Spurring Innovation through Higher Taxes?

Here’s Blinder explaining the economic benefits of a carbon tax that starts out low, but will eventually become quite steep:

“Once America’s entrepreneurs and corporate executives see lucrative opportunities from carbon-saving devices and technologies, they will start investing right away — and in ways that make the most economic sense. I don’t know whether all this innovation will lead to 80% of our electricity being generated by clean energy sources in 2035, which is the president’s goal. But I can hardly wait to witness the outpouring of ideas it would unleash. The next Steve Jobs, Bill Gates and Mark Zuckerberg are waiting in the wings to make themselves rich by helping the environment.”

We should also be clear that Blinder’s argument for job creation does not rely on the “negative externalities” of carbon emissions. Earlier in the piece, he made a list of the “few nice side effects” that would result from a carbon tax: “reducing our trade deficit, making our economy more efficient, ameliorating global warming …” Because he puts global warming at third in the list, we see that there is nothing peculiar to greenhouse gases behind his main argument for job creation.

No, Blinder is making the simple observation that if the government imposes artificial costs on the current way businesses operate, then the market will respond to the new handicap and end up generating new products and techniques along the way.

This analysis is true, as far it goes. But the same could be said for any new government policy that made it illegal for businesses to continue operating in the ways that they currently find the most efficient. For example, if the government promised to impose stiff taxes on nails and screws over the next few decades, that would certainly cause entrepreneurs to see “lucrative opportunities” in developing do-it-yourself furniture that used only wooden pegs and glue. But obviously consumers would be worse off because of the less convenient and/or more expensive products.

This is basic economics: you don’t make the country richer by taxing it, or by taking options away from industry. If investors pour money into carbon-reducing technologies under the threat of a future carbon tax, there is correspondingly less investment available for other technologies.

Dealing with Negative Externalities

Of course, advocates of a carbon tax claim that there is a special reason to penalize carbon emissions, as opposed to nails and screws. They argue that because emissions of carbon dioxide (and other greenhouse gases) may eventually lead to significant damages from climate change, entrepreneurs currently are not taking all of the costs of their actions into account.

Even if we concede this framing of the issue, it still does not follow that economists should favor a new carbon tax. Ironically, we can use the same researcher — William Nordhaus — upon whom Blinder based his own case.

It is true that Nordhaus himself favors a carbon tax. In the 2007 calibration of his “DICE” model of the global economy and climate system, Nordhaus estimated that the theoretically optimal carbon-tax regime would reduce (the present value of) climate damages by about $5 trillion, at the cost of about $2 trillion in lost economic output. This is why Nordhaus favors such a policy — its theoretical benefits exceed the costs by up to $3 trillion.

However, this figure assumes all governments around the world implement the tax. If some governments cheat, then the alleged benefits shrink, as some of the emissions simply migrate from the high-tax to the low-tax areas.

Nordhaus’s calculation also assumes that governments implement the economically optimal carbon tax. If the tax is set too high, however, Nordhaus’s results demonstrate that the cure can be much worse than the disease. For example, when Nordhaus simulated the impact of limiting atmospheric concentrations of CO2 to 1.5 times their preindustrial level, he found that it would make the world more than $14 trillion poorer than if governments did absolutely nothing to regulate emissions. This is because the simulated $13 trillion in benefits from avoided climate damage were swamped by $27 trillion in reduced economic output.

A Carbon Tax Involves Economics, Not Just Natural Science

The proponents of a carbon tax (or “cap and trade”) continuously point out that there is a “consensus” on the natural science linking human activity to rising global temperatures. But theeconomic arguments, needed to show that the benefits of a carbon tax outweigh its costs, are far less conclusive.

For example, in the spring of 2009, Richard Tol published a survey of comprehensive studies of the global “welfare impacts” of climate change.[2] His list of these impacts included, not just appraisals of direct economic harms, but also attempts to value (in dollar terms) intangibles such as human health and mortality. Of the 13 studies Tol surveyed, the best-guess estimate of global GDP impacts ranged from a loss of 4.8 percent to a gain of 2.5 percent. Most of these impacts were calibrated for temperature increases of 2.5 to 3.0 degrees Celsius, which are not expected to occur until the second half of the 21st century. (Currently the globe is about 0.8 degrees Celsius warmer than the preindustrial benchmark.)

Tol found that, of the 11 studies that had been published since the year 1995, the most grim estimate was a global GDP loss of 1.9 percent. To put that number in context, in a 2009 report the Congressional Budget Office estimated that an 83 percent cut in emissions — the long-run cap proposed under the Kerry-Boxer bill — would reduce US GDP in 2050 from 1.1 to 3.4 percent.

To repeat, the damages in Tol’s survey were calibrated for a particular range of temperature increases, and in reality it’s always possible that global warming could be worse by, say, 2085.

But using reasonable projections of what is likely to occur, the economic case for a carbon tax is not nearly the slam dunk that Blinder implied in his article. To reiterate my argument, I am conceding the basic framework of “negative externalities” and peer-reviewed models of the harms from climate change. And still, once we factor in the obvious possibility that governments will not uniformly implement the “optimal” tax, the case for intervention falls apart.

Conclusion

Alan Blinder is right that this country could use a burst of entrepreneurship and investment. But there are much more productive policies to stimulate investment than threatening future tax hikes.

Regards,
Robert P. Murphy
Whiskey & Gunpowder

February 4, 2011

Blinder Understates Cost of Carbon Tax was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Linda Traynham, our Whiskey morning glory, had us poking into HR 2454 when she mentioned Texan Rep. John Carter’s amendments to it in her recent shot.

Ron Paul is right on the money in saying this bill will “sell pollution permits to the industry as the Catholic Church used to sell indulgences to sinners.”

But the intrepid Carter was no Martin Luther. Dem House leaders barred his amendments from floor debate on June 25. Carter was bested by the 309-page amendment from California Democrat — and bill sponsor — Henry Waxman. Of course, Waxman’s folly came to a floor vote before House Members had time to read it. HR 2454 squeaked by with seven more yeas than nays.

Harry Reid expects Senate results this fall. But in the meantime, let’s take stock and follow the money trail to the bill’s real supporters.

Behind That Green Machine, Pope Goldman Is Pushing

Project Cap and Tax began with the unholy Enron. That blind Cyclops of Energy pushed hard for cap-and-trade policy before its 2001 demise. But you’ll never believe who wanted in on it next.

Insurance titan AIG. The once-proud member of USCAP.

AIG knew creating exotic “insurance” wasn’t going to stay profitable much longer. But investing in currently worthless carbon credits and tanking alternative energy companies COULD mean big-time money — if Congress wanted it.

Back in 2007, then-CEO Martin Sullivan wanted to jump in feet first, saying that AIG:

“can help shape a broad-based cap-and-trade legislative proposal, bringing to this critical endeavor a unique business perspective on the business opportunities and risks that climate change poses for our industry.”

Note that Sen. Dodd has been AIG’s donation darling since 1990 — netting $284,000 from AIG’s employees, executives and PACs. And right now, Chris Dodd can help make the Senate’s version of the cap and trade. He’s so pro-cap and tax he wants to tack on a carbon tax — above and beyond cap and trade — that he hopes will generate $50 billion annually for renewable energy research..

But in February 2009, Joe Barton (R) led to charge to cut AIG out of USCAP. He cited AIG’s use of taxpayer money to finance lobbying activities. Point for cap-and-trade critic Joe Barton! We bet GM will drop from the USCAP roster if Barton has a hand in it.

But AIG’s single biggest counterparty will pick up the slack. Goldman Sachs spent $3.5 million on climate issues alone last year.

Then on Jan. 12, 2009, former Goldman CEO Hank Paulson offered think tank Resources for the Future (whose chairman of the board is also a Goldman alum) this interview: “How Markets Can Help Address Climate Change and Other Major Environmental Problems.”

We doubt this interest is merely because Hank Paulson is a lifelong bird-watcher.

Paulson confides that he “could see at Goldman” the value of carbon credits: “to come up with a system ultimately that has got credibility or is verifiable, that when someone pays to avoid it, you know, a ton of carbon emissions, they know they’re really getting a ton of carbon emissions avoided.”

When pressed, Paulson pooh-poohed the carbon tax. He said a tax wasn’t transparent, as the cap and trade was — amid crowd hoots and howls of laughter — as he emphasized the words “fair,” “credible,” “efficient” and “transparent.”

Is this the same man who guaranteed an efficient, transparent, and, um, highly credible, unregulated credit default swaps market? Is this the same purveyor of the clarity and transparency of the Moody’s and S&P ratings on bundles of mortgages?

But where Paulson may have stepped down, a new pro-CAP man steps up.

Treasury chief of staff Mark Patterson clocked lots of time across the street from Capitol grounds. From 2005 until April 11, 2008, he lobbied for Goldman as VP of government relations. While you’d think allowing a former lobbyist to work on an issue he has lobbied for within the past two years would besmirch Obaman ethics, we’ve been assured that he “steps out” of such matters at the Treasury, like a judge stepping down from a case. Yeah, sure he does.

Goldman likes cap and trade for one big reason: Its investments depend upon it.

Follow the Money Trail to Mr. Derivative

When you ask who’s the biggest winner if the bill goes through, you’ll find the Chicago Climate Exchange (CCX), co-founded by Hank Paulson and Al Gore. Members include Amtrak, DuPont, Ford, Oakland, Chicago, and the Iowa Farm Bureau.

The whole idea is the brainchild of Richard Sandor — aka “Mr. Derivative.” He’s the guy to thank for interest rate futures, as well as earthquake futures. In the early ’90s, he pioneered the collateralized mortgage obligation(CMO). And while you might not know exactly what a CMO is, you’ve probably heard the name Kidder, Peabody — where Mr. Derivative worked. By the mid-’90s, it held 28% of the total world CMO pie on its own balance sheet. Surprise, surprise, it all blew up in 1994, forcing the 130-year-old firm to the auction block — because of toxic instruments that look an awful lot like the mortgage securities that just blew up on us in 2007.

Do you feel confident?

Goldman sure does. It owns a 10% stake in it. It also owns a 19% share in CCX’s parent: Climate Exchange Plc. It nearly doubled its holdings in January 2009.

The icing on the cake is its stake in Blue Source, a Utah-based purveyor of carbon creds. In 2005, when Paulson drew up the bank’s environmental policy and started Goldman on a stream of energy partnerships, investments and subsidiarys, he offered this comment: “We’re not making those investments to lose money.”

In 2009, Goldman got caught up in a botched IPO of its investment Changing World Technologies, which turned Butterball turkey offal into diesel — at the cost of $80 a barrel — before filing for Chapter 11. You can bet Goldman will ensure this sort of misstep doesn’t happen again.

Government-Guaranteed Price Hikes

The government “cap” is what makes this market a true racket.

As Peak Oilers know, the less and less of a dwindling resource, the higher the price you can get from the people that need it.

Capped carbon follows the same logic. We start with a high cap of carbon pollution and that’s the national limit of how much CO2 can be emitted that year. Each year, that cap shrinks a little more, and the next year even more, until we reach the “no-harm” level — which some environmentalist absurdly place at zero.

Now here’s the catch. The government divvies up the shares of emissions among businesses that produce or consume energy. (This handout may be based on history of consumption.) Say hello to a new breed of lobbyist pimping a whole new tier of Beltway bureaucracy.

The “surplus” credits will trade on exchanges like Chicago Climate Exchange or Blue Source, allowing companies to outbid each other for the leisure of producing more than the government said they could.

Each year, the government will hand out fewer and fewer emissions indulgences. Meaning there will be fewer credits to trade. And we commodity buffs know that the less there is of something, the higher the price rockets.

And the Chicago Climate Exchange will score larger and larger sums from the corporate carbon largesse. Goldman and company have everything to gain from this.

And you’ve got to ask: What exotic new derivatives can come out of this? Will institutional investors bet on futures of how much the government will lower the cap in 2025…2030? Wait, there already is a Chicago Climate Futures Exchange. Of course, it’s the wholly owned subsidiary of the Chicago Climate Exchange.

Could the coal companies purchase carbon default swaps? After all, what happens when they discover the hydropower credits they bought in Brazil didn’t quash emissions as much as anticipated?

That brings us to a big flaw: Does it really work?

Capital Abandons Its Own Carbon Purchase Scheme

The best part of this swindle? It’s hard to tell if it’s a swindle. You see, the credits fund development projects in countries like India or Brazil, for installing things like hydropower plants or rice husk-fired generators. Watchdog group International Rivers concluded that three-quarters of these projects would probably have been funded anyway, since they were already completed at time of approval.

Consider tree planting. How do you measure the carbon offset? It all changes based on soil and climate conditions, not to mention growth rate. Only when a tree has lived 100 years does it become a net carbon absorber.

Mr. Sandor doesn’t care if it works or not. He finds the debate: “quite interesting, but that’s not my business…I’m running a for-profit company.”

So why does the House of Reps think cap and trade will work? Well, it shouldn’t — based on recent experience.

It’s “Green the Capitol” campaign began with compact fluorescents. Then it switched to natgas power to keep the lights on. But the Capitol still wasn’t carbon neutral, so the House bought 24,000 metric tons of carbon offsets on the Chicago Climate Exchange. (Yep, through the same outfit owned 10% by Goldman Sachs.) But in February, after not being able to confirm that it offset any of its carbon, the House dropped all plans to “go green” with offsets.

So we have a classic case of “do as we say, not as we do” from our honorable reps.

We got the above anecdote from Ted Gayer — who worked a single year as deputy assistant secretary of economic policy at the Treasury: 2007-2008. Wonder if the unpopularity of his opinions turned him toward Georgetown professordom?

Lest we leave out another odious option, let’s talk direct carbon tax. The carbon heavies would pay a penalty for the carbon content of their products. The idea is that companies would cut emissions for the sake of avoiding the tax. But they’d probably just tuck the added cost into what you and I will pay.

So that’s our choice: A private tax collection scheme that’s government backed or yet another Fed tax that business will probably loophole its way out of.

Either way, Shooters, we’ll end up with a case of cap and stick it…and you’re holding the bag, as usual. Estimates from various sources say you could pay $175-3,300 per household because of it.

The only way to trump this system? Hope the government will hand us a set of credits for owning — but not using — our clothes dryer…and then, as we hang our clothes to dry in the free sunshine, selling our credits to the highest bidder via the Blue Source Exchange.

Of course, if you feel the need to storm your senator’s home office during the summer recess, we wish you luck.

Regards,
Samantha Buker

July 8, 2009

Cap and Trade Shenanigans with the Chicago Climate Exchange was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.