[ Table of contents ]   [ List of papers ] [ PDF Version ]     Three Preliminary Papers on the Economics of Occupational Safety and Health by Peter Dorman Geneva, April 2000 Chapter 3 Investments in Occupational Safety and Health

I. Can the Costs of Injuries and Illnesses Be Controlled?

As Chapter 1 demonstrated, the economic costs of occupational injuries and diseases are substantial, amounting in the industrialized countries to more than 3% of GDP. As large as these costs are, they were even larger at an earlier stage in history. While there are many reasons for this improvement, an important factor was the development of systems for monitoring and controlling dangerous working conditions. This history suggests that the costs of accidents and disease can be controlled.

It is appropriate, then, to speak of investments in safety and health conditions in the conventional sense of current expenditures that can generate a stream of benefits over time. If the costs are low enough and the returns great enough, these investments can literally pay for themselves, although we will argue later that they can still be justified if this is not the case. In this chapter we will look more closely at these costs and benefits, sketching their dimensions and trying to sort out the actual versus apparent burdens they impose.

The principle benefit of OSH programs, of course, lies in the costs they avoid. The World Bank has estimated that 70% of the DALY's (disability adjusted life-years) now attributable to occupational safety and health conditions could be alleviated by proper monitoring and intervention. Nevertheless, there is continuing concern over the costs of OSH programs at both the enterprise and national levels. Skeptics fear that negative economic consequences can exceed benefits and leave the intended beneficiaries, workers and their families, worse off. In the remainder of this chapter we will consider some of these objections. Our view is that it is possible for a poorly designed program to backfire in this way, but that, by following best practice, enterprises and public agencies can demonstrate the merits of OSH investments.

II. OSH Investments at the Enterprise Level

Whenever new OSH regulations are proposed, employers express concern over costs. Since cost control is a fundamental task of management, this concern is well taken. Nevertheless, experience indicates that most cost projections prior to the installation of new control systems are excessive. A major study of the cost projection methodologies employed by the US Occupational Safety and Health Administration, conducted by the former Office of Technology Assessment of the US Congress, found that ex ante estimates were frequently overstated. Eight different regulatory standards were examined. In the six cases for which there was sufficient cost information, the study found that three experienced actual compliance costs between a half and a quarter of the anticipated cost. (One had slightly higher costs and the other two were unchanged.) Moreover, four of the regulated industries achieved significant productivity gains attributable at least in part to their response to the regulatory challenge. One example, a regulation limiting cotton dust exposure, is described below.

Regulating Cotton Dust Exposure: Costs and Benefits to the US Textile Industry

In 1978 the US Occupational Safety and Health Administration (OSHA) promulgated cotton dust exposure limits for workers in the textile industry. The industry protested the regulation, claiming that it was not economically feasible. OSHA estimated annual compliance costs at $280M (1982), based on the expectation that the standard would be met by retrofitting existing equipment with better ventilation and filtration devices and tighter enclosure seals. Instead, the industry, spurred by foreign competition as well as regulation, refurbished or replaced its productive stock. The new technologies simultaneously achieved faster speeds, better use of space, higher productivity--and superior dust control that met the OSHA standard. In the end, annual compliance costs were only $83M (1982). (Source: U.S. Congress, Office of Technology Assessment, 1995)

The tendency for actual control costs to be a fraction of costs anticipated in advance is not a species of magic. There are economically sensible forces at work. Above all, those who fear the cost of workplace safety underestimate the capacity of enterprises to innovate. Too often cost estimates are based on adjustments to existing technology when the potential for new, safer, and more efficient methods is just below the surface. Almost as important is the trap of piecemeal thinking, in which adjustments to the work process mandated by safety and health standards are analyzed one at a time and each is assigned its individual cost. However, it is often possible to restructure several aspects of the productive system simultaneously, making it possible to reach multiple safety and competitive objectives at much less expense. For these reasons, well-run enterprises will generally find that meeting higher safety and health standards is more feasible than they would have expected.

But this discussion of projected versus actual costs points to a deeper truth about OSH regulation. Firms with dismal safety and health records often have loose, inefficient work processes as well, and for similar reasons. Workers--their skills and potential contributions as well as their bodies--are treated as disposable. High levels of waste, including the waste of human beings, is tolerated. Insufficient control is exercised over the production process itself, so that problems of chemical spills, haphazardly stored inventory, and malfunctioning equipment go unattended. The extreme case is the sweatshop, as discussed by Piore (1990). Here low productivity and disregard for the worker generally go hand in hand, and the solution to one is commonly the solution to the other.

Much has been made of the general correlation between certain measures of industrial safety and a country's level of development. The argument is made that this relationship shows that a country's first priority should be development, and that better working conditions will come later. Yet it is likely that at least some of this correlation is due to the opposite causation, from working conditions to productivity. In every developed country, producers have been challenged at different stages of their history by the mandate to improve the conditions of work. They responded to this challenge as they responded to the challenge of competition, by searching for better, more efficient solutions. Even today, as the OTA study demonstrates, we can see the same process at work. Of course, most businesses remain wary of new, higher OSH standards, as they are wary of new competition. The evidence, however, demonstrates they can gain from both.

There is a second reason why employers might find higher OSH standards in their long run interests: standards level the playing field and permit companies to exercise greater care for their workforce. Many employers would prefer to upgrade the conditions of work but are inhibited from doing so by the pressure of competition. If they take these measures unilaterally while competitors don't, the result may be a serious drop in competitiveness. Similarly, the temptation exists for companies to undercut one another in order to achieve competitive advantage. This situation describes a paradox known as the "prisoner's dilemma", named for the pressures prisoners face to inform on each other. Applied to the issue of safety and health, the prisoner's dilemma can show how higher standards imposed on all firms can actually benefit them.

To demonstrate the logic in a simple form, suppose there are only two firms competing against each other in the marketplace. Both the workers and the employer in each firm would prefer to establish safer working conditions. Each firm faces two options, to set a high or a low level of safety. There are four potential pairs of decisions, then: both could choose to be safe, both could choose to be unsafe, or one could be safe and the other not. We can summarize the possible outcomes from each decision pair in the following payoff matrix:

If both the employers and the workers in each firm would prefer better safety conditions, but if the threat of losing out, or the lure of gaining, in competition is more urgent, a paradox results. Each firm choosing independently will be tempted to reduce safety. Thus, if firm 2 chooses safety, firm 1 can gain in the market by reducing safety. If firm 2 choose to be unsafe, firm one is virtually compelled to follow; otherwise it would be at a competitive disadvantage. In other words, no matter what firm 2 chooses to do, it is in firm 1's individual interest to reduce safety. The same logic applies to firm 2, since the outcomes are symmetrical. The result would be that, due to the pressures of competition, the firms would end up in the lower right-hand corner, with both permitting unsafe conditions. Yet this is clearly an inferior result to the upper left-hand corner, since in both cases competition is equal, but in the second both firms enjoy a higher level of safety. In other words, good working conditions throughout the industry, a benefit to both firms, is defeated by the rational response of each to market pressures.

In the real world this paradox is potentially even more severe. There are usually not just two firms, but a great many, making it difficult to achieve cooperative agreements. Moreover, in more competitive markets it is relatively simple for new firms to enter, so that even an agreement among existing firms may not be sufficient to avoid the prisoner's dilemma. Fortunately, there is a potential solution: a system of economy-wide OSH regulation that brings all firms into the "safe-safe" corner. Indeed, the history of occupational safety and health regulation in the industrialized countries demonstrates that it is often employers who spearhead the campaign for regulation, so that they can invest in better working conditions without fear of being undercut in the market. (Aldrich, 1997)

Putting these two points together--the safety-productivity connection and the prisoner's dilemma problem--we can understand the role that OSH standards have played in economic development. Firms that invest in safety and health make an investment in the future, towards better utilization of human resources and more efficient, better controlled production methods. Unless the playing field is leveled by the promulgation of standards, however, competition gives short-run advantages to firms that don't make these investments. It is possible for an economy to remain stuck at a lower level of development indefinitely as long as the short-run forces have sway. In this situation, OSH regulation is not a luxury permitted by development but a foundation of development itself.

III. The Net Cost of Occupational Safety and Health Investments

While it would be nice to think that OSH investments always pay for themselves in economic terms in the long run, we know that this is not the case. Sometimes the benefits derived from better working conditions finance this cost, sometimes they do not. It would be a mistake, however, to take the position that only the economically profitable investments should be made.

To clarify this point, we would like to introduce the concept of the net economic cost of occupational safety and health investments. This can be defined as follows:

Net cost of occupational safety = Cost of investments - OSH costs - Collateral benefits
and health investments avoided

In this formula, the cost of investments consists of the direct and indirect financial costs, OSH costs avoided are the reduced economic costs associated with occupational injuries and diseases attributable to the investments, and collateral benefits include the productivity, product quality, and labor relations benefits that may be byproducts of the OSH investments. In an actual calculation, these amounts would be discounted to their present value.

Expressed this way, it is clear that the calculation of net benefits depends significantly on the degree of cost internalization as defined in Chapters 1 and 2. To the extent that the costs of poor working conditions are externalized to workers and the wider community, there is a tendency for the net investment costs to be greater. This suggests that cost internalization, support services to help firms achieve greater reduction in OSH costs per investment expenditure, and the encouragement of technical and managerial innovation are complementary strategies that all promote a higher level of OSH investment. (The discounting component of the formula, when present value is taken into consideration, also indicates that favorable credit conditions, especially for SME's and microenterprises that are often charged an interest premium, will also reduce net costs.) The general point is that it is the net costs, and not just the cost of the investments themselves, that should be the focus of attention.

It is also important to recognize that, unlike purely financial investments, OSH investments do not have to achieve a hurdle rate of return in order to justify themselves. This is because two critical outcomes of these investments are not part of the economic calculation: the human toll of disability and premature death and the social burden of conflict and recrimination over industrial accidents and disease. An analogy may be made to medical care. One can speak of the net costs of being treated for an illness, the cost one pays to doctors or for medicine minus the earnings that would have been lost if one had remained sick and were unable to work. In some cases net costs may be less than zero, but it would be foolish to seek medical care only under this circumstance. Normally we ask ourselves whether the gain in health is worth the cost in money, and the answer may well be yes. Similarly with the net cost of OSH investments: it is useful to calculate the financial expenses and benefits of investment in better working conditions, but if it turns out that the cost remains positive it is still often advisable to pay the price. It is especially important that those who bear the human costs of injury and disease have a voice in this decision, so that economic costs are placed in their proper context.

References

Aldrich, Mark. 1997. Safety First : Technology, Labor, and Business in the Building of American Work Safety, 1870-1939 (Studies in Industry and Society, 13). Baltimore: Johns Hopkins University Press.