Is BP’s Oil Spill Good for the Economy?

BP Deepwater Horizon

In a fascinating story in the Wall Street Journal yesterday, Luca Di Leo suggests that the BP Deepwater Horizons oil spill may wind up facilitating economic growth in the Gulf region. Citing chief U.S. economist Michael Feroli, who said that “The spill clearly implies a lot of economic hardship in some locations, but given what we know today, the magnitude of these setbacks looks dwarfed by the scale of the U.S. macroeconomy,” Di Leo argued that the U.S. economy may wind up growing as a result of the crisis. According to Di Leo, the six-month moratorium on deep water drilling may cut U.S. oil output by 3 percent and may result in the loss of approximately 3,000 jobs (numbers derived from JP Morgan’s energy analysis unit).  Commercial fishing will also suffer, but it represents a relatively small portion of the U.S. economy (approximately 0.005 percent of GDP). Tourism is the wildcard, but it’s likely that many employees in the tourism sector may face cuts.

Offsetting this, the cost of cleaning up the spill will likely be high. Already, JP Morgan estimates that some 4,000 people have been hired to assist in cleanup efforts, estimated to be worth between $3 and $6 billion. If cleanup costs are higher than this (certainly a possibility), and the U.S. government moves forward with plans to mandate that BP establish a $20 billion trust fund to pay for compensation and cleanup, it is likely that the net impact on the U.S. economy will be positive. Or, in the words of Feroli, “If realized, this would likely mean a near- to medium-term boost to activity that might offset the drags.”

ExxonValdez

All of this reminds us of a similar analysis conducted of the 1989 Exxon Valdez oil spill in Alaska, when an oil tanker ran aground, spilling some 250,000 barrels of crude oil into Prince William Sound. The Exxon Valdez was the most significant spill in U.S. history until the current BP Deepwater Horizon spill in the Gulf of Mexico. The Exxon Valdez spill had devastating economic and environmental consequences for some. Local fishers lost income, and the natural environment in Prince William Sound took decades to recover. But the net impact on gross domestic product [glossary] was likely positive, as the cleanup costs likely exceeded the economic cost of the spill itself.

The economics of the crisis reflect the challenge of externalities, costs associated with the production or consumption of a good, but which are not factored into the price of that good. Gross domestic product counts all economic activity as positive. Cleaning the oil spill is additive. There is no negative cost withdrawn from GDP. Car accidents, hurricane or earthquake damage, and expensive medical treatments for preventable diseases or conditions similarly add to the GDP rather than detract from it. In simple economic terms, if we wanted economic growth, more car accidents, oil spills, or earthquakes would be good for the economy!  This is clearly a counterintuitive position, as few rational people would suggest that what we really need are more oil spills.

To develop a more accurate measure of economic activity, some have argued for a rethinking of gross domestic product as a measure of progress. Already, France has moved away from using GDP alone. Some economists argue that we should use something like the genuine progress indicator, which would only include goods and services which improve the public welfare. Such a system would certainly help us think more rationally about the real costs of environmental crises like Deepwater Horizons.