Later On

A blog written for those whose interests more or less match mine.

Chemical-plant security and externalizing costs

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Corporations do everything they can to externalize their costs—i.e., get someone else to pay for it. That’s what leads to pollution: corporations don’t want to pay for keeping their effluents (liquid, solid, or gas) clean. It’s better (for their P&L statement) to just dump the stuff and let someone else (e.g., the taxpayers, future generations) pay to clean it up. Generally, we handle this problem with regulations that force companies to pay for the clean-up—and often they find, to their surprise, that cleaning up the effluents actually reduces their processing costs so that they come out ahead.

Sometimes the externalization of costs is relatively benign. With today’s telephone system, the costs of having telephone operators have been externalized: you and I are our own phone operators, placing our local and long-distance calls. I bet that most of you have never heard the courteous voice of a telephone operator say, “Number, please.” Or tried to call your dad at his store and have the operator say, “I just saw him walking to the post office. You hang up and I’ll have him call you when he gets back.”

And we now fill our own grocery carts and we’re starting to do our own checkout. ATMs have displaced thousands of bank tellers. We can now print shipping labels with the postage on them so that the postal clerk’s job is done in part by us.

Chemical plants present a particular and location-specific problem with regard to the costs of security:

It’s not true that no one worries about terrorists attacking chemical plants, it’s just that our politics seem to leave us unable to deal with the threat.

Toxins such as ammonia, chlorine, propane and flammable mixtures are constantly being produced or stored in the United States as a result of legitimate industrial processes. Chlorine gas is particularly toxic; in addition to bombing a plant, someone could hijack a chlorine truck or blow up a railcar. Phosgene is even more dangerous. According to the Environmental Protection Agency, there are 7,728 chemical plants in the United States where an act of sabotage — or an accident — could threaten more than 1,000 people. Of those, 106 facilities could threaten more than a million people.

The problem of securing chemical plants against terrorism — or even accidents — is actually simple once you understand the underlying economics. Normally, we leave the security of something up to its owner. The basic idea is that the owner of each chemical plant 1) best understands the risks, and 2) is the one who loses out if security fails. Any outsider — i.e., regulatory agency — is just going to get it wrong. It’s the basic free-market argument, and in most instances it makes a lot of sense.

And chemical plants do have security. They have fences and guards (which might or might not be effective). They have fail-safe mechanisms built into their operations. For example, many large chemical companies use hazardous substances like phosgene, methyl isocyanate and ethylene oxide in their plants, but don’t ship them between locations. They minimize the amounts that are stored as process intermediates. In rare cases of extremely hazardous materials, no significant amounts are stored; instead they are only present in pipes connecting the reactors that make them with the reactors that consume them.

This is all good and right, and what free-market capitalism dictates. The problem is, that isn’t enough.

Any rational chemical plant owner will only secure the plant up to its value to him. That is, if the plant is worth $100 million, then it makes no sense to spend $200 million on securing it. If the odds of it being attacked are less than 1 percent, it doesn’t even make sense to spend $1 million on securing it. The math is more complicated than this, because you have to factor in such things as the reputational cost of having your name splashed all over the media after an incident, but that’s the basic idea.

But to society, the cost of an actual attack can be much, much greater. If a terrorist blows up a particularly toxic plant in the middle of a densely populated area, deaths could be in the tens of thousands and damage could be in the hundreds of millions. Indirect economic damage could be in the billions. The owner of the chlorine plant would pay none of these potential costs.

Sure, the owner could be sued. But he’s not at risk for more than the value of his company, and — in any case — he’d probably be smarter to take the chance. Expensive lawyers can work wonders, courts can be fickle, and the government could step in and bail him out (as it did with airlines after Sept. 11). And a smart company can often protect itself by spinning off the risky asset in a subsidiary company, or selling it off completely. The overall result is that our nation’s chemical plants are secured to a much smaller degree than the risk warrants.

In economics, this is called an externality: an effect of a decision not borne by the decision maker. The decision maker in this case, the chemical plant owner, makes a rational economic decision based on the risks and costs to him.

If we — whether we’re the community living near the chemical plant or the nation as a whole — expect the owner of that plant to spend money for increased security to account for those externalities, we’re going to have to pay for it. And we have three basic ways of doing that. One, we can do it ourselves, stationing government police or military or contractors around the chemical plants. Two, we can pay the owners to do it, subsidizing some sort of security standard.

Or three, we could regulate security and force the companies to pay for it themselves. There’s no free lunch, of course. “We,” as in society, still pay for it in increased prices for whatever the chemical plants are producing, but the cost is paid for by the product’s consumers rather than by taxpayers in general.

Personally, I don’t care very much which method is chosen: that’s politics, not security. But I do know we’ll have to pick one, or some combination of the three. Asking nicely just isn’t going to work. It can’t; not in a free-market economy.

We taxpayers pay for airport security, and not the airlines, because the overall effects of a terrorist attack against an airline are far greater than their effects to the particular airline targeted. We pay for port security because the effects of bringing a large weapon into the country are far greater than the concerns of the port’s owners. And we should pay for chemical plant, train and truck security for exactly the same reasons.

Thankfully, after years of hoping the chemical industry would do it on its own, this April the Department of Homeland Security started regulating chemical plant security. Some complain that the regulations don’t go far enough, but at least it’s a start.

Some very interesting comments at the link.

Written by Leisureguy

18 October 2007 at 11:09 am

Posted in Business, Government

Tagged with

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