CAFE Standards vs Carbon Tax

It would be very difficult and/or expensive for U.S. government policy to help the not-quite-bankrupt U.S. auto industry. The Obama Administration has taken the apparently contradictory position of supporting a bailout of unprofitable U.S. automakers, while simultaneously trying to destroy their business model. In this second point, I am speaking of Barack Obama’s decision today to mandate high CAFE standards (at least 35 miles per gallon) by 2011. Generally, the more profitable vehicles sold by U.S. automakers are the ones that consume more fuel – This is where they seem to have a slight comparative advantage over their foreign competitors. It is conceivable that if CAFE standards were lifted, Ford and GM would be able to survive as specialized producers of larger vehicles, ceding the small car market for Japanese and European competitors. As I understand it, Ford and GM currently lose money producing small fuel efficient cars in order to make their fuel efficiency numbers meet the current CAFE standards. Raising CAFE standards will further distort the companies, making them even more ridiculously unprofitable.

To me, corporate fuel efficiency standards just seem like confused/bad government policy. If one is worried about the United States using too much gasoline, it would make sense to directly raise the price of gasoline until the point where you think the country is using the correct amount. Ideally, you should come up with a value of the harm caused to the country by carbon emissions and dependence on foreign oil and turn it into a unit cost tax on sales of fuel. Under such a carbon tax system, people who use gasoline would bear the appropriate whole cost of their decision. People would make rational decisions based on the new prices: In the short-term, they might drive less or buy more fuel efficient cars (remember 6 months ago?). In the long-term, there would be incentives to move closer to work and for communities to be less spread out. The cost would be born directly and proportionally by users of gasoline, rather than indirectly by all members of society. Also, the government would raise some money out of it and would be able to use these funds to provide relief in any number of ways (such as slightly lower income taxes). So, in total, there is no net cost to society, but a net gain from more rational and transparent decision making.

Federal fuel efficiency standards due not create the incentives for such market adjustments. They just make it much more difficult to buy new less fuel efficient cars, no matter how many kids you have to transport to a soccer match. So, the price for vehicles will go up, but because the amount of fuel used per vehicle will go down (more fuel efficient cars use less), the price of fuel will fall and it will be cheaper for everyone to drive extra miles. So, a significant percentage of the fuel savings from more efficient cars will be eaten up by additional driving. The added expense for new cars will mean there will be more old cars staying in use longer. These cars may burn fuel and pollute more, but they would now have a relatively cheap upfront cost, and cheap fuel. So, we’ll end up with more and older cars on the road, which we would expect to intensify other highway problems like congestion and accidents.

So, with CAFE standards there will be somewhat less gasoline used, but this will be outweighed the deadweight loss to auto-producers and consumers. Also, there is no money raised by the government to compensate the relative losers from this policy. Of course, the government will bail-out the auto producers anyway, but the funds for this will come from other sectors of our already ailing economy. Perhaps the hike to CAFÉ standards is good politically in that it provides cover for the auto bailout, but it is definitely bad policy. Barack Obama told reporters today “Our goal is not to further burden an already struggling industry; rather it is intended to help the auto industry prepare for the future.” If the auto industry emerges in a few years, it will be because an incredible amount of money will have been spent on this concentrated special interest. It will be good for it to look different, so politicians can claim they have reformed it, even at the cost of a huge waste of public resources.

The Audacity of Unfulfilled Promises

On my Economic Scorecard for the Candidates before last year’s election, the category I gave Barack Obama the most credit on was Taxing Energy Consumption. So, it is with great (although not entirely unexpected) sadness that I report Obama regression on the issue, pointed to by Greg Mankiw:

Obama rejects the Pigou Club
The Washington Post's Steve Mufson reports:

Goodness knows, President-elect Obama has his legislative hands full. Maybe that explains why he has taken the idea of increasing gasoline taxes off the table, saying that Americans had enough economic burdens at the moment. Nominees like Steven Chu, the Nobel Prize winning physicist who will become Energy Secretary, dutifully echoed Obama's view even though in Chu's case he has long supported higher fuel taxes.

Pindyck on Candidates' Energy Policies

Mark Thoma directs us to an interview with MIT Economics and Finance Professor Robert Pindyck. Pindyck gives some excellent commentary on the most recent economic proposals of the two main Presidential candidates. The prospects for a carbon tax look pretty dim.

Candidates' energy policies fuel economist's commentary
A Q&A with MIT
Professor Robert Pindyck
Stephanie Schorow, News Office
Correspondent
August 19, 2008

...

Q: Would either candidate's energy proposals make much impact on energy costs in the short term?

A: Neither of the candidate's plans would have any impact. The one exception would be McCain's proposal to eliminate tariffs on the importation of Brazilian ethanol. It would immediately reduce the cost of ethanol.

Q: How so?

A: We have a tariff on imported ethanol from Brazil, which is made from sugar cane. Ethanol here is usually made from corn. Sugar cane ethanol is about eight times more efficient than that made from corn. By removing the tariff, Brazilian ethanol becomes cheaper and will make ethanol-gasoline blends cheaper. It will reduce the use of corn ethanol, which would reduce the demand for corn, which would make corn prices drop slightly. There are many places where gasoline is blended with 10 percent ethanol. It would have a small impact, maybe a few cents, on the cost of blended gasoline.

Q: Is there anything in either candidate's proposal that would be particularly bad for holding down energy costs?

A: Most of the proposals are political and they involve subsidies to alternative energy sources. A lot of those subsidies are just ways of providing pork for different groups.

Q: It sounds like you are not impressed, to put it bluntly.

A: Look, what are going to be needed ultimately is a tax on carbon and a tax on gasoline -- a large one. Another way to have a tax on carbon is to have a cap-and-trade system so you only allow a certain amount of carbon dioxide to be emitted. That will raise the cost of carbon. A gasoline tax would greatly reduce gasoline use. It would create the incentives we need for other energy sources, including conservation.

No candidate is willing to get up and say, "We need a to have a high tax on gasoline." In fact, McCain wants to suspend the federal tax on gasoline for the summer and Obama didn't. Nobody is going to say, "We want to make sure we have a tax in place so gasoline prices are always going to be high." That encourages people to drive smaller cars and to conserve and that brings about investments in new technology. When people know that gas prices and fuel prices will stay high because of taxes, it means they have incentive to develop alternative energy supplies.

The question is will the candidates, nonetheless, do something when elected. Who knows?

Q: What do you think about Bush's recent decision to lift the longstanding executive ban on offshore drilling, which McCain and Obama support in some manner?

A: Offshore drilling is a tradeoff between pollution and producing oil. We've had the federal ban in place because we worry about oil spills. You could say: Why don't states make their own decisions? The reason is that if one state allows offshore drilling and there's a spill, the oil moves to the neighboring state. So whether we do that is how we trade off the environment with greater ability to produce oil domestically. And there's no right and wrong about that. What is clear is that even if we opened up offshore land for leasing and drilling, it's not going to result in any more oil production for five, six years.

The Parties of Low-Information Voters

In his August 7th commentary, New York Times columnist and sometimes excellent economist, Paul Krugman blast the Republicans plan to increase offshore drilling, calling them ‘the party of stupid’. I’m generally sympathetic to criticizing politicians for pushing stupid ideas, and Krugman is generally critical of Republicans for doing so. Here is his broadly correct attack on the simple arguments Republicans in Congress, who are

…Pretending that more drilling would produce fast relief at the gas pump. In fact, earlier this week Republicans in Congress actually claimed credit for the recent fall in oil prices: “The market is responding to the fact that we are here talking,” said Representative John Shadegg… What about the experts at the Department of Energy who say that it would take years before offshore drilling would yield any oil at all, and that even then the effect on prices at the pump would be “insignificant”? Presumably they’re just a bunch of wimps, probably Democrats.

Krugman is right to infer that offshore oil drilling is quite unlikely to have much effect on crude prices in the short-term (Oil prices have fallen, but few analysts are saying it's because of the huge supplies expected to come from future American drilling). Republicans are wrong to take credit for falling gas prices, and I don’t think they are getting credit. However, Krugman should admit that at some margin, offshore drilling would exert downward pressure on oil prices. This probably will not much, but possibly a sizable amount. Something will be pumped that would not otherwise and as long as the laws of supply and demand still hold, that will have an effect. I would think that just because this would not happen until a few years down the road, Krugman would not oppose this policy. This seems like a policy that will be mildly helpful, and if nothing else, is not an extremely misguided like, say, our current ethanol policy ...Incidentally, I don’t recall seeing Paul Krugman criticize the profoundly wrong and economically nonsensical positions of Democrats such as Hillary Clinton and Barack Obama on ethanol. Although, Krugman agrees with approximately 100% of economists who don’t work for Archer Daniels Midland.

Also, a little further down the piece, Krugman criticizes the cult of personality around George W. Bush. This is an odd criticism for someone who now supports Obama, but I’m pretty sure Krugman’s definition of rigorousness dictates only opposing cults of personality around Republicans. But, perhaps I'm being excessive in my criticism... Anyway, Democracy in America points us to an opportunity for equal treatment. The Obama campaign has a new anti-foreigner ad blaming John McCain for the closure of an Ohio shipping hub, stating:

But there’s something John McCain's not telling you: It was McCain who used his influence in the Senate to help foreign-owned DHL buy a U.S. company and gain control over the jobs that are now on the chopping block in Ohio.

And that's not all: McCain's campaign manager was the top lobbyist for the DHL deal...helped push it through. His firm was paid $185,000 to lobby McCain and other Senators.

Now 8,200 Ohioans are facing layoffs, and foreign-owned DHL doesn't care.

Here’s the Economist’s take:

This is dubious on multiple levels. It is true, to be sure, that Mr McCain's campaign manager, Rick Davis, lobbied to allow the American parcel delivery firm to merge with the German company Deutche Post. But the reason the DHL jobs existed in the first instance was that the merger allowed the company to launch a $1.2 billion expansion in America that, among other things, built up the Wilmington Air Park.

Perhaps more to the point, the company's decision to let competitor UPS handle its airborne traffic was surely dictated not by some stony Saxon indifference to the plight of the American worker, but by perfectly cosmopolitan economic considerations. Even if the Ohio jobs would have existed without the post-merger expansion, is there some compelling reason to think that an American-owned company would have made a different decision, foregoing cost savings as some sort of patriotic duty? If not, this just seems like a nasty bit of xenophobia.

I agree unfortunately, that the Republicans advertise to ‘low-information’ voters. Perhaps you could call them ‘the party of stupid’. What would you then label the party that puts this out, in addition to pushing through ethanol subsidies? …It’s unfortunate.

Economic Scorecare for Presidential Candidates

It’s often stated that economists agree about the majority of issues. In that spirit, Greg Mankiw had a recent piece titled What If Candidates Pandered to Economists? These are the issue he came up with that a large majority of economists would agree (without ‘Raise Funds For Economic Research’ which I’m not sure about): Support Free Trade, Oppose Farm Subsidies, Leave Oil companies and Speculators Alone, Tax the Use of Energy, Raise the Retirement Age, Invite More Skilled Immigrants, and Liberalize Drug Policy. I’d like to add three more to that list: Oppose Ethanol Subsidies, Liberalize Labor Laws, and Ensure Central Bank Independence.

I have been toying with the idea creating an economic scorecard to measure the candidates and hopefully this gives my chosen issues a bit more weight. Economists have well developed opposing arguments about Healthcare, Income Taxes, Entitlement Spending, and School Spending. Those are complex issues that there can be quite a bit of reasonable disagreement on. This post does not attempt to judge the candidates based on the merits of there positions on those issues. Instead, I am judging candidates based on issues where economists know with I would estimate greater than 80% confidence what is the correct stance.

I give each candidate a score of 0-10. 10 being straight from Mankiw’s principles, 0 probably being whatever Lou Dobbs says. The Format is Obama's score first, McCain's second:
- Support Free Trade 5- 9 - McCain strongly does, Obama probably secretly does.
- Oppose Farm Subsidies 3 - 8
- Leave Oil companies and Speculators Alone 3 - 3
- Tax the Use of Energy 8 - 4 - McCain wants to get rid of the gas tax, Obama would keep it. Both want some sort of cap-and-trade system, although McCain sometimes doesn't seem to understand it.
- Raise the Retirement Age 3 - 5
- Invite More Skilled Immigrants 5 - 5 - I cannot find a policy difference
- Liberalize Drug Policy 4 - 0
- Oppose Ethanol Subsidies 1 - 8
- Liberalize Labor Laws 3 - 6
- Ensure Central Bank Independence 5 - 5 - Sadly I cannot find positions for either candidate...
Bottom Line: Obama 40 - McCain 53

Based on this not at all scientific analysis, John McCain is 33% better than Barack Obama on these issues with pure economic answers. There’s a fair degree of art in these scores. For example, I assume Barack Obama will be a more free-trade oriented President than he claims he will be (Austin Goolsbee gets him a couple points on the scorecard). I did not give Obama points for the fact that he will likely be more able to push trade deals through Congress than McCain, if he chooses to do so. McCain scores better than I would have expected. However, I did not have any category for his arguing that further tax cuts will raise revenue – the dubious claim for which he is so often blasted on the econ-blogosphere.

So, McCain wins. However, this is not an endorsement. Perhaps the most important issues are not addressed in this comparison – Foreign Policy, Taxes, Social Security, and Health Care. I have my views on those issues but they’re lower-confidence stances and I won’t go into them in this post. Furthermore, both McCain and Obama’s campaigns center on personal qualities beyond the issues as the main reasons they should be President. McCain promotes his honor and experience. Obama is promoted as a smart internationalist who has the potential to be a uniting figure both domestically and internationally. So, this chart may only amount to 1/3 of what makes up my voting decision. However, it does say something about the candidates that they probably know the right answers to these issues, but they have chosen to take some different positions.

Report: Biofuels Policy Completely Backfires

The Guardian tells us:

Biofuels have forced global food prices up by 75% - far more than previously estimated - according to a confidential World Bank report... The figure emphatically contradicts the US government's claims that plant-derived fuels contribute less than 3% to food-price rises.

..."Political leaders seem intent on suppressing and ignoring the strong evidence that biofuels are a major factor in recent food price rises," said Robert Bailey, policy adviser at Oxfam. "It is imperative that we have the full picture. While politicians concentrate on keeping industry lobbies happy, people in poor countries cannot afford enough to eat."

Rising food prices have pushed 100m people worldwide below the poverty line, estimates the World Bank, and have sparked riots from Bangladesh to Egypt. Government ministers here have described higher food and fuel prices as "the first real economic crisis of globalisation".

President Bush has linked higher food prices to higher demand from India and China, but the leaked World Bank study disputes that: "Rapid income growth in developing countries has not led to large increases in global grain consumption and was not a major factor responsible for the large price increases."

... it argues that the EU and US drive for biofuels has had by far the biggest impact on food supply and prices. Since April, all petrol and diesel in Britain has had to include 2.5% from biofuels. The EU has been considering raising that target to 10% by 2020, but is faced with mounting evidence that that will only push food prices higher.

"Without the increase in biofuels, global wheat and maize stocks would not have declined appreciably and price increases due to other factors would have been moderate," says the report. The basket of food prices examined in the study rose by 140% between 2002 and this February. The report estimates that higher energy and fertiliser prices accounted for an increase of only 15%, while biofuels have been responsible for a 75% jump over that period.

If only we had experts to explain to politicians and the public the effects of a policy like Ethanol subsidies. Otherwise this could have been avoided and Americans, Europeans and the worlds poor would be better off. Sad, but what I will find most interesting is when and what goverments will start to reverse themselves if any.

(HT: Tyler Cowen)

Subsidies v. Windfall Profit Tax for Agriculture

The U.S. Congress recently passed a $307 billion agriculture subsidy bill. This subsidy passed both chambers of Congress by a large margin despite the fact that U.S. Agriculture is already making very healthy profits (Up about 60% in two years), at least partially due to another subsidy – American Ethanol policy.

It’s not clear to me why the government should be subsidizing farmers (although it’s clear why certain politicians favor subsidies*). The default and correct position of the government is generally not to subsidize an industry. It doesn’t really seem fair to take money from some and give it to certain businesses, generally it’s not productive, and it causes political economic problems. So, we generally need a compelling reason why we have a special case necessitating subsidies. However, it isn’t a strategic policy to protect our food supplies, as United States has abundant food and is a net exporter. The United States has about the best farm land in the world and will always have a vibrant agriculture sector (baring the worst global warming predictions coming true).

One reason some could offer to protect farmers is to protect them from the ups and downs of commodity prices. We see no reason to protect other industries from these pressures. In fact, populist politicians want to punish oil companies for the rising price of crude. I don’t recall hearing much talk about instituting a “windfall profit” tax on farmers. Even though, unlike U.S. oil companies, American farmers are definitely using the government to manipulate prices and cause an artificial shortage. The agriculture lobby’s manipulation of the market has far worse effects than high gas prices - it causes people to starve (but people in the 3rd world who have little say in U.S. policy).

So, we’re spending a lot of money to further enrich American farmers and kill people in the Third World (And not even for freedom). I say stop it. I reluctantly give Bush credit for his veto. John McCain gets credit for taking a strong stand against the bill in the Senate. Barack Obama, who says he will fight the special interests, supported this incredibly regressive policy just as he did the 2005 energy handout – He loses credit.

*Subsidies go to the organized special interests with the most political power. Agriculture is a well definite sector that is easy to organize into an effective lobby, and has some broad-based appeal (protect the vaunted family farm, right?). More importantly, states with large agriculture lobbies are vastly overrepresented in Senate and also have a disproportionate role in choosing the President (via the Electoral College and the Iowa Caucus).

Venezuela v Saudi Arabia and Nigeria

Free Exchange has had the same 'Comment of the Week' as long as I can remember:

It's astonishing how many hearts bleed for
Venezuela---especially for the alleged ill-effects of Chavez' policies on the
poor. I suspect these are crocodile tears and the intent is actually entirely
ideological. If Chavez' policies fail, at least the Venezuelans can get rid of
him in the next elections. Spare a thought for Saudi Arabia instead, where
conditions are far more repressive, where the poor have no voice and where they
can't get rid of the king. Or save your tears for Nigeria, where the oil bonanza
has had hardly any impact on reducing poverty.
Akhond of Swat on Venezuela

I think the reason people are bothered by Venezuela is that the country has clearly been moving the wrong direction over the last decade. Saudi Arabia and Nigeria have never really had functioning politics or democracy. It could be argued that Nigeria and Saudi Arabia are making very modest steps forward. Saudi Arabia is strengthening modest secular institutions and the government is a bulwark against perhaps a dangerously radical population. Nigeria is corrupt, and seems to be less democratic the last few years, but is probably one of the better governments in Africa, and definitely improved from a generation ago.

Venezuela has a two hundred year history of (often dysfunctional) democracy. Hugo Chavez has taken dangerous steps towards undermining that democracy. He is destroying the economy, which fortunately for him has thus far has been masked by rising oil prices. Furthermore, he is trying to influence other Andean countries and that influence has almost universally been negative. His support for the thuggish FARC in Columbia comes quickly to mind. And also, there is a question of how able Colombians are to get rid of Chavez if his policies fail.

So, I agree that we should worry about the poor and suffering in other countries, but I think that Venezuela is very important. Is it a country on the margin between liberal democracy and some sort of authoritarianism, and it has been going the wrong direction. So, the marginal people in a developing nation are being hurt.

A Reason to Support McCain

This post is a little late as Iowa and thus ethanol are irrelevant for a while. But, the issue will be back in the general election as Iowa is a swing state. Ethanol subsidies are one of the least reasonable policy ideas around.

Corn-based ethanol uses up as much energy as can be gotten from it, pollutes more than gasoline, and is much more expensive. There's also little prospect of it being made anywhere near as efficient as gasoline or other sources of energy. The policy would be laughed off if not for two things: 1.) To the uninformed (>95% of voters), it sounds like a good idea to get energy from crops, and sounds like it wouldn't pollute much; 2.) A lot of people, who live in states who will benefit from subsidies, happen to agree that it is a good idea, and will vote based on it.

So, this seems like a great example of an issue where the relatively honest politician could tell the truth and the sleazier politician will go along.

- Barack Obama, who often seems to be a relatively honest politician, has changed his mind and now supports ethanol subsidies (but also restrictions against importing sugar-based ethanol from Brazil).
- John McCain has consistently opposed ethanol subsidies, even though it appears to have hurt him politically in both of his Presidential campaigns.

I'm generally skeptical of the idea that politicians do something because they think it's right, but perhaps McCain is doing just that here. Or perhaps I'm a sucker.