Risk management framework

The following section outlines the elements of an integrated risk management framework.

Risk management defined

Risk can never be entirely eliminated, as all decisions involve risk; even deferring a decision involves risk. Risk management involves establishing where a risk falls in terms of likelihood and impact and then developing an organisational strategy to manage the risk. It is a systematic approach to setting the best course of action under uncertainty by identifying, assessing, understanding, acting on and communicating risk issues(Treasury Board of Canada, 2001)[4].

Risk assessment defined

Risk assessment is the process of converting uncertainty into risk (Winpenny, OECD, 1995). It entails:

• analysing the initiating events and the routes (pathways) through which the effect occurs
• specifying the size and severity of the risk
• estimating probabilities and expected values.

Risk management builds on the risk assessment and attempts to answer the questions: Does anything need to be done about it? What can be done about it? What should be done about it?

Level of risk and uncertainty may vary, as well as the level of management required.

Not all public policy decisions involve risk and uncertainty to the same extent and the level of management required may vary accordingly. For example, risks with low-to-medium likelihood and minor-to-moderate impact may simply be accepted and/or monitored. But where there is high likelihood and potentially significant impact, extensive management is essential. Some situations may also involve a significant amount of uncertainty. In these circumstances, the precautionary principle comes into play, at the stage options are being developed and evaluated.

For instance, in the Canadian Model (refer Box 1), application of the precautionary principle is an option that may be considered as an integral part of the process when establishing an integrated risk management function and putting this into practice (ie, Elements 2 and 3).

Many of the shortcomings of the precautionary principle could be avoided or minimised through applying it in a more generic and integrated risk management framework that would enable risk and uncertainty to be addressed in a more efficient and cost-effective manner.

Mode of decision-making is important.

Simply adding the precautionary principle onto an existing framework may not be adequate to provide for comprehensive evaluation of uncertainties as they arise. The mode of decision-making is very important, including the role of science and the relative roles of experts and the public. Views need to be incorporated from many disciplinary perspectives (Harding and Fisher, 1999). There is also a need to be flexible to deal with new scientific information over time.

This indicates a need to reconsider current decision-making frameworks, including whether provisions for inviting inputs and the process used to evaluate threats are sufficiently flexible and capable of effectively responding to scientific uncertainty (Peel, 2005).

Good guidelines could help overcome some problems.

Guidelines could provide scope for more subtle management using appropriate information under conditions of uncertainty. This could help avoid or overcome some of the problems associated with implementing the precautionary principle. The guidelines would need to fit within the context of good regulatory practice and provide guidance on when and how to apply the precautionary principle.

There is also a need to consider a full range of options for implementing the precautionary principle and techniques to evaluate cost effectiveness, including cost-benefit analysis and other tools that may be applied under conditions of uncertainty.

Options for implementing the precautionary principle

Alternative policy options can be categorised to address particular problems.

There is a broad range of policy options for implementing the precautionary principle, from deferring a decision until more information is available through to banning an activity until there is evidence of safety, with a range of alternatives between. Myers (2004) uses the following categories to identify options that may be appropriate to address particular problems[5]:

• Tools for early warnings, harm, uncertainty and alternatives are:
  • Defer a decision until more information is available.
  • Research alternative, less damaging options, and/or provide funding for the development of such options.
  • Adopt a strategic or anticipatory approach – develop national and regional strategies that identify national constraints (ie, environmental standards) necessary to prevent irreversible damage, maintain opportunity sets and prevent serious environmental damage. Undertake actions to increase the capacity of social and ecological systems to recover from or adapt to changed conditions[6].
  • Use adaptive management - identify knowledge gaps, use ongoing monitoring and research to improve the knowledge base, and incorporate flexibility and reversibility into decisions so that measures can be modified in line with advances in information.
  • Use the best available technology.
  • Require pre-market safety testing and approval or product registration before placing products on the market, or permits to undertake certain activities, and a process for review[7].
• Tools for transparency are:
  • Mandatory environmental impact assessments, which increase the amount of information available to decision-makers and may identify uncertainties and potential hazards associated with the proposed activity.
  • Inclusion of “safety margins” or “uncertainty factors” in risk assessments.
  • Labelling laws.
  • Values analysis – qualitative measures taken into account as well as quantitative.
• Tools for burden-shifting are economic incentives for preventing harm, such as compensation/liability regimes, bonds and compulsory insurance and extended producer responsibility.
• Tools of restriction of use include voluntary restriction agreements, “cautions”, impositions on condition of use, priority lists of potentially harmful substances for observation, exposure or extraction limits, phase-outs or bans until there is either “reasonable certainty” or “strong evidence” of safety.

Cost-benefit analysis

Under conditions of uncertainty, cost-benefit analysis is a useful technique.

Under conditions of considerable uncertainty, cost-benefit analysis[8] remains a useful technique for assessing and comparing options, but may need to be modified to account for additional constraints such as the acceptability of risk to the public (Treich, 2001; Hahn & Sunstein, 2005). It may be necessary to incorporate assumptions about potential hazards and expected responses to various management options (Peterson, 2006).

According to Hahn and Sunstein (2005), “cost-benefit can and should incorporate concerns about precaution. For example a problem characterised by irreversibilities …. can be modelled using standard techniques in cost-benefit analysis. Uncertainties about both benefits and costs can also be incorporated, perhaps by:

• specifying a range of possible outcomes;
• seeking to preserve specified options; or
• identifying the worst-case scenario and showing a degree of risk aversion with respect to that scenario”.

According to Peterson (2006), the Swedish Board of Fisheries (FAO, 1995) proposes a similar approach. “A precautionary approach to assessment and analysis requires a realistic appraisal of the range of outcomes possible … A precautionary assessment, would at the very least, aim to consider:

• inconsistencies in the data;
• specific alternative hypotheses about underlying biological, economic and social processes; and
• calculations of the theoretical response of the system to a range of alternative management actions”.

Tools to complement cost-benefit analysis

There are a number of tools available to complement cost-benefit analysis to help determine an appropriate course of action in a dynamic setting. Peterson (2006) lists a range of techniques that have been developed in the past decade to deal with uncertainty, including:

• formal modelling of choice under uncertainty (eg, Quiggin, 2005)
• formal modelling of policy choice with uncertainty and irreversibilities, including option values (eg, Gollier and Treich, 2003)
• environmental valuation techniques (eg, Winpenny, OECD, 1995)
• intergenerational discounting (eg, Winpenny, OECD, 1995)
• minimax choice rules (eg, Majone, 2003; Quiggin, 2005; Winpenny, OCED, 1995)
• value of information theory (eg, Macauley, 2005).

Recently, there has been a focus on option values as a useful tool where undertaking an irreversible action (eg, development that encroaches on a wilderness area, destroying its fundamental character) is less valuable if it is expected that better information will become available over time. In these circumstances, maintaining a flexible position enables advantage to be taken of information to come (Gollier and Treich, 2003).

Consequences tables are a potentially useful tool for formulating policy where there is uncertainty and for generating insights (Hirshleifer and Riley, 1992). Consequences tables enable systematic consideration of actions, states of the world and ensuing consequences. They allow analysts to break problems into manageable sections, help protect against biases and facilitate group work.

Peterson (2006) is optimistic that these “techniques (outlined above), perhaps with further development, may be useful in modifying conventional cost-benefit analyses to address uncertainties, information gaps, and large intertemporal disparities in the incidence of costs and benefits”.

However, while these techniques are useful, there could still be some limitations. Care needs to be taken to avoid simplistic approaches that do not take sufficient account of how society, industry and technology change over time. Also, the cost of obtaining information should be kept in mind and should be commensurate with the expected gains (Winpenny, OECD, 1995).