The EU ETS – working but not working

The German magazine, Spiegel, published an article saying that the EU’s emission trading scheme isn’t working (http://m.spiegel.de/international/business/a-815225.html#spRedirectedFrom=www).  Johannes Teyssen, the CEO of EON, voiced a similar opinion at a conference in Brussels recently: The scheme is “bust”, he said.

As with many political constructs, the problem is not the scheme but the people.  Blaming the scheme, rather than people, is pointless.  The scheme does what people want it to do.  I don’t think you can have a perfect scheme, so people will have to work with what we have.

The principal purpose of the scheme is to set an ever-tightening cap on emissions.  The scheme is, after all, a cap and trade scheme.  It is not a “trading scheme”.  It is a mistake of the Commission to call it a trading scheme.  By emphasising the trading and ignoring the cap they make it look like it’s about making money and not about cutting emissions.

In fact, the cap is in place and emissions are within the cap.  That is what we wanted.  The cap is quantitative: it sets a numerical limit.  That limit is being adhered to.  The cap is not qualitative: free-market spirits like big power generators didn’t want governments telling them what technical interventions to do, so the EU ETS does not prescribe technologies or emission reduction measures; it just sets a limit.

An implication of this is that we can have a loose cap for totally different reasons, but they all result in a low price.  One reason for the loose fit is the recession.  Emissions are lower than people thought they would be.

Another reason that the cap is loose is because energy and industrial companies have lobbied against a 30% reduction target.  Do not blame the Commission for this.  Blame the lobbyists; blame the power companies; blame the steel companies; blame the national politicians; blame the voters.  But don’t blame the Commission – they’d love to set the reduction target at 30%.

A third reason for a loose cap could be that industry went really super green and people started saving energy like mad.  It isn’t that one.

So it is a simple fact of cap and trade that the low price does not tell us why emissions are within the cap, it only tells us that emissions are within the cap.

The “signalling” to investors is a secondary goal of the EU ETS.  Economists argued that the carbon price would signal to investors to invest into green technology.  Unfortunately they didn’t have their thinking caps on then they argued this, but they still managed to persuade the Commission.  Mr Teyssen is right.  The EU ETS should give “signals” through its price, but as we saw above, the price can mean so many things that any signal is ambiguous and therefore useless.  It was a mistake of the promoters of the scheme to suggest that it gives a useful signal.  And even if it did, from time to time, give a signal, would you base an investment decision on it?  To quote from chapter 42 of Climate Change for Football Fans: “If politicians were railway signalmen, we wouldn’t use trains.”

In fact there is a case where carbon pricing gives a signal.  When the price gets high it gives a signal to energy and industrial companies to bring out their lobbyists.  This is a fundamental limitation of the idea of carbon pricing (and also carbon taxation) in a democracy – if the price gets to high it becomes politically unacceptable and has to come down again (http://www.thebustard.com/?p=353).  People should talk about this a bit more rather than brush it under the carpet.

So, in summary.  (1) The EU ETS does work – inasmuch as emissions are within the cap.  (2) The cap is too loose: that reflects the will of people with influence, not any structural problem with the EU ETS.  (3) The EU ETS doesn’t in fact or in theory provide a reliable signal.  But as long as the people don’t want to cut emissions, the politicians will never be able to give a signal anyway.  If Mr Teyssen is looking for a signal, he needs to make it for himself: sack the lobbyists, sell off your coal-fired plants and invest in home insulation.

 

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Property rights and wrongs, or: the iron fist of socialism in a free-market kid-glove?

It’s really good when right-wing people think about addressing environmental problems, because the more people that put their brains to these intractable issues, the better.  But there is a danger where you put the mantra before the problem.  A case in point is “property rights”.

Property rights are vital for getting people to look after things.  If you own the toilet you will pull the chain and wipe the seat.  If it’s someone else’s, then hey, who gives a shit, as it were.  Move on.

This is why, it is argued, when people own their own houses they look after them, but when they live in rented council accommodation, they trash the place.  This is why rivers are polluted in communist countries but they are clean in free-market countries.  Kind of.  It is more complex and subtle than this (what about people who are tidy and respectful by upbringing or culture and don’t need to be paid for that?), but at least in a world of selfish people it’s mostly true: people look after their own things (i.e. the things over which they have property rights) but don’t really care about other people’s things.

Economists and policy-makers then extend this thinking and apply property rights to so-called externalities.  If the right to pollute is regulated – you have to pay to obtain such a right – then you think twice about polluting and might even try to your pollution.

[Incidentally there is a subtle but important difference between property rights over things which I can feel proud ownership over, and other things which do not engender that feeling.  Owning a home and your own land is tied up with powerful, positive emotions which stretch back to childhood or to our emergence as settled creatures.  That does not extend to things like the right to emit CO2.  So using property rights associated with your home as an economic argument to support extending property rights to other things is a false argument.  People look after their home because it is their home, not because of what it cost.]

Still, policing pollution through property rights seems to work reasonably.

However, there is a case where application of property rights can backfire.  That is in the case of patents or intellectual property, and specifically in food and agriculture.

When you get a patent the deal is this: You come up with a cool way of making grass look green.  So you buy a field, you fence it and you put in a gate.  You make the grass look really green in that field.  Then you collect a rent from the sheep wanting to go through the gate.  (Then if you are smart, once they are in you make the fields outside look even greener, and charge again to let the sheep out.)

The way patents work is that you can only get them for new things which people didn’t know about before.  Take fertiliser.  You can’t patent horse shit.  But you can patent the Haber-Bosch technology for making nitrogen fertiliser, or whatever new technologies eventually follow it (a hundred years later).  Or, in the case of healthcare, take a herbal remedy, for example.  You can’t patent that because it’s already known.  But you can patent some synthesis of it.

This kind of property right concentrates economic power with the holder.  It makes it more attractive economically to chase after patents than to use traditional approaches which any one can use for free.

The problem is worse because sustainable farming is about good practice.  Unsustainable farming is about technology.  Property rights law is lop-sided.  It allows you to protect technology but it doesn’t allow you to patent practice.  So if I spend money to innovate in farming practices and I figure out that planting carrots next to onions protects the carrots from some bug, no-one’s going to give me the right to charge other people for doing that.  But if I invent a spray to kill the bug, I can get the right to charge for others who want to make that spray.

So people who innovate with technology get protected.  People who innovate with practice don’t get protected.  That looks very like socialism to me: an arbitrary reward by the government for one kind of businessman over another kind of businessman.  So why do they say that property-rights are the right-wing approach?  They are a government intervention; a subsidy from society to one particular interest group.

Property rights, in the case of patents, can create an uneven playing field by creating an economic presumption for new technology over good practice.  They favour the drugs industry and reject traditional remedies; they weaken the incentive to live healthily as living healthily is about good practice and not good technology.  They spawn agri-chemical companies and rub horse-shit in the face of the skilled, traditional farmer.  This is a case where property rights are not a good approach for addressing environmental problems.  I don’t think that government policy recognises this.

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Belief economics on the shop floor

Two people in Budapest run shops next door to each other.  They want to boost sales but they do not have money for marketing.  In fact both just have a circle, a line and two blobs.  And then they find some yellow paint in the back.

One comes up with this:

He says: “Zero interest finance, that will bring them in.”

Another devises this teaching aid for his sales girls:

Is it possible to build a culture where people smile to each other and treat each other decently, thereby increasing the level of economic activity?  If so, this has big implications for the character of economic policy.

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Belief and utility

If we are rational about our economic activities then each decision is the result of a cost-benefit analysis.  The details of the cost-benefit analysis depend (to a great extent) on the beliefs which we have.

For example, if I am in MOM Park Shopping Centre in Budapest and want to buy some lunch I could spend it at Macdonalds or somewhere else.  If my cost-benefit analysis considers only the cash cost and the immediate satisfaction of hunger, then I might well go for Macdonalds.  If the scope of the cost-benefit analysis is broader then I might consider health and taste, in which case I might instead spend my cash at Da Lello’s or at the vegetable store two floors lower.

So my “utility function” depends on the beliefs I hold and the influences I experience.

There are economic ramifications of that decision.  In one case a lower portion of the cash I pay goes to local employment than the other, benefitting a local economy rather than a distant economy; in one case, resulting healthcare costs will be higher than in the other, causing more economic stress than in the other case; in the one case I might be more likely to recommend to someone else to visit the restaurant.

It is trivial that our choices lead to different outcomes.  But because different outcomes have different economic effects, it also follows that different utility functions have different economic effects; that is, different sets of beliefs lead to different economic effects.

To the extent that the difference between these economic effects is material, it is important for economics to understand what beliefs lead to different economic effects.  Otherwise, for example, an effort to boost the economy by economic stimulus might fail or, worse, backfire.

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What to get for Christmas

This review of CCFFF appeared in Climate Policy, a serious journal on climate policy.  It is by Axel Michaelowa, one of the leading experts on climate change and climate policy.

I think it makes it pretty obvious what to buy people for Christmas.

Review_CCFFF_Climate_Policy_Axel_Michaelowa_20111208

 

 

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