Combining Regulation and Legal Liability for the Control of External Costs

Considering the widespread coexistence, in developed countries, of both regulatory and legal liability instruments for the control of environmental and products-related external costs, it is surprising that there have been so few economic analyses of the simultaneous use of the two instruments. More effort has gone into exploring the relative merits of regulation and legal liability as alternatives. But any attempt to establish the general theoretical superiority, in efficiency terms, of either of the instruments over the other is doomed to failure. The reason is that the advantages of each of the instruments are context specific: In some contexts one of the instruments would dominate, in others the other one would do so. Consequently, one of the instruments can be “shown” to dominate the other only by using a model with very specific assumptions. This paper explores the simultaneous use of regulation and liability under different assumptions about how the two instruments are administered. First, in Section II it will be assumed that a regulated standard of precaution (care) and a negligence liability rule are implemented independently of each other. We will refer to this as the case of independent instruments, although it will become apparent that the consequences of the two instruments are not necessarily independent of each other, even in this case. Second, in Section III it will instead be assumed that the two instruments are characterized (as they are in practice) by a degree of evidentiary interdependence. This will be referred to as the case of interdependent instruments. Unsurprisingly, the consequences of the instruments will prove to be interdependent in this case as well. The exploration