Sunday, July 13, 2014

Maybe Luhansk Rather Than Lugansk After All

Awhile ago I forecast here that the outcome in Eastern Ukraine would be a Transniestria-like situation with the self-declared peoples' republics achieving de facto independence, backed by Russia, but not de jure.  This became symbolized by whether western media would call the capital of the more eastern one "Luhansk" (Ukrainian) or "Lugansk" (Russian), and I declared that it would be "Lugansk," (some western media, such as the Washington Post have called it both names at different times).

Well, it seems that world-dominatrix Angela Merkel has gotten to Vladimir Putin and he now seems not to be backing the rebels there, even though their two main leaders, Igor Strelkov and Alexander Borodai, are born-in-Russia Russian citizens. They are now complaining of a lack of support from Putin, and they have been denounced in Russian media as "wreckless" and other such not favorable descriptors, apparently reflecting Putin's lack of support from them.  Crimea is enough to chew on for him, it would appear.

The real bottom line, of course, is on the ground, and there the formerly hapless Ukrainian military seems to have gained the upper hand, driving Strelkov out of his stronghold in Slovyansk.  An ultimate showdown in Donetsk appears to be in the works, and this may be over soon, especially if Putin continues his current attitude.

A curious aspect of this is how a number of progressive folk, including British economist Alan Freeman and British computer scientist sometimes economist, Paul Cockshott, have fallen for the line that the rebels are great progressives.  Maybe, but Strelkov has been an open supporter of monarchism, and the Putin regime is not remotely progressive.  It is true that there are neo-fascist elements in the Ukrainian leadership, but identifying the entire Ukrainian government as "fascist" and attempting to invoke World War II in all this has simply been a ridiculous propaganda ploy,  I think these people should be embarrassed that they have fallen for such nonsense.

Barkley Rosser

Friday, July 11, 2014

The Climate Misconceptions Series: Complete

The last post has been posted, and I've also gone back and revised the intro post, The Road from Carbonville, to include links to the whole shebang.

Done.

A Non-Misconceived Agenda for Combating Climate Change

The main purpose of this series has been to identify a number of misunderstandings that have grown up around the topic of policy to mitigate climate change.  There are a lot of them, so it’s been a big job.  It would be sneaky, however, to duck out at the end without saying a few words about what a better approach might look like.  What follows is a quick sketch of the main items.

1. The most direct and flexible way to limit fossil fuel extraction is by requiring anyone doing this to obtain a permit, and then restricting the number of permits according to an appropriate carbon budget.  In this series I’ve used the IPCC carbon limits as a matter of convenience; naturally, before committing to any specific number, there should be careful consideration of the risks in both directions—picking a target that’s too loose and doesn’t remove enough risk of catastrophe, or one that’s too tight and gives us too little extra security for the added cost.

Perhaps the hardest part of the target-picking problem is not distilling what we know today into a specific emissions cap, but setting up a dependable system for revising it as new knowledge comes in.  One possibility is to set up a semi-autonomous body, weighted toward science, which periodically reviews carbon targets and modifies them as needed.  Think of the carbon equivalent of a central bank.  Ultimately any such body is subject to political control, but it should have at least some discretion to make adjustments on its own.

Ideally the scope of a permit system would be global, but that’s unlikely to happen, at least at the start.  If several national partners are available, it could begin on a club basis, as described in the previous post, but it could also encompass just a single country.

The permits should not be time-dated.  Since the goal is to limit the accumulation of greenhouse gases and not necessarily their emissions in any single year, it should be possible to move permits backward or forward through time, leaving the total unchanged.  In theory this could be accomplished by markets alone: the entire stock of carbon permits over the period from the present to, say, 2050 could be auctioned off at once, and anyone thinking of using one would compare the value of extraction today to their expected future value if they are saved.  It’s a standard economic result that, under various conditions, the time profile of carbon extraction resulting from such a market would be optimal, in the sense that it would not be possible to increase the value we get from allowable fossil fuels by shifting their exploitation to different time periods.

In practice that's a big risk to take, however.  Markets go awry for a number of reasons: insufficient competition, herd effects, perverse incentives (especially associated with default risk), and so on.  It would be  advisable for the permit issuing body to withhold a large portion of the undated permits, so that markets are allocating only the remainder.  There could be periodic releases of withheld permits as markets demonstrate their ability to allocate them reasonably.

Permits should be issued specifically for the introduction of carbon into the economy, at the mine, wellhead, port or pipeline.  This maximally upstream location enables the economic response to be as flexible as possible, it’s easily enforced, and it’s comprehensive—unlike end user controls.

2. All permits should be auctioned, with no exceptions.  All revenues should be rebated back to the public on a per capita basis, but with two provisos.  First, a portion should be set aside for international transfer payments, to be discussed in a moment.  Second, a small amount may be set aside for specific domestic populations that are exceptionally vulnerable to the price impacts of the permit system.  These latter funds should have a remedial aspect to them, such as relocation subsidies for people who live in areas with unavoidably high fossil fuel demands or retraining subsidies for workers in the fossil fuel sector.

As for the international transfers: there are two ways of doing this.  One is to have separate national systems that auction carbon permits, and then have the higher income country set aside some of its revenues for the lower income one.  The other is to pool the permit system, so that there’s a single revenue stream, and per capita rebates automatically result in a richer-to-poorer transfer.  From a pure theory perspective, the second approach is preferable, especially since it targets the transfers more precisely (on the basis of income rather than location) and is less subject to interference.  But suppose that our club consists of the US and Brazil.  It’s not hard to imagine that the amount that a pooled system would transfer would make the program unacceptable to a large part of the US public, because their rebates would be too small to make up for much of the cost of energy price increases.  For practical reasons, then, it might be better to either set up a partial pool or have an explicit system of transfers.

For purposes of visualizing such a system, suppose that 20% of carbon revenues were set aside for global transfers and 5% for domestic subsidies.  This would leave three-quarters, enough to indemnify, at least initially, something like the bottom half of the income distribution and moderate the impact on the rest.  Indeed, the bottom deciles might well see net income gains, since their per capita share, even discounting 25%, exceeds their extra direct and indirect fuel expenses.  In other words, done right, climate policy can also be a form of progressive income redistribution.

3. The club of countries participating in the carbon permit system can be expanded primarily through the use of revenue transfers, either explicit or by pooling.  To qualify for a transfer, a low-income country would have to join the club.  On the other hand, the exports of countries outside the club would be subject to tariffs designed to offset as accurately as possible the production cost differences attributable to cheaper fossil fuel prices.  The idea is to prevent leakage, such as when production sites are relocated to take advantage of policy-driven energy cost differentials.

4. If someone develops a genuinely reliable system for long term carbon sequestration, new permits will be issued equal to the amount of sequestered carbon and given (not auctioned) to whoever does the sequestering.  They can sell them, and this provides the right level of subsidy: the value of carbon restrictions avoided.

5. As fossil fuel costs begin to rise, it should be possible to create support for a substantial shift in public spending in the direction of energy-saving technologies, renewable energy subsidies, and research and development to improve non-carbon technologies.  The money to pay for these things could come from redirecting existing spending, additional taxes, and increased public borrowing if depressed macroeconomic conditions persist.

6. Regulations may need to be introduced to minimize the perverse effects of otherwise desirable carbon incentives, such as the restrictions on conversion of food crops to fuel crops, as discussed in a previous post.

7. Adaptation is largely beyond the scope of this series, but that doesn’t mean it doesn’t matter.  In addition to all of the above, considerable sums will have to be spent protecting people from current and near-future climate impacts.  It is especially urgent the upper-income countries support this work in poorer regions: the better-off benefited from the use of fossil fuels in the past which are responsible for today’s climate forcing.

Climate change is about the planetwide relationship between “people” and “nature”, but it also exposes enormous and deeply unfair inequalities between those disproportionately on the causing and receiving ends of the problem.

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Climate Misconception #19: Unless all countries agree to act on climate change, any national action is useless

What gives many of these misconceptions legs is their partial claim on truth, and this final instance offers another example.  Climate change is a global problem, caused by the accumulation of greenhouse gases in a single atmosphere all of us share.  If one country emits a million tons of carbon less and another a million more, the net effect is no change at all.  Every coal plant in China affects the future climate in North America, just as every coal plant in North America affects China.

On top of that, the relative quantities of carbon emissions are shifting from the industrialized to the developing world, as China, India and other countries begin to catch up in the per capita size of their economies.  This is entirely justified, since low and moderate income countries need the boost that fossil fuels provide much more than upper income countries do.  There won’t and shouldn’t be a global agreement in which every country cuts its carbon emissions at the same rate.  In fact, by all appearances the world is far from any kind of meaningful agreement at all.

Nevertheless, if activists in countries like the US succeed in bringing about serious carbon policies, it will have a global impact, for three reasons.

First, at the present time the wealthier countries are responsible for about half the new carbon being introduced into the carbon cycle.  (They are also responsible for the vast majority of previous additions that have contributed to today’s greenhouse gas accumulations, but this can’t be undone.)  If they can begin making big cuts, they will still be big on a global scale, at least for the first decade or so of cutting.  It’s worth doing.

Second, the US plays a pivotal role in the global politics of just about everything.  It possesses the world’s second largest economy (if you lump the EU together as a single entity, which, politically, it's not), the world’s pre-eminent military force, and the world’s most aggressive ruling elite.  At present the US is at the center of resistance to mandatory controls on carbon.  Even the NSA has been enlisted to make sure that other countries follow the US script in climate negotiations.  If US policy were to change significantly, it might have a galvanizing effect on enough other countries to make a global framework achievable.  To be honest, we don’t know how large this effect would prove to be, but it is surely worth a try.

Finally, international cooperation does not have to be universal to be meaningful.  If the US, the EU and Japan, for instance, were to jointly set up a serious carbon tax or permit system without the initial participation of any other countries, they would constitute the nucleus of a global regime.  Additional participants could be attracted with various inducements and penalties.  In particular, as I will argue in the next post, side payments can be offered to less affluent countries that join the club, while tariffs can be placed on imports from countries that don’t limit carbon emissions, based on the cost advantages their non-policy gives them.  If forestalling catastrophic climate change is a primary goal of foreign policy—and why wouldn’t it be?—there are forceful but mostly cooperative tools that can be used to get there.

Cynicism and defeatism are never very attractive political attributes, but they are even less tolerable when voiced by citizens of a country like the United States that uses every available means to get what it wants for far less noble objectives.

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Climate Misconception #18: All we need to do is put a price carbon; the rest of the problems will take care of themselves

On one end of the spectrum we have people who think that climate change can be fought without the use of either carbon caps or taxes.  Some of them think that direct action can get the job done, others that investing in green technology provides a near-painless path to global nonwarming.  There are a few on the other side, though, who think that a carbon tax or something like it would be sufficient policy.  Maybe it’s not exactly a crowd, but we should still tak a moment to see why taxes and permits alone will not be enough.

First I have to admit, however, that in a technical sense a high enough tax or strict enough permit regime would be a complete mitigation strategy.  If by using a tool like this we could keep most of the carbon now in the ground securely in the ground for decades to come, we’d have the greenhouse gas problem under control.

The difficulty is that we are not interested in minimizing climate change because we have some general aversion to change, but because we want to safeguard the well-being of present and future generations.  Simply keeping carbon in the ground and not dealing with any of the other consequences will result in immense social and economic costs, to the point where the political feasibility of the carbon price becomes inconceivable.

The main reason is that, without ancillary investments in renewables, energy conservation, alternative ways of meeting human needs that are less carbon-intensive, and research in all these areas, we will be forced to forego more and more goods and services year after year until even a climate disaster might look like the better alternative.

Take one obvious example, transportation.  The United States is primarily car- and truck-dependent for commuting, shipping and other transportation needs.  In nearly every case the fuel is petroleum.  Switching all of them over to electric power would cause a surge in electricity demand which would be impossible to meet under current technology in the absence of fossil fuels.  Now in theory you could just say “tough luck” and leave it at that, but the disruption would be so great that stranded car-owners would rise up and demand their old gas stations back.  Realistically, without large investments in mass transit, fuel efficiency, and denser living arrangements, it’s not a viable scenario.  A few research breakthroughs in renewable fuels wouldn’t hurt either.

This observation does not contradict my earlier point that investment in renewable energy and other green technologies is not the same as fossil fuel reduction.  That remains true.  The measure of reduced fossil fuel extraction is reduced fossil fuel extraction and nothing else.  Nevertheless, the policies we need to keep these fuels in the ground won’t be adopted unless the costs are relatively bearable.  It’s in this sense that I suggested that green investments should be thought of as a form of adaptation, not to climate change but to climate change policy.

The bad news is that there has been little success in the US in getting the public to make an early commitment to the kinds of investments that will reduce the cost of controlling carbon.  Even Obama’s high speed train initiative, meager as it was, was largely rejected.  The good news is that once we start putting a price on carbon, it is likely that the politics of green investment will change in a hurry.  A new rail line looks more inviting if you’re shelling out $10 a gallon at the pump.  With luck the investment side of the policy can get up a head of steam before fossil fuel restriction becomes draconian.

There’s a second kind of policy adjustment that will be needed when carbon gets priced: counteracting the negative incentives this may generate in other parts of our economy.  Here’s an example.  When fossil fuels start to get really expensive, there will be an even greater demand for biofuels.  Farmers will be able to make more money by ripping out their food crops and planting fuel crops instead.  Up to a point this may even be warranted.  But we live in a horribly unequal world where many people live in luxury while millions of others starve for lack of income.  Shifting large parts of the world’s food production to biofuel crops so that the relatively affluent strata are not inconvenienced would be unconscionable.  Thus either regulations, taxes or subsidies need to be used to keep food production up and food prices at an affordable level.

Climate policy needs to be multifaceted and multi-instrumental.  It’s true, however, that one big piece has to be direct restriction, through taxes or permits, on the extraction and burning of fossil fuels.

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Thursday, July 10, 2014

More Economic Illiteracy from the New York Times

I’d have more time to enjoy life if I didn’t feel compelled to correct gross economic errors in places like the New York Times.  I try to give it a day, but if someone else like Dean Baker doesn’t stomp on it first I have to do my bit.

Today’s absurdities can be found in an article about the EU’s push to measure the underground economy—stuff like prostitution and drugs—to improve their estimates of the region’s GDP.  (They’re also switching to a reclassification of R&D expenditures, something the US has already done.)  Actually, in many of their national economies large swaths of the vice trade are fully legal, tastefully zoned, and not underground at all.

Anyway, gross error number one is the claim that, by doing a better job of measuring commercial sex and drugs, statistical agencies will give the impression that economic growth has improved—that this is even their motivation.  No, no, no!  It’s not like that at all!  There will be a footnote in the GDP tables explaining that coverage changed between one quarter and the next.  In fact, they’ll put out two tables side by side, one with the change, the other without.  That will continue for a year or two, even longer if they can’t put together a methodology to extend the new computation back in time.  Sure, some rubes will try to compare numbers from one table to another, not bothering to read the small print, but econoblogging guard dogs like me will give them hell for it.

In fact, I’ll give the New York Times hell for it if they print an article a year or two from now saying that EU GDP shot up, when it was just a change in the methodology.

Then the second blooper is the discussion in the latter part of the article about whether including sex and drugs (without rock ‘n roll, a travesty) will make GDP a worse measure of well-being.  Huh?  GDP is not a measure of well-being.  No one—no one!—in the statistical agencies goes through the expenditures item by item and screens them for whether they make the world a better place or not.  I mean, nuclear weapons are included in GDP.  (They’re entered at cost.  The demand price would be much higher—ask international terrorists or James Bond villains.)  GDP is about how much money is flowing through the economy to produce and purchase goods and services.  That’s something you might want to take into account if you’re looking at the broader picture of how a country is doing, but mainly for a sense of whether the macroeconomy is on track.  Every introductory textbook, even the bad ones (i.e. not mine), say this.

Sorry for the rant, but now the world is back in balance.  The New York Times has disseminated BS and I’ve complained about it.  Life remains normal.

Switched at Death

This switcheroo by ABC News is really something.

"Quick!  Get me footage of Israelis being bombarded by Arab terrorist rockets!"

"Sorry, there apparently isn't any.  Not much damage there.  But we do have these powerful clips of Palestinians whose houses have been destroyed by Israeli rockets."

"That's good enough.  Call them Israelis and let's get on with it."

View Page Source: "Are Jobs Obsolete?"

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?":

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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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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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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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 effect 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:
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).