligence or willful misconduct or
by the violation of a federal regulation. The cap had been binding in the case
of several shipping accidents. Consistent with the 1990 law, further damages
had been paid by the government from the Oil Spill Liability Trust Fund, which
was funded by a tax on imported oil. When he was appointed head of the Coast
Guard, Thad Allen said that the fund had $1.6 billion.
Several
witnesses at hearings for predecessors to the Oil Pollution Act of 1990 had
argued for modest liability caps on the grounds that operators needed to prove
they could cover their liability before operating. They further said that
insurance companies would charge high premiums (or refuse to insure) companies
subject to large liability payments. The result, they claimed, would be
"that only the largest global corporation could afford the expense. This
would drive out competition and cause monopolistic pricing and practices."34
BP might also be required to make two
additional kinds of payments. First, it might have to compensate the MMS for
its share of the oil that BP had involuntarily "extracted." Second,
BP could expect fines for spilling oil under the Clean Water Act. The minimum
for these fines was normally $1,100 per barrel spilled, with a maximum of
$4,300 per barrel if the spill was due to gross negligence.
Several of
the lawsuits filed after the Macondo explosion pursued Transocean, on the
grounds that it had contributed to the accident. Transocean, however, had gone
to federal court in an attempt to curb the impact of these suits. It argued
that an obscure maritime law of 1851 limited its overall habihty to the
remaining value of the vessel and its cargo, which it calculated to be $26.9
million because the rig itself was now worthless. Some observers speculated
that Transocean would benefit from filing this claim even though it was
unlikely to prevail because the statute required that the loss be due to forces
outside the firm's "privity and knowledge."35
While the oil exploration
business was global in scope, each individual country had its own regulatory
structure. Nonetheless, there were similarities among different countries'
regulations. Canada and the United Kingdom, for example, also required firms to
pay cleanup costs for spills while limiting their liability for the damages
caused by those spills. In the United Kingdom, regulations had been changed
after 167 people were killed in 1988 by the explosion of the Piper Alpha
platform. One change was that regulation and oversight were moved from the
Department of Energy to the Health and Safety Executive. Robert Paterson, an
executive at a trade association, said, "The disaster prompted the [UK]
government to change its set-up from a very prescriptive regulatory environment
towards a more goal-setting system."36
The Norwegian approach evolved
similarly. Norway moved its regulation and oversight function from the Ministry
of Petroleum and Energy to an organization called the Petroleum Safety
Authority (PSA), which belonged to the Ministry of Labor. Norwegian drillers
were required to have a demonstrable management system in charge of compliance.
Moreover, the PSA's regulations prescribed goals such as "Well control
equipment shall be designed and shall be capable of being activated so as to
provide for barrier integrity as well as control" and "Facilities
shall be designed so that no employee is exposed to noise that is harmful to
hearing." The PSA also provided more
detailed guidelines. These were not mandatory, though firms that did
not abide by them needed to be able to justify why their approach was equally
good. These guidelines required blowout preventers to be fitted with remote
acoustic switches. All drillers used such switches in Norway, though
alternative control systems were acceptable as well.37
After a fire on a platform killed 11
people in 2007, the Brazilian government also required the use of remote
acoustic switches in BOPs. In the United States, the MMS considered mandating
such switches but did not act, perhaps because a 2003 study that it commissioned
said that "acoustic systems are not recommended because they tend to be
very costly."38
Oystein
Noreng, a professor of petroleum economics at the BI Norwegian School of
Management claimed that the Norwegian regime had better performance than the U.S.
one, with one example being that its oil spills from production were lower as a
fraction of total production. (See Exhibit 6 for a comparison of offshore
drilling activity and accidents.) He attributed this not only to Norwegian
rules but also to the influence of Norwegian unions. In Norway, elected labor
representatives looked after safety and had the right to stop operations.39
In early
August 2010, the U.S. government announced that only about a quarter of the
spilled oil from the Macondo well remained in the water. The number of oiled
birds found dead or alive was about 7,000. Some environmentalists continued to
express concern about the possibility of adverse long-term impacts, even as the
visible damage appeared modest relative to that of the Exxon Valdez spill.
They pointed, particularly, to an oily dead layer of several centimeters that
covered the seafloor in areas near the spill. On the other hand, a government
study had found only 35 miles of the Louisiana coast to be heavily oiled and
observers deemed the damage to the coast mild relative to its continued
destruction by the reengineering of the Mississippi River. An expert from
Louisiana State University declared, for example, "This looks fairly
minor." The difference between the Macondo spill and the Exxon Valdez
spill was attributed to favorable currents, to the lightness of gulfs oil and
to the gulf's higher temperatures, which aided in the oil's decomposition. An
additional difference between the gulf's and Alaska's ecosystems was that
natural seepage of oil from the seafloor was relatively common in the former.40
In spite of dire predictions that the drilling moratorium
would lead to a massive exodus of drilling rigs, only 2 of the 33 deepwater
rigs in the gulf had departed by the end of August. Moreover, the workers in
the remaining rigs had not lost their jobs. People working in the paralyzed
seafood and tourist industries did not fare as well. To take care of all those
who had lost income as a result of the spill, BP had set up 35 offices to
process their claims. These offices had made $399 million in payments before
Kenneth Feinberg took over as administrator at the end of August 2010.
This late start had given
Feinberg an opportunity to hear a range of opinions regarding how payments
should be determined, and he had, in turn, started to announce the criteria he
intended to apply. Feinberg decided that claimants could ask for six months of
emergency funding and receive it without forgoing their right to ask for more.
They then had three years to ask for a lump-sum final settlement. Feinberg
would then make them an offer conditional on promising not to sue BP (and possibly
other companies) for the explosion. In an effort to convince people to file
claims under his process, Feinberg said, "I'm determined to be more
generous than any state court will be or any federal court."41
At the end
of August, Feinberg publicized that ehgibihty for payments would depend on the
claimant's location and industry. His decision to base payments on geographic
proximity to the spill was met with heated opposition. Even though most of
Florida's coast was far enough from the spill to be undamaged, Florida hotel
owners claimed that they had lost business because potential tourists were
afraid of finding their beaches sullied. An industry representative said,
"It's clear that the spill is going to cost Florida's tourism billions of
dollars," and the governor of Florida asserted that BP could end up owing
$1 billion in lost tourism taxes. 42
Outside the United States, the response to
the spill was fairly muted. Govern men Ls promised to review their regulatory
structure and to study the lessons of Macondo, but almost all of them kept
their drilling
programs, including their deepwater programs, on track. Norway did ban the
start of new deepwater wells, but it made clear that the ban was temporary and
leased new deepwater tracks in June 2010.43
The Minerals Management Service was
reorganized in June 2010; the new organization in charge of regulating offshore
drilling, the Bureau of Ocean Energy Management, Regulation and Enforcement
(BOEMRE), issued new regulations on October 14 and officially lifted the
deepwater moratorium. Industry members were concerned, however, that the
moratorium would continue de facto unless the agency hired additional personnel
to process applications. This worry was also fueled by the unusually slow pace
at which shallow-water wells had been approved since April 20.44
The new
regulations required drillers to obtain certificates from approved engineering
firms. These would vouch that blowout preventers and cementing plans fulfilled
certain specifications. In addition, more documentation was required, further
tests of BOPs and cementing jobs were mandated, and rig workers were ordered to
obtain more training in well control. BOEMRE estimated that this would cost the
industry $183.1 million annually. Using historical data, it estimated that a
major spill costing $16.3 billion could be expected to occur once every 26
years, so that the annualized cost of spills was $631.4 million. While it
recognized that the new regulations would not reduce the probabihty of these events
to zero, it still thought the benefits of its rule exceeded its costs.45
Congress, meanwhile, was considering a
large number of bills concerning offshore drilling. Some were targeted at BOPs, and
wanted these to have acoustic shut-off technology or use the best available and
safest technology. Others wanted to repeal retroactively the 1851 Limitation of
Liability Act, which Transocean was using for protection. Still others wanted
to increase safety by providing additional protection to whistleblowers. BP,
for its part, sought to thwart congressional efforts to curtail its future
operations by, for example, making permits to drill conditional on not having
had more than 10 fatalities in a facility and not having had to pay more than
$10 million in fines for violations of the Clean Air or Qean Water Acts.
David Nagle, BP's executive vice
president for BP America, responded to this legislation by saying it would make
it harder to "fund things, fund these programs." He was referring to
BP's willingness to honor a variety of requests from state officials.
Responding to such requests, BP had already donated $32 million to Florida's
marketing efforts and $15 million each to Alabama, Louisiana, and Mississippi.
It was currently contemplating Louisiana governor Bobby Jindal's call for $173
million to test, certify, and promote Gulf of Mexico seafood. Faced with these
conflicting pressures, policymakers both in the White House and in Congress
needed to think about how they wanted to reshape the offshore oil industry.46
“BP’s Macondo: Spill and Response”
1) What were the underlying cases of the spill?
2) Evaluate the political and economic logic of the $20 billion fund from both President Obama and BP’s point of view.
3) Should the U.S. government change the way that it regulates this industry?
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