No need to ban incandescent lightbulbs

It is sometimes difficult for a shopper to understand all the consequences of purchasing choices. Take lightbulbs, for example. The variety in price is large, and so is the variety in expected life or energy consumption. When more efficient lightbulbs came on the market, they were massively more expensive than existing bulbs, yet in the long run worth it thanks to much lower energy consumption. Consumers did not seem to understand that, along with what this entails for pollution, hence the old bulbs were banned. Was this really necessary?

Hunt Allcott and Dmitry Taubinsky exploit two randomized experiments to look into this. The first is computer based and gives participants a budget and different information about lightbulbs. The second is a field experiment at a home improvement retailer where shoppers where given different information and discount coupons. They find that people do not undervalue energy costs that much, meaning that only minor, if any, subsidies were necessary to win them for next-generation lightbulbs. Once more, it looks like a ban is outdone by the nudging that the price mechanism can do with appropriate subsidies or taxes. They also find that there is a large fraction of shoppers that wants to stick with incandescent lightbulbs, indicating a substantial welfare loss from a ban that is similar to standard rationing. One more piece of evidence that bans need to be banned.

Limit gas price changes to once a day?

For some reason that is unclear to me, fuel for cars is in most countries the most flexible price, sometimes changing several times a day. As demand is rather inelastic and the raw commodity supply comes from politically volatile regions, the price also fluctuates over a wide range. And this wide range leads to a lot of grief, especially when prices go up, with calls from the public for politicians to do something about it. The latter then usually do something stupid, and they are never short of ideas.

One recent innovation comes from Austria: in the belief that higher prices come from frequent changes, gas stations have been limited to one price change a day. Martin Obradovits analyzes this policy and comes to the obvious an obvious answer: it is a stupid policy. For one, it is not like gas companies are bound by fixed increments and this would reduce fluctuations. Second, it introduces new frictions in the market that go to the detriment of the consumer: you get the same profits and the same expense for the same quantities, there is only some intertemporal rejuggling that inconveniences the buyers. I would add that if prices end up too low during the day, gas stations may simply close and ration out buyers until they can adjust prices. Ah, politicians...

Are smart meters worth it?

Smart meters that allow you to monitor and manage electricity consumption are all the rage now. Power companies push them to consumers as the best deal that has ever been offered. And it looks enticing, as it promised more flexibility and the possibility of applying peak pricing in areas where this is not yet current. But is there really that much to gain? After all, these meters are not inexpensive technology.

Thomas-Olivier Léautier helps us here. He estimates how the responses of French households would be once they have smart meters and they can adjust their consumption to market prices. The outcome is humbling: the yearly savings would amount to 1-4€, which is likely less than forgetting to close a window one day in winter and much less than the 25 &euro/year cost of a smart meter. I see two reasons for this result. First, most households consume little energy. Second, their consumption pattern is not that flexible.

But would this result extend to other countries? North American households use a lot more electricity than French households due harsher climates and more carelessness about energy consumption. A smart meter there may in particular make people more aware of their power consumption and how one can reduce it to save money. This is much like a car that shows current gas consumption entices the driver to use less fuel. And this effect may make it worth it.

A discussion of biofuel policies, as seen from Iowa

Biofuels have been presented as the solution to the ills of petroleum: locally produced, renewable, and sometimes cleaner. Hence they have been encouraged by many governments, but some advocates of biofuels now show some remorse. As they are produced from good used for food, biofuels may be responsible for the worldwide increase in food prices. What are then appropriate policies with respect to biofuels?

GianCarlo Moschini, Jingbo Cui and Harvey Lapan, all from Iowa and thus from a state that has been the major beneficiary of biofuel subsidies, write a survey of the Economics of biofuels. They seem to be quite worried about the limits to the expansion of biofuels. Indeed, blending ratios cannot be increased without major technological changes on both the production and user sides, which highlights that path dependence in technological choices is important, and always thinking about the individual explosion engine as a limits the horizon of possibilities. But this is more thinking about the Business of biofuels than the Economics of biofuels. The latter requires much more discussion about whether biofuel subsidies are the best option to reduce carbon emissions (they are not, and carbon taxes are much, much more efficient in this), whether there would be better ways to harness energy from the sun, and how competition with food production (which is much less subsidized, if at all) makes essential food too expensive for the poor. I am happy that even in Iowa, the Economics of biofuels can take precedence over the Business of biofuels.

How to infer the value of time from gasoline prices

How much do people value time? One way to look a this is to consider how much they need to be compensated to work. But this masks the disutility of effort, boredom, future payoffs, etc. And the value of time changes through the day (do not tell me lawyers reason all day in billable minutes). In other words, the value of time varies through time and from person to person. Hence it is important to get many estimates.

Hendrik Wolff finds a subtle way to estimate it. Looking at fluctuations in gasoline prices and the speeding behavior of car drivers, using speed data from an uncongested flat portions of highway in rural Washington State. The elasticity of -0.01 is very low, but from calculating the time gained through speeding, one can value time at about half gross wage. That is lower than previous estimates that were using congested highways, and frustration may have been priced in those. The Wolff estimates are cleaner, and they provide a logical negative relation between gas prices and speeds, a relation that was positive in studies tainted by congestion or other external factors.

Which comes first: electricity or economic growth?

Economic growth leads to higher electricity consumption. But electrical capacity needs to be put in place before we can get any economic growth. So what drives what? This is kind of important in terms of policy if you think about development. In countries where there is only intermittent power supply, do we first need to fix that, or will this fix itself once they have sufficiently grown? Or, would efforts to conserve energy consumption retard growth?

Melike Bildirici tries to sort through the empirical evidence by applying Granger causality test as well as vector autoregressions to a Markov switching model for a set of African countries (and the author will be surprised to learn Brunei is actually in Asia). The Markov switching is because one can suspect that there have been regime changes. Quite a complicated analysis that concludes that the causality runs both ways.

Now, to be frank, I find this analysis a bit vacuous, especially regarding the policy questions I alluded to. First, there is a difference between electricity capacity and consumption, and once you make this distinction, the causality is quite clear. Second, the idea that energy conservation could hamper growth is quite silly. Indeed, if one manages to do just as much with less indicates there is a increase in productivity, or you can do more with the same inputs. There is growth right there.

Game theory with pipelines

It seems every winter brings a new situation where Russia is holding up one of its neighbors, or one of them another one, over the delivery of natural gas. The pipeline transfer of natural gas through various countries seems to be the perfect example of a problem that has been haunting human history since trade began: local fiefdoms extracting tolls on transiting merchandise. The case of natural gas is a very pure example, because it is rather difficult to find an alternate route, given the gigantic fix cost of laying the pipeline.

Yet, there is talk of constructing some new pipelines to circumvent the hold-up problem. The question is what the new route should be. Technical considerations are here secondary, capacity and supply as well, all that matters is how bargaining power is impacted. Franz Hubert and Onur Cobanli use cooperative game theory and Shapley values of coalitions to analyze three proposed pipelines. The best seems to be North Stream, which runs thorugh the Baltic Sea from Russia to Germany, bypassing all the troublemakers. South Stream, which goes through Bulgaria and then the Balkans or Greece and Italy, is of little strategic value, as too many players are involved. And Nabucco, which taps fields in the Middle East and runs through Turkey and Bulgaria is of substantial value, but the rents accrues mostly to Turkey.

Air conditioners on the rebound

The various cash for clunkers programs during the last recession had two objectives in mind: create aggregate demand (or shift it from good to bad times) and improve the stock of capital. In the case of cars, it was expected that this would lower pollution. Other programs outside of recessions have had the same goal, for example subsidies to replace light bulbs or appliances for more energy efficient ones. But it does not always work out as expected.

Lucas Davis, Alan Fuchs and Paul Gertler look at a recent and large appliance renewal initiative in Mexico. A staggering 1.5 million households changed their refrigerator or air condition units for better ones, with again the goal of reducing electricity consumption. But it seems to have backfired for the AC units. Indeed, they seem to have been so much more efficient that people feel less guilty of running them, increasing the total energy consumption in the process. This is called the rebound effect, which has already been discussed here. And once again, nothing beats taxing energy use instead of subsidizing alternative energy, or alternative energy uses.

About taxing children for climate change

While some impact from global climate change can already be felt, it is believed the significant impact will be for future generations. As the current generation would only face a cost to alleviate what leads to this climate change, one can make the argument that the future generations should pay us. But they are not there yet to do so. However, their parents are and these care about their offspring. So parents should be taxed to take care of reducing pollution and redistributing funds to those hurt by reducing pollution from current levels. That is a rather twisted argument to argue for future generations to pay (homework: where is the error?).

A better argument can be made for parents to pay. It is by Henning Bohn and Charles Stuart, who observe that each additional person exerts a negative externality onto the others by generating more population, taking more spaces, etc. That externality is not internalized, thus it needs to be taxed. Thus, whatever the reasons are that we subsidize having children needs to be amended by this tax. And by the calculations of Bohn and Stuart, the child subsidy could very well turn into a child tax. Indeed, the child pollution tax is 21% of life-time parent income per child, which is needed to divide the population by four in the long-run. However, that tax can be reduced to 5% if there is a cap of pollution permits set at current levels.

Of course, one can have endless arguments about the calibration used in the study. In this particular case, it is assumed that it costs 3% of output to reduce pollution by 25%. Also important is the output and time cost of children, as well as preference parameters. You may think of other parametrizations, but it remains that the child pollution tax makes sense. Only its amount it up to debate.

About the strange response of consumers to gas tax increases

When we think of price elasticity of demand, there is no reason to think that it would be different depending on the reason the price has changed. The quantity of apples you demand will be lower by the same amount whether the price has increased due a tax increase, a lack of supply or a typo by the grocer. To a large extend it is so because you generally do not know why the price has increased. But even if you knew, would that make a difference?

Shanjun Li, Joshua Linn and Erich Muehlegger
find it does for gas prices in the US. A five cent increase in gasoline taxes reduces consumption by 1.3% in the short-run. The same increase in the after-tax price reduces it by 0.16%. How can the difference be so large? First, you have to wonder whether the tax change covaries with something that has an impact on consumption, and that was not taken into account. To be honest, I cannot think about a good reason. Second, could these estimates be very imprecisely estimated and thus not significantly different from each other? The coefficients seem rather tightly estimated. Third, tax increases are widely announced and anticipated, and consumers thus can prepare themselves by filling the tank just before the change takes effects. That is not the case with market fluctuations. Yet, some of the difference persists in the long run. Do tax changes have a signaling effect that prompts households to change habits? The paper seems to allude to that in the sense that there is a change in fuel efficiency after tax changes that is largely absent after other price changes.

The best solution: carbon taxes

When there is some externality, the best way to deal it is with a tax (for a negative externality like pollution) or a subsidy (for a positive externality like education). Yet, I am continuously amazed how this policy using the market mechanism has found little reception in the United States. And economists are also very fond of it: it is the most efficient way to reach an objective, and in the case of a negative externality it even allows to reduce other taxes that distort the wrong way, like income taxes.

Joseph Aldy and Robert Stavins writes a survey article about how to best deal with carbon pollution, comparing a cap-and-trade of pollution permits, clean energy standards and taxation of carbon content. And the latter is the easy winner. And as argued multiple times on this blog, alternative energy should not be subsidized.

Taking peak oil seriously

For about forty years now, individuals and organizations have warned of peak oil and predicted a particular date for this event, which is inevitably associated with some sort of impeding doom. Yet, their predictions have not come to fruition (yet). Indeed, there is very little economics in those predictions beyond extrapolating trends. Economics has much more to offer in this regard.

Indeed, theory would tell you that an exhaustible resources would be used up at a decreasing rate as long as there is a positive discount rate, thanks to increasing prices for this commodity. Yet we seem to observe increasing consumption. Stephen Holland offers several explanations why peak oil may arise as an equilibrium and optimal outcome. There are four ways that can lead to upward-trending oil production, at least for some time: increasing demand, increasing reserves, technological change and site development. Demand and reserves are easy to understand, the other two need explanations.

Technological change can lead to increasing production through a decrease in the cost of drilling. The end effect is similar to discovering accessible reserves. As for site development, the idea is that the most promising sites are developed first for extraction, and the next ones come online while the previous ones are not done yet, yielding a temporary increase in production. And I would add a fifth reason for a temporary increase in production: the introduction on alternative fuels. Overall, the general picture that emerges is that in the long run production decreases, but there may be bumps along the way. But if price play their role, their is nothing evil in peak oil.

Energy spending and household poverty

There is broad agreement that energy, especially polluting energy, is too cheap, calling for higher energy taxes. The problem is that such taxes are believed to be highly regressive, as poor households spend a larger share of their income on energy for transportation, heating and cooling. Of course, this could be alleviated by an appropriate redistribution of the proceeds, but to do this properly one first needs to understand well the energy spending of poor households.

Tooraj Jamasb and Helena Meier do this for the United Kingdom. There, households that spend more than 10% of their income on energy are considered "fuel poor" and deemed as having difficulties heating their home. I have always been suspicious of such definitions, as one may choose to spend more to heat at higher temperatures, for example, without being considered at risk. But this definition may indeed capture a good portion of the households of interest. While Jamasb and Meier find the usual conclusions (fuel poor households are poor, have children or are retired, spend more time at home), they also put high hope in smart meters. By showing current energy consumption, they hope that these meters will trigger behavioral changes and in particular help so far ill-informed households manage better the available energy and look for energy efficiency. As so often, good information goes a long way in managing scarcity.

Does it make sense to subsidize biofuels?

Ina relatively short time, biofuels have become remarkably popular, especially as an additive to regular petroleum based fuel. This is at least in part due to massive subsidies from the US to fuel and corn producers. As biofuels compete with food, this has lead to major price increases for corn and sugar, with adverse consequences for importing countries. This begs the question: is it actually a good idea to subsidize biofuels? I mentioned previously that it is preferable to tax other energy products rather than subsidize alternative energies (1, 2), but let us revisit this issue.

Subhayu Bandyopadhyay, Sumon Bhaumik and Howard Wall use a general equilibrium trade model and confirm that if there is a Pigovian tax on conventional fuels, subsidies are not needed. But if the Pigovian tax is not available or too low (as is the case in the US), then a subsidy for biofuels makes sense, But if the country in question is large, there are other implications through increased worldwide demand for food. In that case, a food exporter wants to subsidize biofuels and tax conventional fuels. A food importing country would only want to subsidize biofuels if the pollution reduction effect is large enough.

Hector Nuñez, Hayri Önal, Madhu Khanna, Xiaoguang Chen and Haixiao Huang look more specifically at the interaction of policies in the US and Brazil, the two largest producers of biofuels. Indeed, the US imposes a special tariff on the importation of biofuels, in particular the more advanced sugarcane based one from Brazil. Brazil is also the largest producer and exporter of beef. The paper uses a multi-country, multi-good model, unfortunately with a partial equilibrium, but it takes into account possible crop rotations and different categories of land. It concludes that eliminating the tariffs would significantly reduce biofuel production in the US, with the latter importing biofuels from Brazil and exporting corn. While this reduces producer welfare compared to the status quo, it increases consumer welfare. Given the political system in the US, guess what will happen.

A driving median voter reduces gas taxes

If you own a car, you are not too happy when gas taxes go up: it is more money out of you pocket, however you benefit from a reduction in congestion and lower pollution as long as this tax increase also implies a reduction in gas consumption. If you do not own a car, you would view positively the increase in gas taxes, as the state can now provide more services or reduce other taxes you may be paying. However, some goods with a high share of transportation costs may be become more expensive. Does this reasoning make sense in a political equilibrium, i.e., is the level of gas taxes determined by whether the median voter is a car driver or not?

Fay Dunkerley, Amihai Glazer and Stef Proost show that it does and figure out that in the OECD a car driving median voter leads to a gas tax that is 20% lower than a walking median voter. Of course any such estimate is fraught with endogeneity: the median voter is walking because the tax is high. To overcome this problem, the authors use a dynamic setup that takes into account when a median voter starts to drive.

Markets under-value fuel economy for new cars

Is it worth it to buy a fuel efficient car? If you ask an economist, he will look at the fuel consumption, the cost of gasoline, and calculate the cost benefit of a fuel efficient car, probably also factoring in a resale value and a discount rate. But a non-economist customer?

David Greene says the literature is really unclear, as customers seem to be under-valuing and over-valuing fuel efficiency depending on how you look at the data. Surveys seem to indicate that car buyers consider a very short horizon for the payback, 1.5 to 2.5 years. That makes it very difficult for fuel efficient cars, hence the need for subsidies, or better taxes on the inefficient cars (see why). But this provides little theoretical insight where car buyers differ from the economist I described above. Greene thinks this has to do with risk aversion about future gasoline prices, or loss aversion (being afraid of having taken a poor decision). But clearly, this requires more research.

Having said this, I am puzzled at how little hybrid cars have been adopted in Europe, in particular compared to the United States. The cost of European gasoline is very significantly higher, and the environmental consciousness is also more pronounced. Is it because the alternatives to hybrid cars, the small fuel efficient sedans, are much better than in the US?

How to manage rents from non-renewable resources

Some countries are blessed with natural resources, although this turns too often into a curse as rent seeking can turn the economy into a corrupt hell-hole. To make things worse, this type of revenue is highly volatile and there is much incentive to extract rapidly with little thought for smoothing income or investing for the future. Hence, international organizations have pushed very hard for a more sensible management of resources incomes, and their advice has been to extract or invest income in a way to obtain a constant permanent income.

Anthony Venables thinks this is not appropriate for developing countries that have pressing needs right now, like poverty alleviation or a shortage of public infrastructure. In addition, one has to realize that sustained growth is not going to come from the public sector, but through private investment. And making private investment worthwhile can be helped by good, but limited government. This Venables thinks that revenue management should put more emphasis on current expenses than future ones, in order to make sure the country get out of a development trap and can continue growing on its own latter, with relying on its resource income.

PS: the paper's abstract was much more intriguing that the paper turned out to be. The reason is that the abstract make promises about the proper management of income from renewable resources, which would seem much less problematic, unless I was missing something.

Privatization-nationalization cycles

The past two decades have seen an impressive wave of privatizations all around the world, especially in utilities and resources. This trend has recently been reversed though, with several large nationalization waves, in particular Latin America. This kind of cycle is not new, as especially the gas industry has gone through several waves each way during the last century. Why all this back and forth?

Roberto Chang, Constantino Hevia and Norman Loayza observe that nationalizations typically happen when the price of the output of reference is high and inequality of wages is also high. The opposite is the case for privatizations. They can explain this with a model of a benevolent government that maximizes a social welfare function represented by the average utility of workers. Under nationalization, all workers are paid the same and exert little effort. Under privatization, firms can discriminate workers, who then put more heart at work, creating wage differentials. When prices for the commodity increase, this generates larger rents for the most productive, and inequality increases.

The story is then of a inequality-efficiency trade-off for the government. In the naturalized state, inequality is low, but so is efficiency. If prices are low, it is more important to increase efficiency, and the firm is privatized. But as it becomes more efficient and discriminates its workers, inequality becomes more important, and the firm is nationalized back. And the cycle continues, with an average of 12 years of privatization and 25 years for nationalization. While this is a very stylized story, after all the model assume an economy with a single sector that has no impact on world prices, it is still a compelling story.

How to solve the Kyoto and Copenhagen climate gridlocks

The Kyoto Protocol to reduce greenhouse emissions has not been widely adopted or followed and the Copenhagen climate summit ended in a fiasco. Why is it that the world community cannot cooperate on an important issue? And even if one doubts about global warning, one has to agree that this is a potentially large issue, and thus at least some coordination is required. People will immediately point out that there is a huge free rider problem, and they are right. As emissions are global, everyone benefits from the efforts of the others but little from one's own. Hence the need for cooperation.

Peter Cramton and Steven Stoft write that this cooperation problem becomes even more difficult depending on what the central coordination mechanism is. The argue that cap-and-trade makes things especially difficult, because it makes objectives of the negotiating parties even more divergent. If the rule of the game is that everybody needs to have individual and binding emission ceilings, then everyone will try harder for low (developed economies) or high (developing ones) emission caps. One solution out of this quagmire is to adopt a global emission ceiling that is enforced through a market-based mechanism, with the sale of pollution permits. We have known for a very long time that prices are very powerful enforcement mechanisms, and in the context of this public-goods game it is even better because it will foster more cooperation in the negotiation of the emission ceiling and lead to an agreement having a better chance of actually happening.

Energy taxes and employment

It seems quite obvious that the United States will have to increase energy taxes, first because energy prices need to better reflect the negative externalities they exert on the economy (pollution, wars, congestion, etc.), and second because the government will need to raise revenue from somewhere. So it is of particular interest to verify what consequence this would have, for example on labor markets. If the cost of an input increases, and it is cheaper elsewhere (or if not, the gap with elsewhere is reduced), one should expect labor demand to be reduced. But how much?

Olivier Deschenes does such an empirical exercise by exploiting the cross-state variation in energy prices and finds a price elasticity of 0.15. Given that the electricity prices are supposed to rise by 4%, a reduction in employment of 0.6% or 460,000 people is inferred. Unfortunately, these estimates cannot be relied on for several reasons. First, estimates are based on employment differences across states due to energy price differences. Imagine that electricity prices increase in Michigan, and this drives some jobs to Wisconsin. This is what this elasticity measures. But when electricity prices increases in all states, cross-state movements of jobs should not happen. They may move abroad, but this is not measured with this procedure, which certainly overestimates the correct elasticity.

Second, these are reduced form estimates that give us very little understanding how various agents in the economy would react to those price changes, especially if they are larger that the one observed in the data. One needs here some structural model to understand what would happen, a model that would, for example, include the industrial structure of each state. Computable general equilibrium (CGE) models have been used extensively for similar exercises, and should be much more reliable than this reduced form (Lucas Critique anyone?). Third, if you do not increase energy prices, it is quite obvious that some other tax will have to increase. An obvious candidate is labor income tax. Now that is certainly going to reduce employment as well, and possibly more than the 0.6% from above. In other words, the energy tax can very well be a lesser evil (on top of reducing pollution).

Some press will pick up this paper and rail against energy taxes. That is most unfortunate.