Lucas Davis, "Bonding Requirements for Natural Gas Producers" (Revised February 2014) (Revised version published in The Review of Environmental Economics and Policy. 9(10): 128 - 144. 2015) Full Paper
Natural gas producers are constantly making tradeoffs between money, time, and environmental risk. The private costs and benefits of drilling are realized immediately, but the external costs are not. By the time external costs are well understood, producers may no longer exist or may not have the resources to finance necessary cleanups or to compensate those who have been affected. This well-known “judgment proof problem” means that producers do not face the total cost of potential external damages, and thus may take too many risks. This article discusses alternative regulatory approaches for mitigating moral hazard in natural gas production. Particular emphasis is given to bonding requirements, which have tended to receive less attention than the other approaches but have a long history. There are important limitations with bonding, but in some ways this approach is actually quite well-suited to many of the environmental risks in this market.