Animal Farming for Energy Subsidies

A few weeks ago, I wrote about the problem of identifying energy subsidies. If you want to cut them, you have to know what they are first, and while it may seem obvious at times, it’s not always so clear what really is a subsidy and what isn’t. The discussion at least implicitly assumes that all subsidies are a bad thing, which they are not.

At least since the Reagan administration, a current running through much of the political debate is the assertion that government (with a big G) is part of the problem. Left to their own devices, markets, free of government constraint or incentives, will get things right.

To economists, this is a very appealing proposition. We are trained to analyze markets and they can be pretty impressive. If you want to get from here to Albuquerque, there are several markets ready to help you do it. Airplanes, rental cars, trains, and other markets alone or in combination can get you there. You might not even know that some of these markets exist until you need them, and then they pop up to help you solve your problem.

But markets are a bit like wild animals. You have to admire the single-minded efficiency with which a tiger hunts its prey. Watching it happen, we may feel some sympathy for the tiger’s next meal, but it would make no sense for us to intervene. Hunting is what tigers do; it is their nature, and for the most part, we are OK with this.

Markets are similar in that they operate with a single-minded efficiency. They match people who are most willing and able to pay for something with those willing and able to part with that thing. Whether it’s a bottle of soda or a flight to New Mexico, if you are willing to pay the price, you can have it. The market doesn’t care who you are or who might be waiting for you at the other end of the flight. For the most part, we are also OK with this.

The problem is that markets produce some outcomes that we find unacceptable. The notion that the government shouldn’t intervene when markets produce bad outcomes makes as little sense to me as the notion that we shouldn’t stop an escaped tiger from wreaking havoc downtown. And whereas a loose tiger is something of a freak accident, markets produce objectionable outcomes on a regular and predictable basis.

On their own, markets will foul our air and water. So long as polluting is free and legal, the single minded efficiency of markets will drive firms to pollute.

So we make exceptions when markets produce outcomes we don’t like:

• The EPA was created under the Nixon administration because of the fouling of air and water.
• Research and development funds from the federal government support innovation when free markets under-invest in R&D (ideas are hard to control and it’s hard to capture all the value of the ideas).
• Oil companies can depreciate the cost of an offshore oil rig in as little as 5 years, reducing their tax bills significantly, to encourage offshore oil exploration
• Congress is proposing federal guarantees for loans to build nuclear power plants because the market has decided that these loans are too risky.

If not all government subsidies are a bad thing, we need to look at each one and debate its value. For my part, the question that has to be answered is whether or not free market is producing a bad outcome and if the government can change that efficiently and effectively. Everything about this question is open for debate, including the definition of “bad.”

Lately, it has become popular lately for politicians to declaim federal support for renewable energy and recent budget proposals would slash support for R&D in energy efficiency. Much of it is done on the basis that the free market, not the government should be deciding how we produce and use energy.

Until all energy subsidies are on the table, including the less obvious ones buried deep in the tax code, or that benefit industries favored by one politician or another, such impassioned defenses of the free market are little more than an attempt to make sure that some markets are more free than others.