The other day, Sandwichman posted a passage from an interview with Google co-founder and CEO Larry Page in which he mentioned working less as a response to worries about technological unemployment. Page cited Peter Diamandis's book Abundance so I thought I would track down the source for Page's musings.
Page's source can be found in an appendix: "Dangers of the Exponentials" and is contained in an extended quotation from a 2011 CNN article, "Are Jobs Obsolete," by media theorist, Douglas Rushkoff. Here is Rushkoff in an 2011 Wall Street Journal interview, discussing the question, "Does America Really Need More Jobs?":
Thursday, July 10, 2014
Climate Misconception #17: Carbon taxes are a great way to raise money for green projects
There’s gold in them thar climate laws. If taxes are imposed on the production of fossil fuels or if carbon permits are sold at market prices to fossil fuel companies, vast sums of money will be raised. The US, for instance, is currently responsible for somewhat over five billion tons of CO2 equivalent emissions per year. (There are problems with the way these numbers are calculated, but the order of magnitude is OK.) If we were to put a $50 per ton tax on them, and putting aside the demand reduction this would lead to, that comes to $250 billion: serious money.
Environmental groups have been scraping for a billion here, a billion there to fund critical programs for decades. We need a smart grid, mass transit, subsidies for home insulation, money for R&D in energy efficiency and renewables, and much more. Environmental investments were underfunded during the good years, and now they are falling even further behind under conditions of austerity. Not surprisingly, when environmentalists see the possibility of a quarter trillion dollars in new revenue, they pull out their want list.
Unfortunately, while I completely agree that these investments are necessary—even more necessary than before if we get serious about carbon—carbon taxes or permit revenues are not a good source. The main problem is that they are essentially sales taxes. No matter where they are levied, they will be passed along to the ultimate consumer. And this is a feature, not a bug: the goal is to change the habits of hundreds of millions of people, substantially and quickly. In the end there are only two ways to do this, with lots of very detailed regulation or by raising the cost of carbon-intensive goods and services. The second is preferable. But sales taxes are regressive, since the lower your income the more of it you spend. They provide a poor revenue stream for public investment, and green groups should not try to capture them. As I will argue later, it is better public policy—more progressive and more politically tractable—to rebate carbon revenues on a per capita basis.
One irony in this debate is that there is no shortage of money that could be used for environmental investments. A large part of the US budget, for instance, could readily be repurposed; this includes massive subsidies to fossil fuels and most of the farm subsidies, not to mention military expenditures of minimal (or even negative) utility. Moreover, in a macroeconomic environment characterized by a large output gap and rock-bottom interest rates, borrowing to pay for some of these investments is not only possible but economically desirable. These are fights that should not be abandoned.
It makes a difference not only what investments get made but also how they are financed. This is partly a matter of social justice, but it is also important politically. The coalition needed to advance serious climate policy in the teeth of business resistance needs to be wide and deep; in particular it has to include the majority of citizens who have low or moderate incomes. Proposing regressive taxation to finance green investment objectives is a political divider, not a uniter.
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Environmental groups have been scraping for a billion here, a billion there to fund critical programs for decades. We need a smart grid, mass transit, subsidies for home insulation, money for R&D in energy efficiency and renewables, and much more. Environmental investments were underfunded during the good years, and now they are falling even further behind under conditions of austerity. Not surprisingly, when environmentalists see the possibility of a quarter trillion dollars in new revenue, they pull out their want list.
Unfortunately, while I completely agree that these investments are necessary—even more necessary than before if we get serious about carbon—carbon taxes or permit revenues are not a good source. The main problem is that they are essentially sales taxes. No matter where they are levied, they will be passed along to the ultimate consumer. And this is a feature, not a bug: the goal is to change the habits of hundreds of millions of people, substantially and quickly. In the end there are only two ways to do this, with lots of very detailed regulation or by raising the cost of carbon-intensive goods and services. The second is preferable. But sales taxes are regressive, since the lower your income the more of it you spend. They provide a poor revenue stream for public investment, and green groups should not try to capture them. As I will argue later, it is better public policy—more progressive and more politically tractable—to rebate carbon revenues on a per capita basis.
One irony in this debate is that there is no shortage of money that could be used for environmental investments. A large part of the US budget, for instance, could readily be repurposed; this includes massive subsidies to fossil fuels and most of the farm subsidies, not to mention military expenditures of minimal (or even negative) utility. Moreover, in a macroeconomic environment characterized by a large output gap and rock-bottom interest rates, borrowing to pay for some of these investments is not only possible but economically desirable. These are fights that should not be abandoned.
It makes a difference not only what investments get made but also how they are financed. This is partly a matter of social justice, but it is also important politically. The coalition needed to advance serious climate policy in the teeth of business resistance needs to be wide and deep; in particular it has to include the majority of citizens who have low or moderate incomes. Proposing regressive taxation to finance green investment objectives is a political divider, not a uniter.
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Climate Misconception #16: Carbon taxes are so much better than carbon permits as a basis for climate action
Because any form of carbon regulation will have negative effects on a wide range of businesses and has to overcome their opposition, the first, feeble attempts at policy have been riddled with giveaways. That’s a long, sad story, and one I don’t want to belabor here. The upshot, however, is that there has been a preference for systems based on carbon permits with four main characteristics: too many permits are issued (minimizing climate benefits but reducing business burdens), the permits have usually been given away rather than sold (so that businesses don’t have to pay for them but can sell them or pass the impact on to consumers), there have been carveouts for entire industries (where coverage depends on political influence rather than policy effectiveness) and various kinds of offsets are allowed (voiding the need for permits if businesses make favored investments). This is bad policy on every score: ineffectual, opaque, and regressive.
Unfortunately, the reaction of many climate activists has been to confuse symptom and cause. Rather than tracing these bad policies to the current balance of political-economic power, they blame permits themselves, thinking that a switch from permits to taxes will fix the problem. The purpose of this post is to explain why they’re wrong—which can be done rather quickly—and then to make the case that, while there is a large overlap between the two approaches, if your overriding concern is the threat of catastrophic climate change you should go for permits over taxes.
First, look at how each method reflects the political economy of policy-making. At present, business interests have predominant power, and carbon control rules have to placate them. As we’ve seen, this takes four forms under a permit regime: too many permits, permit giveaways, carveouts and offsets. But each has its counterpart under a tax approach: taxes can be set too low, they can be offset or rebated through reductions in other taxes, they can be applied selectively, and there can be exemptions.
Taxes set too low: No one wants to pay taxes. Businesses in particular are in a position to do something about this. Carbon taxes will be subject to negotiation, and when the deal is signed, if businesses have their way—which to this point they have—the taxes will be weak and there will be little reduction in fossil fuel use.
Offsets and rebates: We live in a world of many taxes. There are income taxes, sales and excise taxes, profit taxes and all the rest. If the government institutes a new tax on carbon, businesses will say, let’s make this revenue neutral! Cut other taxes so that our net tax burden doesn’t go up. Formally, this is equivalent to a carbon permit giveaway: the system does provide an incentive to reduce the use of fossil fuels (since they are taxed), but businesses don’t pay the cost. Instead, they can pass it along to their consumers and even come out ahead on the deal.
Carveouts: Nothing says a carbon tax has to apply to all uses of fossil fuels. Business will push hard to have the tax apply industry by industry and then push again to exempt their own. Politicians tend to like this setup too, because more discretionary power over who pays how much tax translates into more campaign contributions, horse-trading heft and influence in general.
Exemptions: Just like businesses can take advantage of loopholes under a permit regime if they make approved investments (for which you should consult the good people at Carbon Market Watch), they can be given tax forgiveness if they do the same things. Anyone who thinks this is unlikely should sit down with any country’s tax code.
The bottom line is that junking permits and switching to taxes won’t do much good if businesses still have to be bought off in order to get a climate bill passed.
But political economy aside, what are the relative merits of the two approaches? First, let’s be clear on how they’re supposed to work. Taxes can be levied on producers or consumers at various points along the fossil fuel cycle; the idea is to reduce the use of carbon fuels by making them more expensive. The more upstream the tax—imposing it on those who bring these fuels into the economy rather than end users—the greater its flexibility and the easier it is to implement. Permits do the same thing, but by requiring a permit for fossil fuel use rather than charging a tax. They are analogous to hunting and fishing permits, which are limited in supply to maintain the population of whatever creatures people are hunting or fishing. As with taxes, the more upstream the permitting, the more flexible the system and the easier it is to monitor and enforce.
At first blush these two approaches are mirror images of each other. Suppose the following diagram represents the demand for fossil fuels, lumping all of them together in a single market:
The initial price is P1 and the initial quantity produced is Q1. A tax raises the price to P2, and demand then falls to Q2. A permit system lowers the amount that can be produced to Q2, and the price rises to P2. Under these assumptions, you can just flip a coin to decide which tool you want to use.
The biggest difference emerges when you introduce uncertainty. Suppose you don’t really know the relationship between price and quantity demanded, especially as you move away from the current market situation. Indeed, this is practically a given. First let’s see what this means for taxes:
A tax sets the price, but the amount by which fossil fuel use will be reduced is unknown. Now look at permits:
Permits set the amount of fossil fuels that can be burned, but the price that clears the market is unknown.
If you could have continuous adjustment of either taxes or permits in order to respond to unanticipated effects as they arise, you would be back at the first diagram, and all would be well. That’s far too great a burden for the political system to bear, however. It’s a huge deal to pass a law regulating carbon, and you are likely to be able to tweak it only rarely. In the real world, uncertainty will stick.
From this perspective, the choice between taxes and permits is about which uncertainty you prefer to live with. If your main concern is that carbon control regulations will be too costly, you should go with taxes: they pin down the cost and let the quantities of fossil fuels fluctuate. If, like the IPCC, your main concern is that we will overspend our carbon budget, you should be in favor of permits, which pin down carbon introduced into the carbon cycle but allow costs to fluctuate.
It is ironic that grassroots climate activists, who claim to be dedicated to meeting carbon goals no matter what, should denigrate permits and be so attached to taxes. My guess is that this analysis, which has been standard in environmental economics for 40 years, will be new to them.
There is a second reason why, in my opinion, permits are better suited to the specific demands of carbon policy. Recall that, if we want to reduce the risk of runaway climate change, we need to meet a fixed carbon budget. The constraint is not, how many tons can be extracted and emitted in any given year, but how many can be funneled into the carbon cycle over the coming decades in total. Any extra ton you allow this year has to be deducted from future allowances if the budget constraint is to be met.
Nothing in the tax approach addresses this condition. If too much carbon is emitted this year, there is no automatic mechanism that will make taxes rise the next; you have to do it by hand. Permits, however, can be designed to be intertemporal from the ground up. You could have some or all of them be undated, in the sense that they would authorize carbon extraction in general but not for any particular year. That way, if you think that more permits are needed this year, you can move some forward from next year—a shift that automatically stays within the long run carbon budget constraint. As we’ll see later, this could even be done by markets, without any conscious political action at all. In practice, I expect that going on a carbon diet will result in numerous unanticipated economic crunches along the way, creating pressures to temporarily relax policy controls. Under a tax system temporary is permanent: extra production in the near term is not made up by offsetting reductions later on. (Remember that the point is to prevent an accumulation of greenhouse gases, not their emission in any particular year.) Under a permit system, temporary could be temporary if the permits are designed properly.
Finally, a word about politics: pick a tool and get a discourse. If the tool is taxes, the discourse will be about how much we want to pay for carbon control. This brings us into the world of the social cost of carbon. Is the tax too high or too low? That depends on whether the benefit we get from cutting carbon a little more or less is above or below the tax rate. Those will be the terms under which politics gets carried out.
If the tool is permits, the discourse will be about how much carbon we want to allow into the atmosphere, and therefore how much climate change risk we’re willing to live with. This brings us into the world of the IPCC, climate science and carbon budget constraints. Are too many permits being issued or too few? That will depend on what our understanding of the carbon cycle and the climate system tells us about greenhouse gas concentrations.
I think climate activists should pick door number two.
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Unfortunately, the reaction of many climate activists has been to confuse symptom and cause. Rather than tracing these bad policies to the current balance of political-economic power, they blame permits themselves, thinking that a switch from permits to taxes will fix the problem. The purpose of this post is to explain why they’re wrong—which can be done rather quickly—and then to make the case that, while there is a large overlap between the two approaches, if your overriding concern is the threat of catastrophic climate change you should go for permits over taxes.
First, look at how each method reflects the political economy of policy-making. At present, business interests have predominant power, and carbon control rules have to placate them. As we’ve seen, this takes four forms under a permit regime: too many permits, permit giveaways, carveouts and offsets. But each has its counterpart under a tax approach: taxes can be set too low, they can be offset or rebated through reductions in other taxes, they can be applied selectively, and there can be exemptions.
Taxes set too low: No one wants to pay taxes. Businesses in particular are in a position to do something about this. Carbon taxes will be subject to negotiation, and when the deal is signed, if businesses have their way—which to this point they have—the taxes will be weak and there will be little reduction in fossil fuel use.
Offsets and rebates: We live in a world of many taxes. There are income taxes, sales and excise taxes, profit taxes and all the rest. If the government institutes a new tax on carbon, businesses will say, let’s make this revenue neutral! Cut other taxes so that our net tax burden doesn’t go up. Formally, this is equivalent to a carbon permit giveaway: the system does provide an incentive to reduce the use of fossil fuels (since they are taxed), but businesses don’t pay the cost. Instead, they can pass it along to their consumers and even come out ahead on the deal.
Carveouts: Nothing says a carbon tax has to apply to all uses of fossil fuels. Business will push hard to have the tax apply industry by industry and then push again to exempt their own. Politicians tend to like this setup too, because more discretionary power over who pays how much tax translates into more campaign contributions, horse-trading heft and influence in general.
Exemptions: Just like businesses can take advantage of loopholes under a permit regime if they make approved investments (for which you should consult the good people at Carbon Market Watch), they can be given tax forgiveness if they do the same things. Anyone who thinks this is unlikely should sit down with any country’s tax code.
The bottom line is that junking permits and switching to taxes won’t do much good if businesses still have to be bought off in order to get a climate bill passed.
But political economy aside, what are the relative merits of the two approaches? First, let’s be clear on how they’re supposed to work. Taxes can be levied on producers or consumers at various points along the fossil fuel cycle; the idea is to reduce the use of carbon fuels by making them more expensive. The more upstream the tax—imposing it on those who bring these fuels into the economy rather than end users—the greater its flexibility and the easier it is to implement. Permits do the same thing, but by requiring a permit for fossil fuel use rather than charging a tax. They are analogous to hunting and fishing permits, which are limited in supply to maintain the population of whatever creatures people are hunting or fishing. As with taxes, the more upstream the permitting, the more flexible the system and the easier it is to monitor and enforce.
At first blush these two approaches are mirror images of each other. Suppose the following diagram represents the demand for fossil fuels, lumping all of them together in a single market:
The initial price is P1 and the initial quantity produced is Q1. A tax raises the price to P2, and demand then falls to Q2. A permit system lowers the amount that can be produced to Q2, and the price rises to P2. Under these assumptions, you can just flip a coin to decide which tool you want to use.
The biggest difference emerges when you introduce uncertainty. Suppose you don’t really know the relationship between price and quantity demanded, especially as you move away from the current market situation. Indeed, this is practically a given. First let’s see what this means for taxes:
A tax sets the price, but the amount by which fossil fuel use will be reduced is unknown. Now look at permits:
Permits set the amount of fossil fuels that can be burned, but the price that clears the market is unknown.
If you could have continuous adjustment of either taxes or permits in order to respond to unanticipated effects as they arise, you would be back at the first diagram, and all would be well. That’s far too great a burden for the political system to bear, however. It’s a huge deal to pass a law regulating carbon, and you are likely to be able to tweak it only rarely. In the real world, uncertainty will stick.
From this perspective, the choice between taxes and permits is about which uncertainty you prefer to live with. If your main concern is that carbon control regulations will be too costly, you should go with taxes: they pin down the cost and let the quantities of fossil fuels fluctuate. If, like the IPCC, your main concern is that we will overspend our carbon budget, you should be in favor of permits, which pin down carbon introduced into the carbon cycle but allow costs to fluctuate.
It is ironic that grassroots climate activists, who claim to be dedicated to meeting carbon goals no matter what, should denigrate permits and be so attached to taxes. My guess is that this analysis, which has been standard in environmental economics for 40 years, will be new to them.
There is a second reason why, in my opinion, permits are better suited to the specific demands of carbon policy. Recall that, if we want to reduce the risk of runaway climate change, we need to meet a fixed carbon budget. The constraint is not, how many tons can be extracted and emitted in any given year, but how many can be funneled into the carbon cycle over the coming decades in total. Any extra ton you allow this year has to be deducted from future allowances if the budget constraint is to be met.
Nothing in the tax approach addresses this condition. If too much carbon is emitted this year, there is no automatic mechanism that will make taxes rise the next; you have to do it by hand. Permits, however, can be designed to be intertemporal from the ground up. You could have some or all of them be undated, in the sense that they would authorize carbon extraction in general but not for any particular year. That way, if you think that more permits are needed this year, you can move some forward from next year—a shift that automatically stays within the long run carbon budget constraint. As we’ll see later, this could even be done by markets, without any conscious political action at all. In practice, I expect that going on a carbon diet will result in numerous unanticipated economic crunches along the way, creating pressures to temporarily relax policy controls. Under a tax system temporary is permanent: extra production in the near term is not made up by offsetting reductions later on. (Remember that the point is to prevent an accumulation of greenhouse gases, not their emission in any particular year.) Under a permit system, temporary could be temporary if the permits are designed properly.
Finally, a word about politics: pick a tool and get a discourse. If the tool is taxes, the discourse will be about how much we want to pay for carbon control. This brings us into the world of the social cost of carbon. Is the tax too high or too low? That depends on whether the benefit we get from cutting carbon a little more or less is above or below the tax rate. Those will be the terms under which politics gets carried out.
If the tool is permits, the discourse will be about how much carbon we want to allow into the atmosphere, and therefore how much climate change risk we’re willing to live with. This brings us into the world of the IPCC, climate science and carbon budget constraints. Are too many permits being issued or too few? That will depend on what our understanding of the carbon cycle and the climate system tells us about greenhouse gas concentrations.
I think climate activists should pick door number two.
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My Nobel Prize
Globe and Mail:
Munro’s Books, the venerable Victoria retailer launched 50 years ago by Nobel Prize winner Alice Munro and her then husband, is being turned over to a team of senior employees to run.
Current owner Jim Munro, 84, has decided to retire and also to cede the 4,500-square foot operation on downtown Government Street to four employees to operate as of this September.
They are aiming to carry on the retailing tradition that has made the bookstore in a 1909-era former bank a book-buying destination in B.C.’s capital. The inventory hovers around 30,000 books at any given time.
The new operators will be store manager Jessica Walker, senior buyer Carol Mentha, comptroller Sarah Frye and operations manager Ian Cochran.
Wednesday, July 9, 2014
Climate Misconception #15: Carbon permits will just be a new source of financial speculation
Have you heard? Proposals to combat climate change by requiring carbon permits are being pushed by Wall Street, since it gives them a new financial toy to play with. Soon there will be markets in permits, and then markets in derivatives of permits, leading to a frenzy of speculation and the next thing you know we will all be swallowed up in another global financial panic.
This is an argument made up entirely of buzzwords: Wall Street, finance, derivatives, speculation. For some activists, intoning them and summoning the demons they evoke constitutes taking a stand. If you suggest there may be gaps in their chain of logic, that just shows you are either duped or on the other side, an apologist for profiteering and exploitation.
Before dissecting this myth, I want to make it clear that there really are deep problems with the financial sector. It’s way too big, sucks too much wealth out of the productive parts of the economy, and is prone to bouts of high-risk speculation that will surely put the world economy back in the danger zone at some point.
But that’s a separate issue.
A system of carbon permits does not feed financial speculation, and the entire attempt to link carbon capping to Wall Street malfeasance is absurd.
You can tell that there’s a lot less to this argument than meets the eye because proponents don’t tell you which derivatives they think are likely to feast on carbon permits, and why that would be bad. It’s a bit like the magic syllables Faust finds in the secret book he’s given: who knows what they mean, but say them and, bingo, Mephistopheles himself is at your service. Saying “derivatives” works the same way.
Think for a moment. If there’s a carbon cap, and energy companies need permits to extract or ship fossil fuels—and, crucially, if there are permits for significantly less carbon than companies would otherwise want to dig up or pump—then the permits will have value. It’s like a taxi medallion, for instance. If I have a carbon permit, but you want it more than I do, I don’t see the harm in selling it to you.
Now take the next step. Rather than buying a permit to supply a quantity of fossil fuel today, I could buy the right to acquire it from you a year from now. If you sell me this right, it obligates you to buy the permit at next year’s price and sell it to me at whatever price we’ve just agreed on. This is a futures market. It is definitely speculative: I’m betting that the price will go up beyond what I’m currently paying, and you’re betting the price will go down. (You are shorting the permit.) But that’s OK! This serves many useful purposes. It transmits expected scarcities in the future back to the present in the form of higher futures prices, enabling everyone, including those who have nothing to do with this market, to prepare for the coming shortage. Depending on how the permit system works, it can smooth out price increases so they don’t gyrate so much. They enable producers to hedge, reducing their overall risk exposure. You really should want a futures market.
And the next step is to incorporate more elaborate scenarios into the derivative. I agree to buy permits from you at a given price, but only if some other price remains below a certain level, or we build inflation into the price, or something else. These more complex derivatives can offer more finely tuned hedges, or perhaps the missing pieces that minimize the combined risk of a portfolio as much as possible. That’s good too.
Of course, speculators can do dumb or dangerous things, but they don’t need carbon permits for that opportunity. Financial instruments can be constructed to bet on World Cup matches, movie ticket receipts or just about anything else that human beings wish to bet on. Such instruments may indeed lack transparency or put unsuspecting lenders, depositors or taxpayers at risk. This is not an argument for suppressing organized athletics or entertainment, much less carbon caps. It is an argument for regulating the financial sector, but as I said, that’s a different topic.
In this post I’ve actually argued more than I need to. A well-designed system of carbon permits should result in very little trading; we will see this later. But even if trading permits becomes widespread—so what?
ADDENDUM: Exposés of the horrors of carbon offsets are not germane. None of this is about offsets. Indeed, the offset business has proven to be quite a racket, but that’s not about trading. There is virtually no trade or speculation in offsets.
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This is an argument made up entirely of buzzwords: Wall Street, finance, derivatives, speculation. For some activists, intoning them and summoning the demons they evoke constitutes taking a stand. If you suggest there may be gaps in their chain of logic, that just shows you are either duped or on the other side, an apologist for profiteering and exploitation.
Before dissecting this myth, I want to make it clear that there really are deep problems with the financial sector. It’s way too big, sucks too much wealth out of the productive parts of the economy, and is prone to bouts of high-risk speculation that will surely put the world economy back in the danger zone at some point.
But that’s a separate issue.
A system of carbon permits does not feed financial speculation, and the entire attempt to link carbon capping to Wall Street malfeasance is absurd.
You can tell that there’s a lot less to this argument than meets the eye because proponents don’t tell you which derivatives they think are likely to feast on carbon permits, and why that would be bad. It’s a bit like the magic syllables Faust finds in the secret book he’s given: who knows what they mean, but say them and, bingo, Mephistopheles himself is at your service. Saying “derivatives” works the same way.
Think for a moment. If there’s a carbon cap, and energy companies need permits to extract or ship fossil fuels—and, crucially, if there are permits for significantly less carbon than companies would otherwise want to dig up or pump—then the permits will have value. It’s like a taxi medallion, for instance. If I have a carbon permit, but you want it more than I do, I don’t see the harm in selling it to you.
Now take the next step. Rather than buying a permit to supply a quantity of fossil fuel today, I could buy the right to acquire it from you a year from now. If you sell me this right, it obligates you to buy the permit at next year’s price and sell it to me at whatever price we’ve just agreed on. This is a futures market. It is definitely speculative: I’m betting that the price will go up beyond what I’m currently paying, and you’re betting the price will go down. (You are shorting the permit.) But that’s OK! This serves many useful purposes. It transmits expected scarcities in the future back to the present in the form of higher futures prices, enabling everyone, including those who have nothing to do with this market, to prepare for the coming shortage. Depending on how the permit system works, it can smooth out price increases so they don’t gyrate so much. They enable producers to hedge, reducing their overall risk exposure. You really should want a futures market.
And the next step is to incorporate more elaborate scenarios into the derivative. I agree to buy permits from you at a given price, but only if some other price remains below a certain level, or we build inflation into the price, or something else. These more complex derivatives can offer more finely tuned hedges, or perhaps the missing pieces that minimize the combined risk of a portfolio as much as possible. That’s good too.
Of course, speculators can do dumb or dangerous things, but they don’t need carbon permits for that opportunity. Financial instruments can be constructed to bet on World Cup matches, movie ticket receipts or just about anything else that human beings wish to bet on. Such instruments may indeed lack transparency or put unsuspecting lenders, depositors or taxpayers at risk. This is not an argument for suppressing organized athletics or entertainment, much less carbon caps. It is an argument for regulating the financial sector, but as I said, that’s a different topic.
In this post I’ve actually argued more than I need to. A well-designed system of carbon permits should result in very little trading; we will see this later. But even if trading permits becomes widespread—so what?
ADDENDUM: Exposés of the horrors of carbon offsets are not germane. None of this is about offsets. Indeed, the offset business has proven to be quite a racket, but that’s not about trading. There is virtually no trade or speculation in offsets.
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Climate Misconception #14: Greedy oil companies are preventing action on climate change
One of the big developments of the last couple of years is that the movement to stem climate change has discovered political economy. Before that the strategy was science class writ large: explain clearly enough to enough of the population why filling the atmosphere with carbon is a bad idea, and the political system will snap to attention. But that didn’t work, and climate strategists have now shifted to a new target, the corporations that have been funding denialism and fighting carbon legislation every way they can find. The initial insight is rather obvious: if the goal is to keep carbon in the ground, companies that own this carbon are going to be against it.
There’s nothing wrong with this shift, but it represents just the beginning of a political economy analysis, not its endpoint.
Before looking at the interests at stake, it’s in order to say something about this word “greed”. Are oil and kindred fossil fuel companies especially greedy compared to other businesses? They have become immensely skilled at locating hard-to-find deposits of carbon fuels and bringing them to the surface. Current plans to produce deep ocean oil, for instance, are technological marvels. Except for climate change, this wizardry would be something to cheer about: they are giving the public what the public demands, and it's unfortunate that this demand happens to be suicidal. In other words, the problem is as much in the demand as in the supply, if not more so. In any case, every business strives to make a profit, and no business is happy to see the value of the assets it has invested in plunge to zero. Fossil fuel companies are not exceptions in this respect. Demonizing them, as if they are owned and staffed by a distinct race of ethically damaged mutants, is false and counterproductive. (That said, coal companies in the US have a long record of environmental destruction and disregard for worker rights—but even so they are not necessarily outliers in those respects.)
But they are still driven by economic interest to oppose serious climate policy. The political economy problem is not an illusion.
Now let’s take a closer look at these interests. Fossil fuel deposits owned by private companies that are mandated to remain undeveloped because of their climate-changing impacts become stranded assets, investments that simply have to be written off. Most such deposits are owned by governments, not private firms, however. On top of this there are secondary investments that would also be devalued, such as leasing rights (unless they are reimbursed) and stocks of mining and drilling equipment. No one doubts that this would be an enormous financial loss for the entire sector. This surely explains the behavior of these companies.
Stringent limits of fossil fuel extraction is therefore wealth destruction—but whose wealth? Some fossil fuel companies have narrow ownership, meaning proprietorships, partnerships, and corporations whose shares are not publicly traded, but the bulk of the assets are in publicly traded corporations. Equity claims on the fossil fuel sector are dispersed across portfolios around the world. In the end, policies that diminish or even zero out these claims threaten the a portion of the wealth position of most of the world’s individual and institutional investors.
On the other hand, when you consider fossil fuel wealth in a portfolio context, you also have to take into account the fact that the great majority of the world’s wealth is not in fossil fuels. Only a few percent of total is directly at stake.
In fossil fuels. But then we have to consider the larger problem of the entire capital stock whose value is at risk from a dramatic surge in fossil fuel prices—the concern raised in Misconception #11.
One small example may help illuminate the issue. The European Union has an Emissions Trading System which is intended to reduce fossil fuel use. It hasn’t proved very effective because the carbon caps have been too generous, and too many sectors were excluded. In an effort to tighten, the EU extended the ETS to airlines flying in and out of European airports. In response, Congress passed and Obama signed into law the European Union Emissions Trading Scheme Prohibition Act of 2012, which makes it illegal for any US carrier to participate in the European system.
Of course, Obama presents himself as a tireless crusader on behalf of combating climate change, and the EU program, weak as it was, counts as an important initiative in this field. What gives? It probably won’t surprise you to learn that the bill was the object of an intense lobbying campaign by the airline industry. If their operations had been allowed to come under the ETS, and if Europe were to dial down its carbon caps to a level at which they might bite a little, fuel costs would rise and airline profits would tumble. Indeed, if the goal is to actually reduce the consumption of jet fuel, the cost of air travel has to go up enough that a substantial number of would-be travelers choose not to fly. That in turn would mean that some portion of the airline companies’ investments would need to be written down or even off.
Surely the airlines are not the only businesses whose investments would suffer if fossil fuel prices were greatly increased. The rest of the transportation sector—trucking, for instance—would be alarmed. No doubt many manufacturers depend on relatively cheap energy as an input or to market their outputs; the auto industry comes to mind. How about real estate interests in America’s vast suburbia? Or agroindustry? The list could be long, as we will likely find out if stringent carbon policy is ever put on the table.
It will be a tremendous challenge to overcome all of this business opposition, but it’s not impossible. The risks of catastrophic climate change can serve as an effective motivator, and, as we will see, policies can be crafted to actually generate financial benefits for much of the population. The worst mistake any movement can make, however, is to underestimate its opposition. Trying to isolate the fossil fuel companies seems like a clever move by climate campaigners, but it will fail because a considerable portion of business, and the wealthy who invest in them, will see their interests on the line.
In the end, this is why so little has happened on the policy front despite overwhelming evidence for the need for action, and why it will take a massive, determined movement to turn the tide.
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There’s nothing wrong with this shift, but it represents just the beginning of a political economy analysis, not its endpoint.
Before looking at the interests at stake, it’s in order to say something about this word “greed”. Are oil and kindred fossil fuel companies especially greedy compared to other businesses? They have become immensely skilled at locating hard-to-find deposits of carbon fuels and bringing them to the surface. Current plans to produce deep ocean oil, for instance, are technological marvels. Except for climate change, this wizardry would be something to cheer about: they are giving the public what the public demands, and it's unfortunate that this demand happens to be suicidal. In other words, the problem is as much in the demand as in the supply, if not more so. In any case, every business strives to make a profit, and no business is happy to see the value of the assets it has invested in plunge to zero. Fossil fuel companies are not exceptions in this respect. Demonizing them, as if they are owned and staffed by a distinct race of ethically damaged mutants, is false and counterproductive. (That said, coal companies in the US have a long record of environmental destruction and disregard for worker rights—but even so they are not necessarily outliers in those respects.)
But they are still driven by economic interest to oppose serious climate policy. The political economy problem is not an illusion.
Now let’s take a closer look at these interests. Fossil fuel deposits owned by private companies that are mandated to remain undeveloped because of their climate-changing impacts become stranded assets, investments that simply have to be written off. Most such deposits are owned by governments, not private firms, however. On top of this there are secondary investments that would also be devalued, such as leasing rights (unless they are reimbursed) and stocks of mining and drilling equipment. No one doubts that this would be an enormous financial loss for the entire sector. This surely explains the behavior of these companies.
Stringent limits of fossil fuel extraction is therefore wealth destruction—but whose wealth? Some fossil fuel companies have narrow ownership, meaning proprietorships, partnerships, and corporations whose shares are not publicly traded, but the bulk of the assets are in publicly traded corporations. Equity claims on the fossil fuel sector are dispersed across portfolios around the world. In the end, policies that diminish or even zero out these claims threaten the a portion of the wealth position of most of the world’s individual and institutional investors.
On the other hand, when you consider fossil fuel wealth in a portfolio context, you also have to take into account the fact that the great majority of the world’s wealth is not in fossil fuels. Only a few percent of total is directly at stake.
In fossil fuels. But then we have to consider the larger problem of the entire capital stock whose value is at risk from a dramatic surge in fossil fuel prices—the concern raised in Misconception #11.
One small example may help illuminate the issue. The European Union has an Emissions Trading System which is intended to reduce fossil fuel use. It hasn’t proved very effective because the carbon caps have been too generous, and too many sectors were excluded. In an effort to tighten, the EU extended the ETS to airlines flying in and out of European airports. In response, Congress passed and Obama signed into law the European Union Emissions Trading Scheme Prohibition Act of 2012, which makes it illegal for any US carrier to participate in the European system.
Of course, Obama presents himself as a tireless crusader on behalf of combating climate change, and the EU program, weak as it was, counts as an important initiative in this field. What gives? It probably won’t surprise you to learn that the bill was the object of an intense lobbying campaign by the airline industry. If their operations had been allowed to come under the ETS, and if Europe were to dial down its carbon caps to a level at which they might bite a little, fuel costs would rise and airline profits would tumble. Indeed, if the goal is to actually reduce the consumption of jet fuel, the cost of air travel has to go up enough that a substantial number of would-be travelers choose not to fly. That in turn would mean that some portion of the airline companies’ investments would need to be written down or even off.
Surely the airlines are not the only businesses whose investments would suffer if fossil fuel prices were greatly increased. The rest of the transportation sector—trucking, for instance—would be alarmed. No doubt many manufacturers depend on relatively cheap energy as an input or to market their outputs; the auto industry comes to mind. How about real estate interests in America’s vast suburbia? Or agroindustry? The list could be long, as we will likely find out if stringent carbon policy is ever put on the table.
It will be a tremendous challenge to overcome all of this business opposition, but it’s not impossible. The risks of catastrophic climate change can serve as an effective motivator, and, as we will see, policies can be crafted to actually generate financial benefits for much of the population. The worst mistake any movement can make, however, is to underestimate its opposition. Trying to isolate the fossil fuel companies seems like a clever move by climate campaigners, but it will fail because a considerable portion of business, and the wealthy who invest in them, will see their interests on the line.
In the end, this is why so little has happened on the policy front despite overwhelming evidence for the need for action, and why it will take a massive, determined movement to turn the tide.
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The Walgreens Inversion
Good news - Max Sawicky has returned to blogging:
The Gov needs money. I’m as entertained as anyone else by speculations about how to improve the tax code. It certainly could be improved. But there is a much simpler way to increase collections — enforce the tax code we already have. About one in six dollars owed is not paid on time, or ever. The solution is simple: give the over-burdened Internal Revenue Service more money.Bad news – American corporations are back to the inversion game:
Walgreens, our country’s biggest pharmacy chain, is trying to dodge paying its fair share of taxes. It may soon shift its corporate address from Illinois to Switzerland, a tax haven. After it completes a planned merger with Alliance Boots, a Swiss pharmacy chain, Walgreens can take advantage of a tax loophole to reincorporate itself offshore. This may let the company avoid $4 billion in U.S. taxes over the next five years, leaving the rest of us to pick up the tab. Walgreens would still be controlled from the U.S. It would still benefit from our roads, bridges and infrastructure, and it would will still have more than $70 billion in annual U.S. sales.Walgreens does tend to sell around $72 billion a year in products but mostly to U.S. customers. Its profits tend to be around $4 billion a year yielding a 5.5% operating margin. When I first read this story, I was puzzled how simply being tax domiciled in Switzerland would impact the U.S. tax obligations for what is essentially a purely domestic enterprise. Ben Hallman offers two possible explanations:
The tax savings of moving a corporate address abroad can be enormous. Companies are no longer on the hook for paying U.S. taxes on profits earned abroad, potentially a huge benefit for companies with big overseas sales. Walgreens, because its stores are located primarily in the U.S., would likely realize big tax savings in a different way: By shifting large amounts of debt from its foreign operation to its domestic operation in order to offset profit, said Frank Clemente, the executive director of Americans for Tax Justice.Walgreens has virtually no third party debt right now. I’m not an expert on whether or not one can just have a U.S. affiliate pay interest expenses on debt generated by a foreign affiliate so if any of you are international tax law experts – feel free to comment. But it is this second scenario where I would like to comment:
One common way U.S. companies exploit such shell companies is by transferring patents or trademarks abroad, and then paying their subsidiary licensing fees for the right to use those patents, thus reducing domestic profit.We need to do what the tax attorneys call a section 367(d) analysis. Let’s assume that the 5.5% operating margin being generated by these Walgreens stores can be decomposed into a 3% routine return versus a 2.5% royalty rate for the use of various intangibles (patents, trademarks, etc.). Hallman is suggesting that the Swiss affiliate could charge $1.8 billion per year in royalties. But under section 367(d), the Swiss affiliate would have to pay the U.S. affiliate the fair market value for the transferred intangible assets. What is a reasonable estimate of this fair market value? Is it closer to $20 billion or to $2 billion? I’m sure Walgreens could get some hack who pretends to be a valuation expert to argue for the lower figure. But if one looked at the balance sheet as well as the current market value for the equity of Walgreens and tried to deduce the market’s valuation of its intangibles, this figure would be closer to $40 billion. But as Max notes – we note a properly funded IRS to make the argument.
"A Very Complicating Influence on the Theory of Distribution"
Google co-founder and CEO, Larry Page:
Another 35 years would pass before Sydney J. Chapman would provide the theoretical explanation for Brassey's observation, published in the Economic Journal in an article conspicuously titled, "Hours of Labour." Chapman, who had been one of Alfred Marshall's star pupils at Cambridge, also collaborated with Brassey on a three-volume "continuation" of Work and Wages, with Brassey providing the introduction to each volume.
Chapman's collaboration with Brassey wasn't "out of the blue." In The Wages Question (1876), General Francis Amasa Walker, credited Brassey's Work and Wages as containing "by far the most important body of evidence on the varying efficiency of labor..."
I totally believe we should be living in a time of abundance, like Peter Diamandis' book. If you really think about the things that you need to make yourself happy - housing, security, opportunities for your kids - anthropologists have been identifying these things. It's not that hard for us to provide those things. The amount of resources we need to do that, the amount of work that actually needs to go into that is pretty small. I'm guessing less than 1-percent at the moment.
So the idea that everyone needs to work frantically to meet people's needs is just not true. I do think there's a problem that we don't recognize that. I think there's also a social problem that a lot of people aren't happy if they don't have anything to do. So we need to give people things to do. We need to feel like you're needed, wanted and have something productive to do.
But I think the mix with that and the industries we actually need and so on are-- there's not a good correspondence. That's why we're busy destroying the environment and other things, maybe we don't need to be doing. So I'm pretty worried. Until we figure that out, we're not going to have a good outcome.
One thing, I was talking to Richard Branson about this. They don't have enough jobs in the UK. He's been trying to get people to hire two part-time people instead of one full-time. So at least, the young people can have a half-time job rather than no job. And it's a slightly greater cost for employers. I was thinking, the extension of that is you have global unemployment or widespread unemployment. You just reduce work time.
Everyone I've asked-- I've asked a lot of people about this. Maybe not you guys. But most people, if I ask them, 'Would you like an extra week of vacation?' They raise their hands, 100-percent of the people. 'Two weeks vacation, or a four-day work week?' Everyone will raise their hand. Most people like working, but they'd also like to have more time with their family or to pursue their own interests. So that would be one way to deal with the problem, is if you had a coordinated way to just reduce the workweek. And then, if you add slightly less employment, you can adjust and people will still have jobs.It's not a new idea. Sandwichman has been on this file for a couple of decades. As some media commentators observed, Keynes mooted the idea of a 15-hour workweek back in 1930. But it wasn't a new idea then, either.
Prince's Tavern, Princess-street, Manchester,
Monday, Nov. 25, 1833. At a meeting called, at the above time and place, of the Working People of Manchester, and their Friends, after taking into their consideration—
That society in this country exhibits the strange anomaly of one part of the people working beyond their strength, another part working at worn-out and other employments for very inadequate wages, and another part in a state of starvation for want of employment;
That eight hours' daily labour is enough for any human being, and under proper arrangements, sufficient to afford an amply supply of food, raiment, and shelter, or the necessaries and comforts of life, and that to the remainder of his time every person is entitled for education, recreation, and sleep ;
That the productive power of this country, aided by machinery, is so great, and so rapidly increasing, as from its misdirection, to threaten danger to society by a still further fall in wages, unless some measure be adopted to reduce the hours of work, and to maintain at least the present amount of wages:— It was unanimously Resolved,
1. That it is desirable that all who wish to see society improved and confusion avoided, should endeavour to assist the working classes to obtain ' for eight hours' work the present full day's wages,' such eight hours to be performed between the hours of six in the morning and six in the evening; and that this new regulation should commence on the first day of March next.
2. That in order to carry the foregoing purposes into effect, a society shall be formed, to be called 'the Society for Promoting National Regeneration.'
3. That persons be immediately appointed from among the workmen to visit their fellow-workmen in each trade, manufacture and employment, in every district of the kingdom, for the purpose of communicating with them on the subject of the above Resolutions, and of inducing them to determine upon their adoption.
4. That persons be also appointed to visit the master manufacturers in each trade, in every district, to explain and recommend to them the adoption of the new regulation referred to in the first Resolution.
5. That the persons appointed as above shall hold a meeting on Tuesday evening, the 17th of December, at eight o'clock, to report what has been done, and to determine upon future proceedings.O.K., but it wasn't yet a respectable idea when just a bunch of working people and their friends thought it up. Thirty-nine years later, Thomas Brassey Jr. made it respectable, with the publication of his book, Work and Wages, which was based on the extensive empirical evidence accumulated in the account books of the worldwide railroad engineering firm established by his father, Thomas Brassey Sr. Chapter Six of Work and Wages was titled "Hours of Labour" and presented the empirical observation that, no more than wages are an adequate measure of the cost of labor, "the hours of work are no criterion of the amount of work performed."
 |
| Thomas Brassey, Senior |
Another 35 years would pass before Sydney J. Chapman would provide the theoretical explanation for Brassey's observation, published in the Economic Journal in an article conspicuously titled, "Hours of Labour." Chapman, who had been one of Alfred Marshall's star pupils at Cambridge, also collaborated with Brassey on a three-volume "continuation" of Work and Wages, with Brassey providing the introduction to each volume.
Chapman's collaboration with Brassey wasn't "out of the blue." In The Wages Question (1876), General Francis Amasa Walker, credited Brassey's Work and Wages as containing "by far the most important body of evidence on the varying efficiency of labor..."
Mr. Brassey's father was perhaps the greatest "captain of industry" the world has ever seen… The chief value of Mr. Brassey, Jr.'s work is derived from his possession of the full and authentic labor-accounts of his father's transactions.Fifteen years later, in his Principles of Economics, Alfred Marshall praised "the lead taken by General Walker and other American economists" for its effect in:
...forcing constantly more and more attention to the fact that highly paid labour is generally efficient and therefore not dear labour; a fact which though it is more full of hope for the future of the human race than any other that is known to us, will be found to exercise a very complicating influence on the theory of Distribution."What those complications are can only be fully comprehended in the context of Chapman's analysis of the hours of labor. Brassey to Walker to Marshall to Chapman (to Pigou to J. M. Clark to Kapp) OR (to Robbins to Hicks to oblivion).
Eric Helleiner
Good news! Eric Helleiner, whose work is about as good as it gets in international political economy, has published a pair of new books. The first, Forgotten Foundations of Bretton Woods: International Development and the Making of the Postwar Order, has been out for a few months, and the second, The Status Quo Crisis: Global Financial Governance After the 2008 Meltdown, is hot off the press.
It's convenient that they're being released in the summer, when there's more time to read for pure curiosity. Sight unseen, they get a high recommendation from me.
It's convenient that they're being released in the summer, when there's more time to read for pure curiosity. Sight unseen, they get a high recommendation from me.
Tuesday, July 8, 2014
A Short Note on the Climate Misconceptions Series
These posts have a very negative tone. For heuristic purposes, they exaggerate conceptual problems I have observed in various wings of the climate movement and take them down. They are short on nuance, balance and compliments for all the good things climate people say and do. Many of the views I criticize are held by folks I regard as my allies in the larger scheme of things.
I’m not happy about this. But my goal was to air out what I regard as debilitating confusions in shortest, fastest way possible. I have other things to do too, you know. So I apologize for everyone whose toes I’ve stepped on so brutishly, and I hope I have an opportunity in the future to make the same set of arguments in a more civilized, congenial context.
I’m not happy about this. But my goal was to air out what I regard as debilitating confusions in shortest, fastest way possible. I have other things to do too, you know. So I apologize for everyone whose toes I’ve stepped on so brutishly, and I hope I have an opportunity in the future to make the same set of arguments in a more civilized, congenial context.
Climate Misconception #13: Population growth is the underlying problem behind climate change
In my experience, this meme shows up primarily among people who have studied biology, and who mistake human beings for Drosophila. Yes, under controlled conditions fruit fly populations will increase exponentially until they reach carrying capacity and crash. It’s a powerful image, and whenever an environmental issue comes up, there will be students of Drosophila, cultured bacteria and other life forms who tell us that, whatever we think the cause is, the real, underlying cause is overpopulation.
For the record, I think there are too many humans on the planet, and I hope population growth stabilizes quickly. There is certainly pressure on many natural resources because of our numbers, and we displace the habitats of other organisms in our zeal to maximize our exploitation of the planet. Besides, it would be nice to have more natural areas for solitude and recreation.
But this has little to do with climate change. The argument is essentially the same as in the previous post concerning economic growth.
We have to systematically reduce fossil fuel use until it hits zero by mid-century. Isn’t is obvious from simple arithmetic that the key variable has to be carbon consumption per capita and not the number of capita’s? Short of a mind-bending catastrophe, how can human population fall sufficiently over the coming decades to make a significant dent in greenhouse gas emissions?
In any case, humans aren’t fruit flies. Throughout history and what we know of prehistory we have regulated our reproduction in various ways. At this point, the majority of the world’s people live in societies that are at or near the final stage in the demographic transition—low death rate, low birth rate. There are still hundreds of millions that have yet to arrive, however, and of course they should be encouraged. The measures that have been shown to work are the extension of education and women’s rights, social welfare programs and economic growth, all of which are desirable in themselves. Stabilizing the world’s population at, say, eight rather than nine billion people would be a wonderful thing, but at best it could take us only about an eighth of the way toward reaching our carbon goals—and actually a lot less because demographic stabilization is way too slow.
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For the record, I think there are too many humans on the planet, and I hope population growth stabilizes quickly. There is certainly pressure on many natural resources because of our numbers, and we displace the habitats of other organisms in our zeal to maximize our exploitation of the planet. Besides, it would be nice to have more natural areas for solitude and recreation.
But this has little to do with climate change. The argument is essentially the same as in the previous post concerning economic growth.
We have to systematically reduce fossil fuel use until it hits zero by mid-century. Isn’t is obvious from simple arithmetic that the key variable has to be carbon consumption per capita and not the number of capita’s? Short of a mind-bending catastrophe, how can human population fall sufficiently over the coming decades to make a significant dent in greenhouse gas emissions?
In any case, humans aren’t fruit flies. Throughout history and what we know of prehistory we have regulated our reproduction in various ways. At this point, the majority of the world’s people live in societies that are at or near the final stage in the demographic transition—low death rate, low birth rate. There are still hundreds of millions that have yet to arrive, however, and of course they should be encouraged. The measures that have been shown to work are the extension of education and women’s rights, social welfare programs and economic growth, all of which are desirable in themselves. Stabilizing the world’s population at, say, eight rather than nine billion people would be a wonderful thing, but at best it could take us only about an eighth of the way toward reaching our carbon goals—and actually a lot less because demographic stabilization is way too slow.
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Climate Misconception #12: Economic growth is the underlying problem behind climate change
Two things stand out about this misconception. First, it is widespread and growing in popularity. A large swath of climate activists swear by it. Second, it is completely, indefensibly and obviously wrong. A little thought blows it away. How can you put these two facts together? Is it that relatively affluent environmentalists want to feel guilty? I don’t know, but let’s take a moment to see how deeply misguided this view actually is.
1. Start with this simple point: if economic growth is bad, recessions are good. The Great Recession that came down on us in 2008-2009 should have been a cause for celebration. Maybe we need to get slammed even more next time. Does this make sense to you?
2. The anti-growth crusade smacks of rich-country myopia. The majority of the world’s population has immense unmet needs. They desperately need an inclusive form of economic growth that allows for rising living standards and a margin of security. If the global economy does not grow over the next few decades, it will be a disaster.
3. Hostility to economic growth seems to be based on a fundamental misunderstanding of what the term means. GDP is the product of final demand, goods and services directly consumed by households or capital goods purchased by firms, and the prices they command in the market. (Government production of goods and services is valued at cost.) It’s by no means a perfect gage of anything, but there it is. One way GDP can grow is if an economy produces more “stuff”—more cars, buildings, electronic gadgets and so on. Another way is by producing more services—more education, more live music, more health care. A third way is by producing better, higher-valued goods and services—skilled craftsmanship, elegant design, innovative technologies. Only the first of these is tied to an environmental burden; the second two are largely burden-less and may even reduce the footprint our economy leaves on the natural world. This should be obvious.
In case it isn’t, let me show you two chairs. On the left is one you can by for $60 at a big box store. It is cheaply made, with lots of plastic and shoddy adhesives, and it will be junk within a few years. On the right is a beautiful, hand-produced chair made of sustainably harvested wood with a stunning design—built to last a lifetime. Of course, it costs $600. For the price of the chair on the right you can have ten of the ones on the left. If society used to produce five of the cheap chairs and now produces one of the expensive ones instead, that’s economic growth. In fact, as basic needs are met, there is a tendency in modern economies to shift toward higher quality rather than more stuff. We could have policies that encourage this shift to happen even faster.
4. Suppose, in spite of everything, you still want to end economic growth—how will you prevent it? Will you prevent people from starting businesses? Or buying what they want to buy? What exactly is the plan that’s going to prevent economic growth from occurring?
5. Ah, but now I hear that the anti-growth people aren’t really anti-all-growth, only anti the growth of bad, unnecessary things. That sounds more reasonable, but who gets to decide which items are “good” or “bad”? And how will you prevent people from making or buying the “bad” stuff? If we’re talking about climate change, “bad” ought to mean “uses fossilized carbon”, putting us back in the world of ordinary policy, like carbon taxes and caps. But that isn’t anti-growth, just anti-carbon. And it doesn’t impose anyone’s judgment of what items are “unnecessary” on anyone else.
6. Did I mention that, outside a small echo chamber of environmental enthusiasts, ideological hostility toward economic growth is political suicide? What coalition can you put together on this platform? The carbon budget timetable is very tight, and it would help to have a viable political strategy.
7. Finally, suppose it really is all about economic growth, and there’s no other way to stop the carbon juggernaut—by how much does the world’s economy have to shrink to do the job? Remember, we are talking about reducing total carbon consumption by about 2.5% per year, more in the rich countries, less in the poor ones. By mid-century we have to be at near-zero use. Seriously, how much impact will a few percentage points more or less of global GDP have on this immense change in fossil fuel consumption? Isn’t it obvious that the struggle is over what and how we produce, not whether the aggregate economic value is going up or down?
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1. Start with this simple point: if economic growth is bad, recessions are good. The Great Recession that came down on us in 2008-2009 should have been a cause for celebration. Maybe we need to get slammed even more next time. Does this make sense to you?
2. The anti-growth crusade smacks of rich-country myopia. The majority of the world’s population has immense unmet needs. They desperately need an inclusive form of economic growth that allows for rising living standards and a margin of security. If the global economy does not grow over the next few decades, it will be a disaster.
3. Hostility to economic growth seems to be based on a fundamental misunderstanding of what the term means. GDP is the product of final demand, goods and services directly consumed by households or capital goods purchased by firms, and the prices they command in the market. (Government production of goods and services is valued at cost.) It’s by no means a perfect gage of anything, but there it is. One way GDP can grow is if an economy produces more “stuff”—more cars, buildings, electronic gadgets and so on. Another way is by producing more services—more education, more live music, more health care. A third way is by producing better, higher-valued goods and services—skilled craftsmanship, elegant design, innovative technologies. Only the first of these is tied to an environmental burden; the second two are largely burden-less and may even reduce the footprint our economy leaves on the natural world. This should be obvious.
In case it isn’t, let me show you two chairs. On the left is one you can by for $60 at a big box store. It is cheaply made, with lots of plastic and shoddy adhesives, and it will be junk within a few years. On the right is a beautiful, hand-produced chair made of sustainably harvested wood with a stunning design—built to last a lifetime. Of course, it costs $600. For the price of the chair on the right you can have ten of the ones on the left. If society used to produce five of the cheap chairs and now produces one of the expensive ones instead, that’s economic growth. In fact, as basic needs are met, there is a tendency in modern economies to shift toward higher quality rather than more stuff. We could have policies that encourage this shift to happen even faster.
4. Suppose, in spite of everything, you still want to end economic growth—how will you prevent it? Will you prevent people from starting businesses? Or buying what they want to buy? What exactly is the plan that’s going to prevent economic growth from occurring?
5. Ah, but now I hear that the anti-growth people aren’t really anti-all-growth, only anti the growth of bad, unnecessary things. That sounds more reasonable, but who gets to decide which items are “good” or “bad”? And how will you prevent people from making or buying the “bad” stuff? If we’re talking about climate change, “bad” ought to mean “uses fossilized carbon”, putting us back in the world of ordinary policy, like carbon taxes and caps. But that isn’t anti-growth, just anti-carbon. And it doesn’t impose anyone’s judgment of what items are “unnecessary” on anyone else.
6. Did I mention that, outside a small echo chamber of environmental enthusiasts, ideological hostility toward economic growth is political suicide? What coalition can you put together on this platform? The carbon budget timetable is very tight, and it would help to have a viable political strategy.
7. Finally, suppose it really is all about economic growth, and there’s no other way to stop the carbon juggernaut—by how much does the world’s economy have to shrink to do the job? Remember, we are talking about reducing total carbon consumption by about 2.5% per year, more in the rich countries, less in the poor ones. By mid-century we have to be at near-zero use. Seriously, how much impact will a few percentage points more or less of global GDP have on this immense change in fossil fuel consumption? Isn’t it obvious that the struggle is over what and how we produce, not whether the aggregate economic value is going up or down?
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Monday, July 7, 2014
Climate Misconception #11: Done right, climate policy can be nearly costless
The politics are straightforward. Forces representing business interests and the free market crowd resist climate policy every step of the way, complaining that the economic cost is too high. The environmentalists fire back: wrong, they say, if we use the right tools we can achieve our carbon objectives at minimal cost. Some, invoking the Porter hypothesis, even claim that getting off fossil fuels can be a net economic boost—this without taking into account the economic costs of climate change itself.
It’s obvious why environmentalists would say this. I truly wish they were right. But they are not, and their evasion damages their credibility and muddles their politics.
Why does this big-payoff-at-little-cost meme persist? If you look at the arguments of people who promote it, they generally cost out programs that fall well short of meeting carbon budget constraints like the one proposed by the IPCC. They look at small carbon taxes or modest caps whose goal is to slowly ramp up to an annual emission target in 2050 or so. Recall, however, that it’s the area under the emission path, not its eventual settling point, that tells us how much greenhouse gas accumulation we’re going to have. If you do the calculation, you’ll see that these paths come in way over budget.
Here’s a demonstration. A clever website is trillionthton.org: you enter the maximum amount of global warming you’d like to allow and the amount of uncertainty you’re willing to accept, and the engine spits out the date on which the corresponding carbon budget is maxed out under business as usual, as well as the annual rate of emissions decline necessary to meet the budget constraint if we start right now. So let’s pick two degrees celcius and “cautious” with regard to uncertainty. The engine tells us a straight-line emissions path that adheres to these stipulations requires an annual decline of somewhat over 2.5%—this year, next, year, and essentially forever.
Now for some economic arithmetic. Obviously it won’t do to have every country in the world cutting its emissions at the same rate. Some, like the US, have immense legacy emissions that tip the scales against them, and it’s reasonable that poor countries, where energy use per capita is a small fraction of what it is in the rich ones, should have much looser carbon caps. To make things simple, suppose this means that, rather than reduce at the rate of 2.5% per year, the US has to cut back by 5%. To simplify further, let’s just look at oil. (Each fossil fuel needs to be considered separately, since the mix will change over time.) Suppose its use has to go down at this average rate, with coal going down faster and natural gas slower. There is great uncertainty over the long run price elasticity of demand for petroleum, but .5 is a plausible point estimate. Put it all together, and you have gas prices in the US needing to rise at 10% a year in real terms. Using the handy rule of 70, that’s results in about a seven year doubling time. If gas is $4 a gallon at the pump today, by 2028 it needs to be $16, not factoring in inflation.
But this is a low-end estimate. First, the US will not immediately begin to follow this reduction path, and the longer we delay, the faster we have to reduce. Second, a factor of two for the US compared to the global average is probably much too low. A large majority of the world’s population lives in low income countries, and their standard of living needs to rise. Barring some disaster, it is inconceivable that their combined fossil fuel consumption will actually fall over the next decade or two. Third, reduced consumption has to apply to all fossil fuel sources, not only oil, simultaneously. Fourth, there is no guarantee that elasticities will remain constant as we cut ever more deeply into fossil fuel use; on the contrary, they should probably go down, driving up costs that much more.
This will not be cheap.
It’s possible that increased investments in renewable energy can cap these costs. Perhaps substitutes can be found that will enable the US and other industrialized countries to convert to other energy sources at a less-than-astronomic price. It could happen, but at this point we don’t know. When it comes to energy costs, environmentalists should fess up.
There is another dimension to this problem, however, that is largely off the radar. We have inherited a capital stock predicated, directly and indirectly, on relatively low-cost energy supplies. If energy prices begin to rise rapidly, what will happen? Economists usually assume that capital items will amortize according to plan, and that costs will be incurred only when new, possibly more expensive investments are needed to replace the old ones. That would be nice, but don’t count on it. Logically, there is a tipping point at which it becomes uneconomic to operate or maintain a capital investment when the costs of inputs go up or the value of outputs go down. In other words, serious carbon policy will require a portion of our capital stock to be written off.
How big a problem is this likely to be? It’s hard to say. If you want historical antecedents, one place to look is the oil price hikes of the 1970s. These were very large in percentage terms, but they were also temporary, one-time events and applied only to one energy source. They did trigger a pair of intense business cycle downturns, although capital stock replacement was mostly orderly.
Possibly a more relevant case is the Eastern European experience post-1989. For decades capital investments in that region were based on a closed trading system. If you wanted a car, and you lived in the Soviet Bloc, you had to buy a Trabi or a Škoda or a Lada; that’s what there was. Then the walls came down, and suddenly Eastern European automakers had to compete with western products. Quickly, it became apparent that the price cut needed if consumers were to buy one of their cars rather than a VW or a Ford was too great to justify any further production; so they shuttered their factories and laid off their workers. It’s not too far off the mark to say that the massive recessions of the early 1990s in the ex-Soviet Bloc, which cut output by 20-50% depending on the country, was the result of widespread capital writeoff of this sort. (Now some of these cars are back on the market, but produced with completely different technology.)
Question: how much of the capital stock of today’s industrialized countries would become uneconomic if the world were to shift to a fossil fuel path that adhered to the IPCC’s carbon budget? As far as I know, there are no economists at all studying this. They are all too busy debating whether the hypothetical social cost of carbon is a few dollars more or less per ton (and therefore whether we should try to meet the IPCC’s carbon target or not). There is scope for a change in priorities.
As we’ll see later, when we look into the political economy of climate policy, industrial interests are aware of this problem and intensely motivated by it. When they look at their own operations, they think they’re at risk. They are probably better placed than environmentalists to know their exposure. Meanwhile, it doesn’t make the political job of getting tough climate policies enacted any easier if supporters underestimate the sources of resistance.
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It’s obvious why environmentalists would say this. I truly wish they were right. But they are not, and their evasion damages their credibility and muddles their politics.
Why does this big-payoff-at-little-cost meme persist? If you look at the arguments of people who promote it, they generally cost out programs that fall well short of meeting carbon budget constraints like the one proposed by the IPCC. They look at small carbon taxes or modest caps whose goal is to slowly ramp up to an annual emission target in 2050 or so. Recall, however, that it’s the area under the emission path, not its eventual settling point, that tells us how much greenhouse gas accumulation we’re going to have. If you do the calculation, you’ll see that these paths come in way over budget.
Here’s a demonstration. A clever website is trillionthton.org: you enter the maximum amount of global warming you’d like to allow and the amount of uncertainty you’re willing to accept, and the engine spits out the date on which the corresponding carbon budget is maxed out under business as usual, as well as the annual rate of emissions decline necessary to meet the budget constraint if we start right now. So let’s pick two degrees celcius and “cautious” with regard to uncertainty. The engine tells us a straight-line emissions path that adheres to these stipulations requires an annual decline of somewhat over 2.5%—this year, next, year, and essentially forever.
Now for some economic arithmetic. Obviously it won’t do to have every country in the world cutting its emissions at the same rate. Some, like the US, have immense legacy emissions that tip the scales against them, and it’s reasonable that poor countries, where energy use per capita is a small fraction of what it is in the rich ones, should have much looser carbon caps. To make things simple, suppose this means that, rather than reduce at the rate of 2.5% per year, the US has to cut back by 5%. To simplify further, let’s just look at oil. (Each fossil fuel needs to be considered separately, since the mix will change over time.) Suppose its use has to go down at this average rate, with coal going down faster and natural gas slower. There is great uncertainty over the long run price elasticity of demand for petroleum, but .5 is a plausible point estimate. Put it all together, and you have gas prices in the US needing to rise at 10% a year in real terms. Using the handy rule of 70, that’s results in about a seven year doubling time. If gas is $4 a gallon at the pump today, by 2028 it needs to be $16, not factoring in inflation.
But this is a low-end estimate. First, the US will not immediately begin to follow this reduction path, and the longer we delay, the faster we have to reduce. Second, a factor of two for the US compared to the global average is probably much too low. A large majority of the world’s population lives in low income countries, and their standard of living needs to rise. Barring some disaster, it is inconceivable that their combined fossil fuel consumption will actually fall over the next decade or two. Third, reduced consumption has to apply to all fossil fuel sources, not only oil, simultaneously. Fourth, there is no guarantee that elasticities will remain constant as we cut ever more deeply into fossil fuel use; on the contrary, they should probably go down, driving up costs that much more.
This will not be cheap.
It’s possible that increased investments in renewable energy can cap these costs. Perhaps substitutes can be found that will enable the US and other industrialized countries to convert to other energy sources at a less-than-astronomic price. It could happen, but at this point we don’t know. When it comes to energy costs, environmentalists should fess up.
There is another dimension to this problem, however, that is largely off the radar. We have inherited a capital stock predicated, directly and indirectly, on relatively low-cost energy supplies. If energy prices begin to rise rapidly, what will happen? Economists usually assume that capital items will amortize according to plan, and that costs will be incurred only when new, possibly more expensive investments are needed to replace the old ones. That would be nice, but don’t count on it. Logically, there is a tipping point at which it becomes uneconomic to operate or maintain a capital investment when the costs of inputs go up or the value of outputs go down. In other words, serious carbon policy will require a portion of our capital stock to be written off.
How big a problem is this likely to be? It’s hard to say. If you want historical antecedents, one place to look is the oil price hikes of the 1970s. These were very large in percentage terms, but they were also temporary, one-time events and applied only to one energy source. They did trigger a pair of intense business cycle downturns, although capital stock replacement was mostly orderly.
Possibly a more relevant case is the Eastern European experience post-1989. For decades capital investments in that region were based on a closed trading system. If you wanted a car, and you lived in the Soviet Bloc, you had to buy a Trabi or a Škoda or a Lada; that’s what there was. Then the walls came down, and suddenly Eastern European automakers had to compete with western products. Quickly, it became apparent that the price cut needed if consumers were to buy one of their cars rather than a VW or a Ford was too great to justify any further production; so they shuttered their factories and laid off their workers. It’s not too far off the mark to say that the massive recessions of the early 1990s in the ex-Soviet Bloc, which cut output by 20-50% depending on the country, was the result of widespread capital writeoff of this sort. (Now some of these cars are back on the market, but produced with completely different technology.)
Question: how much of the capital stock of today’s industrialized countries would become uneconomic if the world were to shift to a fossil fuel path that adhered to the IPCC’s carbon budget? As far as I know, there are no economists at all studying this. They are all too busy debating whether the hypothetical social cost of carbon is a few dollars more or less per ton (and therefore whether we should try to meet the IPCC’s carbon target or not). There is scope for a change in priorities.
As we’ll see later, when we look into the political economy of climate policy, industrial interests are aware of this problem and intensely motivated by it. When they look at their own operations, they think they’re at risk. They are probably better placed than environmentalists to know their exposure. Meanwhile, it doesn’t make the political job of getting tough climate policies enacted any easier if supporters underestimate the sources of resistance.
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Climate Misconception #10: To set the proper climate policy we need to know the social cost of carbon
This comes right out of the Econ 101 playbook. To simplify, suppose there is just one fossil fuel whose use contributes to climate change. Further suppose that the demand curve for this fuel represents the marginal benefit (MB) society gets from burning each unit, and the supply curve represents the marginal cost to society of supplying it—except for the climate externality. Then we get the standard model:
The social cost of carbon (SCC) is the difference between the full marginal cost of the fuel, MC, and its supply curve S. (It changes as the quantity of fuel consumed changes.) Economic efficiency requires that we set output where MC=MB, at Q2, rather than at Q1 where the market alone would put it. There are two main ways we could do this. One would be to charge a production tax equal to the SCC; this would cause producers to raise their price by the amount of the tax, so that MC becomes the new S. The other would be to institute a carbon cap that limits fossil fuel production to Q2, which would lead to a higher price due to consumers’ willingness to pay at that quantity. Both require that you know what the gap is between S and MC or, somewhat equivalently, between Q1 and Q2. (I’ll get into the comparison between these two approaches in a later post.)
This explains why economists expend so much effort to estimate the social cost of carbon. If you don’t know what it is, how can you possibly have a rational, efficient carbon policy?
For starters, an analysis like the one above makes a number of standard assumptions, some of which are probably close to the mark and others far from it.
1. It assumes that the market is competitive and governed by economic self-interest. In fact, while there is quite a bit of competition in fossil fuel markets—even taking OPEC into account—most of the deposits are owned by governments, and those who set production policy are not necessarily the profit-maximizers you find in the textbooks. In particular, governments tend to be myopic, concerned with generating revenue in the short run without much interest in the rate at which their resources are depleted. For ample fuels, like coal and natural gas, that is probably not a big deal, but it’s a very big deal for petroleum. Even without climate change, petroleum prices are probably too low, because the effects of depleting the available deposits are not fully taken into account.
2. It assumes that the amount people pay for fuels is a proper measure of the benefit they get, and the social benefit is just the sum of these individual ones. That’s standard utility theory, but utility theory has little to no scientific standing. Ask any psychologist, whose day job is to study human behavior and indicators of well-being, what he or she thinks of it. One of my favorite examples of the failure of utility theory, by the way, is the evidence that, even considering the benefits of employment and residence opportunities, more commuting is associated with less well-being. These unhappy commuters, of course, are consuming fossil fuels for this privilege.
3. It assumes that there are no interaction effects between people or the things they make or buy that influence their production or consumption choices. In other words, it assumes that the choices they make separately are the same ones they’d make if they were able to consciously coordinate them. When you consider just the interaction-dense nature of location and transportation decisions, this can’t be true. If you thought the model above applied to both American and European commuters, for instance, you’d have to assume that Americans have a greater “preference” for (get more “utility” from) driving cars, while Europeans have a greater preference for taking trains. (Or you could compare commuters in the LA and New York metropolitan areas: more or less the same thing.) Maybe so. But maybe the difference in transportation modes reflects a greater degree of coordinated choice in some places and less in others.
These are generic arguments that apply to all economic models that try to shoehorn social well-being into a supply and demand diagram. What about carbon in particular?
Careful readers will have noticed that my introductory posts on climate science said almost nothing about the items economists focus on when they try to estimate the social cost of carbon. I did mention sea level rise and storm intensity a bit, along with passing references to drought and forest fires. There was no general discussion of the impacts on agriculture, however, or the comfort or discomfort of hotter weather, or effects on tropical diseases or temperate zone pest infestations. If you spend your waking hours calculating the social cost of carbon, these are important components.
There are three reasons why I skipped these issues. The first is that it is almost impossible to forecast these costs, not only because of the uncertainties of how climate change will play out, but also because of the potential for human activities to adapt. Take agriculture for instance. Most regions will be subject to stresses in the form of different distributions of degree days, precipitation and pests. Farmers, of course, will not plant the same old, same old. They will turn to new seeds, new crops and new production methods. How successful will they be in surmounting the effects of climate change? Hard to say. Or take sea walls. Economists put a price tag on sea level rise by comparing the cost of building a physical barrier to that of abandoning coastal infrastructure, which makes sense. But the best they can do is estimate them on the basis of today’s technology. If it begins to look like we will experience faster-rising seas than anticipated, maybe more effort will go into new materials or construction techniques that reduce the cost of protecting shoreline. Maybe these efforts will bear fruit, and maybe not. Costing out these economic impacts of climate change is a guessing game.
The second is that the economics of climate change is all about time. With a decades-long lag between cause (burning fossil fuels) and effect, the numbers depend immensely on how you incorporate the time factor. This is referred to as discounting, where the formula for the value today of some cost C anticipated N years from now is
Here PV is the present value and r is the annual rate of discount. For instance, today’s level of climate change, which is the result of fossil fuel use over the past 200 years, has apparently destabilized the West Antarctic ice sheet, likely irreversibly. Its effect on sea level will be felt as soon as about 200 years from now and as late as a thousand. Let’s make the most favorable assumption (for costs) and assume that 200 years is the correct prediction. Suppose that the 12-15 foot sea level increase will cost our descendants a trillion dollars to cope with. Also suppose that an appropriate rate of discount is 3%, which is a measure of the value of putting off a given cost for a year. (This is in the range of commonly used discount rates.) Guess what? That trillion 200 years in the future comes out to around $2.7 billion today. Not as scary, is it?
In fact, there has been a raging debate among economists over how much, if anything, to discount future costs since the Stern Report of 2006. He outraged many of his peers by choosing a discount rate of 1.4%, which is about as low as one could go. If you read the debate that ensued you will find reasonable arguments on all sides; personally I don’t see a compelling case one way or the other.
But the larger question is whether this debate matters. Indeed, why should it matter? The reality is that almost any economic question of interest that far out into the future is completely beyond prediction, even probabilistically. Moreover, the question about how much weight to give today to impacts we are creating for future generations is not an economic question, but an ethical and political one. Think of it this way: suppose I say that there is a program that can eliminate a cost that will otherwise arise of $2.7 billion. This number could mean different things. It could mean, a bill will be presented to us this year for $2.7 billion and we’ll have to pay it then and there. Or it could mean, a bill will be presented to our heirs 200 years from now and they will have to pay $1 trillion. Question: is it immaterial for the policy question (whether to adopt the program) which of these is the actual case? If you believe in discounting, the answer is yes. My guess is that most people will see it differently.
The final point is the biggest—in fact it’s very big. The main worry about climate change is not that it is going to add this or that amount of economic cost to some everyday human activity, but that the entire carbon cycle will spin out of control. If human releases of fossil fuels heat the earth enough to trigger further releases of stored methane, the result could be beyond reckoning. Remember those alligators in the arctic. And if there is a tipping point we don’t know where it is.
From this perspective, programs to combat climate change are less like an investment with a rate of return (the social cost of carbon view) and more like insurance, an amount we should be willing to pay in order to rule out the risk of catastrophic harm. Obviously we can’t insure ourselves against everything. Some risks are too minute, and the cost of reducing their probability to zero is out of all proportion to the benefit. Climate change isn’t like that. The physics at a macro level are pretty well understood, and runaway feedback effects, while they might horrify, would not greatly surprise anyone who has studied the issue closely.
The bottom line is that, in trying to exactly calibrate carbon control costs to the economic impacts of climate change, economists have been chasing a chimera. It’s the wrong framework for thinking about the problem and leads to cautious, myopic policy recommendations. And a further tragedy is that, as we will see, there are truly urgent economic questions about climate policy and its impacts that almost no one is looking at.
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This explains why economists expend so much effort to estimate the social cost of carbon. If you don’t know what it is, how can you possibly have a rational, efficient carbon policy?
For starters, an analysis like the one above makes a number of standard assumptions, some of which are probably close to the mark and others far from it.
1. It assumes that the market is competitive and governed by economic self-interest. In fact, while there is quite a bit of competition in fossil fuel markets—even taking OPEC into account—most of the deposits are owned by governments, and those who set production policy are not necessarily the profit-maximizers you find in the textbooks. In particular, governments tend to be myopic, concerned with generating revenue in the short run without much interest in the rate at which their resources are depleted. For ample fuels, like coal and natural gas, that is probably not a big deal, but it’s a very big deal for petroleum. Even without climate change, petroleum prices are probably too low, because the effects of depleting the available deposits are not fully taken into account.
2. It assumes that the amount people pay for fuels is a proper measure of the benefit they get, and the social benefit is just the sum of these individual ones. That’s standard utility theory, but utility theory has little to no scientific standing. Ask any psychologist, whose day job is to study human behavior and indicators of well-being, what he or she thinks of it. One of my favorite examples of the failure of utility theory, by the way, is the evidence that, even considering the benefits of employment and residence opportunities, more commuting is associated with less well-being. These unhappy commuters, of course, are consuming fossil fuels for this privilege.
3. It assumes that there are no interaction effects between people or the things they make or buy that influence their production or consumption choices. In other words, it assumes that the choices they make separately are the same ones they’d make if they were able to consciously coordinate them. When you consider just the interaction-dense nature of location and transportation decisions, this can’t be true. If you thought the model above applied to both American and European commuters, for instance, you’d have to assume that Americans have a greater “preference” for (get more “utility” from) driving cars, while Europeans have a greater preference for taking trains. (Or you could compare commuters in the LA and New York metropolitan areas: more or less the same thing.) Maybe so. But maybe the difference in transportation modes reflects a greater degree of coordinated choice in some places and less in others.
These are generic arguments that apply to all economic models that try to shoehorn social well-being into a supply and demand diagram. What about carbon in particular?
Careful readers will have noticed that my introductory posts on climate science said almost nothing about the items economists focus on when they try to estimate the social cost of carbon. I did mention sea level rise and storm intensity a bit, along with passing references to drought and forest fires. There was no general discussion of the impacts on agriculture, however, or the comfort or discomfort of hotter weather, or effects on tropical diseases or temperate zone pest infestations. If you spend your waking hours calculating the social cost of carbon, these are important components.
There are three reasons why I skipped these issues. The first is that it is almost impossible to forecast these costs, not only because of the uncertainties of how climate change will play out, but also because of the potential for human activities to adapt. Take agriculture for instance. Most regions will be subject to stresses in the form of different distributions of degree days, precipitation and pests. Farmers, of course, will not plant the same old, same old. They will turn to new seeds, new crops and new production methods. How successful will they be in surmounting the effects of climate change? Hard to say. Or take sea walls. Economists put a price tag on sea level rise by comparing the cost of building a physical barrier to that of abandoning coastal infrastructure, which makes sense. But the best they can do is estimate them on the basis of today’s technology. If it begins to look like we will experience faster-rising seas than anticipated, maybe more effort will go into new materials or construction techniques that reduce the cost of protecting shoreline. Maybe these efforts will bear fruit, and maybe not. Costing out these economic impacts of climate change is a guessing game.
The second is that the economics of climate change is all about time. With a decades-long lag between cause (burning fossil fuels) and effect, the numbers depend immensely on how you incorporate the time factor. This is referred to as discounting, where the formula for the value today of some cost C anticipated N years from now is
Here PV is the present value and r is the annual rate of discount. For instance, today’s level of climate change, which is the result of fossil fuel use over the past 200 years, has apparently destabilized the West Antarctic ice sheet, likely irreversibly. Its effect on sea level will be felt as soon as about 200 years from now and as late as a thousand. Let’s make the most favorable assumption (for costs) and assume that 200 years is the correct prediction. Suppose that the 12-15 foot sea level increase will cost our descendants a trillion dollars to cope with. Also suppose that an appropriate rate of discount is 3%, which is a measure of the value of putting off a given cost for a year. (This is in the range of commonly used discount rates.) Guess what? That trillion 200 years in the future comes out to around $2.7 billion today. Not as scary, is it?
In fact, there has been a raging debate among economists over how much, if anything, to discount future costs since the Stern Report of 2006. He outraged many of his peers by choosing a discount rate of 1.4%, which is about as low as one could go. If you read the debate that ensued you will find reasonable arguments on all sides; personally I don’t see a compelling case one way or the other.
But the larger question is whether this debate matters. Indeed, why should it matter? The reality is that almost any economic question of interest that far out into the future is completely beyond prediction, even probabilistically. Moreover, the question about how much weight to give today to impacts we are creating for future generations is not an economic question, but an ethical and political one. Think of it this way: suppose I say that there is a program that can eliminate a cost that will otherwise arise of $2.7 billion. This number could mean different things. It could mean, a bill will be presented to us this year for $2.7 billion and we’ll have to pay it then and there. Or it could mean, a bill will be presented to our heirs 200 years from now and they will have to pay $1 trillion. Question: is it immaterial for the policy question (whether to adopt the program) which of these is the actual case? If you believe in discounting, the answer is yes. My guess is that most people will see it differently.
The final point is the biggest—in fact it’s very big. The main worry about climate change is not that it is going to add this or that amount of economic cost to some everyday human activity, but that the entire carbon cycle will spin out of control. If human releases of fossil fuels heat the earth enough to trigger further releases of stored methane, the result could be beyond reckoning. Remember those alligators in the arctic. And if there is a tipping point we don’t know where it is.
From this perspective, programs to combat climate change are less like an investment with a rate of return (the social cost of carbon view) and more like insurance, an amount we should be willing to pay in order to rule out the risk of catastrophic harm. Obviously we can’t insure ourselves against everything. Some risks are too minute, and the cost of reducing their probability to zero is out of all proportion to the benefit. Climate change isn’t like that. The physics at a macro level are pretty well understood, and runaway feedback effects, while they might horrify, would not greatly surprise anyone who has studied the issue closely.
The bottom line is that, in trying to exactly calibrate carbon control costs to the economic impacts of climate change, economists have been chasing a chimera. It’s the wrong framework for thinking about the problem and leads to cautious, myopic policy recommendations. And a further tragedy is that, as we will see, there are truly urgent economic questions about climate policy and its impacts that almost no one is looking at.
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Deeply Misunderstanding How Our Economy Is Measured
A complete muddle in today's New York Times, where Lew Daly of the Demos Institute demonstrates that he needs to book up on some basic economics. His motives are OK: he wants to show that the government plays (or at least should play) an important role in enhancing our economic well-being. Alas, he gets just about every concept wrong. To avoid overkill, I'll document just the biggest howlers:
1. GDP is not a measure of well-being. It's a measure of monetary flows through the economy. It was developed to tell us how fully employed our resources are, not how beneficially they are employed. It measures bigness, not goodness.
2. True, government services are recorded at cost. But there are no monetary flows beyond that as there are in the private sector (consumer payments).
3. Complaining that we don't recognize consumer expenditures financed out of transfer payments from the government is bonkers. If you want to do that you should also deduct consumption that would have occurred if not for tax payments. In fact, the economic definition of government spending used in GDP calculation excludes transfer payments, and taxes are measured net of transfers.
4. Economists measure the public capital stock (like publicly owned infrastructure) the same way they measure the private capital stock. (There are lots of data in Piketty about this, for instance.) But GDP is about the flow of income, not the stock of wealth. If you want to get the stock data you have to go to the Flow of Funds accounts assembled by the Federal Reserve. They measure balance sheets.
Well, at least we know that the right doesn't have a monopoly on nonsense. (But why does the right's nonsense cast so many more votes in Congress than the left's?)
1. GDP is not a measure of well-being. It's a measure of monetary flows through the economy. It was developed to tell us how fully employed our resources are, not how beneficially they are employed. It measures bigness, not goodness.
2. True, government services are recorded at cost. But there are no monetary flows beyond that as there are in the private sector (consumer payments).
3. Complaining that we don't recognize consumer expenditures financed out of transfer payments from the government is bonkers. If you want to do that you should also deduct consumption that would have occurred if not for tax payments. In fact, the economic definition of government spending used in GDP calculation excludes transfer payments, and taxes are measured net of transfers.
4. Economists measure the public capital stock (like publicly owned infrastructure) the same way they measure the private capital stock. (There are lots of data in Piketty about this, for instance.) But GDP is about the flow of income, not the stock of wealth. If you want to get the stock data you have to go to the Flow of Funds accounts assembled by the Federal Reserve. They measure balance sheets.
Well, at least we know that the right doesn't have a monopoly on nonsense. (But why does the right's nonsense cast so many more votes in Congress than the left's?)
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