Models for how the fuels sector will comply with the dictates of IMO 2020 do not view noncompliance with the rule as some kind of a side problem. The models have it as an actual category.
The extent of noncompliance has always been a subject of debate in the models. For the trucking community, every barrel of noncompliance can be viewed as a barrel of diesel molecules that doesn’t need to be diverted into the marine fuel market. In an odd way, noncompliance is a good thing if you’re a truck driver.
David McCullough of the law firm of Eversheds Sutherland is a commodity-focused attorney and he recently has been sounding the message that in the U.S. at least, enforcement of IMO 2020 is going to be stringent and effective.
In a recent piece he authored with colleague Susan Lafferty for Marine Link magazine, McCullough said it is “clear that the career EPA enforcement attorneys and drafters of the rules are taking IMO 2020 compliance seriously.”
Another aspect of the compliance issue specific to the U.S. is a concern that should diesel prices spike as a result of IMO 2020 — which would probably mean gasoline going up also — the Trump administration might look to pull the U.S. out of the agreement in an effort to try to slow down any price increases (which have not yet occurred and may not).
In his magazine piece, McCullough and his co-author expressed skepticism. “The U.S. Coast Guard, a branch of the U.S. military that is not as affected by the enforcement whims of a particular presidential administration, is primarily tasked with inspecting and detecting noncompliance on vessels calling on U.S. ports,” they wrote.
(For a primer on IMO 2020 and how it might impact diesel markets, please see FreightWaves’ summary.)
McCullough expressed a view that has been growing among the shipping and oil trading community: Insurance companies are going to play a key role in enforcement. In short, they aren’t going to sit by and do business as usual with shipowners who are avoiding the mandates of IMO 2020.
“I think the insurers will drive compliance,” he told FreightWaves.
But McCullough also said part of that is his belief that enforcement efforts by the U.S. and other developed countries are key reasons why the insurers are going to look to be sure their clients are burning the proper specification of marine fuel. “They are the ones responsible for picking up the tab on enforcement action,” he said, and as a result will demand “broader compliance” on the vessels they insure.
McCullough draws some of his confidence from how earlier “annexes” to the MARPOL convention — the shorthand term for the International Convention for the Prevention of Pollution from Ships — were enforced. IMO 2020 is one more part of the entire MARPOL convention to regulate pollution from ships.
“I think in my mind that the model that we’re going to follow is exactly what we saw going back 15 years in the initial enforcement of annexes 1 and 2 of MARPOL,’ McCullough said.
There’s another aspect to enforcement of IMO 2020 that McCullough sees as significant: the ability of whistleblowers to collect a significant sum if they report on ships that are noncompliant with the rule. As he noted in his magazine piece, “The Act to Prevent Pollution from Ships (APPS), which is the U.S. law implementing IMO 2020, authorizes courts to provide an individual reporting noncompliance with MARPOL … with up to one-half of the fine imposed on the violator.”
What that sets up, McCullough said, is the prospect for somebody to make a lot of money reporting a violation. Somebody who puts in a report on what McCullough called a “bad actor” can get up to 50% of the fine. It might be a small amount, but it could be as much as $20 million to $30 million and the recipient of that could be a merchant seaman who is “on the crew of a vessel away from family for years at a time. It’s a tough job.”
McCullough also suggested that there is a variation of the old dictum “it isn’t the crime, it’s the cover-up” at play. The U.S. Coast Guard will be one of the key players in enforcing IMO 2020 in the U.S., “and they don’t appreciate being lied to.”
For example, if the records presented to the Coast Guard come with an admission that noncompliant fuel was burned, “that is not a prosecutable offense,” McCullough said. It would result in a referral from the Coast Guard to the port where the illegal bunkering occurred — or possibly to the flag state of the vessel.
But if there is lying on the part of the ship crews, “that is considered fraud against the federal government,” he said. Such an action can be criminally prosecuted.
The precise level of noncompliance has been subject to debate. McCullough noted that there have been some forecasts that it could be as much as 10% of the pre-IMO 2020 base, which is generally seen as about 3.5 million barrels of marine fuel consumption per day. (Even that figure is not agreed upon).
There are other estimates on noncompliance even higher than that. But the sheer size of noncompliance on that scale left McCullough skeptical, at least for the U.S. Enforcement authorities in the U.S. like to pride themselves on rates of 99% compliance with other rules so a 10% or more noncompliance rate would be an outlier, he said.
“There is a demonstrated history of successful prosecutions for MARPOL noncompliance,” McCullough said. “There is no reason there wouldn’t be something similar under IMO 2020.”
The opportunity for violation? “It is not worth it,” McCullough said. The ones who will be violating IMO 2020 will be “a discrete group of bad actors who don’t generally ship between developed nations. It won’t take place on the route from Rotterdam to New York.”
However, the financial incentives to violate the rule are growing, if you take out that pesky part about having to pay millions of dollars in fines if caught. On Sept. 23, for example, S&P Global Platts assessed high-sulfur fuel oil 380 CST (HSFO) at $417.75/mt in the key bunkering port of Fujairah in the United Arab Emirates. That is the grade that can no longer be burned in ships without scrubbers under IMO 2020. That same day, the new blend of very low-sulfur fuel oil (VLSFO) that is compliant with IMO 2020 was assessed at $487/t.
By the start of this week, the price of HSFO was down to $330/t and the price of VLSFO was just under $670/t. In other words, the premium of VLSFO had blown out to $340/t from $70/t.
With that kind of spread, it may be that noncompliance isn’t worth it but equipping a ship with a scrubber might be, and the market for dry bulk ships is starting to reflect that. Putting a scrubber on a ship may require a few million dollars and require the ship to be taken out of service. But at least it’s legal and avoids the type of strict enforcement that, in the U.S. at least, McCullough sees as likely.