Common Tragedies

Thoughts on Environmental Economics

Edwards’ ethanol guarantee

Posted by Evan Herrnstadt on November 12, 2007

John Edwards continues to develop his energy platform in his new “Plan to Build One America“. Specifically, he comes a step closer to advocating full auctioning of permits (quote from page 52):

Edwards will cap emissions of greenhouse gases and reduce them by 20 percent by 2020 and at least 80 percent by 2050. He will auction the right to emit any greenhouse gases after a short transition period.

His overall plan retains many of the vague gimmicks noted by Rich in his earlier, more comprehensive post on the Democratic front runners, such as establishing a Green division of Americorps. He also still loves his command-and-control measures, many of which have questionable value:

Require oil companies to install biofuel pumps at 25 percent of their gas stations and require all new cars sold after 2010 to be “flex fuel” running on either gasoline or biofuel.

One policy I found particularly interesting is a plan to offer loan guarantees to new ethanol refineries. Under such a scheme, the government essentially co-signs a loan. There are two sides to this policy. On the one hand, by overcoming information asymmetries in the credit market, the government can help allocate credit to unproven but promising projects. This theoretically releases societal benefits that would have otherwise gone untapped. On the other hand, there is the issue of moral hazard; those partnering with the government are more likely to take on excessively risky projects.

Loan guarantees have been used to underwrite coal gasification, ethanol, and geothermal projects in the past with varying levels of success. Of the three ethanol projects, two defaulted and were sold for salvage, while one defaulted but became a major ethanol producer after extensive refinancing.

However, the point of a loan guarantee is to fund a large project with a huge amount of associated risk. At this point, are ethanol plants really the sort of thing the government ought to be cosigning on? They seem to be a pretty proven investment at this point (especially if Edwards mandates that all cars be able to use E85 after 2010 and oil prices continue on their way up). Perhaps loan guarantees would be more appropriate for truly risky, potentially revolutionary technologies such as CCS coal or tidal energy.

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