Scholar argues that society is best off when regulators punish violations after the fact.
The public can be frustrated when regulators allow harm to occur and yet wait to hold accountable the individuals or corporations responsible for that harm. Before the most recent financial crisis, for example, big banks took risks that adversely affected the global economy, but regulators generally waited until after the crisis to penalize those banks. As a result, some experts argue that instead of waiting until after harm occurs, regulators should act early and impose penalties that prevent regulatory violations in the first place.
Yet, as Professor Kyle D. Logue of the University of Michigan Law School argues in a recent article, regulators that wait to hold individuals and corporations responsible until they cause harm might still have a preventative effect. Self-interested individuals and corporations, he contends, will follow regulations in order to avoid causing the harms that later could subject them to penalties. Furthermore, Logue argues that imposing liability after the fact takes better advantage of the superior information that regulated firms possess about how to prevent harms.
Professor Logue favors what is called ex post regulation. An ex post regulator waits until the regulated individual or corporation actually causes harm and then assesses a penalty, usually designed to be equal to the harm. Our criminal law and tort system generally follow ex post principles. By contrast, car mileage standards and junk food taxes attempt to penalize those who increase the risk of harms, punishing non-compliance even before any harm occurs. This scheme is known as ex ante regulation.
Logue argues that although seeking to prevent harm in the first place is well intentioned, ex ante regulation requires regulators to do what they are often not particularly good at: estimating how much harm a regulated party might cause and figuring out exactly what regulated firms must do to prevent that harm.
If regulators misestimate harm, economic inefficiency invariably occurs. For example, in a potential carbon tax system where regulators estimate the harm of carbon production as too high and therefore tax carbon production too much, coal power plants, their employees, and their customers will unduly suffer. Likewise, a tax that is too low will result in an overproduction of greenhouse gases.
Logue believes that regulators can solve these sorts of problems by using ex post regulation. To avoid penalties, regulated corporations themselves will seek to estimate the size of the harms they might cause before they violate regulations. Although this presents the same potential for economic inefficiency as when regulators estimate penalties, Logue argues that corporations’ own estimates are more accurate than those of regulators. Corporations have greater access to information about their own operations and about the possible harms to others. Furthermore, they can receive assistance from insurance companies that provide liability polices, which often have reliable information on the size of potential harms and ways to avoid such harms.
Logue suggests that this ex post approach works best for sophisticated regulated entities. He acknowledges that a “mom-and-pop” business owner who is considering installing a modern fire safety system with automatic sprinklers in order to reduce civil liability might easily underestimate the risk of fire and opt not to install the system. Compared to these smaller and less sophisticated businesses, government regulators are better positioned to accurately estimate the risk, meaning in this instance that regulators should choose whether to mandate the installation of sprinkler systems.
Logue acknowledges another potential limitation with ex post penalties: As other scholars have detailed, corporations often escape ex post penalties by declaring bankruptcy or by lobbying to reduce the penalty. But Logue suggests that regulatory mechanisms like mandatory insurance and established penalty mechanisms that are resistant to corruption would mitigate these problems.
Finally, Logue argues that effective ex post regulation provides more appropriate compensation to those harmed by others. Ex ante penalties might be able to approximate the extent of harms, but the consequence of any miscalculation is doubled when the penalty also serves to compensate victims. Thus, although delaying the determination of regulatory penalties might frustrate both the public and victims of regulatory harms, Logue concludes that all parties generally benefit from ex post regulation.