Reporting (or Not) of Precursors to Disasters

Abstract

Problem definition: Firms can reduce the risk of rare disasters by accounting for more frequent near misses: precursor events that could have escalated to a disaster but did not. Investigating a near miss reveals its root cause, allowing the firm to improve process safety and reduce disaster risk. A managing firm, however, usually does not directly observe the occurrence of a near miss, but instead relies on the report of a contractor who is also responsible for preventing such incidents by maintaining process safety. This paper explains why near miss reporting may not take place in such a decentralized setting. Academic/Practical Relevance:Literature and practitioners have acknowledged the crucial role of near miss reports in improving process safety. Nevertheless, even at sophisticated and experienced organizations, disaster inquiries invariably uncover a history of unreported or ignored near misses preceding an accident. We provide an explanation for this persistent phenomenon based on rational economic incentives. Methodology: We examine the firm's problem through a dynamic principal-agent model that captures the contractor's potential for under-reporting near misses along with \textit{moral hazard} related to preventive effort. Results: We find that the firm may fail to capitalize on near miss information due to conflicting incentives. This occurs, for instance, when the contractor is unwilling to report near misses because the resulting safety improvements replace the need for his unverifiable preventive effort, thereby lowering his compensation. However, even when the contractor is willing to report near misses, we find that the firm may choose not to record them, opting instead to create stronger incentives for prevention. In both scenarios, the firm forgoes opportunities for process-safety improvement, focusing on existing preventive measures. Managerial Implications: Our findings highlight the challenges in providing incentives for both reporting and prevention, that can result in a failure to leverage near miss information. We examine potential remedies to overcome these issues and increase reporting.