[Federal Register Volume 63, Number 158 (Monday, August 17, 1998)]
[Notices]
[Pages 44034-44099]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-21938]
[[Page 44033]]
_______________________________________________________________________
Part III
Office of Management and Budget
_______________________________________________________________________
Draft Report to Congress on the Costs and Benefits of Federal
Regulations; Notice
Federal Register / Vol. 63, No. 158 / Monday, August 17, 1998 /
Notices
[[Page 44034]]
OFFICE OF MANAGEMENT AND BUDGET
Draft Report to Congress on the Costs and Benefits of Federal
Regulations
AGENCY: Office of Management and Budget, Executive Office of the
President.
ACTION: Notice and request for comments.
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SUMMARY: The Office of Management and Budget (OMB) requests comments on
the attached draft report to Congress on the costs and benefits of
Federal regulations. The draft report is divided into an introduction
and four chapters. The introduction sets the context and provides the
background for the next four chapters. Chapter I presents OMB's best
estimate of the total costs and benefits of Federal regulatory programs
and discusses several retrospective studies of specific regulatory
programs to gain insight on how actual costs and benefits of
regulations may differ from the effects predicted prior to regulation.
Chapter II provides data on the costs and benefits of each of the
economically significant regulations reviewed by OMB under Executive
Order 12866 in the last year. Chapter III provides additional data on
the costs and benefits of the economically significant regulations
reviewed by OMB from April 1, 1995 through March 31, 1998. Chapter IV
discusses how OMB implemented last year's recommendations and presents
the Administration's proposal to restructure and deregulate the
electricity sector.
DATES: To ensure consideration of comments as OMB prepares this draft
report for submission to Congress on or before September 30, 1998,
comments must be in writing and received by OMB no later than September
16, 1998.
ADDRESSES: Comments on this draft report should be addressed to John F.
Morrall III, Office of Information and Regulatory Affairs, Office of
Management and Budget, NEOB, Room 10235, 725 17th Street, NW.,
Washington, DC 20503.
Comments may also be submitted by facsimile to (202) 395-6974, or
by electronic mail to [email protected] (Please note that the
``l'' in ``A1'' is the number one and not the letter ``l''.) Be sure to
include your name and complete postal mailing address in the comments
sent by electronic mail. If you submit comments by facsimile or
electronic mail, please do not submit them by regular mail also.
Electronic availability and addresses: This Federal Register notice
is available electronically from the OMB homepage on the World Wide
Web: http://www.whitehouse.gov/WH/EOP/OMB/html/fedreg.html.
FOR FURTHER INFORMATION CONTACT: John F. Morrall III, Office of
Information and Regulatory Affairs, Office of Management and Budget,
NEOB, Room 10235, 725 17th Street, NW., Washington, DC 20503.
Telephone: (202) 395-7316.
SUPPLEMENTARY INFORMATION: Congress directed OMB to prepare a report to
Congress on the costs and benefits of Federal regulations.
Specifically, under section 625 of the Treasury and Government
Appropriations Act, 1998 (Pub. L. 105-61), the Director of OMB is to
submit to Congress, no later than September 30, 1998, a report that, in
summary, provides (1) estimates of the total annual costs and benefits
of Federal regulatory programs, (2) estimates of the costs and benefits
of each rule that is likely to have a gross annual effect on the
economy of $100,000,000 or more in increased costs, (3) an assessment
of the direct and indirect impacts of Federal rules, and (4)
recommendations from OMB and a description of significant public
comments to reform or eliminate any Federal regulatory program that is
inefficient, ineffective, or is not a sound use of the Nation's
resources.
The attached document is a draft of this report to Congress. OMB is
to provide public notice and an opportunity to comment on the report
before it is submitted to Congress no later than September 30, 1998.
Issues for Comment
Accordingly, OMB seeks comment on all aspects of the attached draft
report, particularly comments and suggestions pertaining to the
following:
The validity and reliability of our new estimates of the
costs and benefits of regulations in the aggregate, as well as by
regulatory program or program element;
Our discussion of the methodological problems of
estimating the costs and benefits of existing rules, e.g., the baseline
and comparability problems and complications introduced by using
prospective studies to evaluate existing programs; and difficulties
reconciling quantitative and qualitative estimates of costs and
benefits;
Our review of several case studies of the costs and
benefits of existing regulations and the lessons we draw from them;
Any additional studies that might provide reliable
estimates or assessments of the annual costs and benefits, or direct
and indirect effects on the private sector, State and local government,
and the Federal Government, of regulation in the aggregate or of the
individual regulations that we discuss;
Our approach to estimating the costs and benefits of the
individual regulations issued between April 1, 1995, and March 31,
1998, that we discuss, and;
Programs or program elements on which there is objective
and verifiable information that would lead to a conclusion that such
programs are inefficient or ineffective and should be eliminated or
reformed.
Bruce McConnell,
Acting Administrator, Office of Information and Regulatory Affairs.
Draft Report to Congress on the Costs and Benefits of Federal
Regulations
Introduction
The Office of Management and Budget issued its first report to
Congress on the costs and benefits of Federal regulations on September
30, 1997. Section 625 of the Treasury and Government Appropriations
Act, 1998 (P.L. 105-61) directs OMB to issue a second regulatory
accounting report. The requirements of the report are the same as those
of last year. Section 625(a) directs the Director of the Office of
Management and Budget to submit to Congress, no later than September
30, 1998, a report that provides:
``(1) Estimates of the total annual costs and benefits of
Federal regulatory programs, including quantitative and non-
quantitative measures of regulatory costs and benefits;
``(2) Estimates of the costs and benefits (including
quantitative and non-quantitative measures) of each rule that is
likely to have a gross annual effect on the economy of $100,000,000
or more in increased costs;
``(3) An assessment of the direct and indirect impacts of
Federal rules on the private sector, State and local government, and
the Federal Government; and
``(4) Recommendations from the Director and a description of
significant public comments to reform or eliminate any Federal
regulatory program or program element that is inefficient,
ineffective, or is not a sound use of the Nation's resources.''
In last year's report we indicated that a complete accounting of
total costs and benefits of Federal regulation was a difficult
undertaking. The 1997 report was our effort to begin an incremental
process which we believe will lead to improved information on the
effects of regulations, and will help solve the many methodological
problems associated with this exercise. This year's report builds on
last year's work. In particular, we have additional data to
[[Page 44035]]
supplement our discussion of the aggregate costs and benefits of
regulation and expand our database of costs and benefits of individual,
major rules from one year (1997) to three years (1996 to 1998). In
addition, we have more experience in dealing with the methodological
problems.
One fact has not changed since the first report. There are still
enormous data gaps in the information available on regulatory benefits
and costs. Although accurate data is still sparse and agreed-upon
methods for estimating many effects are still lacking, we have made
significant progress in improving these estimates, especially for the
major rules of the last three years. As we stated last year, explicitly
quantifying and monetizing benefits and costs significantly enhances
our ability to compare alternative approaches to achieving regulatory
goals, ultimately producing more benefits with fewer costs. President
Clinton's Executive Order 12866, ``Regulatory Planning and Review,''
recognizes and incorporates this principle, requiring agencies to
quantify both costs and benefits to the best of their ability and to
the extent permitted by law. We continue to recognize that significant
regulatory costs and benefits may not be quantifiable, but may have to
be described in qualitative terms. All information, both qualitative
and quantitative, contributes to our understanding of the effects of
regulation.
This year's report presents new information on both the total costs
and benefits of regulation and the costs and benefits of major
individual regulations. We hope to continue this important dialogue to
improve our knowledge about the effects of regulation on the public,
the economy, and American society.
This document is a draft of our report. Section 625(b) requires the
Director of OMB to provide public notice and an opportunity to comment
on the report before it is submitted to Congress at the end of
September 1998. Furthermore, the final report is to contain a
description of significant public comments. Accordingly, we seek
comments on all aspects of this document, but in particular are
interested in comments and suggestions pertaining to the following:
The validity and reliability of our new estimates of the
costs and benefits of regulations in the aggregate, as well as by
regulatory program or program element;
Our discussion of the methodological problems of
estimating the costs and benefits of existing rules, e.g., the baseline
and comparability problems and complications introduced by using
prospective studies to evaluate existing programs;
Our review of several case studies of the costs and
benefits of existing regulations and the lessons we draw from them;
Any additional studies that might provide reliable
estimates or assessments of the annual costs and benefits, or direct
and indirect effects on the private sector, State and local government,
and the Federal Government, of regulation in the aggregate or of the
individual regulations that we discuss;
Our approach to estimating the costs and benefits of the
individual regulations issued between April 1, 1995, and March 31,
1998, that we discuss; and
Programs or program elements on which there is objective
and verifiable information that would lead to a conclusion that such
programs are inefficient or ineffective and should be eliminated or
reformed.
All comments received will be carefully considered in preparing the
final report that will be submitted to Congress.
The draft report is divided into four chapters. In accordance with
section 625(a)(1), chapter I presents our best estimate of the total
costs and benefits of Federal regulation. It builds on chapter II of
last year's report presenting updated and more detailed estimates of
the total annual costs and benefits of major Federal regulatory
programs.1 In particular, this year we present more
categories of regulatory costs and benefits than last year and use our
own estimates based on agency data of costs and benefits of individual
rules issued over the last three years (April 1, 1995 to March 31,
1998) to update the aggregate estimates. We also chose this year to
provide ranges of costs and benefits rather than point estimates to
emphasize the uncertainty embodied in the estimates.
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\1\ Chapter I of last year's report discussed the role of
economic analysis in regulatory reform. We discussed the growth and
nature of regulation, the development of the U.S. regulatory
analysis and review program and the basic principles that should be
used in assessing regulatory costs and benefits. We did not repeat
that discussion this year but it is still useful for understanding
the context of this year's report. (See OMB 1997 or http://
www.whitehouse.gov/WH/EOP/OMB/html/rcongress.htm).
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As we did last year, we use the study by Hahn and Hird (1991) for
the costs and benefits of regulations as of 1988, supplemented by an
Environmental Protection Agency (EPA) Cost of a Clean Environment
report to Congress (1990). We also use a new (1997) retrospective EPA
report to Congress (The Benefits and Costs of the Clean Air Act, 1970
to 1990). Because there are no studies comparable to the Hahn and Hird
or the EPA retrospective studies for the regulations issued after
1988,2 we use information about costs and benefits from
agency prospective regulatory impact analyses (RIAs) to account for the
major regulations that have been issued since 1988. In almost all
cases, the RIAs have been subject to notice and comment and have been
reviewed by OMB. This year we have systematically started to improve
the consistency of the agency estimates and to show monetized estimates
of benefits where appropriate and feasible. We have completed this
analysis for the last three years and plan to complete additional years
in the future.
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\2\ EPA's Clean Air Act report covers effects through 1990.
However, for the annual estimates that appear in table 1 and in the
text, we have, in consultation with EPA staff, adjusted EPA's
estimates to reflect only effects as of 1988.
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The new estimates range from $170 billion to $224 billion in annual
costs and $258 billion to about $3.55 trillion in annual benefits for
social, i.e., health, safety, and environmental regulation. Using the
ranges to reflect the substantial uncertainty in the estimates,
quantified (and monetized) net benefits could be as low as $34 billion,
or as high as $3.38 trillion. The main reason why these estimates are
different from last year, especially on the upper end of the range of
benefits, is that we have incorporated retrospective estimates from a
recent EPA report on the benefits and costs of the Clean Air Act. This
report, discussed in detail in chapter I, estimates the benefits of the
Clean Air Act at up to $3.2 trillion. Three new regulations also
included in the estimates (EPA's revised particulate matter and ozone
primary National Ambient Air Quality Standards and OSHA's respirator
rule) are estimated (using midpoints) to provide approximately $35
billion in benefits per year. While this information is useful, we
still believe that the limitations of these estimates for use in making
recommendations about reforming or eliminating regulatory programs are
severe. Aggregate estimates of the costs and benefits of regulation
offer little guidance on how to improve the efficiency, effectiveness,
or soundness of the existing body of regulations.
Chapter I also discusses the impacts of other types of regulation
and regulatory-like activities and reviews several estimates of the
aggregate costs of regulation as well as several retrospective case
studies. Estimates of
[[Page 44036]]
the impacts of economic efficiency losses, disclosure regulation,
economic transfers, tax compliance costs, Federal on-budget regulatory
expenditures, and the possible indirect effects of regulation on the
economy as directed by section 625(a)(3) are also presented and
discussed.
In fulfillment of section 625(a)(2), chapter II provides data from
the agencies on the costs and benefits of each of the economically
significant regulations reviewed by OMB under Executive Order 12866
over the period from April 1, 1997, to March 31, 1998. The data were
developed by the agencies as required by the Executive order. For the
most part, these data were subject to notice and public comment and
reviewed by OMB. We also examined the reports on major rules that GAO
provides to Congress for the independent agencies not subject to
Executive Order 12866; however, these generally were not of sufficient
detail or quality to provide much useful information for the purposes
of this report. Finally, this chapter also highlights examples where
agencies have done a particularly exemplary job of following the
guidance in the Best Practices 3 document, which is on our
web site at http://www.whitehouse.gov/WH/EOP/OMB/html/miscdoc/
riaguide.html.
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\3\ OMB published in 1996 a document that describes ``Best
Practices'' for preparing the economic analysis called for by
Executive Order 12866 for significant regulatory actions. This
document represents the culmination of a two-year effort by an
interagency group to review the state of the art for economic
analyses required by the Executive order.
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Chapter III provides estimates of the costs and benefits for the
economically significant/major rules issued between April 1, 1995 and
March 31, 1998, for which we were able to estimate costs and benefits.
The estimates that we present in chapter III for regulations issued
during these three years are either straightforward agency estimates,
or estimates that we calculated using a consistent methodology and
value estimates used by the agencies for other regulations or in some
cases found in the academic literature. We estimate annual costs of
major rules for these three years to be about $28 billion while annual
benefits range from $30 to $97 billion.
Chapter IV discusses how we implemented last year's recommendations
aimed at further developing the information, methodologies, and
analyses necessary for improving the efficiency, effectiveness, and
soundness of regulatory programs and program elements as required by
section 625(a)(4). We discuss how the agencies and OMB worked together
to improve the quality of the data and analysis found in the economic
impact studies submitted to OMB under Executive Order 12866, and in
particular how we promoted the use of the Best Practices guidance
document. Finally, also in fulfillment of section 625(a) (4), we
present a discussion of the Administration's proposal to restructure
and deregulate the electricity sector.
Chapter I: Estimating the Total Annual Costs and Benefits of
Federal Regulatory Programs
A. Overview
By using new data from agency regulatory impact analyses that
accompany regulations, this chapter builds on chapter II of last year's
report (OMB 1997) to present updated and more detailed estimates of the
total annual costs and benefits of Federal regulatory programs. We also
discuss and present quantitative estimates where available of indirect
impacts and other effects of regulation and related Government
policies. Finally, several retrospective studies of specific regulatory
programs are reviewed to gain insight on how the actual costs and
benefits of regulations may differ from the effects predicted prior to
regulation.
We respond to the comments we received on last year's report in
several ways. First, we present more details by regulatory program and
build on agency analyses to monetize benefits estimates. Second, we
review the analyses from independent agencies and present more
systematic data on the costs and benefits of economic regulation, tax
compliance costs, transfers, Federal regulatory expenditures, and
indirect impacts. Finally, our review of several important
retrospective studies responds to important methodological issues
raised regarding the use of prospective studies to estimate the costs
and benefits of existing regulations.
1. Estimation Problems
Before proceeding with our new estimates, we reiterate and
reemphasize the methodological concerns and caveats that were discussed
in last year's report. These concerns remain of critical importance. It
remains extremely difficult, if not impossible, to estimate the actual
total costs and benefits of all existing Federal regulations with any
degree of precision. There is a variety of estimation problems for both
individual estimates and aggregate estimates.
In order to estimate the impact of regulations on society and the
economy, one has to determine how things would have been if the
regulation had not been issued. In other words, what is the baseline
against which costs and benefits should be measured? With respect to
estimating total costs and benefits of all Federal regulations, the
baseline problem has several dimensions. First, what would have
happened in the absence of regulation can only be an educated guess
since it never happened. Furthermore, the greater the regulatory
change, the more problematic the exercise. For example, the assumptions
of welfare economics, upon which benefit-cost analysis is based, hold
only for marginal changes in economic activities. The larger the
changes, the less sure we are of the predictions. In other words, we
can be more confident in our estimates of the costs and benefits of a
small change in the level of automobile emissions permitted than in the
costs and benefits of all Clean Air Act regulations and still more
confident than in estimates of the costs and benefits of all
regulations issued by the Federal Government since the early 1900s. If
we use as a baseline a world with no regulation, one can reasonably
argue that the benefits of regulation must clearly swamp any likely
cost.
Even disregarding the problem of modeling large changes, there are
significant difficulties in determining the counterfactual or baseline
for individual regulations that one could begin to aggregate. One can
survey firms and other regulated entities on their expected compliance
costs either prospectively, before the regulation is implemented, or
retrospectively, after the regulation has gone into effect. For both
types of studies, the problem of potential estimation bias must be kept
in mind since regulators and regulatees may have different interests in
the outcomes. The problem of bias is potentially greater for
prospective studies because both the baseline and the regulatory
effects must be predicted while for retrospective studies only the
baseline or counterfactual must be predicted. In the ordinary course,
therefore, the best estimates of the costs and benefits of regulation
are likely to be retrospective studies done by individuals who do not
have vested interests, but do have reputations as objective analysts to
uphold.
To make matters even more complicated, a third type of study is
actually needed before recommendations can be made to eliminate or
modify regulatory programs. That is a hybrid study
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somewhere between pure prospective and pure retrospective. The ideal
hybrid study would be a retrospective study of the existing regulation
with prospectively estimated costs and benefits of eliminating or
modifying it. A hybrid study is needed because ``sunk costs,'' such as
specialized capital costs and the cost of changing procedures already
in place, make the cost savings from eliminating regulation less than
the cost of complying with those regulations. Furthermore, on the
benefit side there appears to exist an asymmetry between giving someone
a benefit and taking it away. Studies have shown that people are
willing to pay less for a benefit than what they are willing to accept
in return for its loss. In other words, once people have attained safer
jobs or cars, or cleaner air or water, they appear willing to pay more
for keeping such benefits than they were willing to pay to attain them.
Very few studies of health, safety, and environmental regulation have
attempted to estimate the actual cost savings and benefit losses that
would result from reducing or eliminating an existing
regulation.4
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\4\ Note that the problem of bias may be the greatest in this
case because often both the regulators and the regulatees will
prefer the status quo, i.e., regulation. This appears to be the
lesson from the Occupational Health and Safety Administration's
(OSHA) reconsideration of the cotton dust standard during the Reagan
Administration. After opposing the regulation at the proposal stage
during the Carter Administration, the industry did not support the
Reagan Administration's proposal to withdraw it. (See Viscusi 1992).
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Further, virtually all of the studies of the costs of regulation
produced to date measure the expenditures of firms required by
regulation, whereas the cost to society of regulation should be
measured by the change in consumer and producer ``surplus'' associated
with the regulation and with any price and/or income changes that may
result (Cropper and Oates 1992). At one extreme, ignoring the consumer
surplus loss produced by a ban on the sale of a product understates
costs to society because although no compliance expenditures are
required, consumers can no longer buy the product. At the other
extreme, calculating compliance expenditures based on pre-regulation
output overstates costs because if the firm raises prices to cover
compliance costs, consumers will shift to other products and thereby
reduce their welfare losses (Cropper and Oats 1992, p. 722).
Another problem is the fact that many studies that we rely on for
cost and benefit estimates are dated. Over time the dynamic nature of
the economy may affect the estimation of both benefits and costs.
Technological improvements are often cited as the reason that predicted
costs of compliance often turn out to be less than actual costs (Office
of Technology Assessment 1995). Less well noted, however, is that
technological progress also takes place on the benefit side. For
example, medical progress can reduce the future benefits estimated for
health, safety and environmental regulations, just as productivity
improvements in manufacturing reduce the costs of compliance of some
regulations. New drugs or medical procedures can reduce the benefits of
regulations aimed at reducing exposure to certain harmful agents such
as an infectious disease. Regulations aimed at increasing the energy
efficiency of consumer products or buildings may see their expected
benefits reduced by new technology that reduces the cost of producing
energy. Furthermore, productivity improvements lead directly to higher
incomes, which lead people to demand better health and more safety.
Business responds to these demands by providing safer products and
workplaces, even in the absence of regulation. Individuals with rising
incomes may also purchase or donate land to nature conservancies to
provide ecological benefits. Yet, as on the cost side, the baseline
that is used is almost always the status quo, rather than what is
likely to be true in the future.
It is often difficult to attribute changes in behavior to specific
Federal regulations apart from the many other motivating factors. In
addition to overlapping Federal regulations, often from different
agencies, e.g., environmental issues may be regulated by the
Environmental Protection Agency (EPA), the Department of Agriculture
(USDA), the Department of Energy (DOE), the Department of the Interior
(DOI), the Department of Commerce (DOC) and the Department of
Transportation (DOT), state and local regulations also require
compliance. The tort system, voluntary standards organizations, and
public pressure also cause firms to provide a certain degree of public
protection in the absence of Federal regulation. As the General
Accounting Office (GAO) points out, determining how much of the costs
and benefits of these activities to attribute solely to Federal
regulation is a difficult undertaking (GAO 1996).
Adding to the complexity, the degree to which these other factors
cause firms and other regulated entities to provide safe and healthful
products and workplaces and engage in environmentally sound practices
changes over time, generally increasing with increasing per capita
incomes and knowledge about cause and effect. Thus, although the
National Highway Traffic Safety Administration (NHTSA) has
significantly increased the safety of automobiles, it is not likely
that if the agency's regulations were eliminated the automobile
companies would discontinue all the safety features that have been
mandated. Consumers are demanding safer cars and automobile companies
are concerned about product liability. This same phenomenon is taking
place in the environmental area. Environmentally responsible behavior
is good for the bottom line. Over time, this ``rising baseline''
phenomenon, if correct, should reduce the true costs and benefits of
health, safety, and environmental regulations. Estimates of the
aggregate costs and benefits of regulation that include unadjusted
estimates from aging studies are thus likely to overestimate the
current costs and benefits of those regulations.
Yet another problem may be termed the ``apples and oranges
problem.'' The attempts to aggregate the total costs and benefits of
Federal regulations have simply added together a diverse set of
individual studies. Unfortunately, these individual studies vary in
quality, methodology, and type of regulatory costs included. In
addition to using different assumptions about baselines and time
periods problems discussed above, the studies use different discount
rates, different valuations for the same attribute, and different
concepts of costs and approaches to dealing with uncertainty, to
mention a few. Furthermore, the possibility of interaction effects
between the tens of thousands of regulations is not addressed.
A final reason that any regulatory accounting effort has limits is
the lack of information on the effects of regulations on distribution
or equity. None of the analyses addressed in this report provides
quantitative information on the distribution of benefits or costs by
income category, geographic region, or any other equity-related factor.
As a result, there is no basis for quantifying distributional or equity
impacts.
2. Types of Regulation
Because there are so many different types of Federal regulations,
it is useful to break this heterogeneous body up into categories. As we
did last year we describe five commonly used categories.
Environmental. The true social cost of regulations aimed at
improving the quality of the environment is represented by the total
value that society places on the goods and services foregone as a
result of resources being diverted to environmental protection.
[[Page 44038]]
(EPA's Cost of a Clean Environment, pp. 1-2, 1-3.) These social costs
include the direct compliance costs of the capital equipment and labor
needed to meet the standard, as well as the more indirect consumer and
producer surplus losses from lost or delayed consumption and production
opportunities due to the higher prices and reduced output needed to pay
for the direct compliance costs. In the case of a product ban or
prohibitive compliance costs, almost all of the costs represent
consumer and producer surplus losses. Most of the cost estimates used
in this report do not include consumer and producer surplus losses
because it is difficult and often impractical to estimate the demand
and supply curves needed to do this type of analysis.
Further indirect effects on productivity and efficiency result from
price and output changes that spread through other sectors of the
economy. Estimates of compliance costs likely understate substantially
the true long-term costs of pollution control.5 The
estimates used in this report do not include these indirect and general
equilibrium effects.
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\5\ See Jaffe, Peterson, Portney, and Stavins' survey (1995), p.
153.
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The benefits of environmental protection are represented by the
value that society places on improved health, recreational
opportunities, quality of life, visibility, preservation of ecosystems,
biodiversity, and other attributes of protecting or enhancing our
environment. This value is best measured by society's willingness-to-
pay (WTP) for these attributes. Because most types of improvement in
environmental quality are not traded in markets, benefits must be
estimated by indirect means using sophisticated statistical techniques
or ``contingent valuation'' survey methods that generally make benefit
estimation more problematic than cost estimation.
Other Social. This category of regulation includes rules designed
to advance the health and safety of consumers and workers, as well as
regulations aimed at promoting social goals such as equal opportunity,
equal access to facilities, and protection from fraud and deception.
They are often lumped together with environmental regulation in the
category of ``Social Regulation.'' Social regulation is mainly
concerned with controlling or reducing the harmful or unintended
consequences of market transactions, such as air pollution,
occupationally induced illness, or automobile accidents. These
consequences are commonly called ``negative externalities'' and
regulation designed to deal with them attempts to ``internalize'' the
externalities. This can be done by regulating the amount of the
externality, e.g., banning a pollutant or limiting it to a ``safe''
level, or regulating how a product is produced or used. Social
regulation may also require the disclosure of information about a
product, service, or manufacturing process where access to inadequate
or asymmetric information may place consumers, citizens, or workers at
a disadvantage. The techniques and methodological concerns involved in
the estimation of the social costs and benefits generated by these
rules are similar to those involved in the estimation of costs and
benefits of environmental regulation discussed above. In the results
that we report below, we further break ``Other Social'' into three
categories: transportation, labor and other regulations. The third
category includes food and drug safety, energy efficiency, and quality
of medical care regulations.
Economic. Economic regulation restricts firms' primary economic
activities, e.g., their pricing and output decisions. It may also limit
the entry or exit of firms into or out of certain specific types of
businesses. Such regulations are usually applied on an industry wide
basis, e.g., agriculture, trucking, or communications. In the United
States, this type of regulation at the Federal level has often been
administered by ``independent'' commissions, e.g., the Federal
Communications Commission (FCC), the Securities and Exchange Commission
(SEC), or the Federal Energy Regulatory Commission (FERC), whose
members are appointed but not removable without good cause by the
President. The economic losses caused by this type of regulation result
from the higher prices and inefficient operations that often occur when
competition is prevented from developing.
The costs of such regulation are usually measured by modeling or
comparing specific regulated sectors with less regulated sectors,
estimating the consumer and producer surplus losses that result from
higher prices and lack of service, and estimating the excess costs that
may result from the lack of competition. In contrast to social
regulatory cost estimates, these are estimates of mainly indirect
costs.
Economic regulation may produce social benefits when natural
monopolies are regulated to simulate competition. Although Hahn and
Hird (1991) argue that the dollar amount of such efficiency benefits
are small in a dynamic and technologically vibrant economy, their
judgment is an educated guess based on a reading of recent history,
rather than the result of an empirical study. It appears to be based
largely on the widely accepted view that the U.S. economy has become
more competitive over time, with fewer long-lasting natural monopolies,
and on the observation that much of the motivation for economic
regulation is to enhance one group at the expense of another. But even
though monopoly power may not be long lasting in a dynamic U.S.
economy, it does exist at a given point in time.6
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\6\ We are not including antitrust activities such as preventing
the formation of monopolies through mergers or anticompetitive
behavior in our definition of economic regulation. Clearly this type
of Government policy creates important social benefits.
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Moreover, while Hahn and Hird (1991) define economic regulation as
including only regulation of entry, output, and prices, in practice
they appear to lump all Federal regulation of banking and other
financial institutions, as well as consumer protection regulation
through mandated disclosure requirements, into the ``economic
regulation'' category of their cost estimates. In our view, chartering,
branching, interest rate, and activity regulation are the only major
categories of banking regulation that conform to the definition of
economic regulation used here. The other categories are ``safety-and-
soundness'' regulation and ``consumer information and protection''
regulation, both of which fit more logically into the ``other social
regulations'' category used in this study (White 1991, pp. 32-33).
Consideration of this definitional issue is important because the type
and magnitude of benefits associated with the different categories of
banking regulation differ greatly. In particular, while costs may
exceed benefits for some types of economic regulation (entry, output,
and prices), safety-and-soundness regulation is essential to a well
functioning financial system and thus fully justifies the cost (White
1991), and the consumer protection regulation applicable to banking is
similar to consumer protection information for other industries where
there is general agreement that the benefits exceed the costs.
Transfer. As discussed in OMB's Best Practices document, transfers
are payments from one group in society to another and, therefore, are
not real net costs to society as a whole. Nonetheless, the consequences
for individuals can be very significant. One person's loss is another
person's gain. Examples of transfers include payments to Social
[[Page 44039]]
Security recipients from taxpayers and the higher profits that farmers
receive as a result of the higher prices consumers must pay for farm
products limited by production quotas. Our guidance document states
that transfers should not be added to the cost and benefit totals
included in regulatory assessments but should be discussed and noted
for policy makers.
Process. Process costs are the administrative or paperwork costs of
filling out Government forms such as income tax, immigration, social
security, procurement, etc. The majority of process costs is due to
program administration, Government procurement, and tax compliance,
which do not fall into either the social or economic regulatory
categories. Some of these, such as procurement costs, are reflected in
the Federal budget as greater fiscal expenditures and care must be
taken not to count them twice. Process costs can be viewed as part of
the costs of providing Government services or collecting revenues that
should be minimized for a given level or quality of service or revenue.
We break these types of costs into further categories and discuss their
effects in more detail below.
B. New Estimate of the Costs and Benefits of Existing Social
Regulations
Several commentators on last year's report called for more detail
on the costs and benefits of regulatory programs. It is important to
note that, as was the case last year, this section includes only
estimates of costs and benefits that have been quantified and
monetized. As we discuss elsewhere in this report, the fact that an
effect has not been monetized or quantified does not necessarily mean
that it is small or unimportant.
Last year we broke out costs and benefits of existing social
regulations into two categories: environmental and other social (OMB
1997, table 1). This year we have been able to further subdivide other
social into three categories: labor, transportation, and other social
regulation, mainly regulations from HHS, DOE, and USDA. We were able to
do this by further utilization of the results of the 1991 article by
Hahn and Hird and the 1996 book by Hahn as well as the Cost of a Clean
Environment report (EPA 1990), and by making new estimates of the costs
and benefits of regulations issued over the last three years (April 1,
1995 to March 31, 1998), which we derive in chapter III using data from
the Regulatory Impact Analyses submitted by the agencies to OMB under
E.O. 12866. We have also incorporated EPA's recently published report,
The Benefits and Costs of the Clean Air Act, 1970-1990 (EPA 1997),
hereafter referred to as the ``Section 812 Retrospective.'' In
addition, we examined data submitted to GAO by the independent agencies
over the last two years under the Congressional Review Act for major
rules. In order to estimate aggregate regulatory costs and benefits, we
combine three data sources covering three time periods--pre-1988, 1988
to 1994, and 1995 to 1998.
Since Hahn and Hird provide cost and benefit estimates for more
than two categories of social regulations, we were able to expand our
estimate detail from two categories last year to four this year. We
were limited to four categories because the cost data we relied upon to
fill the gap between the 1988 Hahn and Hird data and our cost and
benefit estimates starting in 1995, (from the 1996 OMB report, More
Benefits, Fewer Burdens) contain only the four categories listed above.
We also use additional information on the distribution of benefits that
we did not use last year. Last year we used Hahn and Hird's conclusion
that ``the net benefits of social regulation are positive but small''
(p. 253) to estimate that the costs and benefits of both environmental
and other social regulations were approximately equal. They came to
this conclusion by taking the midpoint of their ranges for costs and
benefits. However, as we pointed out last year, there is much
uncertainty associated with these estimates. Moreover, we were
criticized for presenting point estimates when ranges would have been
more appropriate (Hahn 1998). This year we have elected to present
ranges both for the base case and later for our estimates of the costs
and benefits of the regulations that have been issued since the base
period. Table 1 shows these cost and benefit estimates derived from
Hahn and Hird for the four regulatory program areas as of
1988.7 Table 1 also includes new estimates from the Section
812 Retrospective.8
---------------------------------------------------------------------------
\7\ We do not repeat the discussion of the derivation and the
qualifications of these estimates that appeared in last year's
report. We refer the reader to that discussion (OMB 1997 pp. 27-33)
for this information. Suffice it to say here that we realize, as
several commenters have pointed out, that there are gaps and
weaknesses in underlying studies that Hahn and Hird rely on for
their estimates and that not all the costs and benefits of social
regulation are captured in these estimates. We hope in future years
to fill in the gaps and use more accurate, up-to-date studies for
our estimates when such studies become available.
\8\ Table 1 (and all succeeding tables mentioned in the text)
can be found in sequential order at the end of this report.
---------------------------------------------------------------------------
The addition of the Section 812 Retrospective significantly changes
the upper bound benefit estimate for environmental regulation, i.e.,
more than 15 times the upper bound of the Hahn and Hird study. As we
outlined at the beginning of this chapter, there are a number of
critical estimation problems that must be confronted in developing
benefit and cost estimates. The available studies, such as the Hahn and
Hird study and the Section 812 Retrospective, also have had to confront
these problems and each study has had to make difficult choices. As a
result, there are advantages and disadvantages that attend each of
these studies. The EPA estimates of $378 million to $3.2 trillion per
year are substantially larger than the estimates presented by Hahn and
Hird. The Hahn and Hird estimates were based on a 1982 study by Freeman
that provided a synthesis of the available benefits literature. These
estimates do not reflect the benefits associated with Clean Air Act
initiatives in the 1980s, e.g., EPA's lead phasedown program. They also
do not reflect the recent literature suggesting an association between
exposure to fine particulate matter and premature mortality. In
addition, the 1982 Freeman estimates were based on actual air quality
improvements over the 1970s, i.e., they did not attempt to account for
the benefits associated with preventing degradation in air quality.
The Section 812 Retrospective estimates were developed through an
EPA Science Advisory Board peer review process. It presents a more
comprehensive set of the benefits and costs under the Clean Air Act
over the period from 1970 to 1990; for example, it includes regulatory
actions taken during the 1980s. In addition, these estimates also
include the benefits and costs of preventing any deterioration in air
quality and reflect the benefits and costs of all air pollution control
efforts, not just the Federal Clean Air Act. Our detailed discussion in
section D below presents a more complete description of the Section 812
Retrospective and identifies some key uncertainties and assumptions
underlying the benefit estimates that may have an important effect on
the magnitude of these estimates.
To get the costs of existing regulations as of 1997, last year's
report added to the 1988 base the costs of the major regulations
reviewed by OMB between 1987 and 1996 as estimated from the RIAs
agencies provided OMB under Executive Order 12866 and its predecessor
Executive Order 12291 (OMB 1996). To estimate benefits, last year we
used benefit/cost ratios for environmental and other social regulation
calculated from Hahn (1996), who estimated benefits and costs of
[[Page 44040]]
agency rules from 1990 to mid-1995, for a subset of our rules, to
estimate benefits that correspond to our rules. We then added that
total to the benefit estimate as of 1988 from Hahn and Hird. This year
we improve on that exercise by using benefit/cost ratios from Hahn
(1996) for environmental, transportation, labor, and other social
regulation to estimate benefits for rules issued between 1987 and
1995.9 For the rules issued from 1995 through the first
quarter of 1998, we used information from agency-supplied RIAs modified
for consistency with Best Practices as appropriate and extended to
provide more monetized estimates of benefits and costs using consensus
value estimates used by the agencies or found in the literature. These
calculations are shown and explained in chapter III. Our latest
estimates are shown in table 2.
---------------------------------------------------------------------------
\9\ Admittedly this is a crude estimation procedure because
Hahn's inventory of rules begins in 1990 and ours extends back to
1987. Consequently, we are assuming that the relationship between
costs and benefits that Hahn found for the later period extends back
three years. Still, we know of no other approach to fill this gap in
the data until RIAs for these years are re-examined.
---------------------------------------------------------------------------
Table 3 combines the results from tables 1 and 2 to present our new
estimates for the existing costs of social regulation as of the first
quarter in 1998. It shows that health, safety and environmental
regulation produces between $34 and $3.38 trillion of net benefits per
year.
We must underline the uncertainty of these estimates. They are
useful primarily for drawing general conclusions about categories of
regulations that should be corroborated by additional data and
analysis. As specific values, however, they are fraught with
uncertainties. As discussed above, the baseline, apples and oranges,
and other methodological problems significantly reduce the likelihood
that these findings are robust. In addition to these problems, we are
also concerned that as the aggregate categories are divided into
smaller parts, the accuracy of the estimates may weaken because it is
less likely that randomly distributed errors in the data and analysis
even out. Furthermore, one must be doubly careful about drawing
conclusions from these results because these estimates are average
benefits and costs for aggregates of existing regulations, not the
incremental costs and benefits that are required to be able to make
reliable recommendations to improve specific regulatory programs or
regulations. Also note that these estimates are a combination of the
1988 baseline estimates, which are mostly from retrospective studies,
and the 1988 to 1998 estimates that are from the prospective studies
for individual rules. How well the cost and benefit estimates of
prospective studies predict actual costs and benefits is a question
that has not been answered. In section D of this chapter, we review the
evidence from several case studies that might shed light on this
question. Where we can make direct comparisons between prospective and
retrospective analyses, we find that both costs and benefits were
sometimes overestimated by prospective studies. In other instances,
costs were underestimated.
Finally regarding the utility of these estimates for making
recommendations for changes in regulatory programs, it bears repeating
that the actual costs and benefits of a regulation or regulatory
program are not the appropriate calculation. Rather, before a
recommendation is made to repeal or modify a regulation or regulatory
program, the necessary question is: ``What would be the incremental
costs and benefits of repealing the regulation or regulatory program.''
C. Other Regulatory Impacts
Despite the weaknesses in the estimates of the costs and benefits
of social regulation, the estimates of the costs and especially the
benefits of the other types of regulation are even more problematic. In
last year's report, we made the assumption that the costs and benefits
of fundamentally different types of regulations and government policies
could be aggregated and displayed in one table, with caveats. In doing
this, however, we were adding regulatory programs together that had
quantified costs and unquantified benefits with regulatory programs
that had quantified costs and quantified benefits. We also added
together the direct compliance costs of social regulation with the
indirect, mostly consumer surplus, losses of economic regulation.
However, direct compliance costs may have significantly different long
run effects than indirect consumer surplus losses. We have concluded
this year that such totals are more misleading than helpful, even with
extensive explanation of the absent benefit estimates and the apples
and oranges and other problems. To prevent confusion, this year we are
presenting the estimates separately in table 4.
Table 4 presents a list of the other types of regulation or
regulatory-like activities. In some cases we do not agree that these
activities are true regulations or should be considered in the same
category with what we have classified as social regulation. However,
this wide range of activities was noted by several commenters who urged
us to include them in this year's report. Table 4 also lists costs and
benefits, and is followed by a discussion of each.
1. Efficiency Losses From Economic Regulation
In last year's report, we presented an estimate that the efficiency
costs of economic, i.e., price and entry, regulation amounted to about
$71 billion. This is based on an estimate by Hopkins (1992) of $81
billion, which we adjusted downward by $10 billion to account for the
deregulation and increase in competition that has occurred in the
financial and telecommunications sectors since Hopkins' estimates were
made in 1992. Our estimate has recently been corroborated by analysis
in a recent, comprehensive two volume Organization for Economic
Cooperation and Development (OECD) report, OECD Report on Regulatory
Reform (OECD 1997), which attempts to estimate the benefits of further
economic deregulation of five sectors of the economy (electricity,
airlines, trucking, telecommunications, and retail and wholesale
distribution) for five countries (the U.S., Japan, Germany, France, and
the U.K.). Adding up any remaining benefits from deregulating these
sectors and using a macroeconomic model to simulate the economy-wide
effects on GDP, the OECD estimated that U.S. GDP would increase by 0.9
percent from these actions. This estimate implies that the current
costs of regulation in these sectors is $68 billion (0.9 percent of
1996's GDP of $7.6 trillion). Although the two estimates are not
strictly comparable, because our estimate of $71 billion includes
import restrictions and the OECD estimate does not and our estimate is
only for Federal regulation and the OECD estimate includes State and
local as well as National, the two estimates are close enough to be
mutually supportive.
There appear to be no reliable quantified estimates of the total
benefits of economic regulation. We pointed out last year that price
regulation of natural monopolies does have the potential to provide
consumer surplus benefits. However, most economists believe that few
natural monopolies, except perhaps in local distribution markets, have
long staying power because of the globalization of markets and rapidly
changing technology. Over time both the benefits and costs of
regulation (assuming regulation does not change) are eroded by changes
in technology and adaptive behavior, i.e., the rising baseline
phenomenon discussed above.
[[Page 44041]]
The static welfare benefits of economic regulation are not likely to be
long lasting in a dynamic world. The OECD report also implies that few
benefits are produced by sectoral entry restrictions. The report points
out that the loss of universal service may be a concern, but states
that methods besides regulation, e.g., targeted subsidies, can be
adopted to provide services to worthy entities less able to pay full
costs. In table 4 we enter under the benefits of economic regulation
the term ``expected to be small.''
Last year, we received comments from several independent economic
regulatory agencies suggesting that we had not emphasized the potential
benefits of economic regulation enough. The comments made good points.
Economic regulatory agencies are producing significant benefits.
However, these benefits do not flow from their imposing new
restrictions on entry. Rather, the benefits stem from their efforts to
open up markets and promote competition, which often means preempting
State competition or correcting past mistakes. In other words, some
agencies view the reduced costs created by deregulating as a benefit of
regulation. The correct view is determined by the baseline. Is the
baseline the existing patchwork of State and Federal regulation, which
has produced artificially constructed telecommunications and financial
services firms, or the more competitive environment that most likely
would have existed if we had not had these restrictions? There is no
inconsistency in saying that economic regulation has produced few
significant benefits, as Hahn and Hird (1992) state in summarizing the
consensus view of economists on this subject, and saying that economic
regulatory agencies are currently providing important benefits to
society by promoting competition.
The OECD study points out the important role that regulators have
in smoothing the transition toward a more competitive environment.
Regulators must carefully consider the issues of stranded capital
costs, unemployment, and universal service as competition is
introduced. However, the long run benefits of reform appear to have
been worth the transitional costs. The OECD study points out that the
US's regulatory reform efforts have already produced major benefits,
especially compared to the other major industrial countries. The study
estimates that the average GDP gain for the other seven countries from
deregulation of the five sectors would be 4.7 percent, ranging from 3.5
percent for the U.K. to 5.6 percent for Japan. The 4.7 percent of GDP
estimate would be equivalent to $360 billion if applied to U.S. GDP.
The study also points out that a significant portion of the 0.9 percent
remaining benefits for the U.S. is likely to be achieved by regulatory
reform efforts already underway because of the Telecommunications Act
of 1996 and the early State efforts at electricity restructuring.
Clearly economic deregulation does not imply that the economic
regulatory agencies' jobs are done.
2. Disclosure Regulation
A second type of regulation often mixed in with economic regulation
is information disclosure. There is a strong consensus among economists
that regulations requiring the disclosure of information about the
price and quality of products and services can produce significant
benefits for consumers and improve the functioning of markets when this
information would not otherwise be available. Our estimate, based on
burden-hour calculations for the independent regulatory agencies, e.g.,
SEC, FCC, FTC, reported in OMB's Information Collection Budget for FY
1998 (272 million hours) and Hopkins' opportunity costs of time
estimate ($26.50 per hour), is that disclosure costs are about $7
billion. Although benefits have not been quantified, we expect that
they are significantly greater than $7 billion.
3. Transfers From Economic Regulation
Economic regulation often produces income transfers from one group
to another. These transfers are not social costs or benefits; they
neither create new net benefits for society nor reduce society's scarce
resources. Consequently benefit-cost analysis is not appropriate or
meaningful for evaluating transfer programs. As the Best Practices
document makes clear, distributional analysis, which should be part of
the economic assessment, is the proper method of analyzing transfers.
Table 4 includes an estimate for transfers based on the Hopkins
approach that assumes that the transfers created by economic regulation
are about twice the economic efficiency loss. The estimate is $140
billion (two times $70 billion), which we enter in both the costs and
benefits columns.
Although as one commenter pointed out (Hopkins 1997), transfers may
be associated with real lobbying costs, this fact of life does not
justify equating transfer costs with social costs. Lobbying goes on for
all sorts of Government policies including expenditure, tax, and
regulatory policies whether they exist or not, which are impossible to
measure separately. For example, lobbying goes on in an attempt to
impose regulations that do not now exist and therefore have no
efficiency costs. In this case, the multiple of two times the
efficiency loss would estimate social costs of zero. The best approach
to including these types of costs is by directly estimating the costs
of lobbying rather than using a multiple of economic efficiency losses.
Once that is done it is not clear how to evaluate the social benefits
of lobbying, which clearly produces benefits because at least some
amount of lobbying, i.e., citizen participation, is a necessary part of
a democratic government.
4. Tax Compliance
Last year we stopped short of including tax compliance costs and
transfer costs in the totals. Although we were criticized for that
(Hopkins 1997 and Dudley and Antonelli 1997), other commenters (Hahn
1998) agreed with us that such data should be reported, but not
included in the totals. As we pointed out in last year's report, a
major reason for not including tax compliance costs in our totals,
despite their real nature and obvious concern to the public, is that it
would be misleading to add these types of costs to the totals without
accounting for the fact that taxes are necessary for the basic
functions of government. Cost-effectiveness analysis, not benefit-cost
analysis, is the appropriate way to evaluate the efficiency of tax
policy. In Table 4, we present an estimate of the paperwork costs of
the tax code by multiplying the number of hours of tax preparation time
required to file tax forms (5.3 billion in FY 1997) according to OMB's
Information Collection Budget (OMB 1998) by an estimate of the
opportunity costs of the average hour spent on the forms ($26.50) based
on Hopkins (1991). That cost estimate is $140 billion. While we do not
have quantitative estimates of the aggregate benefits of tax
compliance, they are undoubtedly very large. Tax compliance is
necessary for the whole range of services the government provides.
5. Federal Budgetary Expenditures
Several comments also suggested that we report the Federal
budgetary costs of regulation. These Federal expenditures include the
costs of developing and issuing regulations and enforcing them once
they are on the books. For many years, the Center for the Study of
American Business at Washington University has compiled Federal
Expenditures for the Regulatory Agencies of the U.S. Government.
Douglas, Orlando, and Warren (1997) have produced the latest estimates.
[[Page 44042]]
Table 4 presents these estimates for both social and economic
regulation.10 For benefits, we reproduce the quantified
estimate of the net benefits for social regulation as shown above in
table 3 and summarize the earlier discussion of qualitative benefits of
economic regulation.
---------------------------------------------------------------------------
\10\ Note that they do not consider the Internal Revenue Service
to be a regulatory agency and therefore do not include it in their
estimates. Their approach is consistent with ours and inconsistent
with Hopkins (1997).
---------------------------------------------------------------------------
6. Welfare Effects
A final category of regulatory effects, which several commenters
suggested we include in our estimates, is the indirect or full welfare
impacts of regulation. The estimates presented above for social
regulation are mostly estimates of direct compliance costs. However, as
our Best Practices document points out, the proper concept of the cost
of regulation is the best estimate of the value of the opportunity
foregone as a result of the imposition of the regulation. The
opportunity costs are likely to be greater than direct compliance
costs. In addition to the consumer surplus losses that result when
compliance costs drive up prices and reduce consumption of the goods
and services produced by the regulated entity, there may be secondary
effects on other markets, which reduce consumer welfare. The effects
result because regulation increases the overall costs of consumption
relative to output and reduces investment and productivity. These
effects can only be estimated with a computable general equilibrium
model that traces the myriad interrelationships that make up the modern
economy. Unfortunately the results of these models are highly dependent
on model specifications, which are not transparent to outside reviewers
making it difficult to determine the reasonableness of model
estimates.11
---------------------------------------------------------------------------
\11\ See Hahn and Hird, pp. 244-246, for a discussion of these
problems and several others.
---------------------------------------------------------------------------
The two most well known models that have been used to estimate the
general equilibrium effects apply to environmental regulation. These
models find that by 1990 the social welfare effects were about twice
the direct compliance cost effects (Hazilla and Kopp 1990 and Jorgenson
and Wilcoxen 1990). In table 4 we present this estimate for
environmental regulation but not for workplace and product regulation.
The reasons are that the estimates were made for environmental
regulation and there is no theoretical reason why the effect should be
the same for the two types of regulation. This is because the benefits
of environmental regulation generally flow to third parties not
involved in the production of the regulated product, while the benefits
of workplace health and safety regulation and product safety and
energy-efficiency regulations mostly flow to parties that are part of
the transaction (workers and consumers of the product). This factor
causes the costs to the regulated firms to be less than the direct
compliance costs because firms will likely eventually reap at least a
portion of the benefits of the regulation through lower employee costs
for workplace regulation and higher product quality for product safety
and energy-efficiency regulation. If the actual costs of compliance to
firms are less than the estimated direct compliance costs, the general
equilibrium effects will also likely be smaller.
The general equilibrium or secondary effects of the regulation on
the benefit side are less well understood than they are for the cost
side. But as discussed in last year's report, the health and safety
benefits of regulation, in particular, should result in indirect
welfare benefits for the economy. Because a healthier and longer-living
population is likely to have a longer time horizon and more optimistic
outlook, it is also likely to work more years more productively and
save and invest more. These effects could very well expand economic
activity and increase the standard of living significantly, especially
in the long run.
D. Lessons Learned from Studies of Federal Regulation
A review of several studies of the costs and benefits of regulation
offers insights into both the actual effects of regulations and into
the problems that attend any estimation of their benefits and costs.
Below we discuss the two key studies underlying our estimate of the
aggregate benefits and costs of environmental regulation and a new
study by Robert Hahn of 106 regulations using prospective estimates of
costs and benefits published by the agencies at the time the final
rules were issued (Hahn forthcoming). We also review two additional
retrospective studies that compare the actual and predicted costs and
benefits of regulation.
First, as noted earlier, EPA recently published its Section 812
Retrospective study of the costs and benefits of the Clean Air Act, as
required by section 812 of the Clean Air Act of 1990. It estimated that
the present value of benefits of the Clean Air Act regulations issued
between 1970 and 1990 is $22.2 trillion (central estimate, 1990$).
Publication of the Section 812 Retrospective provides an opportunity to
compare it with the Hahn and Hird study, which served as the basis for
our estimates in last year's report.
Hahn's study expands on his earlier one, which we used in section 2
in our aggregate estimate to cover the years 1987 to 1994 (Hahn 1996).
The 106 final regulations with both costs and benefits in the new study
were issued between 1982 and mid-1996 by EPA, OSHA, NHTSA, HHS, HUD,
and USDA. Hahn uses consensus estimates to value reduced units of
pollution and increased life-years to calculate benefits of health,
safety and environmental regulation. He takes as given the quantity
estimates of benefits and the monetized estimates of costs found in the
agency-produced regulatory impact analyses. He also converted to
constant 1995 dollars and used a 5 percent discount rate to put costs
and benefits in a consistent present value framework. Hahn estimated
that the net present value of benefits of the 106 regulations is about
$1.6 trillion. However, he also found that not all agency rules
provided net benefits. In fact, less than half of all final rules
provided benefits greater than costs. The main reason for his large
estimate of net benefits and relatively poor performance for many
individual regulations was that a few rules provided most of the net
benefits. NHTSA's automatic restraints in cars and EPA's lead phasedown
in gasoline provided just over 70 percent of total net benefits (Hahn
forthcoming, p. 15).
1. EPA's Retrospective Report to Congress on the Benefits and Costs of
the Clean Air Act
EPA's Section 812 Retrospective represents the culmination of a
six-year effort by EPA. The Section 812 Retrospective also reflects, as
required by section 812, peer review by an independent, external panel
of economists, health scientists, and environmental scientists known as
the Science Advisory Board Council on Clean Air Act Compliance Analysis
(Council). The Council provided detailed review and guidance throughout
each step of study design, implementation, and report drafting. The
quality and reliability of the Section 812 Retrospective was addressed
by the Council in its review closure letter by stating that the Council
``finds that the Retrospective Study Report to Congress by the Agency
is a serious, careful study and employs sound methods along with the
best data available.'' 12 The Council further concluded that
the Section 812
[[Page 44043]]
Retrospective's findings are ``consistent with the weight of available
evidence.'' 13
---------------------------------------------------------------------------
\12\ SAB Council, letter to EPA Administrator Browner, July 8,
1997, p. 1.
\13\ Ibid.
---------------------------------------------------------------------------
The Section 812 Retrospective presents estimates of monetized
benefits ranging from $6 to $50 trillion (present value in 1990$) over
the period from 1970 through 1990, with a central estimate of $22
trillion. Over this same period, the Section 812 Retrospective
estimated direct compliance expenditures of roughly $0.5 trillion. The
estimated net monetized benefits for the 1970 to 1990 period range from
$5.1 to $48.9 trillion dollars, with a central estimate of $21.7
trillion. The Section 812 Retrospective also notes that the monetized
benefits estimate may understate benefits because a number of benefit
categories were not quantified and/or monetized, e.g., air toxics
effects and ecosystem effects. Table 5 presents the non-monetized
benefits listed by the Section 812 Retrospective.
While the findings of the Section 812 Retrospective suggest that
the aggregate historical benefits of the clean air regulatory programs
substantially exceed the aggregate costs, the Section 812 Retrospective
itself provides the following cautionary note on page ES-10:
Finally, the results of the retrospective study provide useful
lessons with respect to the value and limitations of cost-benefit
analysis as a tool for evaluating environmental programs. Cost-
benefit analysis can provide a valuable framework for organizing and
evaluating information on the effects of environmental programs.
When used properly, cost-benefit analysis can help illuminate
important effects of changes in policy and can help set priorities
for closing information gaps and reducing uncertainty. Such proper
use, however, requires that sufficient levels of time and resources
be provided to permit careful, thorough, and technically and
scientifically sound data-gathering and analysis. When cost-benefit
analyses are presented without effective characterization of the
uncertainties associated with the results, cost-benefit studies can
be used in highly misleading and damaging ways. Given the
substantial uncertainties which permeate cost-benefit assessment of
environmental programs, as demonstrated by the broad range of
estimated benefits presented in this study, cost-benefit analysis is
best used to inform, but not dictate, decisions related to
environmental protection policies, programs, and research.
In terms of our charge under section 625(a), we must also consider
these new benefit and cost estimates in developing an overall estimate
of the benefits and costs of Federal regulation. The magnitude of EPA's
benefit estimate, $22 trillion over the 1970 to 1990 period, is very
large. The expected value of the estimated monetized benefit for 1990
is $1.25 trillion per year. This represents approximately 20 percent of
total 1990 Gross Domestic Product and is comparable in magnitude to
total 1990 U.S. expenditures on nondurable goods. There are several
important elements of the analysis in the Section 812 Retrospective
which deserve further discussion in order to understand the basis for
the benefit estimates over the 1970 to 1990 period.14
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\14\ ``A final, brief interagency review, pursuant to Circular
A-19, was organized in August 1997 by the Office of Management and
Budget and conducted following the completion of the extensive
expert panel peer review by the SAB Council. During the course of
the final interagency discussions, it became clear that several
agencies held different views pertaining to several key assumptions
in this study as well as to the best techniques to apply in the
context of environmental program benefit-cost analyses, including
the present study. These concerns include: (1) The extent to which
air quality would have deteriorated from 1970 to 1990 in the absence
of the Clean Air Act, (2) the methods used to estimate the number of
premature deaths and illnesses avoided due to the CAA, (3) the
methods used to estimate the value individuals place on avoiding
those risks, and (4) the methods used to value non-health related
benefits. However, due to the court deadline the resulting concerns
were not resolved during this final, brief interagency review.
Therefore, this report reflects the findings of EPA and not
necessarily other agencies in the Administration.'' See Section 812
Retrospective, p. ES-2.
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(a) Establishing a baseline. The Section 812 Retrospective uses as
a counter-factual ``baseline'' the modeled air quality in the United
States over the 1970 to 1990 period for a scenario in which control
technology and requirements are frozen at the levels mandated in 1970.
It assumed that no additional air pollution controls would have been
imposed by any other level of government or voluntarily initiated by
private entities after 1970. The Section 812 Retrospective acknowledges
that this is an obvious oversimplification and that, in fact, State and
local governments as well as private initiatives were responsible for
an important fraction of the estimated benefits and costs over the
period from 1970 to 1990.15 At the same time, it notes that
the Federal CAA played an essential role in achieving these results and
leaves to others the question of parsing out the precise fraction of
costs and benefits attributable to the Federal CAA.16
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\15\ Section 812 Retrospective, pp. 2-3.
\16\ Ibid, p. 3.
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Because the modeled baseline includes significant growth in
population, car and truck travel, and economic activity, there is a
marked deterioration in baseline air quality over the period from 1970
to 1990. While there is no direct sensitivity analysis of alternative
baselines, the available documentation for the ``no control'' scenario
suggests that a substantial fraction of the estimated benefits are
attributable to the degradation in modeled air quality from 1970
levels, rather than the result of an improvement in air quality from
the levels that existed in the United States in 1970.17
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\17\ Of course, any change in the baseline scenario would also
require revision of the cost estimates. The Section 812
Retrospective specifically notes that the ``no control'' scenario
avoids the difficulties of sorting out the fraction of costs
required to maintain an alternative baseline, such as maintaining
air quality at 1970 levels. See Section 812 Retrospective, pp. 2-3.
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In any event, considerable uncertainty necessarily surrounds ``what
would have happened'' over this 20-year period, rendering all attempts
to construct aggregate benefit and cost estimates somewhat speculative.
(b) Key benefit categories. The Section 812 Retrospective developed
monetized benefit estimates for ten benefit categories, including
mortality, hospital admissions, chronic bronchitis, soiling damage, and
visibility. (See table 6.) As indicated by table 6, the monetized
benefit estimates associated with reducing exposure to fine particulate
matter (PM) account for 90 percent of the total estimated benefits. The
discussion below discusses three key elements in developing benefit
estimates associated with reductions in PM levels.
(i) Uncertainties in magnitude and causation. The Section 812
Retrospective describes some elements of the uncertainty in the
estimates of health risks, focusing on those elements of uncertainty
that are most readily quantifiable. For example, it addresses specific,
quantifiable elements of the uncertainty in the benefits estimates
through the use of a ``Monte Carlo'' analysis. It also presents a
thoughtful, qualitative discussion of some of the uncertainties
associated with the estimated mortality risk--for example, the effect
of an historical trend in particulate matter levels and the effect of
intercity movement of population on the concentration-response
relationship.
The Section 812 Retrospective offers little discussion, however, of
the uncertainty associated with the critical question of the causal
relationship between fine particulate matter levels and mortality. It
observes that the Clean Air Scientific Advisory Committee has pointed
out that a causal mechanism has not been clearly established. It
concludes that ``the well-established correlation between exposure to
elevated PM and premature mortality is sufficiently compelling to
warrant an
[[Page 44044]]
assumption of a causal relationship and derivation of quantitative
estimates of a PM-related mortality.'' 18
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\18\ Ibid., p. 34.
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The preamble to EPA's 1996 proposal to revise the National Ambient
Air Quality Standard for Particulate Matter (PM NAAQS) discusses at
greater length the difficulties associated with the interpretation of
specific concentration-response relationships, pointing out that it is
the most problematic issue in conducting risk assessments for PM-
associated health effects. These include: 19
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\19\ 61 FR 65650. The preamble to the final rule reaffirms these
concerns by citing the proposal and a more complete discussion in
the criteria document (chapters 10-13) and the staff paper (chapter
IV). See 62 FR 38655 and 38656.
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(1) The absence of clear evidence regarding mechanisms of action
for the various health effects of interest;
(2) Uncertainties about the shape of the concentration-response
relationships; and
(3) Concern about whether the use of ambient PM2.5 and
ambient PM10 fixed-site monitoring data adequately reflects
the relevant population exposures to PM that are responsible for the
reported health effects.
(ii) Timing of effects. The Section 812 Retrospective assumed that
reductions in ambient PM concentrations yield contemporaneous
reductions in the mortality and chronic health risks associated with
long-term exposure. Given that the concentration-response relationships
in the underlying study are presumptively thought to be the result of
long-term exposure, the assumption of a contemporaneous response--that
is, a zero lag in the response--represents only one end in a range of
possibilities. It is quite possible, however, that there is a lag in
the changes in the risk of chronic health effects and mortality with
changes in exposure to particulate matter. Other researchers (World
Health Organization, 1996) have assumed the effect of particulate
matter exposure does not begin until 15 years of exposure.20
The incorporation of a latency period can have an important effect on
the benefits estimate. The adoption of an alternative latency
assumption of 15 years, for example, would reduce the estimated present
value of the mortality benefits by a factor of two, given the discount
rate of five percent used in the Section 812 Retrospective.
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\20\ Section 812 retrospective, p. D-17.
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(iii) Valuation of changes in health risk (``benefits transfer'').
The Section 812 Retrospective also highlights the difficulties of
transferring estimates from other settings to value the projected
benefits of a regulatory initiative, e.g., changes in mortality risk.
In valuing changes in mortality risk, EPA reviewed 26 studies to
develop an estimate of the ``value of a statistical life'' based on the
willingness-to-pay (WTP) of individuals to avoid small increases in
mortality risk. Using a Weibull distribution to fit the estimates from
these 26 studies, the Section 812 Retrospective estimated a mean value
of $4.8 million per statistical life (with a standard deviation of $3.2
million in 1990).21 This estimate reflects a WTP of $5 for a
reduction in mortality risk of one in a million.
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\21\ Section 812 Retrospective, p.44.
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This estimate is derived from studies involving very small changes
in mortality risk. However, the changes in mortality risk associated
with changes in particulate matter exposure estimated in the Section
812 Retrospective are roughly 10 to 100 times greater than the changes
associated with these valuation studies. When the marginal valuation of
$5 for a one in a million change in mortality risk is applied to the
``no control'' scenario where modeled baseline mortality risk is on the
order of 1 in a 1000, the resulting WTP estimates for changes in
mortality risk represent a large share of each household's annual
budget, i.e., household ability to pay. Since the total outlay for risk
reduction represents a large share of the household budget, this
situation is very different from that examined by the 26 valuation
studies where the WTP estimates were a small fraction of household
budgets.
(c) Hahn and Hird's estimate for environmental benefits. For its
environmental benefit estimate, the Hahn and Hird assessment relied on
an analysis by Freeman conducted in the late 1970s (Freeman,
1982).22 The Freeman analysis largely represented a
synthesis of the best existing work of the 1970s. The analysis
estimates air pollution control benefits for the year 1978, and water
pollution control benefits for the year 1985. Hahn and Hird adjust the
Freeman estimates to account for inflation; but these adjustments do
not reflect other changes--for example, additional regulations--in the
air pollution control program between 1978 and 1988 and in the water
pollution program control between 1985 and 1988. For water pollution
control benefits, the Freeman analysis may still represent the most
comprehensive estimate available. There are, however, several elements
of the Freeman analysis that deserve further discussion in order to
understand the strengths and limitations of the benefit estimates used
by Hahn and Hird.
---------------------------------------------------------------------------
\22\ See Hahn and Hird (1991 pages 253, 273; Portney (1990)
pages 54-60; Freeman (1990 in Portney (1990) page 123.
---------------------------------------------------------------------------
(i) Establishing a baseline. As noted elsewhere in this report,
choice of an analytic baseline can be difficult, since many options are
available, and the preferred baseline may be unworkable due to the
inadequacy of available data. In the Freeman analysis, different
baselines were chosen for the air and water benefits analyses.
The Freeman analysis evaluated the improvement in ambient air
quality between 1972 and 1978, and did not consider the deterioration
in air quality that might have occurred in the absence of air pollution
regulations.23 In effect, the counterfactual baseline was
assumed to be the level of air quality in 1972. As a result, the air
quality improvements that were analyzed were much smaller than those
incorporated in the CAA Section 812 Retrospective (EPA, 1997).
Furthermore, the baseline used for the air benefits analysis was not
consistent with that used for Freeman's cost analysis, which estimated
all air pollution control costs.
---------------------------------------------------------------------------
\23\ Implicitly, the Analysis assumed increased state, local,
and private initiatives great enough to offset air quality
deterioration due to increased economic activity, population growth,
and vehicle-miles-traveled (VMT) by automobiles and trucks during
the 1972 to 1978 period.
---------------------------------------------------------------------------
The baseline used for the water analysis, on the other hand,
assumed changing population and recreational participation rates
between 1972 and 1985. The baseline used for the water benefits
analysis was consistent with that used for Freeman's water pollution
control cost analysis.
(ii) Key benefit categories. Freeman's air pollution benefits
analysis developed monetized benefit estimates for six categories:
human health (mortality), human health (morbidity), soiling and
cleaning, vegetation, materials, and property values. Approximately two
thirds of the monetized benefits were for human health improvements,
primarily reduced mortality incidence, due to reductions in ambient air
concentrations of particulate matter and sulfur oxides. His analysis
does not include any estimate of the benefits arising from reductions
in airborne lead (Pb) concentrations, which were a significant source
of air pollution control benefits found by later studies. The
discussion below addresses 3 key factors to bear in mind when
interpreting the primary benefit category, i.e., reduced mortality,
found in the air benefits estimates of his analysis.
[[Page 44045]]
1. Uncertainties in Magnitudes of Physical Effects: The Freeman
analysis surveys seven studies from the 1970s which developed a dose-
response relationship between particulate matter and human
mortality.24 Based on these studies, Freeman provides a
range of possible results, with a ``best-guess'' estimate assumed to be
at the midpoint of the range. Since 1978, a number of additional
epidemiological studies have been completed on the relationship between
particulate matter and human mortality rates. It does not reflect the
advances in knowledge achieved in the 1980s and 1990s.
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\24\ Freeman (1982), pages 63-66. Five of the seven studies
relied on the statistical work by Lave and Seskin from 1970, 1973,
and 1977.
---------------------------------------------------------------------------
2. Timing of Effects: The Freeman analysis assumed that reductions
in ambient PM concentrations yield contemporaneous reductions in the
mortality risks associated with exposure to PM. If one were to assume,
for example, a significant lag, e.g., many years, between changes in
exposure and changes in risk, then the mortality benefit estimates
would be reduced.
3. Valuation of Changes in Health Risk: The Freeman analysis
assumed a value per statistical life (VSL) of $2.4
million.25 Since 1978, there have been significant
additional contributions to the economic literature on the value of
mortality risk. After considering these more recent studies, the
Section 812 Retrospective adopted a midpoint of $4.8 million ($1990) as
a better estimate on the population's willingness-to-pay for reductions
in mortality risk. Use of an alternative valuation for mortality risk
would have a significant effect on the aggregate benefit estimate in
the Freeman analysis.
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\25\ Freeman (1982), page 68. The estimate of $1 million in 1978
is converted to 1996 using the CPI.
---------------------------------------------------------------------------
Freeman's water pollution benefits analysis developed monetized
benefits estimates for four categories: recreation, nonuse, commercial
fisheries, and diversionary uses. Approximately half of the monetized
benefits are attributable to recreation. This analysis is based on a
number of studies carried out in the 1960s and 1970s, with benefits
projected forward to reflect projected population and recreational
participation rates in 1985. However, these estimates do not include
benefits associated with the reduction in toxic loadings in waste water
discharges, even though Freeman's cost estimates include ``substantial
costs for the control of discharges of these substances'' (Freeman,
1982). Benefits of non-point source pollution control also were not
included. Benefits to new and existing recreational users for hiking,
picnicking and nature observation that might result from improvements
in water quality were also omitted because of the absence of data for
these activities.
(d) Summary assessment of Section 812 Retrospective. The discussion
above illustrates the difficulty, which we emphasize throughout this
report, of developing aggregate estimates of the benefits and costs of
major Federal regulatory programs. The results obtained in both the
Section 812 Retrospective and the Freeman analysis used by Hahn and
Hird appear to be sensitive to choices made concerning the baseline for
the analysis and the translation of the reduction of air pollution into
human health benefits.
2. Two Other Retrospective Studies
In general, retrospective studies are likely to provide more
accurate results than prospective studies because there are fewer
unknowns to deal with. Prospective studies must estimate what will
happen as a result of a proposed regulation and compare it with what
would happen without the regulation (the counterfactual). Retrospective
studies only need to measure the actual and estimate the
counterfactual. Below we discuss several case studies from the
literature that compare retrospective studies with their respective
prospective studies. NHTSA recently completed the third in a series of
studies of its 1983 center high-mounted stop lamp regulation. In brief
the studies found that although benefits exceeded costs, costs had been
underestimated by a factor of two and that the effectiveness of the
rule had been over estimated by a factor of seven in the prospective
study. The second case study examines eight regulations issued by OSHA
between 1974 and 1989 by drawing on an Office of Technology Assessment
(1995) report and a book by Viscusi (1992) that examined the cost
estimates and actual impacts of various OSHA regulations. The case
studies reveal that in some cases the agency overestimated expected
costs compared to the actual and in other cases it underestimated them.
The OTA study itself concluded that the agency had a tendency to
overestimate costs because of unanticipated improvements in compliance
technology after the regulations were issued. However, as in the NHTSA
example, the agency also appears to have overestimated the
effectiveness of its rule, if not the benefits.
(a) The Center High-Mounted Stop Lamp Case. A comparison of NHTSA's
prospective with its retrospective analyses of its Center High-Mounted
Stop Lamp (CHMSL) 26 regulation illustrates how the benefits
and costs of a rule can be substantially different in practice than
what one would have expected based solely on the prospective
work.27 It further illustrates that early post-rule
estimates may differ substantially from long-term estimates. In the
case of the CHMSL rule, the Final Regulatory Impact Analysis (FRIA) in
support of the rule made what appeared to be an overwhelming case that
the rule would generate very large net benefits. The FRIA was based on
substantial amounts of experimental data and for many years served as a
model of an RIA that consistently employed sound benefit-cost analysis
principles. Nevertheless, when compared with NHTSA's long-term
evaluation, the FRIA overestimated the actual effectiveness (though not
the consequent benefits) of CHMSLs by a factor of more than seven and
underestimated the cost by a factor of more than two. Despite these
revelations, however, the analyses continue to confirm that the rule
generates positive net benefits, though not nearly as large as what one
might have expected at the time the rule was proposed or even based on
the early post-rule analyses.
---------------------------------------------------------------------------
\26\ CHMSLs are the ``third tail light'' found on all new cars
beginning with the 1986 model year. The purpose of CHMSLs is to
reduce the time it takes for following drivers to react when drivers
in front of them put on their brakes, allowing them to stop sooner
and thereby avoid crashes (or reduce the speed at which impact
occurs).
\27\ Over the years, NHTSA has conducted a total of five
distinct analyses of its rule. These include two prospective
analyses (preliminary and final regulatory impact analyses) and
three retrospective analyses.
---------------------------------------------------------------------------
(i) 1980 and 1983 Regulatory Impact Analyses. In early 1981 NHTSA
proposed to require CHMSLs. At that time the agency estimated in its
Preliminary Regulatory Impact Analysis (PRIA) that the rule would
reduce rear-end collisions by 35 percent (see table 7). NHTSA estimated
this would lead to 1,511,000 fewer crashes per year once the entire
passenger-car fleet was so equipped. NHTSA also estimated that an
additional 1,339,000 crashes per year would be less severe than they
otherwise would have been. The combined value of the savings in
property damage would range from $1.3 to $2.3 billion per year. In
addition, the PRIA estimated the rule would prevent 66,000 injuries and
533 fatalities per year. NHTSA estimated the cost of the proposal at
$49 million per year. Thus the analysis of the proposal held out the
[[Page 44046]]
promise of very large net benefits in property damage reductions
alone.28
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\28\ Since the costs occur when the vehicles are manufactured
and the benefits occur over the lifetime of the vehicle, it is
inappropriate simply to subtract annual costs from benefits. Even
after discounting, however, the PRIA estimates would yield net
benefits of between $600 million and $1.3 billion annually in
property damage alone.
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NHTSA completed its FRIA and published the final rule in 1983. In
response to comments it received on the proposal and in light of some
new evidence of the effectiveness of CHMSLs, NHTSA revised several
components of its benefit estimates downward. The FRIA also included a
somewhat refined cost estimate. The FRIA estimated the effectiveness of
CHMSL at 33 percent. In order to provide a more ``conservative''
estimate of the benefits, NHTSA applied this effectiveness rate to a
smaller proportion of rear-end crashes than in the PRIA.29
In the FRIA, NHTSA also assumed a lower value of damage per crash
avoided ($510 vs. $1,116 in the PRIA). The result of these and other
related adjustments was estimates of 902,500 fewer crashes, $434
million in reduced property damage, 40,000 fewer injuries and no
estimate of reduced fatalities.
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\29\ For example, the estimate excluded rural accidents, which
account for nearly one quarter of all accidents, because the test
fleets were driven in urban areas only thus leaving NHTSA with no
evidence that CHMSLs would be effective in rural settings. As NHTSA
later discovered, the actual effectiveness was about the same
between urban and rural settings.
---------------------------------------------------------------------------
The effectiveness estimates were based on three separate
experimental studies for which CHMSLs had been installed on fleets of
taxis and telephone company passenger cars. The three studies covered
over 3,000 vehicles and over 150 million vehicle miles. Nevertheless,
as early as 1980, NHTSA recognized the possibility that the
effectiveness estimate based on experimental studies may overstate the
true effectiveness of CHMSLs if there is a ``novelty'' effect which
caused following drivers to react more quickly than they would once
CHMSLs became commonplace. The effectiveness estimate was critical to
the decision to go forward with the rule because it underlies all
components of the benefit estimates. To its credit, NHTSA committed at
the time it proposed the rule to reassess the effectiveness after the
fact, if NHTSA adopted a CHMSL requirement in a final rule.
(ii) 1987, 1989, and 1998 retrospective studies. Since the rule
became effective with the 1986 model year, NHTSA has conducted three
analyses with the benefit of hindsight. The most important results of
these studies are that: (1) The effectiveness of CHMSLs is considerably
lower than NHTSA estimated in the PRIA and FRIA; (2) the effectiveness
has fallen over time, though it now appears to have stabilized; (3)
actual costs are about double those estimated in the RIAs; and, most
importantly, (4) despite these findings, the rule still generates net
benefits.
In 1987, NHTSA conducted a preliminary evaluation of the
effectiveness of production CHMSLs.30 It found an
effectiveness of about 15 percent. Thus, even though the CHMSLs were
installed in a small percentage of cars nationwide, i.e., when any
``novelty effect'' would most likely occur, effectiveness was less than
half of the estimates in the RIAs.
---------------------------------------------------------------------------
\30\ This study did not attempt to evaluate the benefits in a
broader sense or the costs.
---------------------------------------------------------------------------
In 1989, NHTSA conducted the second of its retrospective studies.
This study was based on 1987 data, by which time about one-fourth of
the passenger car fleet was equipped with CHMSLs. By this time, the
estimate of effectiveness had fallen again, to about 11 percent.
Despite the drop in estimated effectiveness and a corresponding
reduction in the number of accidents prevented compared with the FRIA,
the estimated benefits of CHMSLs increased. The number of injuries
prevented rose to between 79,000 and 101,000 and the estimate of
property damage prevented increased to $774 million per year. At that
time, NHTSA also concluded that CHMSLs were unlikely to prevent any
fatalities. The reasons for the increase in the benefits estimate
despite the reduction in effectiveness is due to three factors: (1) The
retrospective estimate includes all accidents (not just urban ones);
(2) the injury reduction estimate was based on actual crashes whereas
the estimates in the RIAs were modeled based on estimates of the
reduced speeds at which crashes that weren't avoided would occur; and
(3) the actual value of property damage given an accident was much
higher than NHTSA assumed in the FRIA. In other words, had NHTSA used
the same methodology and data for the FRIA and the retrospective, each
of the benefit categories would contain a value of about one-third of
what the FRIA reported, as the difference in effectiveness rates would
suggest.
Earlier this year, NHTSA completed its long-term study of the
benefits and costs of CHMSLs.31 This most recent estimate of
the effectiveness of CHMSLs is 4.3 percent. NHTSA does not expect it to
fall further since it has remained steady throughout the last seven
years of data NHTSA has analyzed (1989 to 1995). Part of the decline in
effectiveness between the 1989 study and this one is attributable to a
further refinement in NHTSA's methodology which more accurately
controls for vehicle age, which is a factor in rear-end crashes. (Had
NHTSA used the same methodology in the 1989 study, the effectiveness
would have been about 8.5 percent, rather than 11.3 percent, and the
corresponding benefits would have been proportionately lower.) Thus,
the long-term effectiveness of CHMSLs is about one-eighth of NHTSA's
original estimate, while the costs are more than double. Even so, these
estimates imply that the rule continues to produce net benefits, though
not nearly as large as what NHTSA estimated prospectively.
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\31\ In the early 1990s, NHTSA extended the CHMSL requirement to
include ``light trucks,'' i.e., minivans, sport-utility vehicles,
and pickup trucks, which comprise about 40 percent of the fleet. The
estimates in the long-term study include the effects on these
vehicles as well. However, in order to facilitate comparisons with
NHTSA's previous estimates which pertained to cars only, all
aggregate estimates in this study have been reduced by 40 percent to
reflect the effects on cars only.
---------------------------------------------------------------------------
The FRIA included an aggregate cost estimate of $70 million ($7 per
vehicle) in each of the first two years and $40 million ($4 per
vehicle) each year thereafter. The retrospective analyses estimated the
cost at $89 million (about $9 per vehicle) per year, or more than twice
the long-term cost estimate in the FRIA.
(iii) Lessons learned from CHMSLs. These analyses confirm what many
believe: that benefits and costs are difficult to estimate
prospectively. In this instance, the RIAs overstated the effectiveness
of CHMSLs despite the advantage of substantial data from field
experiments. The estimates of benefits in the FRIA were not nearly as
large as those estimates presented in the PRIA. Nevertheless, the FRIA
estimates overstated the effectiveness of the rule by a factor of more
than seven. The changes in effectiveness estimates over time suggest
that it is important to re-evaluate the effects of regulations,
particularly where behavioral responses to the regulation may evolve
over time.
With respect to cost, even though the only cost component was a
fairly simple piece of hardware, the FRIA estimate was less than half
the actual cost. It is interesting that, in their comments on the
proposed rule, the three domestic manufacturers estimated costs in the
$8 to $15 range. The low end of this range was lower than NHTSA's
actual (long-term retrospective) estimate and the high end was only
slightly further from actual costs than the FRIA estimate.
[[Page 44047]]
(b) Eight OSHA cases. The Office of Technology Assessment was asked
by Congress in 1992 to examine how well OSHA had estimated the impacts
of the regulations it had issued. OTA attempted to answer this question
by comparing OSHA's prospective analysis of impacts with actual
outcomes for a selective set of regulations. Although OTA did not
directly attempt to estimate actual benefits, in some cases they can be
inferred from the discussion and in other cases other information
sources, e.g., Viscusi 1992, can be used. Because of funding
constraints, three of the eight cases--vinyl chloride, cotton dust, and
ethylene oxide--were chosen because existing studies had already been
done. For the other five, new retrospective studies were commissioned.
The eight cases examined exhibited a variety of outcomes. Table 8,
based on our analysis of the report's findings as well as other
information, shows that costs and benefits were both over-and
underestimated and that benefits were sometimes overestimated by OSHA
in its prospective analyses of the impacts of the rules. The 1974
regulation of vinyl chloride is often cited as an example of an agency
overestimating costs, although to be fair to OSHA the cost estimate was
supplied by industry and OSHA at that time did not conduct its own
economic analyses of prospective regulations. When cotton dust was
issued four years later, the agency was conducting economic analyses
for major rules. Cotton dust is also often cited as an example of the
agency overestimating compliance costs. OSHA, itself, contracted for a
retrospective study of the regulation five years after the rule was
issued but before the final controls took effect. The study found that
OSHA had earlier overestimated actual capital costs by a factor of five
(Viscusi 1992). The later study also found that benefits had also been
overestimated by at least two fold because of mistakes in methodology
and overcounting of the number of exposed individuals.
In the secondary lead smelters case, also issued in 1978, OSHA
underestimated costs and overestimated benefits. The OTA report (p. 62)
points out that as of 1995 secondary lead smelters were not able to
comply with the engineering controls requirement to reduce air-lead
levels to the permissible exposure limit because compliance was
economically infeasible, i.e., costs had been underestimated. However,
smelters had found less expensive and more direct ways than engineering
controls to reduce blood-lead levels, the key health indicator and
performance goal. In other words, reducing air-lead levels through
engineering controls was not needed to attain the sought-after health
benefits. The benefits of engineering controls had been overestimated.
In the 1984 ethylene oxide regulation of hospitals, OTA found that
OSHA had underestimated the costs of ventilation equipment but that
hospitals had little trouble complying with the standard by other
means. OTA found that overall hospitals spent more than expected, but
that was because they brought exposure levels down significantly below
the regulated level. On average, the agency had estimated costs about
right.
The agency appears to have overestimated costs by about a factor of
two for metal foundries in its 1987 regulation of formaldehyde because
firms used low-formaldehyde resins rather than the predicted
ventilation controls to attain compliance.
The next three case studies were for safety standards and the
findings are difficult to summarize. The OTA study did not directly
estimate costs or benefits for grain handling but found that the
standard was economically feasible. The PSDI power presses and powered
platforms rules were actually attempts at deregulation. In both cases
the cost savings that were predicted failed to materialize because
firms did not take advantage of the newly offered flexibility,
presumably because the agency had underestimated the costs and/or
overestimated the benefits of the flexibility. (See OTA 1995 p. 62.)
Looking at this evidence, OTA concluded that OSHA tended to
overestimate costs because new technology was often developed between
the time the analysis was done, which in several cases was several
years before the final rule was issued, and the compliance date. The
report recommended that the agency consider the dynamic nature of
technology including the possibility of ``regulation-induced
innovation'' in order to set lower compliance levels (p. 11). However,
there is an opportunity cost to forcing innovation that is being
neglected. The resources that are directed at reducing compliance costs
by developing new technologies have to be pulled from other projects,
which presumably the company thought had a larger potential for payoff.
Since adding another constraint to the economic system is not likely to
increase the overall rate of technological progress for the economy,
``regulation-induced innovation'' is not likely to be the ``win-win''
situation that the report suggests (p. 53).
Taken as a whole, these retrospective studies show that OSHA has
both underestimated and overestimated costs, sometimes by large
amounts. At the same time, in instances where there are clear data,
OSHA appears generally to have overestimated benefits. Although there
are important cases of overestimating costs because technological
progress and learning-by-doing over time reduced expected costs, it is
not clear that agencies should compensate for this tendency by reducing
costs estimates. These same factors may also lead to a tendency to
overestimate benefits.
Chapter II: Estimates of Benefits and Costs of This Year's
``Economically Significant'' Rules
A. Scope
In this chapter, we examine the benefits and costs of ``each rule
that is likely to have a gross annual effect on the economy of
$100,000,000 or more in increased costs,'' as required by section
645(a)(2). We have included in our review those final regulations on
which OIRA concluded review during the 12-month period April 1, 1997,
through March 31, 1998. This ``regulatory year'' is the same time
period we chose for last year's report. We chose this time period to
ensure that we covered a full year's regulatory actions as close as
practicable to the date our report is due, given the need to compile
and analyze data and publish the report for public comment. In
addition, we thought it would be useful to adopt a time period close to
that used for the annual OMB report required by the Unfunded Mandates
Reform Act of 1995.
The statutory language categorizing the rules we are to consider
for this report is somewhat different from the definition of
``economically significant'' in Executive Order 12866 (section
3(f)(1)). It also differs from similar statutory definitions in the
Unfunded Mandates Reform Act and subtitle E of the Small Business
Regulatory Enforcement Fairness Act of 1996--Congressional Review of
Agency Rulemaking. Given these varying definitions, we interpreted
section 645(a)(2) broadly to include all final rules promulgated by an
Executive branch agency that meet any one of the following three
measures:
Rules designated as ``economically significant'' under
section 3(f)(1) of Executive Order 12866
Rules designated as ``major'' under 5 U.S.C. 804(2)
(Congressional Review Act)
Rules designated as meeting the threshold under title II
of the Unfunded Mandates Reform Act (2 U.S.C. 1531-1538)
[[Page 44048]]
This year we also include a discussion of major rules issued by
independent regulatory agencies, although we do not review these rules
under Executive Order 12866. This discussion is based on data provided
by these agencies to the General Accounting Office (GAO) under the
Congressional Review Act.
During the regulatory year selected, OIRA reviewed 33 final rules
that met the criteria noted above. Of these final rules HHS submitted
10; EPA nine; USDA five; DOI and DOE two each; DOL, DOT, DOJ, and VA
one each. In addition three agencies, DOL, HHS, and Treasury, worked
together to issue one common rule. These 33 rules represent about 14
percent of the 230 final rules reviewed by OIRA between April 1, 1997,
and March 31, 1998, and less than one percent of the 4,720 final rule
documents published in the Federal Register during this period.
Nevertheless, because of their greater scale and scope, we believe that
they represent the vast majority of the costs and benefits of new
Federal regulations during this period.
1. Overview
As noted in chapter I of last year's report, Executive Order 12866
``reaffirms the primacy of Federal agencies in the regulatory decision-
making process'' because agencies are given the legal authority and
responsibility for rulemaking under both their organic statutes and
certain process-oriented statutes, such as the Administrative Procedure
Act, the Unfunded Mandates Reform Act, and the Small Business
Regulatory Enforcement Fairness Act. The Executive order also reaffirms
the legitimacy of centralized review generally and in particular review
of the agencies' benefit-cost analyses that are to accompany their
proposals. The Executive order recognizes that in some instances the
consideration of benefits or costs is precluded by law. For example,
the primary National Ambient Air Quality Standards under the Clean Air
Act are to be health-based standards set by EPA solely on the basis of
the scientific evidence. A variation is the Occupational Safety and
Health Act, where health standards must be based on reducing
significant risks to the extent doing so is economically and
technologically feasible. However, the Executive order requires
agencies to prepare and submit benefit-cost analyses even if those
considerations are not a factor in the decision-making process. Again,
it is the agencies that have the responsibility to prepare these
analyses, and it is expected that OIRA will review (but not redo) this
work. The costs and benefits identified may be attributable solely to
the regulation in question, where the agency has substantial
discretion, or they may in fact be attributable just as much to the act
of Congress that they are implementing.
Reviewing for this report the benefit-cost analyses accompanying
the 33 final rules listed in table 9, we found, as we did last year, a
wide variety in the type, form, and format of the data generated and
used by the agencies. For example, agencies developed estimates of
benefits, costs, and transfers that were sometimes monetized, sometimes
quantified but not monetized, sometimes qualitative, and, most often,
some combination of the three. Generally, the boundaries between these
types of estimates are relatively well defined.
2. Benefits and Costs of Economically Significant/Major Final Rules
(April 1997 to March 1998)
(a) Social Regulation. Of the 33 rules reviewed by OIRA, 22 are
regulations requiring substantial additional private expenditures and/
or providing new social benefits.32 (See table 9). EPA
issued nine of these rules; USDA three; HHS three; DOI and DOE two
each; DOT and DOL one each; and HHS/DOL/Treasury jointly issued one
rule. Agency estimates and discussion are presented in a variety of
ways, ranging from a purely qualitative discussion, e.g., the benefits
of EPA's toxics release inventory rule, to a more complete benefit-cost
analysis, e.g., DOE's energy conservation standards for refrigerators
and freezers.
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\32\ The other 11 are ``transfer'' rules.
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(i) Benefits analysis. Agencies monetized at least some benefit
estimates in a number of cases including: (1) USDA's $2.41 billion over
15 years from the effects of its environmental quality incentives
program on net farm income, pollution damage reductions, and wildlife
enhancements; (2) EPA's $12 to $57 million per year in terms of better
water quality from its pulp and paper effluent guidelines rule; and (3)
DOE's $7.62 billion over 30 years in energy savings from its energy
efficiency rule for refrigerators and freezers.
Of the 22 (non-transfer) rules listed in table 9, agencies
monetized all the benefit estimates that they were able to quantify in
eight cases. In five cases, agencies provided some of the benefit
estimates in monetized and quantified form, but did not monetize other,
important components of benefits. DOE's two energy efficiency rules
monetized the value of energy savings and quantified, but did not
monetize, the power plant emission reductions associated with the
reduced energy consumption. DOL's respiratory protection rule monetized
the out-of-pocket savings associated with its estimate of injury and
illness reductions, but monetized neither the other aspects of those
injuries and illnesses (such as pain and suffering) nor the fatalities
avoided.
In three cases, agencies provided quantified but not monetized
benefit estimates. These included: (1) HHS's 297 to 1306 life-years
extended as a result of its organ transplant rule; (2) EPA's 593,000
tons of nitrogen oxide emission reductions per year from its highway
heavy-duty engines rule; and (3) EPA's annualized emission reductions
of 385,000 tons of nitrogen oxides, 6,000 tons of hydrocarbons and
4,000 tons of particulate matter from its locomotives rule.
Finally, in six cases, agencies reported neither monetized nor
quantified benefit estimates. In many, though not all, of these cases,
the agency provided a qualitative description of benefits. For example,
HHS' animal feed rule discusses the potential benefits of avoiding an
outbreak of ``mad cow'' disease, but does not estimate the probability
of such an episode. EPA's analysis of its expansion of its toxic
release inventory reporting rule includes a qualitative discussion of
making these data available to the public.
(ii) Cost analysis. In 19 of the 22 cases, agencies provided
monetized cost estimates. These include such items as: USDA's estimate
of $1.65 billion over 15 years for its environmental quality incentives
program; DOL's estimate of $111 million per year for its respiratory
protection rule; and EPA's estimate of $37 billion per year to achieve
full attainment of its revised primary National Ambient Air Quality
Standard for particulate matter. For three deregulatory rules--USDA's
Sonoran pork and Argentinian beef rules and EPA's PCB disposal rule--
agencies' monetized cost estimates were small or zero.
For the remaining three rules, the agencies did not estimate costs.
These included DOI's two migratory bird hunting rules and NHTSA's light
truck fuel economy rule.
(iii) Net monetized benefits. Thirteen of these 22 rules provided
at least some monetized estimates of both benefits and costs. Of those,
six have positive net monetized benefits, that is, estimated monetized
benefits that unambiguously exceed the estimated monetized costs of
[[Page 44049]]
the rules. For example, DOE's energy conservation standards for
refrigerators and freezers will generate an estimated net benefit of
$4.18 billion (present value) through 2030. EPA's PCB disposal rule
will result in an estimated net benefit of about $161 million per year.
Four rules resulted in negative net monetized benefits. These included
DOL's respiratory protection rule and EPA's medical waste incinerator
rule. Two rules resulted in monetized benefit estimates that were
sufficiently uncertain as to include both possibilities (net benefits
and net costs). For example, EPA's pulp and paper hazardous air
pollutant rule was estimated to generate between $925 million in net
benefits and $1.165 billion in net costs. Finally, one rule (USDA's
Sonoran pork rule) was estimated to have $0 benefits and $0 costs.
(iv) Rules with quantified effects of less than $100 million per
year. Seven of the rules in table 9 are classified as economically
significant even though they have no quantified effects that exceed
$100 million in any one year. These deserve comment:
USDA (2 Rules)--Importation of Pork from Sonora, Mexico, and Beef
from Argentina: In 1997, USDA began implementing a new general policy
allowing, under certain conditions, the importation of animal products
from certain regions of countries shown to be free of pests. This
policy was promulgated by rule on October 28, 1997 (62 FR 56000,
56027), but was not designated as major because the Department
concluded that analysis of the benefits and costs of the general policy
was infeasible. Instead, the Department undertook to perform such
analyses on each significant action implementing the general policy:
Because this framework will not be fully implemented until we
receive a new request to allow the importation of animals or animal
products into the United States, and because we do not know the
number or sources of requests we will receive in the future, we
cannot estimate the economic impact of this rule as stipulated in
E.O. 12866. We are therefore committed to performing a risk
assessment and cost-benefit analysis on a case-by-case basis for
each request we receive in the near future. [62 FR 56010]
The individual rulemakings concerning the importation of pork from
Sonora, Mexico, and beef from Argentina represent the first two
applications of this general regionalization policy and were analyzed
as if they were ``major'' pursuant to this departmental commitment.
HHS--Substances Prohibited in Animal Feed: FDA estimated that this
rule will cost $53 million per year. It did not attempt to estimate the
benefits to be expected from the rule because it was unable to estimate
the probability of an outbreak of Bovine Spongiform Encephalopathy
(``mad cow disease''). However, FDA did estimate that the consequences
of an outbreak, should one occur, would be substantial. It estimated
the losses from the destruction of exposed livestock would be about
$3.8 billion.
DOI--Migratory Bird Hunting (2 Rules): These are unusual rules in
that they are permissive rather than restrictive; that is, migratory
bird hunting is prohibited absent these annual regulations which allow
hunting, setting bag limits and other controls on both early and late
season hunts. Thus the rules permit such spending rather than requiring
the expenditure of private resources. DOI reports that the National
Survey of Fishing, Hunting, and Wildlife Associated Recreation
indicated that expenditures by migratory bird hunters (exclusive of
licenses, tags, permits, etc.) totaled $686 million in 1991. Based on
this estimate, DOI estimated expenditures for duck hunters would be
over $400 million per year in 1995. However, this figure is not in the
commonly used sense a social benefit.
DOE--Room Air Conditioners: This rule was proposed as part of a
substantially larger rulemaking that included seven other types of
household appliances, such as water heaters, fluorescent lamp ballasts,
and mobile home furnaces. Energy efficiency standards for all eight
combined clearly would have been economically significant. Even though
the monetized effects of this rule are less than $100 million in any
year, the annualized energy savings benefits (about $60 million per
year) are substantial. This fact, combined with the rule's history led
to the decision to maintain the ``economically significant''
designation.
DOT--Light Truck CAFE: Each year, DOT must establish a corporate
average fuel economy (CAFE) standard for light trucks, including sport-
utility vehicles and minivans. (DOT also sets a separate standard for
passenger cars but is not required to revisit the standard each year.)
For the past three years, however, appropriations language has
prohibited NHTSA from spending any funds to change the standards. In
effect, it has frozen the light truck standard at its existing level of
20.7 miles per gallon (mpg) and has prohibited NHTSA from analyzing
effects at either 20.7 mpg or alternative levels. Although benefits and
costs are not estimated, DOT's experience in previous years indicates
that they may be substantial. Over 5 million new light trucks are
subject to these standards each year, and the standard, at 20.7 mpg, is
binding on several manufacturers. Some are just above the standard and
at least one is currently below 20.7 mpg. Because of these likely,
substantial effects, we designated the rule as economically significant
even though analysis of the effects was prohibited by law.
(b) Transfer Regulations. Of the 33 rules listed in table 9, 11
were rules necessary to implement Federal budgetary programs. The
budget outlays associated with these rules are ``transfers'' to program
beneficiaries. Of the 11, two are USDA rules that implement Federal
appropriations language regarding home day care meal programs and
agricultural policies; seven are HHS rules that implement Medicare and
Medicaid policy; one is a DOJ rule regarding immigration policy; and
one is a VA rule regarding compensation of veterans who have
cardiovascular disabilities.
(c) Major rules for independent agencies. Several commenters
suggested that last year we omitted a major category of costs and
benefits: the costs and benefits of major rules from the independent
agencies. The General Accounting Office (GAO) is required to submit
reports on major rules to the Committees of Jurisdiction in both houses
of Congress under the congressional review provisions of the Small
Business Regulatory Enforcement Fairness Act (SBREFA), including rules
issued by agencies not subject to Executive Order 12866 (the so-called
independent agencies). We reviewed the information on the costs and
benefits of major rules contained in the GAO reports for the period
April 1, 1996 to March 31, 1998. According to the GAO reports, five
independent agencies issued 41 major rules during this period. The
agencies are listed in table 10 along with a summary of the kinds of
information provided by the agencies as summarized by GAO.
Table 10 clearly reveals that the independent agencies provide
relatively little quantitative information on the costs and benefits of
regulations for major rules, especially compared to the agencies
subject to E.O. 12866. Indeed, according to a recent GAO report,
Regulatory Reform: Major Rules Submitted for Congressional Review
During the First 2 Years, (April 24, 1998), the independent agencies
themselves reported doing benefit/cost analyses for only eight, or 18
percent, of the 44 major rules they submitted to GAO during this
period. That compares to 72 out of 78 rules, or 92 percent, that
[[Page 44050]]
GAO examined for the agencies subject to Executive Order 12866. Table
10 also shows that 12 of the 41 rules, or 29 percent, from independent
agencies in our sample, which were all in the GAO sample, included some
discussion of benefits and costs even though in some cases the agencies
reported that they did not do a benefit cost analysis. However, table
10 also reveals that only four of the 41 regulations had any monetized
cost information and only one had any monetized benefit information.
The one rule in table 10 that estimated both benefits and costs was
an SEC rule amending the Investment Advisors Act of 1940 to exempt
certain types of investment advisors from the prohibition of SEC
registration as investment advisors. The SEC estimated benefits of $7
million and costs of $930,000.The three other rules for which costs
were estimated are the SEC's rule allowing electronic storage for
brokers or dealer reporting, which the industry estimated would reduce
costs by $160 million per year; a Federal Reserve Board (FRB) bank
holding regulation that would reduce paperwork burden by $1.3 million
per year; and an FCC regulation that requires that phones in most
public facilities be hearing aid compatible with volume controls, which
was estimated to increase the costs of a phone by from 50 cents to a
dollar.
The only estimate of costs or benefits of approximately $100
million was the industry-supplied estimate of $160 million savings for
the SEC's broker/dealer reporting rule. Since we have used a criterion
of using only agency or academic peer reviewed estimates, we conclude
that the 41 GAO reports contain no information useful for estimating
the aggregate costs and benefits of regulations.
3. Best Practices and RIAs
Based on a review of the 21 agency cost-benefit analyses for the
period from April 1, 1996 to March 31, 1997, last year's report
concluded that we need better information in order to determine whether
proposed regulations produce the greatest net benefits. Based on a
review of 22 additional agency analyses for the year from April 1, 1997
to March 31, 1998, that conclusion still stands. Nevertheless, agencies
are making significant efforts to apply the Best Practices principles
in their RIAs. Below we discuss several examples of agencies'
application of these principles to their analytical work.
Serious deviations from Best Practices on any one criterion can
dramatically diminish the usefulness of the analysis, or worse, lead to
analytical results that distort the facts and ultimately result in
regulatory decisions that are far from optimal. Because of the
importance of ``getting it right,'' we thought it would be instructive
to select several criteria from the Best Practices document and discuss
some examples of how agencies properly applied them in their regulatory
analyses:
Quantification and monetization of estimates and treatment
of qualitative estimates
Determination of a consistent and reasonable baseline
Evaluation of regulatory options
Treatment of bias and uncertainty
Treatment of future streams of benefits and costs
(i) Quantification, monetization and treatment of qualitative
estimates. All monetized estimates are, by definition, given in dollars
and (unless there are overlapping effects of rules that are not
accounted for) permit ready comparison and aggregation. Monetized
estimates of effects are what is most generally considered the basis of
benefit-cost analysis. Even when such figures are available, however,
care must be taken when interpreting them because they depend for
comparability on a number of distinct elements. Specifically, monetized
estimates consist of: (1) The dollar value itself; (2) the base year of
the dollar used; (3) the initial year in which the effects occur; (4)
the final year after which the effects disappear; and (5) the discount
rate used to convert future into current values (or vice versa).
Quantified estimates may take the form of a variety of different
units, but they share in common a numeric measure. Generally,
quantified estimates of benefits, costs, and transfers must be
interpreted with the same elements noted above in mind. The most
important difference, of course, is that quantified estimates are
expressed in units other than dollars. Such estimates may be aggregated
only if they are presented in the same or similar units. Also, a
quantified estimate should identify the applicable time period, e.g.,
tons of pollution controlled per year, number of endangered species
protected from extinction per decade. Quantified estimates that lack
reference to the time periods to which they apply may be highly
misleading, and should be converted to similar time periods to be
comparable. Indeed, even when estimates of a similar type include
explicit reference to their underlying time periods, care must be taken
when aggregating or comparing them because of the risk of summing
estimates based on different time periods or inconsistent base years.
In contrast, qualitative estimates may not have any units at all,
or they may be expressed in units that do not lend themselves to simple
comparisons. As has often been observed, it is more frequently the case
that costs are monetized and that benefits are more often quantified or
presented in qualitative form. Qualitative effects should be evaluated
in terms of their uniqueness, reversibility, timing, and geographic
scope and severity. These effects are the most difficult to interpret,
and this may lead some to give them short shrift. The fact that an
effect has not been monetized or quantified does not, however,
necessarily mean that it is small or unimportant.
Qualitative effects must be used with care for other reasons as
well. Because they tend to be general and descriptive, they may be
broader than the incremental effects of the particular regulation being
analyzed. For example, in developing a rule designed to address a
particular safety problem, an agency may describe the extent of the
problem--that is, so many persons injured per year from this particular
cause. While important in estimating the benefits of the rule, this
figure itself is not a benefit estimate unless and until it is linked
to the likely effectiveness of the proposed rule. Finally, qualitative
estimates cannot be aggregated at all because they do not contain units
that permit arithmetic operations. In addition, not infrequently they
fail to contain relevant information about the period of time during
which they apply.
(ii) Baseline. One of the criticisms often cited in evaluating RIAs
is the failure to use a consistent baseline against which to estimate
both benefits and costs, or the failure to adopt a baseline that
reflects current and future conditions (including current regulatory
requirements). Using inconsistent or incorrect baselines will lead to
biased estimates of benefits and/or costs. When this happens, the
analysis may incorrectly make one or more of the various regulatory
options appear reasonable or vice versa.
The Best Practices document states that the baseline should be the
best assessment of the way the world would look absent the proposed
regulation. In addition, when more than one baseline appears reasonable
or the baseline is very uncertain, the agency may choose to measure
benefits and costs against multiple alternative baselines as a form of
sensitivity analysis.
In its analysis of the cost impacts for the final PCB disposal
rule, for example, EPA considered three alternative baselines
reflecting different interpretations of existing regulatory
[[Page 44051]]
requirements. EPA's preferred baseline scenario reflects EPA policy as
it has evolved over the period since 1979 when EPA published an earlier
final rule with regard to PCBs generally (although it does not reflect
the special circumstances associated with the disposal of PCB-
contaminated ship hulls). A second baseline reflects a literal
interpretation of the 1979 rule; a third alternative, the ``special
circumstances'' baseline, reflects current EPA policy because the Navy
is already disposing of ship hulls in a manner consistent with the new
rule. Using these alternative baselines, EPA estimates that the final
PCB rule would yield net cost savings ranging from $150 million for the
special circumstances baseline to $740 million for a literal
interpretation of the 1979 rule. The use of multiple baselines is
informative because it illustrates that changes in EPA policy in
implementing regulations can have a substantial effect on the cost of a
regulatory program. In this case, in the years after EPA adopted a
final disposal rule in 1979, changes in EPA policy--especially allowing
the disposal of automobile ``shredder fluff'' in municipal landfills--
have operated to reduce the cost of the program by more than $500
million per year.
(iii) Regulatory options. The analysis should consider the most
important alternative regulatory options in addressing the problem.
Failure to do so may give the selected option the appearance of being
the best alternative when in fact there are one or more others that
result in higher benefits and/or lower costs and thus greater net
benefits. It is critical that the alternatives analyzed be reasonable.
Analyzing bogus or ``straw man'' options only exacerbates the problem.
The analysis might consider, for example, the use of performance-
based standards, different levels of stringency, differential standards
for different parts of the regulated population, and differential
approaches for assuring compliance. If the proposed regulation is
composed of a number of distinct provisions, it is important to
evaluate the benefits and costs of the different provisions separately.
Particularly in the case of alternative levels of stringency, the
analysis should estimate the incremental benefits and costs of each
option as compared with the next-less-stringent option.
DOE's final rule setting new energy efficiency standards for
refrigerators and freezers, for example, includes analysis of a
comprehensive set of options. For each of eight classes of
refrigerators, e.g., top-mounted freezer with automatic defrost, DOE
estimated the benefits and costs of at least 12 alternative levels of
performance standards. For one class, DOE analyzed 28 options. This
extensive analysis of alternatives provided DOE with a very rich array
of information on the relative effects of alternative standards. For
example, DOE's analysis of over 20 alternative performance standards
for one class of top-mounted refrigerators enabled it to select an
option that resulted in per-unit net benefits more than $200 greater
than for the least attractive option considered in the analysis.
(iv) Bias and uncertainty. The analysis should address areas of
uncertainty and potential bias. The analysis should also provide a
clear discussion of the assumptions underlying the analysis and address
the uncertainties that attend these assumptions. Sensitivity analysis
helps to identify the truly critical assumptions, thereby enabling the
analysts to focus their efforts on further refinements to the analysis
in those areas.
The Best Practices document states that where benefit or cost
estimates are heavily dependent on certain assumptions, it is essential
to identify these assumptions explicitly and to carry out sensitivity
analyses based on alternative plausible assumptions.
EPA's analysis for the two rules revising primary National Ambient
Air Quality Standards (NAAQS) for ozone and particulate matter (PM)
presents a plausible range for the benefits estimates; the range
reflects alternative assumptions with respect to the estimates for
specific benefit categories (EPA, RIA for PM and ozone primary NAAQS,
pp. ES-9 and 10). For example, the analysis presents high and low ozone
benefit estimates which reflect differences in the treatment of the
possible effect of ozone on premature mortality. Similarly, the
analysis presents high and low PM benefit estimates to reflect
differences in the treatment of a possible threshold below which PM
would have little or no effect on premature mortality.
(v) Future streams of benefits and costs. As discussed above, care
must be taken in comparing estimates of effects to assure that they are
presented in a comparable time frame. This requires consideration of
several factors: (1) The initial year in which the effects occur; (2)
the final year after which the effects disappear; (3) the discount rate
used to convert future into current values (or vice versa); and (4) the
format in which the value is presented.
Format means the characterization of the monetized or quantified
effects over time. In the rules on which we are reporting, we found
that agencies used a variety of formats:
(1) Annualized values;
(2) Present values;
(3) Constant annual values; and
(4) Other or unknown formats.
From the perspective of benefit-cost analysis, annualized and
present value formats are always preferred because they permit
aggregation and comparisons within and across regulatory actions.
Constant annual values are slightly less desirable insofar as they
require the additional step of discounting to permit such aggregation
and comparison. Constant annual values are typically found in monetized
cost estimates involving Federal budget outlays, and in quantified
benefit estimates where agencies have chosen not to discount.
Aggregation and comparison within and across regulations generally
cannot be performed without a common discounting methodology. Where an
agency's estimation methodology follows an unknown format, further
research needs to be performed to ascertain how to convert or
reconstruct annualized or present value estimates.
The analysis should present a schedule of the stream of benefits
and costs where there is a variation in benefits and costs over time or
where they occur in different years, e.g., where there is a delay in
the timing of benefits relative to the costs. These streams of benefits
and costs should either be discounted to yield ``present value''
estimates or ``annualized'' to provide an estimate of annual benefits
and costs in a typical year so that they can be considered in a
comparable time frame. Failure to do so will bias the analysis in favor
of alternatives that deliver benefits later or impose costs sooner.
The Best Practices document refers to OMB Circular A-94 as the
basic guidance on discount rates for regulatory analyses. As noted in
the A-94 guidance, agencies may also present sensitivity analyses using
other discount rates (with a justification for using these alternative
rates).
For example, EPA's analysis of its final rule setting both effluent
limits for wastewater discharges and air toxic emission limits for pulp
and paper mills developed present value estimates using discount rates
of three and seven percent for benefit and cost streams over a 30 year
period (EPA, Economic Analysis * * *, October 1997, pp.10-3 and 10-4).
EPA phased in the recreational benefits over a two-year period (full
value in year three and thereafter) and the health benefits over a five
year period (full value in year six and thereafter). On the cost side,
EPA
[[Page 44052]]
assumed the capital costs would be incurred in years one and twenty-one
with operations and maintenance costs incurred in the second through
thirtieth years. The analysis adopted the 7 percent discount rate in
accordance with OMB guidance and used 3 percent, reflecting the social
rate of time preference, to reflect the sensitivity of these estimates
to alternative discount rates. The benefit estimates (including the
lower absolute value of the bound negative benefit estimate) are
roughly 50 percent larger and the costs are roughly 40 percent larger
using a 3 percent discount rate vis-a-vis a 7 percent discount rate.
4. GAO Report
A review completed by GAO looked at how well the regulatory impact
analyses for 20 economically significant health, safety, and
environmental regulations issued between July 1996 and March 1997
followed our Best Practices guidelines (GAO 1998). For example,
according to GAO, five of the 20 rules examined did not discuss
alternatives, six did not assign dollar values to benefits, and one did
not assign dollar values to costs--all practices recommended by our
guidance (GAO, 1998). In addition, GAO found that the analyses differed
in their treatment of assumptions and uncertainty. For example,
agencies used various discount rates that ranged from 2.1 percent to 10
percent, and for the six analyses that used an estimate for the value
of a statistical life, the estimates ranged from $1.6 million to $5.5
million. GAO does point out, however, that the Best Practices guidance
does allow agencies flexibility to vary the assumptions to fit the
circumstances of the specific rules, although GAO also points out that
in many cases the agencies do not explain why they varied from Best
Practice recommendations.
On a more positive note, GAO also reported that according to agency
officials, 12 of the 20 analyses were used to help identify the most
cost-effective of several alternatives or to cost-effectively implement
health-based regulations and that seven of the remaining analyses were
used to define the scope and timing of implementation, document and
defend regulatory decisions, and reduce health risks at feasible costs.
Only one of the analyses played almost no part in regulatory decisions,
and that was because the statute was too prescriptive to leave any
discretion in implementing the regulation.
As we stated last year:
Although considerable progress has been made in providing micro
data in advance of regulatory proposals and in developing the Best
Practices guidance, further progress is needed to continue improving
regulatory decisions. Specifically, we need to ensure that the
quality of data and analysis used by the agencies improves, that
standardized assumptions and methodologies are applied more
uniformly across regulatory programs and agencies, and that data and
methodologies designed to determine whether existing regulations
need to be reformed are developed and used appropriately.
Chapter III: Estimates of Benefits and Costs of ``Economically
Significant'' Rules, April 1995-March 1998
In last year's report, we recommended that OIRA continue to develop
a data base on benefits and costs of major rules. This chapter seeks to
respond to that recommendation by presenting the available benefit and
cost estimates for individual rules from April 1, 1995 through March
31, 1998. The summary of agency estimates for final rules from the
current year (April 1, 1997 to March 31, 1998) is presented in chapter
II, table 9. The summary of agency estimates for final rules from the
preceding two years (April 1, 1995 to March 31, 1997) is presented in
tables 17 and 18.
In assembling agency estimates of benefits and costs, we have:
(1) Applied a uniform format for the presentation of benefit and
cost estimates in order to make agency estimates more closely
comparable with each other, e.g., provided the benefit and cost streams
over time, annualized benefit and cost estimates, etc., and
(2) Monetized quantitative estimates where the agency has not done
so, e.g., converted tons of pollutant per year to dollars.
The adoption of a format that allows the presentation of agency
estimates so that they are more closely comparable also allows, at
least for purposes of illustration, the aggregation of benefit and cost
estimates across rules. At the same time we caution the reader that
agencies have used different methodologies and valuations in
quantifying and monetizing effects and we have attempted to be faithful
to the respective agency approaches. In this chapter, we also aggregate
benefit and cost estimates for those Federal rules with significant
quantified benefit and cost estimates.
As noted in chapters I and II, the substantial limitations of the
available data on the benefits and costs for this set of rules raise
significant obstacles to the development of a meaningful aggregate
estimate of benefits and costs for even a single year's regulations.
For example, in many cases agencies identified important benefits of
their rules that were not quantifiable. In such cases, we necessarily
omitted them from the monetized estimates we develop in this chapter.
To the extent that these benefits are substantial, the monetized
estimates will understate the total value of the benefits. The
discussion below addresses other limitations in the data and outlines
the steps we have taken in an effort to overcome some of them.
A. Monetized Benefit and Cost Estimates for Individual Rules
First, we have only included in this chapter those major rules with
quantified estimates of benefits and costs. These include six rules
from the 1995/96 period, 15 rules from the 1996/97 period, and 13 rules
from 1997/98 period. We have excluded 13 rules without quantified
estimates of either benefits or costs. (See table 11.) Six additional
rules listed in table 12 have also been excluded from further
discussion because only quantified cost estimates were available and/or
there were only relatively small benefit and cost estimates.
Second, for some of the remaining rules, agencies quantified
estimates of significant effects, but did not assign a monetized value
to these effects. Some of the quantified effects--for example, small
changes in the risk of premature death or serious injury--are
frequently identified as outcomes for a variety of rules. In a number
of instances, though, agencies did assign monetized estimates to these
outcomes.
Differences in valuation across rules are often critical,
particularly in comparisons between and among individual rules or
programs. Furthermore, the different approaches in the quantification
and monetization of these effects across agencies result in an ``apples
and oranges'' problem in aggregating estimates; in particular, where
effects have been quantified, but not monetized, the different
quantitative effects cannot be summed because they are not expressed in
common units. In order to address this problem, this section takes the
additional step of assigning a monetized value in order to provide a
more consistent set of estimates in those cases where agencies only
quantified significant effects. We have not, however, attempted to
quantify or monetize any qualitative effects identified by agencies
where the agency did not at least quantify them.
Agencies have, over the years, taken, and continue to take, several
different approaches toward rules that affect small risks of premature
death. In some cases, such as FDA's tobacco rule, agencies have
quantified and monetized
[[Page 44053]]
these effects in terms of ``quality-adjusted statistical life years.''
In other cases, such as FRA's roadway worker protection rule, agencies
have quantified and monetized these effects in terms of statistical
lives. In still other cases, such as HHS's organ procurement rule and
NHTSA's air bag depowering rule, agencies have quantified risks of
death in terms of life-years or lives, but have not monetized them.
Finally, in some cases, such as FDA's animal feed rule, the agency did
not develop a quantified estimate of the rule's mortality effects.
Estimates for the value of a statistical life varied across
agencies. For the tobacco rule, FDA estimated benefits based on a value
of $2.5 million per statistical life. For the roadway worker rule, FRA
used $2.7 million per statistical life. For the upper-bound estimates
of EPA's ozone and PM NAAQS rules, the agency used $4.8 million per
statistical life; and for its mammography rule, FDA also used $5
million per statistical life.33 Similarly, agency estimates
for the value of a statistical life-year have also varied. FDA used
$116,500 per life-year for its tobacco rule; EPA used $120,000 per
life-year to produce its lower-bound estimates of benefits in its ozone
and PM NAAQS rules; FDA used $368,000 per life-year in its mammography
rule. As a general matter, we have deferred to the individual agency's
judgment in this area. In cases where the agency both quantified and
monetized fatality risks, we have made no adjustments to the agency's
estimate.
---------------------------------------------------------------------------
\33\ There is a relatively rich body of academic literature on
this subject. The methodologies used and the resulting estimates
vary substantially across the academic studies. Based on this
literature, agencies have developed estimates they believe are
appropriate for their particular regulatory circumstances.
---------------------------------------------------------------------------
In cases where the agency provided only a quantified estimate of
fatality risk, but did not monetize it, we have monetized these
estimates in order to convert these effects into a common unit. For
example, in the case of HHS's organ donor rule, the agency estimated,
but did not monetize, statistical life-years saved, although it
discussed HHS's use of $116,500 per life-year in other contexts. We
valued those life-years at $116,500 each. For NHTSA's air bag
depowering rule, we used a value of $2.7 million per statistical life.
In cases where agencies have not adopted estimates of the value of
reducing these risks, we used estimates supported by the relevant
academic literature. For DOL's respirator rule, for example, we used $5
million per statistical life. As a practical matter, the aggregate
benefit and cost estimates are relatively insensitive to the values we
have assigned for these rules because the aggregate estimates are
dominated by the FDA tobacco rule and EPA's rules revising the ozone
and PM primary NAAQS. Finally, we did not attempt to quantify or
monetize fatality risk reductions in cases where the agency did not at
least quantify them.
B. Valuation Estimates for Other Regulatory Effects
The following is a brief discussion of our valuation estimates for
other types of effects which agencies identified and quantified, but
did not monetize.
Injury. For the air bag depowering rule, we adopted the
Department of Transportation approach of converting injuries to
``equivalent fatalities.'' These ratios are based on DOT's estimates of
the value individuals place on reducing the risk of injury of varying
severity relative to that of reducing risk of death. For the two OSHA
rules we used a ratio of 20 injuries per equivalent fatality.
Change in Gasoline Fuel Consumption. We valued reduced
gasoline consumption at $.80 per gallon pre-tax.
Reduction in Barrels of Crude Oil Spilled. We valued each
barrel prevented from being spilled at $2,000. This reflects double the
sum of the most likely estimates of environmental damages plus cleanup
costs contained in a recent published journal article (Brown and
Savage, 1996).
Change in Emissions of Air Pollutants. We used estimates
of the benefits per ton for reductions in hydrocarbon, nitrogen oxide
(NOX), sulfur dioxide (SO2), and fine particulate
matter (PM) presented in EPA's Pulp and Paper cluster rule (October,
1997). These estimates were obtained from the RIA prepared for EPA's
July, 1997 rules revising the primary NAAQS for ozone and fine PM. We
note that in this area, as in others, the academic literature offers a
number of methodologies and underlying studies to quantify the
benefits. There remain considerable uncertainties with each of these
approaches. For each of these pollutants, we used the following values
(all in 1996$) for changes in emissions: 34
\34\ Where applicable, the lower (higher) end of the value
ranges in all of the tables throughout this report reflect the lower
(higher) values in these ranges.
---------------------------------------------------------------------------
Hydrocarbons: $519 to $2,360/ton;
Nitrogen Oxides: $519 to $2,360/ton;
Particulate Matter: $11,539/ton; and
Sulfur Dioxide: $3,768 to $11,539/ton.
Third, in order to make agency estimates more consistent, we
developed benefit and cost time streams for each of the rules. Where
agency analyses provide annual or annualized estimates of benefits and
costs, we used these estimates in developing streams of benefits and
costs over time. Where the agency estimate only provided annual
benefits and costs for specific years, we used a linear interpolation
to represent benefits and costs in the in-between years. In the case of
EPA's Federal test procedure rule, for example, the analysis reported
emission reductions for only four years, i.e., 2005, 2010, 2015, and
2020. We used linear interpolation to provide benefit and cost streams
over the intervening years.
In addition, agency estimates of benefits and costs cover widely
varying time periods. For example, EPA's analysis for the pulp and
paper effluent guidelines rules developed annualized benefit estimates
for a stream of benefits over 30 years. Annualized cost estimates for
this rule were based on installation of control equipment in the first
year with full replacement of the control equipment in year 21 at the
end of the 20-year useful life for the control equipment and operating
and maintenance costs after the first year. USDA's analysis of the
conservation reserve program provided annual benefit and cost estimates
for the five-year period from 1997 to 2002. On the other hand, DOE's
analysis of energy conservation standards for refrigerators and
freezers evaluated a much longer time frame from 2000 to 2030, and
EPA's analysis of its rule setting emission standards for new
locomotives used a time frame of forty years (2000 to 2040).
These differences in the time frames evaluated reflect specific
characteristics of individual rules. The short time frame of USDA's
conservation reserve program rule reflects, for example, the five-year
legislative cycle of the farm bills. On the other hand, the longer time
frames of DOE's refrigerators and freezers rule and EPA's new
locomotives rule reflect the relatively long period required for
turnover of the existing stock of equipment and replacement with
equipment meeting the new standards. Because there are substantial
differences in the time frame of analysis for these rules, we have
decided--with the one exception of DOT's air bag depowering rule--to
treat the benefit and cost streams as though all of these rules are in
place through the year 2050. We made the one exception to this approach
for DOT's air bag depowering rule because the rule automatically
terminates at the end of five years. We believe that this is a
reasonable treatment of the benefit and
[[Page 44054]]
cost streams because a number of these rules will not achieve their
full effect for many years into the future. In addition, major
regulatory programs tend to be long-lived and, thus, the adoption of a
longer time horizon appears to be appropriate. This approach holds the
baseline constant and does not consider, of course, the potential
effect of a ``rising baseline'' as a result of technological change,
cultural changes, etc. (See discussion in chapter I.)
Finally, we have not made any changes to agency monetized
estimates. To the extent that agencies have adopted different monetized
values for effects, e.g., different values for a statistical life, or
different discounting methods, these differences remain embedded in
tables 13 through 15. Any comparison or aggregation across rules should
also consider a number of factors which the presentation in tables 13
through 15 does not address. First, for example, these rules may use
different baselines in terms of the regulations and controls already in
place. In addition, these rules may well treat uncertainty in different
ways. In some cases, agencies may have developed alternative estimates
reflecting upper- and lower-bound estimates. In other cases, the
agencies may offer a midpoint estimate of benefits and costs, and in
some cases the agency estimates may reflect only upper-bound estimates
of the likely benefits and costs. Also, in order for comparisons or
aggregation to be meaningful, benefit and cost estimates should
correctly account for all substantial effects of regulatory actions,
including potentially offsetting effects, which may or may not be
reflected in the available data.
C. Aggregation of Benefit and Cost Estimates Across Rules
In table 16, we aggregated the estimates for individual rules from
tables 13 through 15 by year. This approach yields ex ante estimates of
the benefits and costs that Federal agencies expected from major rules
issued in each of the last three years.
We have several important observations to offer on these aggregate
estimates. First, the 1996 HHS rule placing restrictions on the sale of
tobacco and EPA's 1997 rules revising the NAAQS for ozone and
particulate matter dominate the annualized and present value aggregates
presented in table 16. Changes in estimation methodology for these
rules, as reflected by the ``plausible range'' adopted by the analysis
for the EPA NAAQS rules for ozone and particulate matter, will have a
marked effect on the aggregated benefit and cost estimates for the
rules published over the period from April 1, 1995 to March 31, 1998.
By the same token, the aggregate estimates are not very sensitive to
different approaches for the remaining rules.
The presentation of these aggregates as annualized benefit and cost
streams or as net present value estimates may obscure the actual timing
of benefits and costs. In the case of the tobacco rule, for example,
the annualized benefit estimates were estimated to be $9 to $10 billion
per year. However, the health benefits associated with successfully
reducing the number of young tobacco users will not begin to be
realized until after 2015 because of the lag in the adverse effects
associated with tobacco use.
In addition, the benefits and costs of the revised ozone and
particulate matter NAAQS will only be realized in the years after 2005.
These estimates of ``out-year'' benefits and costs are also uncertain.
EPA will complete its next periodic review of the particulate matter
NAAQS, scheduled for 2002, before it begins implementation of the
revised particulate matter NAAQS. If this review yields a ``mid-
course'' change in the standard, the estimates of benefits and costs
could change. EPA has also expressed a continuing concern with the
uncertainty of the full attainment cost estimates because EPA believes
technological change over the next decade will yield lower-cost
approaches that will achieve the revised NAAQS.
Second, as noted above, there are significant methodological issues
that need to be confronted when aggregating estimates from a set of
individual rules (as presented in tables 13 through 15) in an effort to
obtain an estimate of the total benefits and costs of Federal
regulation. These issues include:
(1) Adoption of a reasonable, consistent baseline (it is difficult
to patch together a sensible baseline from the differing baseline
scenarios adopted across rules).
(2) The use of ex ante estimates (versus ex post estimates) of the
benefits and costs of regulation, e.g., the reliance on ex ante
estimates may well fail to reflect important changes in taste,
innovation by the private sector, or changes in Federal/State/local
regulation.
(3) The ``apples and oranges'' problem associated with combining
estimates from different studies, i.e., different measures of benefits
and costs, double-counting of benefits and costs across related rules,
differing approaches to uncertainty such as the use of upper-and lower-
bound estimates versus the use of an upper-bound only estimate,
different discount rates, etc.
Because of these concerns with aggregating the prospective benefit
and cost estimates taken from the regulatory analysis for individual
rules, we are interested in comments on:
(1) The merits of aggregating prospective estimates from individual
rules to obtain an aggregate estimate of the benefits and costs of
Federal regulation.
(2) The best approach to address the concerns with baseline, ex
ante estimates, and the various ``apples and oranges'' problems
identified above.
A final reason that any regulatory accounting effort has limits is
the lack of information on the effects of regulations on distribution
or equity. None of the analyses addressed in this report provides
quantitative information on the distribution of benefits or costs by
income category, geographic region, or any other equity-related factor.
As a result, there is no basis for quantifying distributional or equity
impacts.
Chapter IV: Recommendations
As with last year's report, this year's is to include
``recommendations from the Director of OMB and a description of
significant public comments to reform or eliminate any Federal
regulatory program or program element that is inefficient, ineffective,
or is not a sound use of the Nation's resources' (section 625 (a)(4)).
We are soliciting comments on a wide range of issues related to our
discussion of the methodology used in evaluating total annual benefits
and costs of Federal regulatory programs and on estimates of the
benefits and costs of ``economically significant'' or ``major'' rules.
In particular, we are soliciting comments on our approach to estimating
the total costs and benefits of regulation by combining existing
retrospective or ex post studies with agency-produced prospective or ex
ante estimates; the best ways to deal with the baseline and apple and
oranges problems discussed above; and whether we have missed important
data sources that would fill in the gaps in our estimates. We are also
seeking comment on regulatory programs or program elements that are
``inefficient, ineffective, or * * * not a sound use of the Nation's
resources.''
In chapter I we presented aggregate estimates of the costs and
benefits of several categories of regulation to further the discussion
and generate comments that we hope will lead to better estimates.
However, these aggregate estimates are at best only general indicators
of the importance of regulation undertaken thus far and not guides to
future specific regulatory changes. We discussed at some length
[[Page 44055]]
the various shortcomings of these estimates, including the problem
that, most of them are based either on dated studies of existing
regulations or on estimates for proposed regulations.
In chapter II, we presented the prospective cost and benefit data
that the agencies had estimated for the major rules that they issued
over the period April 1, 1997 to March 31, 1998. These data for
individual regulations show that in many, but not all cases, agencies
have done a good job following the recommendations of the Best
Practices document. The overall picture remains one of slow but steady
progress toward the Best Practices standards. In any case, even if Best
Practices are fully adhered to in developing regulations, these
prospective analyses alone would not be suitable for determining
whether existing regulatory programs or program elements should be
reformed or eliminated.
In spite of these methodological difficulties, we believe that
prospective studies such as those discussed in chapter II do provide
useful general information about existing regulatory programs. In this
spirit, we developed in chapter III cost and benefit estimates for a
set of major regulations issued by the agencies over the last three
years by using standardized assumptions and common values on benefits
derived from agency practice and the academic literature. These values
and assumptions are not necessarily appropriate for all individual
regulations but when applied to a set of analyses offer additional
general information about agencies' regulatory systems. We are still in
the early stages of this process and seek comments on whether this line
of analysis should be pursued. In summary, at this stage we do not
believe it is appropriate to make recommendations on specific
regulatory programs based on the incomplete and uneven data that we
discuss at length above. We note, however, that agencies are continuing
to reform and improve their regulatory programs. These specific efforts
are described at length in the Regulatory Plan, published each fall
with the Unified Agenda of Federal Regulatory and Derergulatory
Actions.
We have discerned some general themes during our review of the
academic literature and analysis of data on the economic impacts of
regulation. In particular, we note the general success of large scale
regulatory reforms that have embraced industrial or business sectors.
For example, the Federal government undertook reforms of the statutory
and regulatory regimes that governed practices in the airline,
trucking, and natural gas and oil markets in the 1970s and 1980s. The
Clinton Administration has continued this work with regulatory reforms
in banking, intrastate trucking, securities and financial services,
pensions, and telecommunications. In many of these areas, the older
regulatory schemes attempted to proscribe entry by firms into lines of
business or to limit production for reasons other than health, safety,
or environmental protection.
Although there exist theoretical arguments that in the case of
natural monopolies entry of new firms could increase costs to
consumers, these arguments are based primarily on static models not
appropriate for our current dynamic, technological world. The
consistency of the movement toward regulatory reform over the past 25
years is a tribute to the benefits that flow from opened markets. It
appears that opening up markets to all qualified entities and
individuals has been and continues to be a mainstay of regulatory
reform. It is worth noting, however, that such regulatory reform does
not mean the end of regulation. While outmoded regulatory programs are
changed, new regulations are generally needed, particularly during
transitions between the old and new systems, to open up markets and
ensure that fair competition is maintained. For example, the
Telecommunications Act of 1996 directs the FCC to establish the
regulation that is needed to allow new entrants access to the local
network in order to establish competition in local telecommunications
markets. Without access to the local network, there would be little
competition.
A. Electricity Restructuring
A new regulatory area in which the Administration is recommending
reform is the decades old system of electricity generation. The
Administration has transmitted to Congress a bill that would
restructure this industry and bring substantial savings to consumers.
Economic forces are forging a new era in electricity prices, where
electricity prices will be determined primarily by the market rather
than by regulation. Under this new system, often called ``retail
choice,'' consumers are allowed to choose their electricity supplier,
much as they have chosen long distance telephone service for over a
decade. Electricity policy is moving in this direction because
subjecting utilities to competition will lead to increased efficiency
in the industry and thus benefit the economy and the environment.
In the past, electricity customers did not have the ability to
choose their supplier. Instead, under State law, utilities generally
were monopolies with both a right and responsibility to serve all
consumers in a particular area. The State permitted the utility to
charge customers a regulated rate for electric power based on the cost
of producing such power plus a ``rate of return'' on investment. In
general, the electric monopoly system has provided reliable power to
electric consumers in the United States. However, a monopoly system has
a fundamental weakness: it does not provide incentives to be cost-
efficient because a monopoly supplier does not have to compete and
essentially has a guarantee that its costs will be recovered.
Under electricity restructuring, competition will replace
regulation as the primary mechanism for setting electricity generation
prices. Utilities would be required to open up their distribution and
transmission wires to all qualified sellers. The transmission and
distribution of electricity would continue to be regulated because they
will remain monopolies for the foreseeable future. The system would be
restructured, not completely deregulated.
1. The Need for Federal Action
The Administration's proposal respects the actions of those States
which are in the process of implementing retail competition and seeks
to build on, rather than disrupt, those efforts. Nevertheless,
effective retail competition is unlikely to happen without Federal
legislation. First, electrons do not respect State borders.
Accordingly, as States remove the constraints of monopoly franchise
territories, electricity markets will naturally become more
regionalized.
Only federal legislation can adequately address the needs of these
regional markets. For example, to allow for effective and efficient
competitive markets, FERC must have regulatory jurisdiction over all
owners of transmission facilities. Currently, FERC has no regulatory
authority to order open access to transmission facilities by municipal
utilities, cooperatives, or federal power entities. Moreover, effective
competitive markets require that FERC be given additional regulatory
authority to require the formation of Independent System Operators and
to address market power issues.
The electric industry is also hampered by statutes which inhibit
the development of competitive markets. The entire Federal electricity
law framework dates from the New Deal and is premised upon State-
regulated monopolies rather than regional
[[Page 44056]]
competitive markets. Federal law should be updated so that it
stimulates, rather than stifles, competition. For example, the Public
Utility Holding Company Act, which regulates utility holding companies,
and the ``must buy'' provision of section 210 of the Public Utility
Regulatory Policies Act, which requires that utilities buy power from
qualified cogenerators and small power producers, should be repealed.
Finally, the States alone cannot obtain the full economic and
environmental benefits of competition for American consumers. Without
comprehensive Federal electricity restructuring legislation, neither
State nor Federal regulators will have the necessary tools to ensure
that regional electricity markets are truly competitive and operate as
efficiently as possible. Moreover, absent a Federal role, there will be
no assurances that support for renewable technologies and other
important public purpose programs will continue absent a Federal
program. Without such tools, electricity prices will likely be higher
and the environmental gains which we expect under the Administration's
plan will not be fully realized.
2. Benefits of Electricity Restructuring
The Comprehensive Electricity Competition Plan embodies the overall
agenda of the Clinton Administration to expand the economy and improve
the environment. A more competitive electricity industry will provide
large benefits to individual American consumers as well as being an
overall boon to our economy. It will result in lower prices, a cleaner
environment, greater innovation and new services, and a more reliable
power supply grid. It will also save the government money.
The Department of Energy estimates that retail competition will
save consumers at least $20 billion a year on their electricity bills.
This translates into direct savings to the typical family of four of
$104 per year. Indirect savings, which would arise from the lower costs
of other goods and services in a competitive market, are $128 per year
for a typical family of four. Thus, total projected savings for such a
family are $232 a year.
Competition will also spark innovation in the American economy,
creating new industries, jobs, products and services just as
telecommunications reform spawned cellular phones and other new
technologies. This will further strengthen our nation's position as the
most vibrant and dynamic economy in the world.
Major benefits will accrue to the Federal, State and local
governments through lower electricity prices. Total government spending
on electricity was $19.5 billion in 1995. With competition, these costs
are likely to decline by at least 10 percent, a savings of close to $2
billion year. This restructuring dividend will help governments
maintain balanced budgets into the future while meeting critical public
needs.
Restructuring will also produce significant environmental benefits
through both market mechanisms and policies that promote investment in
energy efficiency and renewable energy. Competitive forces will create
an efficient, leaner, and cleaner industry. For, example, DOE estimates
that the Administration's plan will reduce greenhouse gas emissions by
roughly 25 to 40 million metric tons in 2010. A generator that wrings
as much energy as it can from every unit of fuel will be rewarded by
the market. Today, a monopoly supplier recovers its costs regardless of
whether it uses its power resources efficiently. Competition also
provides opportunities for consumers to vote with their wallets for
green power and facilitates the marketing of energy efficiency services
along with electricity.
Restructuring also makes possible the introduction of new policy
mechanisms such as the renewable portfolio standard and enhanced public
benefit funding, which will guarantee substantial environmental
benefits notwithstanding market outcomes. The environmental benefits
from the Administration's restructuring plan, which includes the
renewable portfolio standard and the public benefit fund, will outweigh
any negative effects associated with the demand increasing effects of
lower prices or other factors.
The Administration's proposal for electricity competition
legislation reflect the need for the simultaneous calibration of many
elements in an interconnected statutory framework in order to achieve
the desired bottom line: achieving the economic benefits of competition
in a manner that is fair and improves the environmental performance of
the electricity industry.
Our restructuring proposal is best understood in terms of five main
objectives: (1) Encouraging States to implement retail competition; (2)
protecting consumers by facilitating competitive markets; (3) assuring
access to and reliability of the transmission system; (4) promoting and
preserving public benefits; and (5) amending existing Federal statutes
to clarify Federal and State authority.
B. Need for Further Methodological Progress: Steps Taken, Steps Needed
Last year we made five recommendations to improve the quality of
data and analysis on individual regulations and on regulatory programs
and program elements as a first step toward developing the evidence
needed to propose major changes in regulatory programs:
That OIRA lead an effort among the agencies to raise the
quality of analyses used in developing new regulations by promoting
greater use of the Best Practices guidelines and by offering technical
outreach programs and training sessions on the guidelines;
That an interagency group subject a selected number of
agency regulatory analyses to ex post disinterested peer review in
order to identify areas that need improvement and stimulate the
development of better estimation techniques more useful for assessing
existing regulations;
That OIRA continue to develop a data base on benefits and
costs of major rules by using consistent assumptions and better
estimation techniques to refine agency estimates of incremental costs
and benefits of regulatory programs and elements;
That OIRA continue to work on developing methodologies
appropriate for evaluating whether existing regulatory programs or
their elements should be reformed or eliminated using its Best
Practices document as the starting point; and
That OIRA work toward a system to track the net benefits
(benefits minus costs) provided by new regulations and reforms of
existing regulations for use in determining the specific regulatory
reforms or eliminations, if any, to recommend.
To implement these recommendations, we took several specific steps,
which should be viewed as first steps in an ongoing effort:
After the September 30, 1997 report was issued, we met
with interested parties to hear their suggestions for implementing its
recommendations and improving the next report. The interested parties
included Congressional staffs, agency officials, academic experts, and
the public at large at a well attended open meeting sponsored by the
Brookings Institution and the American Enterprise Institute. We also
put the report on the OMB home page at: http://www.whitehouse.gov/WH/
EOP/OMB/html/rcongress.htm and distributed hundreds of hard copies to
the interested public. We also discussed the report with our regulatory
counterparts
[[Page 44057]]
from other countries and with officials at the OECD studying regulatory
reform. These discussions have been very helpful, and their influences
are reflected in this year's report.
On December 12, 1997, the Administrator of OIRA sent a
memorandum to the Regulatory Working Group made up of the top
regulatory officials of the key agencies, requesting that they give
greater attention to the analysis of economically significant rules and
to focus specifically on the Best Practices guidance. The memorandum
also told the agencies of our intention to disaggregate further our
total benefit and cost estimates and to provide more information on
economically significant rules, including filling gaps by monetizing
benefit estimates where the agencies had quantified but not monetized.
We have followed up the memorandum with meetings of the Regulatory
Working Group and discussions with individual agency officials that
emphasized the importance of good analysis.
We reviewed examples of ex post analyses, including those
of NHTSA, OSHA, and EPA regulations. This review helped contribute to
an investigation of the methodological problems associated with
regulatory analysis.
We convened a meeting of an Interagency Technical Working
Group (ITWG) of staff from the major regulatory agencies co-chaired by
CEA to examine the methodological issues raised in the first report,
review existing regulatory analyses, and propose better estimation
techniques useful in evaluating new and existing
regulations.35 The group met several times a month
throughout the first half of 1998, and invited individuals with
recognized expertise to make presentations about estimation methods.
The group heard presentations on methods of estimating the value of
mortality risk reduction, the quantification of morbidity, the value of
wetlands, and the value of changes in travel time. Materials used in
these presentations are available in the OIRA public docket room. Based
on these presentations, and its own discussions, the group considered
the following recommendations to OMB in the context of OMB's report to
Congress:
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\35\ It included representatives of DOE, Commerce, USDA,
Treasury, HUD, Interior, Labor, NHTSA, Education, FDA, and EPA as
well as CEA and OMB.
---------------------------------------------------------------------------
(1) That OMB complete agency estimates of reductions in mortality
risk by estimating the additional longevity, e.g., years of life
gained, to complement conventional estimates of statistical lives
saved, in instances where supportable methods exist.
(2) That OMB complete agency estimates of small reductions in
mortality risk by estimating the value of these changes using
appropriate unit values from the literature on willingness-to-pay.
(3) That OMB complete agency estimates of the value of reductions
in morbidity, taking into account lags, e.g., ``latency'' periods, if
any, in the realization of harm due to disease or injury, using a range
of appropriate discount rates.
(4) That OMB complete agency estimates of reductions in morbidity
by estimating (1) the value of cases of disease or injury averted,
where there are independent estimates of willingness-to-pay to reduce
the risks of such disease or injury, and (2) where appropriate
willingness-to-pay estimates are not available, an index of loss in
function relative to death, such as a quality adjusted life-year
approach.
(5) OMB not generally assign values to agency estimates of changes
in the quantity or quality of wetlands, without specific information
justifying the appropriateness of the unit values to the wetlands
affected, given the wide variety of wetlands.
Recommendations (1) and (5) were adopted unanimously. Although the
other recommendations enjoyed support from a majority of agencies, they
were not supported unanimously. Another recommendation on the value of
increases or decreases in travel time was discussed, but no
recommendation has yet been made.
As the report itself shows, we have begun to implement the
recommendations that the ITWG discussed and considered in order to
develop a data base on the costs and benefits of major rules using
consistent assumptions and better estimation techniques to refine
estimates of the incremental costs and benefits of regulatory programs
and individual regulations. We hope this will enable us to move closer
toward developing a system to track the net benefits provided by new
regulations and reforms of existing regulation and for identification
of specific regulatory reform proposals.
Last year's report established a much needed baseline from which
progress toward better data and methods regarding the impacts of
Federal regulation can be measured. We indicated that this statutory
charge was an ambitious one, but believe a good start was made. This
year we report steady progress toward better data and improved
analysis. We have refined the aggregate estimates of benefits and
costs; made progress in establishing more consistent data for ongoing
benefit-cost analyses; widened our own data base from one to three
years; further analyzed and refined our understanding of methodological
difficulties; and recommended reform in the electricity generation
industry.
We continue to view the task as a formidable one that must be
approached with the expectation of a long steady movement forward. We
believe this report represents a significant step down that path. We
intend to continue these efforts to improve the quality of data and
analysis needed to put us in a stronger position to continue to make
more recommendations for regulatory reforms.
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[FR Doc. 98-21938 Filed 8-14-98; 8:45 am]
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