Monday, November 10, 2008

The Financial Meltdown and the “Meltdown Meltdown”

Bill McKibben reminds us that we can’t put climate change on hold until we think it’s economically convenient; the natural world has its own priorities, and we don’t get to vote. If you understand why putting a lid on carbon emissions is urgent, you know why it can’t be pushed back to the middle of the to-do list.

But there is another point to be made, crucially. In the end, there is only one resource constraint the government faces in its effort to contain the financial crisis and prevent recession from morphing into depression: the requirement that external deficits be financed. The Fed can wave its wand and create finance out of thin air—so long as this doesn’t lead to a panicked flight from the dollar. As it was in the beginning of the crisis, so it shall be in its long unfolding: dollars going out must find their way back in.

This constraint is invisible at the moment, because treasuries are seen as the safest asset in an unsafe world. In fact, money is flowing in at such a pace that the Fed has had to set up a network of currency swaps to make sure other central banks have enough dollars. But that sentiment will change at some point, perhaps suddenly, and when it does the feasibility of the current free-spending bailout will be in question.

There is no single solution to this problem (although I’ve argued in the past that bailing out the private sector’s old losses to generate new finance makes it worse). One significant step, however, is to push down the US oil import bill as far as it can go. A carbon cap along the lines Obama the candidate advocated last winter would be just the ticket. If we jack up the price of oil through a hard-nosed cap, imports will fall. And, as I also argued in an earlier post, households would benefit if the auction revenues were returned to them more or less in full. Rather than paying out to oil companies and petrostates and never seeing their money again, their payments would be captured by the auctions and handed back to them. Importance for the financial crisis: less oil imports mean a lower current account deficit, and therefore less reliance on external financing. It pushes the resource constraint out.


reason said...

I don't necessarily think that the (intermediate?)immediate effect of a carbon tax would be reduced imports. After all, coal is more carbon intensive than oil.

And I would like a link to your argument that a bail out of old debt makes things worse (rather than just not being sufficient). I find it interesting.

TheTrucker said...

A carbon tax applies to coal also I would think.

The carbon tax and rebate system is the absolute screaming nuts (that is a poker slang for having an unbeatable hand). Every last nickel of the collected funds MUST be redistributed to the taxpayers equally or in the same form as the recent stimulus package. In the case of the stimulus the Republicans can claim it is a tax cut just like the last one and maybe that will keep them happy.

But I don't understand about the "permits". At present there are groups forming to issue these permits and I can't help but wonder where they get the authority. It occurs to me that the reason for the "freeness" of the permits is probably the fact that these groups have no real authority to issue the permits or to enforce the implied restrictions. As such the permits are probably worth what they paid for them.

But what do I know? I am not a neoclassical marginalist and they seem to own the field.

Peter Dorman said...


Some relevant posts would be this and this and this.


Right: a carbon tax applies to all fossil fuels based on their carbon density. Permits under a cap-and-share (or whatever you want to call it) system should not be confused with offsets under the current non-system. I've discussed the difference in several earlier posts.