Crisis in the oil industry

Crisis in the oil industry Certificates of Financial Responsibility and the Oil Pollution Act of 1990

Jason A. Garick

The US Coast Guard has refused to issue Certificates of Financial Responsibility under the US Oil Pollution Act of 1990 to vessel owners unable to produce sufficient evidence of financial responsibility to cover the potential liability for an oil spill. The Protection and Indemnity Clubs (P&l Clubs) which currently provide tanker owners with oil pollution insurance coverage up to the limits set by the Clean Water Act, have refused to provide tanker owners with insurance under the new Oil Pollution Act provisions. If the P&l Clubs do not change their position, finalization of the provisions as written would legally bind the Coast Guard to prohibit over 90% of the world’s independent oil tanker fleet from entering US waters. To date, the provisions concerning evidence of financial responsibility have not been finalized by the Coast Guard. At stake in the stand-off is the preservation of the intent of Congress to create a comprehensive oil pollution regulatory system that would ensure prompt and complete compensation for damage and removal costs of a major oil spill. The intent of Congress is balanced against the refusal of the insurer to submit to unlimited liability exposure. The article focuses upon the relevant provisions of the Oil Pollution Act of 1990, the connection between oil spill liability and Certificates of Financial Responsibility issued by the Coast Guard, and the responses submitted by the central players in the controversy to the Notice on Proposed Rulemaking published by the Coast Guard in the Federal Register. The article closes with a proposition that could bring the parties back to the negotiating table.

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When the Exxon Valdez ran aground on Blight’s Reef in Prince William Sound, Alaska, the rocks shredded not only 11 of the 16 tanks’ of the Very Large Crude Carrier (VLCC), they ripped a hole in a tanker industry that could presently be exposed to levels of liability which bring into focus a question that has not seriously been faced by vessel owners entering US navigable waters since 1851.2 Do the potential liabilities of the venture far outweigh not only the interest in the vessel and freight pending, but also the interest in all of the existing assets of both the owner and insurer? At present, there is a crisis in the oil shipping industry. The problem centres upon certain provisions in the Oil Pollution Act of 1990, passed unanimously by Congress,” and signed into law on 18 August 1990.4 The provisions concerning evidence of financial responsibility,5 not yet finalized by the Coast Guard, could expose both an owner and the owner’s insurer, under a direct action clause, to four specific areas of potentially unlimited liability, namely: removal and cleanup costs,6 damage to the environment,’ civil and criminal penalties,* and separate state actions.’ The provisions could expose the Protection and Indemnity Clubs (P&I Clubs) that up to now under the Clean Water Act (CWA)1° have provided evidence of financial responsibility to virtually unlimited liability in the US courtrooms. The P&I Clubs, which currently provide insurance cover to member tanker owners under the CWA up to US$700 million,” have refused to issue certificates of financial responsibility under the provisions of the Oil Pollution Act of 1990 for two main reasons: (1) the possibility of unlimited spill liability in both federal and state courts, and (2) a direct action provision that allows private third parties to proceed directly against the insurer. Under the Oil Pollution Act, by issuing certificates of financial responsibility, P&I Clubs would legally be termed ‘guarantors’ of the insured and therefore, would be directly liable for all costs assessed against the responsible party.‘* All sides in the debate on the provisions concerning evidence of financial responsibility have legitimate concerns. The Coast Guard,

0308-597X/93/040272-22

0

1993 Butterworth-Heinemann

Ltd

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The author can be contacted at 145 Bolton Branch Road, Coventry, CT 06238, USA. Tel: +l (203) 643 2606. The author wishes to express his gratitude to Professor Dennis J. Stone of the University of Connecticut School of Law for his advice and direction. ‘Cynthia Johnson, ‘The Oil Pollution Act of 1990: a long time coming’, Fordham Environmental Law Report, 2, Winter 1990, p 59, at p 63. “Limitation of Shipowners’ Liability Act, 46 USCA 66 181-189 (1851) limited a shioowners’iability to the value of the interest of such owner in the vessel and her freight then pending. This specific statute no longer applies in either federal or state actions against responsible parties in an oil pollution accident. See discussion below. 3The final version of the bill was approved by the Senate (99-O). 136 Cong Ret Sl 1 547 (daily ed, 2 August 1990) and by the House (360-o). 136 Cong reg H6 949 (daily ed, 3 August 1990). 40il Pollution Act of 1990, Pub L No lOl380, 104 Stat 484 (1990). 533 USC 5 2716 [(d)](e), [(e)](f) (1992). 633 USC 5 2702 (1992). 71bid at 0 2702. 833 USC 5 1319 (1992). ‘33 USC 9 2718 (1992). “33 USC 0s 1251-1387 (1972) “Protection and Indemnity Clubs (P&l Clubs), provide indemnity insurance policies to vessel owners. The Clubs act as mutual associations where vessel owners band together and agree to cover normally uninsurable financial losses through an insurance pool, where risk and payment is spread across all members of the association Presently most vessel owners receive $500 million in ‘cover’ for oil pollution incidents. In addition, members are able to purchase an extra $200 million in additional insurance to bring total available P&l pollution coverage to $700 million (Abrams, ‘Pollution insurance limits to fall, industry fears’ Journal of Commerce, 7 October 1992, p 8b). “33 USC 5 2716 (1992). 1333 USC 5 1321 Set 5 (1992). “‘CG Dot. 91-005. 24 Januarv 1992. # 253. 15Even allowing for some continued water shipment, there would probably be a shortfall of at least 7-8 million barrels per day, or almost half of US oil consumption. Comments of the American Petroleum Institute to the Notice of Proposed Rulemaking concerning, ‘Financial Responsibility for Water Pollution (Vessels)‘, CG Dot #91005,24 January 1992, #253, Part IB at 11.

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under the Secretary of Transportation, has been delegated the responsibility, with a unanimous mandate from Congress and full support from the executive branch, to finalize and implement the provisions of the Oil Pollution Act.i3 There are three main camps in the debate and all are not mutually exclusive. The Coast Guard has interpreted the intent of Congress to set up a regulatory system which will ensure that the responsible party pay promptly and fully for the costs of clean-up and damage of an oil spill. Environmentalists focus on protecting the marine environment; their position stems from the fact that the responsible party (and any financially-related party able to pay), should not only pay promptly for the removal and clean-up of any oil spill, but should also somehow be held directly accountable for the irreparable damage to the environment - through the permanent loss of a species of wildlife, fish, etc. The oil companies, vessel owners, and P&I Clubs stand to lose economically from each spill and clean-up and therefore wish to minimize the number of spills and thus indirectly, the damage to the environment. However, P&I Clubs represent the real economic issue. If the provisions of the Oil Pollution Act concerning evidence of financial responsibility are finalized as at present, the P&I Clubs will refuse to act as guarantors and therefore will not provide oil pollution insurance cover for the independent foreign tanker owners. The tanker owners, who account for roughly 70% of US imported waterborne oil ~upply,‘~ will then lack the adequate financial cover to satisfy the evidence of financial responsibility provision. The Coast Guard, enforcing the remaining provisions of the act, would be required by law to refuse to issue tanker owners certificates of financial responsibility. Without the certificates, tanker owners could not legally enter and operate in US navigable waters. The end result could be a 50% overall reduction in the supply of petroleum to the USA.” The US economy, under these circumstances, would crash to a virtual halt. The irreparable impact of even a brief interruption of the oil supply would damage the central economy and negatively affect the nation’s GNP for years. The delicate balance that must be found lies between adequate and necessary compensation for the damage inflicted by a major oil spill, and reasonable limits on recovery so as to encourage a higher standard of vigilance against oil spills within the tanker industry. The danger of unlimited, multi-tiered, direct action liability predicts a rather bleak future for the tanker industry, possibly encouraging lower standard corporations with single tanker operations to ship in US waters. A compromise must be reached to implement a workable set of provisions concerning evidence of financial responsibility before the next Exxon Valdez occurs. Under the Oil Pollution Act of 1990, a major catastrophe the size of the Exxon Valdez would cost billions of dollars, possibly bankrupting any and all parties held directly liable for the assessed costs of the spill. The central issue examined in this paper will focus directly upon the refusal of the P&I Clubs to provide insurance ‘cover’ as evidence of financial responsibility, under either the Oil Pollution Act of 1990, or any state oil pollution regulations that define the P&I Clubs as ‘guarantors’ of the responsible party. In the first section, a brief outline is given of the history of the Oil Pollution Act of 1990 and preceding statutes, namely the Federal Water Pollution Control Act (FWPCA), amended as the Clean Water Act

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(CWA) of 1972, and then amended again as the FWPCA of 1977. The second section analyses the key provisions of the Oil Pollution Act in force at present, concerning: liability limits, exceptions that remove the limits, defences available to exempt liability, damages, civil and criminal penalty provisions, individual state action, evidence of financial responsibility, and direct action provisions. The third section examines various comments from concerned parties involved in the oil shipping industry. The proposals reviewed were submitted to the Coast Guard in response to the Notice on Proposed Rules published in the Federal Register on 27 September 1991 ,I6 as various alternative options to the present interpretation of the provisions regarding evidence of financial responsibility. The fourth and final section attempts to form an ideal proposition in light of the matrix of options available and contrasts it with the reality of what may actually occur.

The Oil Pollution Act of 1990

%6 “43 ‘*For tory

Fed. Reg 49OOG490021. Stat 604 (1924). a brief discussion of various regulaschemes and previously applicable liability levels see Johnson op tit, Ref 1. 1933 USCA 05 1251-1376 (1992). “‘For example the Trans Alaska Pipeline

Authorization Act, the Deepwater Port Act, and the Outer Continental Shelf Lands Act.

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The original Oil Pollution Act of 1924 bears virtually no resemblance to the comprehensive oil spill legislation passed by Congress in 1990. Under the 1924 act, a responsible party was exempted from liability for the discharge of oil if the pollution resulted from an ‘Emergency imperiling life or property or unavoidable accident, collision or stranding’.” These exceptions carved out such a substantial area of exemption that virtually every spill that did not show wilful misconduct by the polluter fell outside the range of responsible party liability. Nevertheless, throughout the brief history of US federal oil pollution regulation, the potential liability levels of the responsible party have slowly but consistently increased, while the defences available exempting liability have decreased. Thus, the essential questions facing Congress, the Coast Guard, the industry, and the USA are the following: (1) Has Congress gone too far by combining potential unlimited liability and penalties with a lack of plausible defences, given the nature and magnitude of today’s massive oil spills? (2) Do the provisions of the Oil Pollution Act of 1990 reach the point at which potential liability and penalties outweigh not only the financial interest of the owner in the single voyage to the USA, but also the interest of both responsible operators and insurers to participate in the US oil shipping industry itself? On 18 August 1990, the Oil Pollution Act of 1990 consolidated all previously enacted oil spill legislation and for the first time, provided operators working in US navigable waters with a single comprehensive set of regulations governing practically all aspects of petroleum-related operations. Until the Oil Pollution Act of 1990, modern day regulations governing oil spill liability were mainly covered by what many have called a ‘patchwork’ of different legislative acts passed in the late 1960s and early 197Os.ls For the pu r p oses of this paper, the most important of these is the Federal Water Pollution Control Act (FWPCA), commonly referred to as the Clean Water Act of 1972.‘” The Clean Water Act (CWA), regulated vessels operating in US navigable waters, adjoining shorelines and in the waters of the contiguous zone, in connection with other acts consolidated under the Oil Pollution Act of 1990.” The CWA established levels of liability for oil spill removal and clean-up costs, set up an oil spill response contingency plan, and imposed criminal sanctions for wilful misconduct and other

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“‘33 2233 =33 2426

USC 45 1321-1376 (1972). USC 8 2712 (a) (1992). USC 0 2715 (1992). USC 5 9509 (b) 4-8 (1992). Official Coast Guard estimates as of 31 January 1993 place the total funds available in the Fund for clean-up and removal at over $843 million. %bid, (b) 1. =/bid, (bj 2. 27Present industry oil pollution insurance levels exist at $700 million (see Ref 101. The National Oil Spill Liabili$ Trust Funk maintains a level at $1 billion and the maximum payment allowed per single soill is not to exceed $1 billion. 26 USC-§ 9509 (c) (2) (A) (1) (1992). The Exxon Valdez $ill‘h& &&dy co& Exxon $2.5 billion to clean-up. 28Responses of INTERTANKO to the Reoulato+ impact analysis questions. Cs Dot. 91-005, #220 (a), Question 1, 1 November 1991. %G Dot 91-005, 24 January 1992, at #220, p 1.

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actions concerning oil spills in US waters.‘l The CWA, which had originally amended the Federal Water Pollution Control Act (FWPCA), was amended again as the FWPCA in 1973 and 1977. The final revisions of 1977 set the limits of liability, the requirements surrounding evidence of financial responsibility, and the defences available to a third party insurer. The limits, requirements and defences remain in effect at present for third parties, namely the P&I Clubs which provide the pollution liability insurance cover to satisfy the Coast Guard requirements under the CWA for the issuance of certificates of financial responsibility. These certificates allow tanker owners to enter and operate in US navigable waters legally. The Clean Water Act established the National Oil Spill Liability Trust Fund. The Fund, consolidated under the Oil Pollution Act of 1990, was designed to compensate parties for oil spill removal costs incurred by parties responding to an accident that were consistent with the National Contingency Plan .** The Fund functions as an interim measure of financial support for those engaging in clean-up operations. Once payments are made by the Fund to parties which have incurred clean-up costs, the rights of compensated parties are subrogated to the Fund, and the Fund then proceeds directly against the responsible party and any other parties deemed liable for removal and clean-up costs.23 The Fund currently receives the proceeds of the penalties previously paid under the CWA, the Deepwater Port Act of 1974, the Trans Alaska Pipeline Authorization Act, and the Outer Continental Shelf Lands Act of 1978.24 In addition, the Fund receives the majority of its capital from 5% per barrel federal domestic and import excise tax levied on crude oil and petroleum products,25 and from amounts recovered under the Oil Pollution Act of 1990 for damages to natural resources.26 The Fund is a target of proposals by the Norwegian Shipowners’ Association and Greek Shipping Cooperation Committee, as a possible source for a US government sponsored Comprehensive Insurance Plan. The Plan, discussed in detail below, would provide a source to guarantee mandatory pollution insurance cover for vessel owners up to US$2 billion.27 The plan is ‘strongly supported’ by the International Association of Independent Tanker Owners (INTERTANKO),*s an association that represents roughly 85% of the world’s tanker tonnage.29 The plan as proposed would require a radical departure from the original intent of the Congress in the organization of the National Oil Spill Liability Trust Fund as an interim source of financial support for costs of removal and clean-up. Thus, although the plan may present a viable option to bring levels of insurance closer to the ultimate objectives of prompt payment for all clean-up and removal costs, Congress is not likely as an initial step to intervene and amend not only the Oil Pollution Act of 1990, but also the federal tax code underlying domestic and imported crude oil and petroleum products. The Oil Pollution Act has taken centre stage as the official comprehensive policy of the USA with regard to the regulation of oil pollution. Certain provisions of previous oil spill regulatory schemes will continue to remain in force until new provisions are finalized by the Coast Guard. Nevertheless, the Oil Pollution Act has consolidated all previous acts under one federal oil spill liability regime and has formulated a clear US direction and message to the oil industry. Oil spills will be taken seriously, and the US government will do everything within its regulatory power to recoup completely the financial impact of any oil spill

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directly affecting US navigable waters. In the following section, the provisions that have created the most significant changes in the basic structure of oil spill liability will be examined in detail and contrasted with the previous provisions of the various acts consolidated under the Oil Pollution Act.

Provisions of the FWPCA and their counterparts Pollution Act

in the Oil

The Oil Pollution Act of 1990 altered a number of key provisions of prior federal oil pollution legislation. The changes radically increase the possibility for the complete recovery of substantial costs of removal and environmental damages sustained by individual states and the federal government in the event of a massive oil spill. However, the downside to such a comprehensive liability scheme lies in the fact that if the provisions as written and proposed are rigidly enforced, few shipowners will be able to comply with the Oil Pollution Act, and would not legally be allowed to enter US navigable waters. Discussed in this section are the provisions relating to: liability limits, exceptions available to remove the limits, defences available to exempt liability, natural resource damage assessment, civil and criminal penalty provisions as assessed against liable parties, independent state action, evidence concerning financial responsibility, and direct action by plaintiffs. Established limits of liability

=‘33 USC 0 1321 (p) (1977). 3’33 USC 8 2704 (1992), emphasis added.

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The Federal Water Pollution Control Act amendments of 1977 established previous liability limits for vessel owners. Vessel owners were required to carry evidence of financial responsibility of: $125 per gross ton for an inland oil barge or $125 000 (whichever was greater), and $150 per gross ton for all other vessels carrying oil, or $250 000 (whichever greater), to meet the ‘liability to the United States which such vessel could be subjected [to] under this section’.“a The Oil Pollution Act of 1990 raised the levels of liability stating, ‘Except as otherwise provided in this section, the total of liability of a responsible party under section 2702 of this title and any removal costs incurred by, or on behalf of, the responsible party, with respect to each incident shall not exceed - [emphasis added]’ for a tank vessel, the greater of $1 200 per gross ton; or in the case of a vessel greater than 3 000 gross tons (which would include nearly all VLCCs) $10 000 000; or in the case of a vessel of 3 000 gross tons or less, $2 000 000.31 If the levels of liability were strictly construed to the limits set forth, even though appearing to be a substantial increase over the previous levels, they would fall well within the range of oil pollution insurance cover currently available from the international P&I Clubs. At present, it is important to note that the old CWA provisions regarding levels of liability ($150 per gross ton or $10 million, whichever is greater), remain in force for the third party P&I Clubs who provide indemnity insurance cover for vessel owners. The P&I coverage is deemed sufficient to meet the required Coast Guard standards for evidence of financial responsibility. Even though the tanker owners are required to show evidence of financial ability to cover a spill up to the new $1 200 per gross ton limits, the P&I Clubs, through their policy agreements, will not be expected to cover more than the maximum liability incurred under the old $150 limits. Until the provisions regarding evidence of financial responsibility

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(analysed below) are finalized by the Coast Guard, the P&I Clubs will be held responsible only under the previous provisions and only up to the CWA limits. The vessel operators, on the other hand, are presently liable for full removal and clean-up costs up to the new prescribed limits. Exceptions that nullify liability limits

32The Petroleum Industry Research Foundation Inc (Pirinc) stated, ‘In addition, liability limits do not apply if the spill is a result of a federal regulation or safety standard. The combination of provisions means that most spills will breach OPA’s defences’, Oil & Gas, 27 July 1992, Transportation at 38. %tated by Charles B. Anderson, a partner at Haight, Gardner, Poor & Havens in the Journal of Commerce,5 October 1992, p lb. 3433 USC 8 2704 (c) l-2 (1992). 35For example, Captain Hazelwood’s intoxication might have satisfied the gross negligence of the responsible party provision. Failure of the Valdez to return to the outbound shipping lanes in Prince William Sound would probably be a Federal operating violation. Possibly the lack of cleanup equipment on hand would make Exxon’s efforts to cooperate and assist with the removal activities fall short of the ‘reasonable cooperation’ required by the fourth exception. =33 USC 3 2703 (1992). 3733 USC 5 1321 (f) (1) (c) (repeated by OPA).

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Although the wording in Section 2704(a) specifically states, ‘the total and any removal costs . . . shall not exceed’, the limits on liability . . . liability are subject to certain broad exceptions. In the event that the spill falls under any available exception - the stated limits do not apply. In such a case, the US government and all other potential plaintiffs would recover the full amount of all costs incurred by the responsible party, subject only to the limits of the owner’s (and possibly insurer’s) existing assets. A brief investigation would reveal that virtually every contemporary major oil spill would fall under at least one of the provisions are so weak as to be almost exceptions: 32 ‘The limitation meaningless’ .33 An extensive spill under the Oil Pollution Act would subject responsible parties and their insurer or ‘guarantor’ to unlimited liability for removal and clean-up costs. The exceptions that remove the limits of liability include: (1) no limit to liability if the proximate cause of the spill was a result of either gross negligence or willful misconduct of the responsible party, (2) no limit to liability if the incident was proximately caused by violation of an applicable federal safety, construction, or operating regulation by the responsible party, (3) no limit to liability for failure or refusal of the responsible party to report the incident as required by the act, (4) no limit if the responsible party fails or refuses to provide all reasonable cooperation and assistance requested by a responsible official in connection with removal activities, and (5) no limit for failure or refusal without sufficient cause, to comply with an order issued under 8311 of the FWPCA or under the Intervention on the High Seas Act.‘4 The Exxon Valdez incident could have possibly fallen under three or more of the exception provisions.s5 Given the scope of these exceptions, major oil spills in the future, if not exempted under the provisions listing the available defences to liability, would consistently be subject to unlimited liability. A brief examination of the available defences lends support to this conclusion. Defences available to extinguish liability The defences available to exempt a responsible party from liability under the Oil Pollution Act of 1990 require the defendant to prove by a preponderance of the evidence that the spill occurred as a result of either: (1) an act of god, (2) an act of war, or (3) an act or omission of a third party, unrelated to the responsible party defendant.“” While the old provisions of the Clean Water Act provided that negligence by the US government was a defence available to limit responsible party liability,37 government negligence is specifically excluded as a defence under the new provisions. Thus, if the USA is not at war and a third party is not involved, a responsible party will most likely be held liable up to the full costs under the liability provision for removal and clean-up of the spill. It logically follows that if the spill is substantial and it falls under one of the exceptions releasing the provisional limits on liability, the vessel owner and possibly the insurer (under the direct action

Crisis in the oil industry

provisions of the statute mited liability.

discussed

below),

would

probably

face unli-

Damages

=33 USC 5 2702 (2) (A-F) (1992). “Rodriguez and Jaffe, ‘The Oil Pollution Act of 1990’, Tulane Marine Law Journal, Vol 15, No 1, Fall 1990, pp 14-l 5. @rhe Harvard Law Review Association. ‘Ask a silly question “Contingent valua: tion of natural resource damage” ’ Harvard Law Review, Vol 105, p 1992, 1992.

Unlimited liability would pose a substantial threat to vessel owners operating in US navigable waters, even if it included only costs for removal and clean-up. However, the Oil Pollution Act of 1990 differs from the Clean Water Act in that liability for a spill is calculated according to removal and clean-up costs incurred and damages. Damages are assessed on the basis of injury to natural resources, injury to or destruction of real or personal property, loss of subsistence, use of natural resources, loss of revenues on the use of natural resources and personal property (through the loss of taxes), loss of profits and earning capacities, and the costs of providing additional public services due to the spi11.38 The factors providing for damages give standing to an enormous class of new plaintiffs who were traditionaliy excluded from bringing suit. Additional plaintiffs, who include such parties as recreational fishermen, tackle and bait shops, seafood restaurants, marina and boat rental operators, and wholesale seafood enterprises affected by the spill (even when not involved with activities directly in the spill area),” would not only substantially raise the number of separate private suits brought against the responsible party, but also would greatly increase the assessment and amount of damages ultimately paid out by the responsible party. In addition to the private plaintiffs, the courts could also assess the amount of damages sustained by the environment through the use of a contingent valuation (CV) standard. CV assessments attempt to measure both the use and non-use dollar value levels of natural resources to citizens. The difficulty lies in the fact that natural resources, such as the enjoyment of bird watchers, or the pleasure of non-commercial fishermen, are not traded in a market system. Therefore, the natural resources do not have a recognized standard market value and it becomes difficult to assess the diminution in value of the natural resources affected by the spill. For example, a CV assessment would attempt to measure accurately the dollar amount of personal damage suffered by a New Yorker (with no intention of ever visiting Prince William Sound, Alaska), as a result of the level of reduction the Exxon Valdez oil spill had on his use and enjoyment of the environment. Mere knowledge that the spill occurred and the environment was damaged would be sufficient to warrant a dollar value assessment. The application of a CV assessment to a major spill, such as the Exxon Valdez, could unquestionably raise the level of liability of the responsible party substantially above the $2.5 billion dollars expended by Exxon. Damages in the billions of dollars could be calculated by considering damages to the natural resources alone. Given the current state of the art, contingent valuation is estimated to be not more accurate than k 50% of the actual measured value.40 Yet, if relied upon heavily in the courts, the damages assessed against the responsible party could prove incalculably high. Civil and criminal Denalties Although the deterrent factor damage assessment, combined

of contingent valued with the exceptions

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4’33 USC 6 1321 (3) (1992). 4233 USC 5 1321 (B) (i) (1992). %id at (B) (i). ?bid at (B) (ii). “?bid at (7) (A). 46/hid at (7) (B) (i-ii). 47/hid at (7) (D). @‘Greek tanker spill estimated’, The Hartford Courant, 14 December 1992, p A2. 4933 USC 6 2701 (21) (1992). 5o33 USC 8 1319 (c) (1992). =’ Ibid.

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liability, could accomplish the dual goals of both assuring capital for clean-up and raising the level of vigilance of the tanker industry against oil spill accidents, the Oil Pollution Act of 1990 also provides for the assessment of civil and criminal penalties against responsible parties, for the discharge of oil into US waters. Civil penalties are assessed in the event of a discharge of oil into US navigable waters, adjoining shorelines, contiguous zone, or in connection with a violation of the Outer Continental Shelf Lands Act or Deepwater Port Act.41 Any responsible party who discharges oil or fails to comply with an order issued by the appropriate Coast Guard agency would be assessed either a Class I or Class II penalty. Class I penalties should not exceed $10 000 per violation and accrue up to a maximum of $25 000 per spi1l.42 Responsible parties assessed a Class I penalty would be granted notice and opportunity to be heard, to present evidence before the appropriate administrative agency assessing the penalty.43 The more severe Class II penalties allow for a civil penalty of $10 000 each day of the violation and not more than $125 000 maximum for the complete penalty.44 However, if the responsible party is not assessed a Class I or Class II administrative civil penalty, then the violator could be found liable under an additional civil penalty section. Under paragraph 7, a responsible party could be assessed a fine of $25 000 per day or $1 000 per barrel of oil spilled, for an unexempted discharge.4” In addition, if the party is found to have improperly carried out removal, or has failed to comply with an order concerning removal, the responsible party would be liable for up to $25 000 per day or three times the costs incurred by the National Oil Spill Liability Trust Fund in cleaning up the spill.46 The most severe civil penalty available requires the gross negligence or wilful misconduct of the responsible party. In the event of either gross negligence or wilful misconduct by the responsible party, a civil penalty of not less than $100 000 and not more than $3 000 per barrel of oil spilled, would be assessed against the responsible party.47 The last figure is by far the most important with regard to civil penalties. If the responsible party was charged with gross negligence, in the event of a major oil spill the size of the Exxon V&fez (estimated at approximately 11 million gallons), the civil penalties assessed could reach approximately $785 712 000 for the oil spilled. The most recent massive spill on record at the timi of writing involved 21.5 million gallons of crude spilled off the coast of Spain, by the Greek Tanker the Aegean Sea.48 If the tanker had been operating in US waters (navigable waters and the three mile territorial sea)“” and the spill had been a result of gross negligence, the responsible party would have faced approximately $1.5 billion in civil penalties. In addition to civil penalties, the government may also enforce criminal penalties against the responsible party. Three standards of criminal penalties exist under the Oil Pollution Act. First, for a ‘negligent’ violation, the responsible party could be held liable for $25 000 per day of violation and up to one year in prison.“’ Second, if the responsible party commits a ‘knowing violation’ the fine can be up to $50 000 per day and three years in prison.51 Third, under a worst case scenario, where a vessel operator could be held criminally liable for ‘knowing endangerment’ defined under the act as an action that places another person in imminent danger of death or severe bodily harm, an individual would be liable for a fine of up to f250 000 and for an organization $1 000 000, in addition to a possible 15-year maximum

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prison sentence. 52 Considering the fact that the assessment of civil and criminal panalties are separate from the liabilities for removal, clean-up, and damages, the intent of Congress to provide numerous avenues to recover the costs involved in a major oil spill quickly and completely becomes both apparent and firmly grounded in fact, within these provisions of the Oil Pollution Act. One of the main objectives of the Oil Pollution Act was to structure a regulatory regime that would effectively increase the day-to-day operational standards of tankers entering US waters. However, numerous lawyers in the shipping industry are suggesting that the best course of action for any shipowner trading in the USA to guard against a potentially ruinous civil or criminal lawsuit under the Oil Pollution Act is to split technical and commercial operations. At the Tanker 92 conference, W. Thaddeus Miller, a partner at Watson, Farley & William, stated that ship-owning companies should restructure their shipping activities and separate high-risk from low-risk operations to minimize exposure to the Oil Pollution Act.53 By giving the technical management department of the high-risk tanker operations maximum independence from the ship owning company, the owners are able to isolate the parent company from the high-risk entity and minimize the possible consequences of direct responsibility for criminal liability and sanctions. Unfortunately, the activity of splitting operations between owners and operators is counterproductive to the underlying intent of the Oil Pollution Act. Increased vigilance and acceptance of responsibility by the owners was a central objective of the Oil Pollution Act. The inclusion of such severe civil and criminal penalties may have pushed the level of risk too far, and forced responsible investing ship owners to delegate authority and isolate operations even further than before the Oil Pollution Act. Preservation of state sovereignty

=/bid. 53’Marine insurers blast advice on spill liability’ Journal of Commerce, 23 September 1992, Maritime p 8b. 5446 USCA 0 181-189 (1851). ?bid at 183(a) (1851). 5633 USC 0 2718 (a) (1) (1992).

All prior federal oil pollution legislation technically preempted the individual state’s authority to pursue separate state action on behalf of claimants. Procedurally, this was accomplished by allowing the states to enact their own oil spill liability regulations, on the condition that all state regulation concerning oil spill liability be subject to the Limitation of Shipowners’ Liability Act of 1851. 59 The Limitation of Liability Act, at Section 183(a), states that, ‘The liability of the owner of any vessel . . . without the privity or knowledge of such owner or owners, shall not . . . exceed the amount or value of the interest of such owner in such vessel, and her freight then pending’.55 In the event of a major oil spill, most of the freight pending would be lost to the sea, and the value of the interest remaining in the shredded hull would most often leave the owners’ interest in the vessel, after the payment of removal and clean-up costs at the federal level, at zero. The Limitation of Shipowners’ Liability Act thus had the effect of precluding recovery at the state level. Under the Oil Pollution Act of 1990 individual states are fully able to pursue independent state action. Section 2718 of the Oil Pollution Act clearly states that ‘nothing in the Solid Waste Disposal Act or the Act of March 3, 1851 (Limitation of Shipowners’ Liability Act), shall, affect or be construed or interpreted as preempting the authority of any state or political subdivision thereof from imposing any additional liability or directly encourages additional state requirements’ .56 The provision

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action. Ultimately, this provision has had the effect of increasing both the number of possible forums in which the responsible party would have to defend, and more importantly, has further raised the possible levels of liability exposure responsible parties face. At present 19 out of 24 coastal states maintain unlimited strict joint and several liability statutes for oil pollution accidents.“’ In addition to unlimited liability, certain states have created funds similar to the National Oil Spill Liability Trust Fund. California, for example, has established a $100 000 000 clean-up fund, and has imposed a 2% per barrel tariff to support the fund. Other California regulations include: surprise tanker inspections, evidence of financial responsibility provisions set at $500 million (to be increased to $1 billion by the year 2000), fines of $10 per gallon for a negligent oil spill (up to $30 per gallon for oil spilled through gross negligence or wilful misconduct), and, more notably, provisions that follow international agreements that hold both the ship owners and cargo owners liable for the costs of removal and clean-up of a spill. 58 Other states have enacted similar comprehensive oil pollution clean-up and liability plans that reach beyond the regulatory scheme of the Oil Pollution Act of 1990.61 However, the Petroleum Industry Research Foundation Inc (Pirinc) has stated, ‘Some state regulations are draconian, and compliance with conflicting overlapping state regulations has become so burdensome that to date, they have caused more changes in ship deployment patterns than the Oil Pollution Act itself’ .60 Increasingly complex and extensive state regulation will serve to compound rather than alleviate the central issue of unlimited liability in the event of a major oil spill. In addition, it raises further questions, namely: in the event of a bankrupting spill, which court and which plaintiffs will have priority in payment from the owner’s available funds? Second, and more importantly for the remainder of this article, the question is: how far will both the federal and state courts allow plaintiffs to pursue full compensation for all costs incurred, most specifically, by going behind the vessel owner’s assets and pursuing direct action against the assets of insurers and underwriters who provide the oil pollution liability coverage? Evidence of financial responsibility

57’Tanker owners cope with OPA, but. .‘, Oil and Gas Journal, 27 July 1992, Transportation p 39. 58CAL, GOV’T CODE $5 8670.38 et seq (West Supp 1991). 5gSee for example, FLA STAT, 93 376.001 et seq (1992), or ALASKA STAT 00 46.04.030 et seq (1991). “‘Tanker owners cope with OPA, but .‘, op tit, Ref 58, Transportation p 38. 6’33 USC 5 1321 (p) (1972). 62/hid.

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Under the Clean Water Act, in order to enter United States navigable waters legally, vessel owners carrying oil or hazardous substances as cargo or fuel had to establish and maintain evidence of financial responsibility to the maximum prescribed limits under the act,61 (see discussion on prior liability limits above). A vessel owner was able to establish evidence of financial responsibility by showing either one or a combination of either: (1) evidence of insurance, (2) surety bonds, (3) qualification as a self-insurer, or (4) other evidence of financial responsibility.62 Under the CWA, the Coast Guard accepted evidence of membership in a P&I Club as sufficient to satisfy element (4) ‘other evidence of financial responsibility’. The P&I Clubs would maintain indemnity insurance policies with their members, and would agree to indemnify a member financially, in the event of an oil spill by a member owner. P&I Clubs were formed in the mid-19th century by groups of ship owners that banded together to form mutual non-profit associations to cover uninsurable risks. The associations operated on principles of

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63Haden and Balick, ‘Admiralty Law Institute Symposium: Marine Insurance: Varieties, Combinations, and Coverages’, Tulane Law Review, Vol 66, 1991, p 314. ““Abrams op cit. Ref 11, p 8b. 65UK P&l Club, Rules, Rule 2(i) (1993). =33 USC 5 1321 (p) (3) (1972).

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mutuality, where risk was accepted jointly and reciprocally, in order to protect certain aspects of ship owner ventures that fell outside the scope of regular purchasable hull insurance. The P&I Clubs functioned on the concept that each member was at the same time insurer and insured. Thereby, they preserved their members by jointly accepting the risk of loss concerning the operational activities of a vessel, that no individual owner could sustain alone. Although not official mutual insurance companies, acceptance of ‘membership’ into one of the P&I Clubs signified that the owner had obtained coverage under the umbrella of protection afforded by the association. The P&I Clubs have evolved over time to cover a substantial number of risks, above and beyond the normal cargo and hull insurance, and have come to play an essential part in the oil shipping operations of nearly all of the world’s tanker fleets. P&I Clubs are now companies limited by guarantee. ‘Today it is impossible to envision a marine industry without P&I insurance; it would be unthinkable to omit it from any marine departments’.6” Specifically with regard to oil pollution insurance, tanker owners are able to depend on P&I Club insurance up to $500 million, and owners are able to purchase an additional, ‘excess’ amount of $200 million, bringing the maximum amount of P&I Club insurance to a total of $700 million.64 The P&I Clubs usually pay the first $14 million in owner claims themselves and the rest of the coverage is obtained in the reinsurance markets. Most of the reinsurance is purchased through Lloyd’s of London. The fact that Exxon has spent over f2.5 billion in the Vuldez clean-up alone, however, emphasizes the serious inadequacy of the maximum levels of tanker insurance currently available. This discrepancy between the actual clean-up costs incurred and the maximum levels of available insurance points directly to one of the central arguments of both the government and the environmentalists - more financial resources must be available to cover the cost of cleaning up the damage of a major oil spill. Official policies of each P&I Club are dictated in the particular club’s handbook, published as the ‘Rules’ of the club. Each rulebook lists the risks covered by the association and the conditions under which payments will be made on behalf of members incurring liability. P&I Clubs have always functioned on the basis of indemnity. Indemnity provisions provide that the club will reimburse a vessel owner only up to the amount that the vessel has already paid out. P&I Clubs, as a basis of policy, limit the coverage so as to negate the possibility that the club would ever be subject to direct action by third party claims resulting from members’ liability. The United Kingdom Mutual Steam Ship Assurance Association’s Rules state, ‘Unless and to the extent that the Directors otherwise decide, an Owner is only insured in respect of such sums as he has paid to discharge the liabilities or to pay the losses, costs or expenses referred to in those sections’.6” Therefore, the highest levels of payment the indemnity provisions would allow, in the event of an unlimited liability spill on the part of a vessel owner, would effectively be, at most, the total financial assets of the individual member involved. The Oil Pollution Act of 1990, however, as worded, raises the legal possibility that the assets of both operator and insurer would be fully accessible to all plaintiff claims. Under the original provisions of the Clean Water Act, a provision existed allowing direct action against the insurer or any other party who had provided evidence of financial responsibility for the vessel owner. 66 The idea of direct action against

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67/hid. 68Black’s Law Dictionary, 6 ed, 1990, p 808. 6Q1bid, p 705. 7033 USC 0 2701 (13) (1992). “Not only the P&l Clubs face increased liability from the Oil Pollution Act. Banks which hold mortgages of shipowners may also become directly liable when the loan guarantee names the mortgage holder (the bank) as the owner of the vessel. ‘Banks are looking at three alternatives’, stated Michael Northmore, vice president of the marine and energy division at Johnson & Higgins, a major marine insurance broker. ‘They can stop lending to shipowners, they can demand that shipowners buy much higher oil pollution insurance, a position most shipowners are not in, or they can seek to cover the amount of the outstanding loan by insuring it’. The final option allows the banks to minimize the risk of pollution liability at the lowest cost by insuring the loan for the total value of the vessel. Many in industry are choosing this method as a form of protection against liability. ‘Insurance financing begins to dry up for US Oil Carriers’ Journal of Commerce, 20 August 1991, p Maritime IB. Gg;%dJSC 5 2716 [(e)](f) (1992). 74Russ Banham, ‘P&l Clubs resist rules under Oil Pollution Act’, Journal of Commerce, 4 September 1992, p 8c.

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the insurer, therefore, had existed previously and did not appear to be a threat, when incorporated into the Oil Pollution Act. However, direct action under the Clean Water Act did not pose a substantial problem for the P&I Clubs due to the fact that the direct action provision of the CWA specifically entitled the insurer to invoke all rights and defences which would have been available to the insurer, had the action been brought directly by the owner of the vessel against the insurer.67 The policy defence of indemnity, or rather that the P&I Club would not make payments until the responsible vessel owner ‘paid out’ first, served as a complete defence to liability. Followed to its conclusion, the indemnity defence had the ultimate effect of technically insulating the P&I Club from direct action liability, thereby limiting the recovery of the claimants strictly to the financial resources of the responsible party. The provisions concerning ‘Financial Responsibility’ under the Oil Pollution Act of 1990 have not yet been finalized by the Coast Guard. However, when creating Section 2716 of the Oil Pollution Act, Congress specifically made two key changes which could serve to create both direct action against and direct access to the assets of the P&I Clubs that issue the certificates of financial responsibility. The first significant change replaced the word ‘insurer’ with the word ‘guarantor’. ‘To means: ‘To engage to insure’, as defined in Black’s Law Dictionary indemnify a person against pecuniary loss from specified perils or possible liability. 65 While, ‘to guaranty’, is to ‘agree to satisfy the debt of another, if and when the debtor fails to repay’.69 Section 2701(13) defines ‘guarantor’ to mean any person, other than the responsible party, who provides evidence of financial responsibility for a resonsible party under this act. 7o The difference if interpreted as such by the courts, substantially changes the status of the P&I Clubs and in effect, negates their policy provisions. As a ‘guarantor’, P&I Clubs would be held directly accountable for the incurred liability of their members from the moment when the member’s assets were expended and the member was unable to pay further claims.75 Whatever doubt Congress might have left by the alteration in wording was erased by the second change in the statute. The specific sentence states, ‘the guarantor may not invoke any other defence that might be available in proceedings brought by the responsible party against the guarantor’.72 This sentence deletes the indemnity defence as it existed under the CWA and effectively puts the P&I Clubs on notice that, in the absence of ‘wilful misconduct’ by the responsible party,73 the P&I Club issuing a certificate of financial responsibility will be held directly accountable for all liability that falls beyond the financial resources of the responsible party. The International Group of P&I Clubs has resolutely refused to provide certificates of financial responsibility under these conditions. Lloyd Watkins, secretary and general officer of the International Group of P&I Clubs, stated: ‘Our position remains the same, and we will not provide certification under OPA ‘90 or under any potential state oil pollution laws’.74 Surveying the provisions concerning: liability limits (and the numerous exceptions that remove the cap), lack of defences to extinguish liability, damage assessment to the natural resources (using a contingent valuation standard), civil and criminal penalties (enforceable with any discharge or non-compliance with clean-up), and independent state actions, the controversy over the direct action provision allowing access to the insurer’s assets through evidence of financial responsibility comes into focus.

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75Newsletter published by environmental consulting firm World Information Systems. ‘@Decline listed for spills off the US’, Journal of Commerce, 5 October 1992, Transportation p 30. “/bid. The spill was the Shako A&u, a Japanese tanker that spilled 96 000 gallons of crude into the Texas City Channel on 17 July 1992. 78Associated Press, ‘Oil spill in tanker grounding threatens Spanish Coast’, The Hartford Courant, 4 December 1992, p A8. 790n 5 January 1993, the oil tanker M/T Braer ran aground off the Shetland Islands spilling 24 million gallons of crude oil into the waters and onto the surrounding coast of the islands. Original estimates placed the spill at 26 million gallons as the tanker split into four pieces after being battered for six days by 30 foot surf in hurricane force winds and waters (‘Storm batters wrecked tanker, worsening‘oil spill in Shetlands’), New York Times, 12 Januarv 1993, ‘p Al. “56 Fed Reg 4900649021 (1991). “In the NPRM the Coast Guard stated that it will conduct a Regulatory Impact Analysis (RIA), assessing the economic impact of the proposed finalization of the provisions relating to the certificates of financial responsibility. The RIA is expected to be published in the Spring of 1993.

284

On the one hand, prompt and full payment must be made for costs of removal, clean-up, and permanent damage to the environment. A stricter oil pollution regulatory regime, designed to secure payment quickly, and penalize careless polluters of US waters, would have the effect of discouraging substandard operators from calling at US ports, while at the same time encouraging a higher standard of vigilance to operational and safety matters throughout the industry. The latest report available by Golob Oil Pollution Bulletin7” shows that there was less oil spilled from tankers in US waters in 1991 than in any year since o nl y one major spill of approximately 1978. 76 In addition, 96 000 gallons” occurred in US waters throughout 1992, to the time of writing. This is contrasted sharply with the 21.5 million gallon spill of the Aegean Sea off the Coast of La Coruna, Spain on 3 December 1992,‘s According to preliminary reports, the tanker ran aground while in radio contact with the harbour pilot, who was unable to reach the vessel under the severe weather conditions. A spokesman for Lloyds attributed the accident to, ‘extremely bad weather and very heavy fog’. If the owners and insurers of the Aegean Sea faced the possible unlimited liability of the Oil Pollution Act of 1990, perhaps they might have ordered the captain and crew to wait another day’.J9 Nevertheless, the reality of a situation is that the USA is heavily dependent upon the uninterrupted supply of foreign waterborne oil imports. The growth and competitive ability of much of the nation’s industry is interlocked with the guarantee of low-cost, high-volume resources of petroleum as an energy supply. The net effect of the Oil Pollution Act thus far has been positive. However, as long as oil is shipped in tankers subject to the perils of the sea, it will be impossible to ever eliminate all oil spills completely. If a viable solution is not reached with regard to the evidence of financial responsibility requirements, the end result could be a disastrous interruption in the oil supplied to the USA, combined with the flight of entire groups of high-quality tanker owners from US operations. The net effect would serve to increase the damage sustained to both the economy and environment, and decrease the available capital to finance clean-up operations. In the following section, comments from the industry itself are analysed regarding the requirements, as interpreted and proposed by the Coast Guard, concerning evidence of financial responsibility.

The Notice of Proposed Rulemaking On 26 September 1991, the Coast Guard published the Notice of Proposed Rulemaking (NPRM), concerning, ‘Financial Responsibility for Water Pollution (Vessels)‘. The NPRM contained the Coast Guard’s official statement on the provisions and put forward a set of 16 questions directly relating to the effect of the implementation of the provisions as written in the act.‘” The NPRM recognized that, under section 2716[(g)](h) of the Oil Pollution Act, all regulations relating to evidence of financial responsibility passed under previous legislation (CWA, DPA, OCSLA), remained in full force until superseded by a new regulation issued under the Oil Pollution Act. The Notice of Proposed Rulemaking served to give concerned parties notice and opportunity to be heard regarding the finalization of the financial responsibility provisi0ns.a’ At present, vessel owners are operating under the new liability limits

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‘=/bid.

83CG DOC 91-005,

24

January 1992, at

#213.

“‘Ibid at 3. 8533 USC Q 2716 ‘e/bid at 2.

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(1992).

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in the oil industry

($1 200 per gross ton), however, the old rules regarding evidence of financial responsibility ($150 per gross ton) remain in effect for third parties providing evidence of financial responsibility. Although insurance is obtained by the owners up to the new limits, their financial backing issuing certificates of responsibility (here the P&I Clubs) only remain liable up to the old limits. In addition, at present the insurers retain all the defences available under previous legislation (ie indemnity as a complete defence to direct action). The Coast Guard acknowledged the P&I Clubs’ refusal to submit to direct action as ‘guarantors’ under the new provisions. However, the Coast Guard held firm that they have a legal obligation under the statute to finalize and implement the provisions. ‘If insurance guaranties are not filed with the Coast Guard in compliance with both CERCLA and OPA, the Coast Guard will be unable to certify the financial responsibility of these oceangoing owners and operators, as mandated by those laws’.‘* The Coast Guard would be required by law to detain and/or seize any vessels attempting to use US waters without valid Certificates of Financial Responsibility. Thus, the Coast Guard recognized the economic impact these measures would have on segments of the maritime industry and US industries dependent upon ocean transport, and therefore, put forward specific questions directly relating to the effect of the implementation of those provisions. Thousands of pages from hundreds of respondents were recorded in Coast Guard Docket 95-001. What follows is an analysis of some of the more significant responses. The professional corporation of Dyer, Ellis, Joseph & Mills submitted a memorandum specifically analysing the language and legislative history of Section 2716. s3 The firm concluded that the Coast Guard does not have the flexibility under the Oil Pollution Act of 1990 to accept evidence of membership in a P&I Club as a method of establishing financial responsibility, without requiring the P&I Club to agree to direct action by claimants. The firm supports the argument on the ground that the intent of Congress was to ‘obtain a secure source of payment against the ultimate guarantor of payments’.84 The ‘wilful misconduct’ defence allowed to P&I Clubs acting as guarantors, combined with the ‘low level of financial responsibility required’, already provides a window of exposure to the National Oil Spill Liability Trust Fund that Congress did not intend to create. By allowing the P&I Clubs to issue Certificates of Financial Responsibility without being subjected to direct action, the Coast Guard would be finalizing provisions in a manner directly inconsistent with the manifest intent of Congress. The firm also examines subsection (e) of Section 2716 in light of the overall intent of the act. Subsection (e) allows the Coast Guard to ‘specify policy or other contractual terms, conditions, or defences which are necessary, or which are unacceptable, in establishing evidence of financial responsibility to effectuate the purposes of the Act’.s5 If the purpose of the act is to secure prompt and full payment in the event of a major oil spill, then a provision permitting P&I Clubs to invoke all available policy defences (ie indemnity), would clearly run contrary to the purpose and therefore qualify as ‘unacceptable’. Under the same theory, the Coast Guard cannot allow responsible parties to include P&I club membership as an asset for purposes of self-insurance, because that membership only functions as an asset if the member is able to ‘pay out’ the claim first.86 Even thoug h subsection (e) (allowing necessary

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“Ibid ‘%G

at 10. Dot. 91-005, 24 January 1992, at

#246.

‘?bid at golbid at ” Ibid at “Ibid at 93/bid at

286

1. 1. 4. 5. 6.

changes), appears to conflict with subsection (f) (specifically prohibiting policy defences), the two are reconcilable to the point that the Coast Guard cannot logically under the act as written, allow P&I Clubs to provide certificates of financial responsibility (permitting owners to operate in US waters), and then permit the P&I club to assert the complete defence of indemnity, (thereby removing remaining financial support at the moment it is needed most), when the responsible party becomes insolvent. Dyer, Ellis, Joseph & Mills then conclude that the manifest defects in the statute appear to warrant the need for Congress to step in and advance new legislation to obtain a ‘meaningful and workable financial responsibility requirement’.87 The law firm of LeBoef, Lamb, Leiby & MacRae submitted responses on behalf of Lloyd’s of London. 88 Lloyd’s of London consists of a marketplace of approximately 26 000 individual underwriting members, who operate through roughly 270 syndicates.89 The liability of the members are several, not joint, so each member accepts insurance risks for their personal profit or loss and each is liable to the full extent of his private wealth to meet his own insurance obligations.” Although P&I Clubs issue direct pollution liability coverage for over 95% of the world’s oceangoing fleet, Lloyd’s of London acts as a primary source of reinsurance to back the P&I Clubs in their insurance ventures. Lloyd’s also acts as the primary source of direct pollution coverage (under CWA standards) for approximately 1 000 vessels (300 tanker vessels) that are not covered under P&I Club policies. The central argument of Lloyd’s is that the insurance/reinsurance capacity at Lloyd’s, although immense, is finite. With the prospect of unlimited liability through direct action provisions, combined with the realistic possibility that the syndicates would have to pay full policy limits to federal litigants and then again to state litigants, the underwriters are wary about exposing members’ capital to the unpredictable results of a major spill under the proposed provisions. In addition, if the provisions concerning financial responsibility are implemented as written and a substantial number of vessels are unable or unwilling to call at US ports, then Lloyd’s will be unable to spread the risk of liability over enough parties to underwrite insurance without imposing cost prohibitive premiums. An insurer must develop over time excess funds that allow the underwriter to cover unexpected losses that rise above the level of those supported by the premium. In order to raise the excess funds there must be a certain level of dependability in the amount of risk covered, so that by setting premiums over years, underwriters gain excess capital necessary to underwrite other ventures and thereby spread the risk. The unpredictability of the nature and extent of claims under the Oil Pollution Act make it highly impractical, if not impossible, for the underwriters to insure such risks.” Lloyd’s, although agreeing to allow direct action by the US government under the CWA, refuses to act as a ‘guarantor’, under the Oil Pollution Act and subject itself to direct action by an unlimited number of state and federal claimants. 92 By consenting to insure on the federal level, Lloyd’s would be apprehensive that the provisions allowing states to create their own unlimited liability regimes, would also permit the states unilaterally to accept certificates of financial responsibility issued at the federal level to satisfy evidence of financial responsibility enforcing unlimited requirements at the state level. 93 States unilaterally liability against the underwriters’ assets, causing policy limits to be paid

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‘?bid. ‘=/bid at 9. g6/bid at 10.

g7The International Convention on Civil Liability for Oil Pollution Damage, 1969, Article VII, Para 8. ‘*Beth Van Hanawyk, ‘The 1984 Protocols to the International Convention on Civil Liability for Oil Pollution Damage and the International Fund for Compensation for Oil Pollution Damages: an option for needed reform in United States law’, International Law, Vol 22, Summer 1988, p 324.

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in the oil industry

twice under both federal and state laws, would prove unacceptable to the underwriters and they would as a group refuse to issue policies as a guarantee of financial responsibility.94 Lloyd’s proposes three main alternatives to the provisions as written. First, the Coast Guard could accept certificates of financial responsibility as a ‘partial’ guarantee that would reserve the right of direct action to only the United States Government and only for the costs of clean-up up to the policy limits.95 Second, the Coast Guard could permit owners to establish evidence of financial responsibility through a combination of commercial insurance and membership in a P&I c1ub.96 Third, the Coast Guard should accept certificates required under the International Convention on Civil Liability for Oil Pollution Damage, as a partial means of complying with Section 2716. The first alternative recommends a move back, toward the status quo of the CWA. Even without the right to a policy defence of indemnity, if the government is limited to the recovery of only clean-up costs up to the amount of the maximum limits of the policy, then the insurer faces a limited calculable risk which is realistically underwritable. However, this option will effectively isolate the National Oil Spill Liability Trust Fund as the single source of capital for clean-up costs, once the policy limits have been reached and the responsible party becomes insolvent. The second alternative, to accept a combination of coverages towards the establishment of financial responsibility, presents the most viable alternative of the three. Although P&I membership involves the ‘pay to be paid’ concept of indemnity, possibly the prior payment of commercial insurance funds could be accepted by the court as payment made as if it were from the defendant’s resources, thus, ultimately holding the P&I Clubs financially responsible for all payments made by the member and all payments made by the commercial insurer on his behalf. This would effectively raise the overall amount of financial resources available. However, the downside is that, at present, a commercial insurance market substantial enough to support the industry-wide amount of liability involved in a major spill, does not exist. In addition, the P&I Clubs would most likely be inclined to refuse this fiction of payment as a violation of policy, much as they are refusing to grant certificates of financial responsibility under the proposed provisions. With regard to the International Convention on Civil Liability for Oil Pollution Damage (CLC), the USA is unlikely to accept certificates issued under the Convention as a partial means of complying with Section 2716 of the Oil Pollution Act. The CLC provides for a right of direct action against the insurer or other person providing financial security for the owner’s liability for pollution damage.97 However, the convention permits the insurer, ‘irrespective of the actual fault or privity of the owner’, to avail himself of the shield provided by the maximum limits of liability under the Convention. The limits of liability under the Convention permit maximum liability of 59.7 million units of account or approximately $80.8 million. 98 Clearly, the intention of the Oil Pollution Act to achieve full recovery in the event of a major oil spill would be blocked by such a low limit of recovery against the insurer. Therefore, without the right of direct access to the assets of the insurer, which would necessarily exceed the low limits of liability set by the Convention, the Coast Guard would probably reject Lloyd’s third proposal. In conclusion, Lloyd’s suggested that the Coast Guard interpret its

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role more broadly in relation to the flexibility allowed to implement and finalize the proposed rules. If, however, the Coast Guard was compelled by the provisions to restrict its ability to alter the interpretation of the sections concerning evidence of financial responsibility narrowly, then Lloyd’s suggested the Coast Guard seek statutory modifications at the Congressional level to create a workable financial responsibility system. The law firm of Robins, Kaplan, Miller & Ciresi, submitted responses on behalf of the International Group of P&I Clubs.99 The Group consists of 17 mutual insurance companies, which between them insure the liabilities of over 95% of the world’s ocean-going merchant fleet. Effectively, this includes all oil tankers and almost all dry cargo ships trading to the USA together with a substantial portion of US coastal traders.‘“’ The P&I Clubs, although not declining to meet liabilities under the Oil Pollution Act that fall within the indemnity provisions and levels of their policies, will not provide certification of financial responsibility under the rules as proposed. The clubs steadfastly maintain their long-standing policy of not providing anticipatory guarantees for the potential liabilities of their shipowner members. The underlying outline of their refusal is well stated by their counsel: [I]f as the NPRM proposes, the insurer is forced to submit to the jurisdiction of the US federal courts as a guarantor (which submission will probably also be construed as de facto submission to the jurisdiction of state courts), he will lose the contractual defences which are a very important part of the cover given by any insurer and he will become exposed as the deepest available pocket to the risk of having to pay sums in excess of the amount certified, or even insured . . thus in effect becoming the property insurers for claimants under the Oil Pollution Act rather than the liability insurers of shipowners.“’

“CG Dot 95-001, #284. ‘oo/bid at 1. “‘/bid at 5. “‘/bid at 10.

288

22 January 1992, at

The P&I Clubs suggested, in a similar manner to Lloyd’s, that the Coast Guard adopt the more flexible approach to financial responsibility contemplated under the Oil Pollution Act. The Congressional Conference Report which accompanied the Oil Pollution Act stated that the Coast Guard’s authority in this regard is to be exercised in a manner market for providers of financial that will, ‘foster a continuing responsibility’.“* Because P&I Clubs have refused to issue insurance the Coast Guard should use the flexibility cover as ‘guarantors’, authorized by Congress and demanded by the situation, and allow P&I Club membership to serve as ‘other evidence of financial responsibility’ to satisfy the requirements for the issuance of a certificate of financial responsibility. Unfortunately, the acceptance of P&I Club membership as, ‘other evidence of financial responsibility’, necessarily involves the limits of liability of the ‘pay to be paid’ indemnification agreements discussed at length above. Nevertheless, without the financial support of Lloyd’s and the International Group of P&I Clubs, the Coast Guard cannot finalize the rules as proposed. The finalization would result in a self imposed US embargo of foreign waterborne oil supply, based on the simple fact that without the P&I Club cover and Lloyd’s reinsurance, almost no tankers presently operating could qualify for a certificate of financial responsibility. Thus the vessels of the independent foreign tanker owners would be unable to enter US navigable waters legally. The law firm of Haight, Gardner, Poor & Havens submitted responses on behalf of the International Association of Independent

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Crisb

‘%G Dot. 95-001, 24 January 1992, at #220-220(a). ““‘/bid at 1. “‘/bid at Questions p 7. ?bid at 2. “‘See above text accompanying Ref 53. “‘Ibid

“‘CG

at 4. Dot. 91-005,

24 January 1992, at

#244.

“‘Abrams,

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in the oil industry

Tanker Owners (INTERTANKO). lo3 INTERTANKO represents approximately 300 members from 36 countries which operate over 1900 tankers, accounting for roughly 85% of the world’s independent tanker tonnage. lo4 The members include private tanker operators that function independently from major oil companies and governments. In 1990, INTERTANKO members accounted for 57.7% of all US seaborne oil imports and 73.7% of all cargo transported to and between US ports.“” INTERTANKO argued for two fundamental changes to the existing statutory framework of the Oil Pollution Act. First, INTERTANKO proposed that Congress alter the liability provisions and make cargo owners a responsible party alongside vessel operators.lo6 Second, it argued that Congress should impose a mandatory insurance scheme upon all tanker operators which would have the effect of raising (while at the same time mandatorily covering), liability levels that would be substantially higher and more realistic than those proposed (for example a mandatory insurance plan of $2 billion). As mentioned earlier with regard to independent state actions, California and a number of other states have adopted an oil pollution liability regime that holds both the cargo owner and the vessel owner liable for removal and cleanup costs. lo7 INTERTANKO argues that the cargo is the polluting agent that causes damage to the environment and forms the source and substance of clean-up costs. Due to the fact that the USA has exempted oil cargo owners from statutory responsibility for the cost of clean-up and damage to the environment, the Oil Pollution Act significantly reduces the incentive for cargo owners to secure the highest quality transportation for their cargo. The effect of lower quality fleets entering US waters ultimately acts against the underlying purpose of the act, to encourage safer transport of oil products on higher quality carriers to US ports.“s INTERTANKO maintains that the pressure placed upon an extremely small sector of the transportation chain (ie vessel operators and their insurers) does not adequately distribute the liability over the industry or the consumer. Although the USA might face possible flight from higher quality tankers in the event the provisions are finalized as proposed, the economic effect would be a lack of transportation, not a shortage in supply. Realistically evaluating the economic and political risk of holding the cargo owners (major oil companies) liable to unlimited levels, in light of the economic leverage involved and the ease with which it would potentially be exercised, raises serious doubts about the perceived benefits, or actual prospect of holding the cargo owner fully liable. Put another way, certificates of financial responsibility are subject to legal provisions that can be altered, whereas retaliatory reductions in supply are controlled by the will of the possessor. The second proposition by INTERTANKO, that of a mandatory insurance scheme, directly relates to the proposal submitted by the Norwegian Shipowners’ Association. lo9 The secondary reinsurance market concerning oil pollution liability coverage has begun to contract. As independent tanker owners attempt to renew their insurance contracts through P&I Clubs, and the P&I Clubs attempt to purchase reinsurance in the reinsurance markets, all are finding that there is less coverage available at a higher cost: ‘The reinsurance market has partially collapsed’.“’ The Norwegian Shipowners’ Association, with the express support of INTERTANKO, has proposed that the US government form and partially fund an Excess Insurance Facility (EIF),

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“‘CG Dot 91-005, #244, p 3. “‘Ibid at 3.

24 January

1992, at

‘?G Dot. 91-005, 24 January 1992, at #253.

290

that would provide mandatory pollution insurance cover up to $2 billion.“’ The EIF would function primarily in the capacity of providing excess insurance of roughly $1.5 billion on top of the $500 million currently available to P&I members.‘12 The imposition of EIF premiums would be mandatory on all cargo interests in order to (1) eliminate the dry cargo vessel owners who would choose not to purchase excess insurance at a risk to all (third party collisions with tankers), and (2) to spread the costs across the largest possible number involved in the shipping industry, with the effect of reducing the individual premium and raising sufficient excess capital to fund the facility. The most controversial part of the proposal imposes the burden of maintaining adequate levels of capital during the initial years upon the US government and cargo interests. Present funds currently available in the National Oil Spill Liability Trust Fund would be used to start up the EIF. If the fund should fall short during a heavy period of claims or in the initial years of start-up, the amount of funds necessary to bring the coverage to $2 billion would be guaranteed by the US government and appropriated from the National Oil Spill Liability Trust Fund. In addition the Trust Fund, by providing excess insurance, would be exposed as both a ‘guarantor’ and insurer of vessel owners in the event of a major spill. Obviously, the EIF shifts the burden of achieving the objectives of the Oil Pollution Act, namely prompt and full payment in the event of a spill, back into the hands of the US government. Although premiums over time would be extracted from vessel owners on a per voyage basis, gauged by the tonnage of cargo aboard, the EIF would essentially be a flexible fund where the US government would guarantee to itself that it would pay for a spill if the clean-up costs and damages rose above the EIF’s capacity to pay. Thus, instead of allocating the burden to pay to the industry, the government would be accepting the burden with the idea that the losses would be recouped over time by premiums collected. As an initial step in the implementation of the provisions concerning financial responsibility, the creation of an Excess Insurance Facility is clearly outside the scope of the Coast Guard’s authority. Whether Congress would step in to consider and accept the proposal as it is specifically designed appears highly unlikely. The intent of Congress in establishing the National Oil Spill Liability Trust Fund was not to create an excess insurance facility to guarantee financial coverage on all claims that overextend the operator’s ability to pay. The direct action provision combined with the lack of policy defences for the operator’s insurer, evidence the manifest intent of Congress. Although not a very likely immediate solution, with certain modifications, the concept of an EIF might someday in the future provide a viable long-term option to support a part of the massive liability that major spills will incur under the Oil Pollution Act. The American Petroleum Institute (API), which represents over 250 companies involved in all aspects of the oil and gas industry, including exploration, production, transportation, refining, and marketing, submitted comments based on economic analysis of the possible impact of the implementation of the provisions concerning evidence of financial responsibility. ‘13 API believes that enforcement of the Coast Guard’s proposed regulations would bring about a more severe reduction in US oil supplies and a more dramatic increase in oil policies than this country has ever seen. As such, there would be

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widespread, devastating tax revenues. ‘14

impacts

on US output,

employment,

price levels,

and

API, making a ‘conservative estimate’ of the amount of oil moving into and within the US aboard waterborne tank vessels, found that waterborne supply approaches 70% of US demand.‘15 Given the refusal by the P&I Clubs to issue the policy terms required by the NPRM, nearly all of the independent shipping companies would be precluded from operating in US waters. Therefore, upon finalization, there would be an immediate interruption of all deliveries of petroleum, which would directly affect the central nervous system of the economy. A simulated study, where Wharton Econometric Forecasting Associates assumed a one third oil import cutback on US consumption (under a lack of financial responsibility the numbers would be approximately one half), indicated that the cutback would reduce the Gross National Product by 17%. With a disruption of one half of the oil supply, the loss of GNP would be comparable to the period between 1929 and 1933, when the GNP fell by 30%) and the unemployment rate rose from 3% to 25%. ‘16 All industrial activities related to petroleum supply would be reduced in turn, reducing consumer output and, thus, consumer spending. API explored other alternatives to replace the lost reserves. With a 7 to 8 million barrel a day loss in capacity, there would be neither (1) Sufficient Strategic Petroleum Reserve supply, nor (2) sufficient inventories available. Domestic producers would not be encouraged to expend large amounts of capital to discover new resources, at a time when public opinion would quickly demand the replacement of oil supplies. Under severe political pressure, Congress would reconvene and alter the financial responsibility provisions, so as to allow the flow of petroleum to US ports to resume. Therefore, the conclusion that must be drawn is that, in order to avert a serious disruption to oil supply, the Coast Guard must use the flexibility that it possesses in the interpretation and application of the financial responsibility provisions in order to prevent the disastrous economic effects a supply interruption would create. API suggests that: (1) both P&I Club membership and letters of credit satisfy evidence of financial responsibility, (2) the guaranteed amount, with respect to any incident, is limited to the amount of financial responsibility evidenced for the vessel involved in the incident, and (3) the Coast Guard should define ‘maximum applicable amount’ to serve as the amount of financial responsibility necessary for the largest vessel in a single fleet. To avoid long-term damage to the nation’s economy, and to prevent the immediate and complete halt of 70% of waterborne oil supply to the USA, the Coast Guard should adopt a position favouring flexibility. Thus, by showing flexibility, the Coast Guard could negotiate appropriate changes that will both bring P&I Clubs back to the insurance table and allow the vast majority of tanker owners to qualify for evidence of financial responsibility, by providing some acceptable method or combination of methods as evidence of financial responsibility.

Proposal ‘14/bid at Question #8, p 5. “‘Ibid at 5. ‘16/bid at 13.

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Evaluating an ideal proposal must begin with the premise that, in light of all of the statutory changes regarding liability levels and their exceptions, damage assessment to natural resources, civil and criminal

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penalties, and independent state actions, $2.5 billion is not an unreasonable figure to begin with when assessing the potential costs of a major oil spill. Three arguments support the conclusion that the Coast Guard should enforce the provisions concerning evidence of financial responsibility as written. First, the polluter should pay promptly. By limiting the defences available to avoid liability, the Oil Pollution Act favours judicial expediency. Second, a source of financial resources should be available to compensate fully for the costs of removal and clean-up and the actual permanent, damage to the environment. By allowing direct action against all ‘guarantors’ providing evidence of financial responsibility, the act provides for a means to access the unlimited assets and resources of the responsible party and all who contract to financially support him. Third, the damage to the environment should be minimized by implementing a workable regulatory regime that encourages high-quality, safety-conscious tanker operations to ship to US ports. By raising the levels of liability and creating serious penalty provisions, the ‘human error’ factor has been greatly reduced. Results are proving that caution and discipline, combined with training and awareness, can decrease the number and severity of operational breakdowns. However, even in light of these achievements of the Oil Pollution Act, the fact remains - as long as there will be waterborne tanker transport, there will be waterborne tanker accidents. The conflict lies between giving full effect to the purpose and intent of the act, and implementing and enforcing provisions that will not have the effect of crippling the national economy. The steadfast refusal of the P&I Clubs to submit to direct action under the provisions of the act as written, is not a factor that can be dismissed without careful consideration. The logical conclusion, based on the reality of the facts available, fully supports the presumption that if the evidence of financial responsibility provisions are finalized as written and interpreted, then the Coast Guard will be compelled by law to reject entry to vessels transporting approximately one half of the nation’s required oil supply. Therefore, to preserve the nation’s economic security, the Coast Guard will have to either: (1) find a middle ground upon which to implement the act, yet not sacrifice the manifest intent of Congress, or (2) appeal to Congress and ask for a clarification and/or an adjustment of the manifest intent with regard to the evidence of financial responsibility. The fact that Congress unanimously passed the Oil Pollution Act of 1990 presents two distinct propositions. The first, and least likely premise, is that Congress unanimously passed the Oil Pollution Act because it was absolutely clear and determined in its purpose. Therefore, flexibility that runs contrary to the purpose that the polluter should pay promptly and completely should be rejected and dismissed as unworkable. The second, and more probable premise is that the act was swept through both Houses by constituent pressure and the fact that environmental damage caused by oil pollution, became a ‘hot’ political item. At the time when the Oil Pollution Act was passed, a vote against the act would have marked a member’s record and would have severely impacted upon a Congressional member’s chances for re-election. Regardless of which premise is true, a balance between full enforcement of the act in light of its objectives, and the avoidance of harm to the US economy must ultimately be struck by the Coast Guard. In acting within its power to finalize the financial responsibility

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provisions, the Coast Guard could as a first step acknowledge that the limits on liability are clearly set, but fully capable of being excepted. This would allow the Coast Guard officially to set a higher maximum level of liability beyond which a P&I Club would not be held liable. For example the Coast Guard could maintain the direct action provision excluding the P&I policy defences but provide full assurance to the P&I Club that the maximum level of liability accountable would not exceed $700 million in the case of a major spill. In addition, the Coast Guard could provide notice to the Clubs that the level will increase each year until a maximum of, for example, $1.5 billion. Liability could be phased in over time to allow markets to adjust to the new level of premiums. As a second step, the Coast Guard could permit a combination of coverages to satisfy the evidentiary requirement of financial responsibility. The key would be to set an initial minimum limit that would encourage commercial investors to create a secondary market for pollution coverage. An alternative to the limited coverage of the P&I Clubs can only be successfully developed if it is required across a broad base. For example, all operators must carry a total of $1 billion during the first year - $700 million P&I and $300 million commercial; $1.2 billion during the second year - $800 million P&I and $400 million commercial, etc. This would allow insurance markets time to develop and adjust to the new levels, and would give reasonable ranges by which to judge potential claim payments. Third the Coast Guard could maintain the direct action provision against the P&I Clubs. However, they could limit their liability (as above) and allow P&I membership to count towards the operator’s assets in a self-insurance scheme. This would allow the vast number of members of P&I Clubs to obtain certificates of financial responsibility and to continue to pursue waterborne transport. What may actually occur might, and should, involve Congress. If the P&I Clubs continue to refuse to issue certificates of financial responsibility under any direct action provision that does not allow policy defences, then the Coast Guard must either allow indemnity as a defence to direct action, or appeal to Congress for ultimate clarification of the issue. If the Oil Pollution Act of 1990 goes back to the legislature, hopefully all options (Excess Insurance Facility, Partial Cargo Liability) will be reviewed as potential sources to spread the risk and costs of a major oil spill across a larger portion of the industry. The Oil Pollution Act of 1990 is an excellent beginning. If the Congress were to amend the act with regard to the evidence of financial responsibility, the P&I Clubs could provide a portion of financial cover and continue to participate in US oil trade. If Congress can compromise and show creativity in solving the problem of finding adequate resources to cover the costs of a major oil spill, the USA will ultimately be able successfully to maintain the integrity of its most significant and comprehensive oil pollution legislation to date.

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