The hedge value of domestic oil conservation (or, “I’m rich, B*tch!”)

John McCain caught a lot of heat last week for proposing to open up offshore drilling. This is largely because he proposed doing so as a response to high gas prices. As people quickly pointed out, not only would it take 10 years before the first drop of oil came out of these offshore endeavors, but the entire operation would be so small relative to global production that it would have virtually no effect on the price of oil. In fact, as the WonkRoom noted, even McCain’s own advisers acknowledge that offshore drilling wouldn’t impact current prices. This prompted a predictably econo-idiotic restatement from the Maverick, where he tried to justify offshore drilling as impacting the psychological price of gas, not the actual price (maybe this is behavioral econ?).

However, talking to Daniel today about all of the the oil speculation nonsense today, we stumbled on a reasonable justification McCain could give to explain his offshore drilling flip flop: “I’m rich, Bitch!” As Wyatt Cenac brillantly explained on the Daily Show in response to Obama’s flip flop on accepting public financing, “we all say things we don’t mean just before we get rich….voters will forgive him once they take a ride in his brand new Hummer-copter.”

While, then as now, opening up off-shore drilling in the US won’t significantly reduce gas prices, what it will do is bring in a boatload of money to the US.* Back when oil was $20 a barrel, this revenue stream seemed far too small to sacrifice the serenity of of our oceans. But with analysts predicting $200 a barrel oil in the near future, it might be time for us to reconsider. When a democracy decides whether to conserve land or not, it values the costs and benefits of both options. I’m not saying we’re at a point now where we should drill, but it’s not entirely unreasonable to change one’s stance on an issue like this once the relative pros and cons have changed.

Which brings me to the point of this post. From a financial perspective, the decision to delay drilling in ANWR a decade ago is looking pretty prescient. Assuming that the resulting environmental damages and quantity of oil in the ground haven’t changed, it’d be much more beneficial to crack ANWR open now. As I see it, the public panic over recent run up in gas prices has less to do with the current level, and more to do with the fact that there’s no end in sight. If people believe that we won’t be able to wean ourselves off oil quick enough and that prices will continue to rise, then it should be somewhat comforting to know that if things really do get bad we can somewhat offset these negative effects by cashing in our untapped reserves. Otherwise, if people believe that the recent crunch is a brief abberation, that either oil prices will come down or we’ll simply learn to use a lot less of it, then it probably seems imprudent to permanently spoil the environment. Either way, a reasonable, informative public debate over the relative costs and benefits seems a lot more helpful than atemporal categorical rejections.

* In this example I’m assuming that the federal government would either auction off drilling sites, or extract royalties from companies who find oil offshore, and return a dividend of the proceeds to every American. In reality, most of the profits gained from offshore drilling would go to American oil companies. In the case of McCain’s plan, I think its pretty safe to assert that he’s thinking about placating Houston, not offsetting the increased transportation costs of American families.

Some motherly advice on deficit reduction

Over on EconomistMom, Diane Lim Rogers notes that economists of all political and ideological stripes appear to support pricing carbon, which, by itself, amounts to increasing taxes. She then muses that part of the appeal comes from the fact that a carbon tax is an efficient tax, and the revenue could go towards alleviating other less efficient taxes. In particular, Rogers’ main interest is in deficit reduction. Now as I noted in the comments, it seems pretty unlikely (at least in my reading of the current political climate) that deficit reduction will garner much, if any, of America’s newly created carbon permit pie. My guess is that it’ll be eaten up by some combination of giveaways to industry (a la McCain), giveaways to the people (a la Boyce and Riddle), and spending on R&D (a la Joseph Romm). These three spending options all have obvious political constituencies, but it wasn’t obvious to me who the deficit reduction constituency is (except the unborn, who, for obvious reasons, don’t seem to carry much political clout). Nevertheless, deficit reduction is obviously a reasonable option, so I decided to check out the Brookings Paper Rogers links to.

Here’s is the comment I left for Diane after reading her paper, in which I show my ignorance of public finance,

I’m curious about the distributional implications of using this revenue to pay down our national debt. In your paper, you say, “Even if one interprets the benefits of deficit reduction as distributed broadly across the current population, i.e., as a fixed dollar amount of benefit to each American, this benefit will be progressive relative to income (a higher percentage of a lower income).”

But why would one interpret the benefits this way? Wouldn’t the benefit be proportional to each person’s share of future taxation? And given that wealthier Americans have higher average tax rates and pay taxes on a much larger ammount of income, it seems to me that reducing future tax burdens would be really regressive.

Diane replied,

Rich, there are debates on this—what is the burden of budget deficits across the income distribution? (It’s easy to figure out the intergenerational burden, not so easy to speculate on the inTRAgenerational burden among rich vs. poor.) Obviously it depends on what we think the form of the future burden will take–higher taxes or reduced government services, or some combination of both. The more it’s higher taxes, the more it depends on how we think taxes would be raised. If taxes would be raised proportionate to the current (progressive) federal tax distribution, then you’re right, that would be a more progressive change, so reducing the deficit and avoiding such future tax increases would be a regressive change. In my paper I was making the assumption that the future tax increases and/or benefit decreases associated with deficits would be distributed fairly evenly across the population, which would mean that relative to income, avoiding deficits would be a progressive change

So there you have it. I’m not surprised to hear that the distributional implications of deficit reduction are highly dependent on how you assume future tax increases were going to be financed. Given this, the real question I have is not “Under what assumptions is deficit reduction progressive?”, but instead, “What are the most realistic assumptions we can make about where future deficit driven tax increases/ decreases are likely to come from?” I know this is basically unanswerable, but any evidence (even anecdotal) or hypotheses would be welcome. I’m currently working on a paper analyzing the incidence of US climate policy, and it seems to me that this is the million dollar question when it comes to deficit reduction.

ToC: Washington Metro Edition

One of the most interesting aspects of Washington, DC, is the fact that any planning decision falls at a nexus of federal, local, and Maryland and Virginia state interests.

I’ve been reading The Great Society Subway, a history of the Washington Metro system written by George Mason historian Zachary Schrag. The book delves into the nitty-gritty of the planning process; some of the most interesting bits are the intense political struggles.

Washington is not the only American city that has built a postwar rapid transit system (see: BART). However, it is unique in that the federal government, local authorities, Maryland, and Virginia all held a dear interest in its design and construction. Building such a system reminds one of the importance of political economics. The relevant commissions and authorities could not simply design a system that optimized ridership while minimizing net costs and impose it on the region:

Even with the federal government paying the bulk of the expense, local jurisdictions still needed to divide up the local share of the cost. On the one hand, if each jurisdiction paid only for the portion of the system on its own territory, there would be an enormous incentive not to build, and instead to bus one’s citizens to the county line and let them ride someone else’s train into work. One the other hand, if each jurisdiction paid a fixed proportion of the total system regardless of the amount it chose to build itself, a tragedy of the commons would arise: each would be tempted to build as large and extensive a system as it could, knowing that the additional expense would be diffused across the region.

An intermediate cost-sharing solution was eventually designed, and the disproportionately common downtown DC infrastructure was folded into the project’s general expenditures. Although DC faced unique political constraints on its urban policy, this is an instance in which the federal government’s inherent interest made the process more tractable. Hmmm…are there any other tragedies of the commons to which this lesson might apply?

Thoughts on Krugman

I saw Paul Krugman speak last night as he promoted his new book, The Conscience of a Liberal.

Krugman and the “interviewer”, E.J. Dionne of the Washington Post and Georgetown University, talked mostly about Krugman’s concept of the “Great Compression”, the period after WWII during which the income distribution in the U.S. scrunched up considerably. It was sort of scattered, and Dionne often commandeered the conversation. This was okay, as Dionne is an interesting scholar in his own right, but I definitely went to hear the thoughts of his interviewee.

Money does grow on trees

The U.S. Government, in conjunction with some NGOs, continues its program of swapping debt relief for forest conservation:

As part of the U.S. Tropical Forest Conversation Act, the United States will spend US$12.6 million (€9 million) to buy back Costa Rica’s debt at discounted rates. Conservation International and The Nature Conservancy will each contribute US$1.26 million (€890,000). Together, with interest, the money will be enough to pay down US$26 million of the Central American country’s debt, according to the agreement.

I’d like to highlight two aspects of this policy.

Go fish

In this week’s RFF Policy Commentary, Harrison Fell and Jim Sanchirico discuss the political economy of regulating US fisheries. As the authors begin, “Overfishing is a classic example of the tragedy of the commons. Since no one owns the fish in the ocean, it’s in everyone’s interest to catch them as fast as possible, regardless of present or future damage to fisheries. Overexploitation and inefficient use of marine resources are the direct result of open-access conditions.”

Tellingly, many of the concepts/ dilemmas discussed in this piece can also be seen in the debate about regulating carbon emissions. Stranded costs are a classic refuge for regulation weary utilities. And of course, auctioning versus grandfathering permits is a very hot topic in Washington right now, with Lieberman slowly shifting towards auctions in the past week.

Energy/ Environmental platforms of the ‘08 front-runners

Last weekend Barack Obama released a long, detailed energy/ environmental platform to much political fanfare. After reading it I decided to finally check out Hillary and Edwards’ plans for comparison purposes. If you’re of voting age and read this blog then I definitely encourage you to read each plan for yourself. In the meantime however, I’ll summarize some of the highlights and potential lowlights below.

** Note that this post only looks at the Democratic front runners. I went to the websites of Giuliani, Thompson and Romney and let’s just say that environmental policy clearly isn’t a “key issue” for the GOP at this point. Giuliani has come out in the debates as being pro-nuclear. Other than that, any mention of energy policy is in the context of energy security, and usually amounts to simply opening up untapped domestic oil.

A stick to go along with all those carrots?

One of the main difficulties with addressing global warming is the problem of collective action. The benefits to any one country of reducing its carbon emissions can only be reaped if other countries reduce theirs as well. Many lobbies in the US have used this as justification for basically doing nothing about climate change in the absence of some international accord.

However, recently a new potential enforcement mechanism has emerged which, at the very least, might induce countries to expedite global climate policy negatiations. Unfortunately, that mechanism is the most blunt and banal of economic policy tools: the trade tariff. As various US cap-and-trade schemes make their way through Congress, Greenwire reports trade tariffs based on emissions have become a must have issue from labor’s perspective. American Electric Power Corp., the nation’s largest coal-fired electric utility, and the International Brotherhood of Electrical Workers, first proposed the trade penalty idea earlier this year.

While at least in theory this would address one of the main holdups in global climate negotiations, I’m pretty skeptical of using tariffs to affect climate policy, especially unilaterally. First of all, tariffs are particularly susceptible to special interest lobbying and political manipulation. Digging them back up after all the progress we’ve made in the past few decades seems like a significant step backwards. Second, and more practically, it seems like applying such an approach in practice would be difficult. At what point in the production process would the carbon footprint be assessed? In the global economy, is the onus of carbon consumption on consumers or producers? We got to where we are today in the developed world by outsorcing dirty industries to developing nations. To turn around and punish them for that seems unfair, as the initial opposition voiced by China, Brazil and Mexico on this issue seems confirms.

Thoughts anyone? Should all options be on the table in the climate policy debate?