Hazard-based Analysis: An Incorrect Basis for Business Decisions

Posted on 3/4/2015 10:45:42 AM By Ujjval Vyas

Green chemistry, red lists, and even EPA edicts claim that a hazard-based analysis (HBA) should underlie decisions regarding regulatory activity and preferable outcomes for the public good. 

This is the first of a three-part examination of the core issues and confusions surrounding HBA, starting with a discussion of three basic terms:  risk, hazard, and prudence.  The second installment will outline the problem of marketing and the pitfalls that marketing professionals can fall into when they don’t understand the strategic implications of HBA.  The third part will discuss the need for companies to think more carefully about how to approach the increased compliance cost burden for HBA within a culture of regulatory appeasement or manipulation.

There is a vast literature articulating how to understand and manage risk in economics, public policy, insurance, public health, actuarial sciences, and many other fields that deal with uncertainty and risk.  Frank Knight’s classic work—Risk, Uncertainty, and Profit—in economics, the work of the political science and governmental policy experts Aaron Wildavsky and C. Kip Viscusi, and Peter L. Bernstein’s popular history of risk and finance—Against the Gods:  The Remarkable Story of Risk—are just a few examples.  What do they have in common?  All of them understand hazard as one dimension of assessing risk and show that a hazard-only analysis is by definition useless. 

In insurance, for example, risks are measured by the equation Risk = (likelihood of the peril) x (loss).  In toxicology, the equation is usually Risk = (hazard) x (exposure duration to hazard).  The hazard (or peril) term on the right-hand side of the equation is a probabilistic assessment that ranges from an informed guess to a detailed interpretation of data.  For example, the probability of flooding along the Red River in Minnesota may be based on historical data distributions, or the increased possibility of death from undergoing radiation to treat cancer may be based on a set of double-blind clinical trials.  The second term on the right is the actual extent of the losses or the actual duration of the exposure to (or dosage of) the substance in question.  Neither term is useful by itself nor can any assessment of risk be made with only one of the terms on the right-hand side.  Using only one of the terms would be as mistaken as saying that you could calculate force in Newton’s Law (F = (mass) x (acceleration)) by only knowing either the mass or the acceleration. 

How is it, then, that a large number of environmental and policy advocates are proffering a hazard-based analysis as more rigorous than a risk-based analysis?  Examples include the EPA’s Design for the Environment Program and its Environmentally Preferable Purchasing Program, USGBC’s preference for green product materials transparency tools such as Pharos or Green Screen, or the especially egregious Healthy Building Network and its Health Product Declaration eco-label.  The answer can be found in the rise of the concept of the Precautionary Principle (PP).  In an effort to create a utopian world with zero risk, the followers of PP ignore the vast established work in many fields by calling for a more “rigorous” elimination of all hazards to humans and the environment. 

There is no doubt that flooding and radiation can be very dangerous.  But knowing that is useless to help us decide what to do or not do in the real world.  Acceptable risk in a PP version of the expression means that R = 0.  The only acceptable solutions necessitate either that there is zero hazard or there must be zero exposure.  By this account no building could be built in any geographical location with any conceivable possibility of flooding, and no medical facility could expose a patient to radiation. 

In point of fact, a hazard-based analysis is no analysis.  The hazard term stops being probabilistic and is simply reduced to an on/off switch.  Take formaldehyde for example.  By a hazard-only analysis, any amount of exposure to formaldehyde above zero units means it must be banned and any probabilistic outcome for injury above zero means it must be banned.  This makes the natural presence and outgassing of formaldehyde from trees problematic.  On the other hand, a proper risk analysis shows why we don’t worry about the formaldehyde from trees, but do worry about high exposures in industrial settings.  Arguing about what should or should not be a level of exposure that workers or the general public should be subjected to is a discussion worth having.  A PP-based, hazard-only “analysis” is incoherent and a proxy for ideological posturing.

This ideological posturing is structured to eliminate only certain predetermined types of hazards.  It is striking that those using PP as a cudgel only go after traditionally demonized industries such as chemicals, petroleum, and nuclear power and rely on a false dichotomy between natural and man-made.  PP adherents don’t seem to notice the many deadly chemicals in solar panels or the need for rare earth magnets in wind turbines and smart phones as problems while they attack fire retardants and biomedical plastics that save lives as evil chemicals to be completely banned. 

Consistency may be the hobgoblin of small minds, but fatal inconsistencies are the common sign of an incoherent ideology.  Cass Sunstein describes the key problems well when he renames the Precautionary Principle, the Paralyzing Principle.  In fact, definitive work has already demonstrated the incoherence of PP, its pernicious impacts on innovation, and the resultant increases in regulatory and compliance burdens to society. 

Making decisions under conditions of uncertainty always requires intelligence gathering and risk assessments in the service of prudent action.  This is the common reality for business leaders who attempt to operationalize such decision-making.  Prudent action depends completely on context and can range from inaction to attack, retreat, or surrender, using military language.  One might define prudence simply as an iterative process of managing risk over a relevant timeframe, knowing that the advisability of a particular decision cannot be determined a priori.

In business, as in any other human endeavor, decisions with absolute certainty are a dangerous mirage.  It is impossible to know what to do and just as crucially, what not to do in any but the most simplistic situations.   Should you raise your children in one religious tradition or another? Should you undergo an operation to replace an old stent or is it too risky?  Should the company grow through mergers and acquisitions or by sales volume alone?  Prudent decisions in all these cases will depend on many things, not least of which will be the decision maker’s acceptance of varying levels of risk.  All of these decisions can prove hazardous to your children, your health, or your company.  Yet, people must make these decisions all the time and accept the risks.  In fact, it would be an unrecognizable world if people did not accept hazards to serve a larger purpose.

The main task of business leaders is to act prudently for the benefit of their companies and the aggregate good.  Acting prudently requires managing risks, not eliminating all hazards.  Given this, why do so many business leaders accept or even misguidedly encourage hazard-based regulatory and compliance activity?  In the remaining installments of this series, I will answer this question using the concept of “bootleggers and Baptists” and will show how inappropriate short-term incentives are at odds with the long-term strategic success of business enterprises motivated by competitive excellence.

Opinions in this Blog do necessarily represent the views of ASC.

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