A.C. Pigou, public choice economist, on the use of government

Michael Giberson

At the end of a comment on Windfall, a new documentary on the effects of wind power development on a community in upstate New York, Michael Munger pulls out the key Pigou quote.

Pigou is relevant because the best possible case to be made for subsidizing wind power production involves correcting for the externalities associated with conventional electric power production. Maybe we imagine a Pigovian tax on conventional generators as a sort of first-best solution, and direct subsidy to alternative generators as a second- or third-best solution.

Well, here Munger whips out the Pigou:

It is not sufficient to contrast the imperfect adjustments of unfettered enterprise with the best adjustment that economists in their studies can imagine. For we cannot expect that any State authority will attain, or even wholeheartedly seek, that ideal. Such authorities are liable alike to ignorance, to sectional pressure, and to personal corruption by private interest. A loud-voiced part of their constituents, if organized for votes, may easily outweigh the whole.

From A. C. Pigou, Economics of Welfare, chapter 20, paragraph 4, available online free via the Library of Economics and Liberty.

Yes, well before James Buchanan, Gordon Tullock, Mancur Olson, Robert Tollison or even Michael Munger were objecting that government intervention may go awry, Professor Pigou was already there.

[ASIDE: I was led to wonder why this insight was seemingly lost from economics for several decades after Pigou published his work. Maybe someone has researched the question carefully. In the absence of someone setting me straight, I’ll blame Paul Samuelson.

Samuelson’s influential Foundations of Economic Analysis refers to Pigou several times, according to the book’s index, but so far as I noticed just once it mentions that the presence of Pigou’s external costs means “there is of course need to interfere with the ‘invisible hand’.” (p. 196)  Samuelson neglects Pigou’s qualification: “The case, however, cannot become more than a prima facie one, until we have considered the qualifications, which governmental agencies may be expected to possess for intervening advantageously.” (And then Pigou continues with the public choice-like lines Munger quoted.)]

LNG exports, the view from the Brookings Institution

Michael Giberson

The Brookings Institution’s Energy Security Initiative has been looking at the changing natural gas market including, among other things, potential issues surrounding LNG exports from the United States. Overall it looks like reasonable stuff.

But one claim made in a recent Brooking report [pdf], highlighted in a Wall Street Journal article today, had me scratching my head. From Brookings:

Owing to growing gas demand, limited domestic supply, and a more rigid and expensive pricing structure, Asia represents a near-to-medium term opportunity for natural gas exports from the United States. The expansion of the Panama Canal by 2014 will allow for LNG tankers to traverse the isthmus, thereby improving the economics of U.S. Gulf Coast LNG shipments to East and South Asian markets and potentially allowing for an even shorter shipping route than from the Gulf Coast to the U.K. This would make U.S. exports competitive with future Middle Eastern and Australian LNG exports to the region.

The WSJ quotes from the middle sentence, and I’m having trouble believing it. No matter how I look at it, shipping from the U.S. Gulf Coast to the U.K. appears to be a shorter route than shipping from the U.S. Gulf Coast to any East and South Asian market. (I.e., Houston to Bristol is about 4800 nautical miles, Houston through the Panama Canal to Toyko is about 9400 nautical miles. Hong Kong and other major Asian ports are farther than Toyko. See shipping distance calculator here.)

The WSJ article is titled “Natural-Gas Glut Could Bypass Europe,” but if I were a European energy analyst, I wouldn’t bet on it. Sounds more like wishful thinking from Gazprom rather than reasoned analysis.


New video: Richard Epstein on simple rules

Lynne Kiesling

In one of the most incredible pieces of fortuitous timing, after I recommended Richard Epstein’s Simple Rules for a Complex World in my post on our regulatory thickets, here’s a new video of Richard discussing this exact topic!

A clear 22-minute discussion, well worth your time (and the time of any Congressional staffers you might happen to know …).

This video and others (some from the vault that are great!) are available at the libertarianism.org website. Libertarianism.org is a project of the Cato Institute, and provides a lot of informative and thought-provoking content on the intellectual foundations of libertarian thought and classical liberalism.

Extreme Makeover: Regulation Edition

Lynne Kiesling

This week’s Economist has an article that points out what many US residents, and readers of this blog, know full well:

But red tape in America is no laughing matter. The problem is not the rules that are self-evidently absurd. It is the ones that sound reasonable on their own but impose a huge burden collectively. America is meant to be the home of laissez-faire. Unlike Europeans, whose lives have long been circumscribed by meddling governments and diktats from Brussels, Americans are supposed to be free to choose, for better or for worse. Yet for some time America has been straying from this ideal.

From federal financial regulation to local lemonade stand regulation, the regulatory systems in the US are a mess. I generally focus on energy and technology regulation (with the occasional foray into national security and surveillance), but that’s one piece of a large, complex, regulatory puzzle that has taken on a lumbering life of its own, beyond the intentions of the designers and well beyond any sincere interest they might have in reining it in. The growing weight of the regulatory state is both economically and socially corrosive.

I think the Economist has also hit on a home truth in its assessment of why we are in this messy, inefficient, costly regulatory thicket:

Two forces make American laws too complex. One is hubris. Many lawmakers seem to believe that they can lay down rules to govern every eventuality. Examples range from the merely annoying (eg, a proposed code for nurseries in Colorado that specifies how many crayons each box must contain) to the delusional (eg, the conceit of Dodd-Frank that you can anticipate and ban every nasty trick financiers will dream up in the future). Far from preventing abuses, complexity creates loopholes that the shrewd can abuse with impunity.

The other force that makes American laws complex is lobbying. The government’s drive to micromanage so many activities creates a huge incentive for interest groups to push for special favours. When a bill is hundreds of pages long, it is not hard for congressmen to slip in clauses that benefit their chums and campaign donors. The health-care bill included tons of favours for the pushy. Congress’s last, failed attempt to regulate greenhouse gases was even worse.

Yes. Hayek’s Pretence of Knowledge meets Smith’s “man of system”, Tullock’s rent seeking, and Olson’s concentrated benefits and diffuse costs. Regulatory complexity creates benefits for politically-powerful special interests, but it creates costs for everyone else, and this ongoing process feeds the egos of our elected representatives who believe they can engineer, design, and manipulate society to achieve their desired outcomes.

The Economist rightly recommends that regulatory proposals should have to pass a benefit-cost analysis by an independent group, and more importantly, that regulations should be simpler and more transparent. In this they invoke themes that resonate with Richard Epstein’s Simple Rules for a Complex World.

I would go farther. The underbrush of regulations that are passed and persist beyond their usefulness, the accretion of costly conflicting regulations, all of these have produced a stultifying regulatory thicket that makes attempting productive, entrepreneurial economic activity costly or impossible has to be evaluated and cleared out. I recommend that we make it popular with the American people by turning it into a reality TV show — Extreme Makeover: Regulation Edition. It’ll be like those makeover shows when you go into the house of the hoarder, clear out the stuff and put it all on the driveway, clean the place and modernize it, and then evaluate each piece individually and in its systemic entirety (to see whether or not the complexity is beneficial) before it goes back in the building. D’you think Ty Pennington could whip those legislators into shape and get them to see the folly of their ways?

Video — Regulating Monopolies

Lynne Kiesling

I am pleased to announce my first video in the Learn Liberty series — “Regulating Monopolies: A History of Electricity Regulation“.

It’s a brief overview of the economic history of the origins of the electricity industry and its regulation, and points towards the extent to which in the 21st century we are now having to confront the downsides of regulation, particularly with respect to environmental quality and the creation, adoption, and diffusion of digital technology. And I must give a big thank you to the production folks at the Institute for Humane Studies; I have never been comfortable in front of a camera, but they made it as easy as it could be, and the historical photos they found to illustrate some of the events I discuss are fantastic.

I hope you enjoy it, and share it with your friends!

Congressman Markey still worries about U.S. natural gas exports

Michael Giberson

A few weeks back Congressman Ed Markey asked the U.S. Department of Energy whether exports of natural gas might not be in the public interest (see prior note here, related note) as exports would tend to push U.S. gas prices higher.

The USDOE’s response apparently didn’t mitigate Markey’s concern; today the Congressman introduced two bills intended to impede the export of natural gas. (See here and here.) One bill would prevent the Federal Energy Regulatory Commission from approving any new LNG export terminals until 2025. Another bill would require natural gas produced from federal lands be sold only to American consumers. (Shall we require hotels on federal lands to only rent to American consumers as well? Those foreign tourists visiting the Grand Canyon are just driving up the cost for American tourists, right Congressman?)

I’m neither for or against the prospect of exporting LNG, but I’m entirely for letting companies finding the best offer for their products. If the product is natural gas and the best offers come from customers outside the United States, then by all means I’d want them to export.

I continue to wonder why the Congressman from Massachusetts is singling out natural gas exports as an object of concern, since any big growth in such exports is a few years from reality and the United States remains a net importer of natural gas. At the same time, Massachusetts producers are exporting billions of dollars worth of goods and services each year – over $26 billion worth of goods and services in 2010 – which by the Congressman’s crabbed logic is contributing to higher prices for U.S. consumers and therefore harmful to the public interest.

Congressman, why are these Massachusetts exports okay, but natural gas exports are not?

Alex Tabarrok on innovation, barriers to it, and the warfare-welfare state

Lynne Kiesling

I was glad Mike mentioned Alex Tabarrok’s recent Launching the Innovation Renaissance in his recent post on the Honeywell-Next patent lawsuit, because reading Alex’s new TED book was on my to-do list for this past weekend. Alex’s focus in this book is U.S. innovation policy and ways that we could improve the institutional environment to better enable innovation to create opportunities for people to thrive, and consequently to create growth. He analyzes the patent system, education, and how the federal warfare-welfare state has a high opportunity cost in terms of resources that could be dedicated to R&D (through both public and private funding) but aren’t because of the heavy burden of defense and entitlement spending.

An important variable on which Alex focuses is the ratio of development costs to imitation costs, and he argues that laws such as patents are more likely to be positive-sum and pro-growth in industries with high development costs and low imitation costs. He discusses pharmaceuticals as the canonical industry in this category, where the absence of patents would be likely to reduce the amount of new drug development. But patents in other industries with lower development costs and lower imitation costs can hinder innovation, because they discourage the use of ideas in novel, unexpected ways by people other than the patent-holder. Moreover, notice the dynamic incentives that the current patent system presents to engage mostly in defensive patenting, which is wasteful and reduces the extent to which patents are positive-sum. The high-profile activities of patent trolls in technology-related industries in the past decade indicates just how wasteful this perverse incentive is.

One of Alex’s recommendations to reform the patent systems is variable patent duration in accordance with these differences in development costs and imitation costs. For example, from the book, one-click shopping and a pharmaceutical that cost millions of dollars to develop both receive 20-year patents. Uniform patent length means that the patent system ignores the importance of both development costs and imitation costs in determining whether the monopoly granted by the patent will be positive-sum or not. Granting different monopoly lengths depending on the interplay of development costs and imitation costs in that industry when the invention is created would enable developers to recoup costs while reducing the lost beneficial applications of imitation. Note in particular that a lot of these beneficial applications are not direct imitation, but are rather creative uses of the idea as an input into some other idea. Patents that are either too long or too broad (or both) deter such beneficial activity.

For brevity I’ll skip over his thought-provoking discussion of education (but I do recommend it to your attention), and connect the patent discussion to the implications of federal warfare-welfare spending for whether or not we have an institutional environment that is conducive to unleashing innovation. Alex presents some sobering data on federal government spending on research, entitlements, and defense, data that he elaborates on in a post at Marginal Revolution today in which he puts a NY Times article on the welfare state in the context of his argument.

And that doesn’t even take into account the important, but trickier to estimate, effect of government spending on private R&D funding (the crowding out question). Crowding out can take two forms — government spending on R&D reducing private R&D spending, or government spending on other goods and services reducing the resources available for private R&D spending.

Alex boldly makes what I think is the crucial material point:

The point is not simply that the U.S. should spend more money but that a state with these kinds of budget priorities does not have innovation at the center of its vision. If innovation is not central to the vision, then it is inevitably given short shrift.

Given the incontrovertible evidence that low barriers to innovation are the biggest ultimate institutional cause of the unprecedented growth in well-being and living standards over the past 250 years, the absence of this innovation vision is backward-looking and short-sighted.

Alex also highlights the extent to which regulatory thickets generate wasteful spending, particularly in health care and energy. Money we could spend on medical research and basic energy research gets spent instead on regulation-induced bureaucracy and wasteful projects like Solyndra and others that have failed. Reducing these regulatory thickets and focusing more vision on innovation and basic research than on bureaucratically-weighted and centrally planned projects would be an important incremental move in the right direction. To the extent we’re going to have a state, we should move from a warfare-welfare state to an innovation state.

Sadly, I think Alex is right about the political economy of innovation when he notes that “… few people lobby for innovation because almost by definition, innovation creates present losers and future winners and the present losers are by far the more politically powerful. Innovation has few champions.”

The book closes with seven institutional/policy recommendations touching on patent reform, education, regulation, and open trade in goods, services, and ideas. These recommendations also have implications for issues like immigration and health care.

One of the most valuable features of this book is how well written it is. While being a short, easy, compelling read, it’s a book dense with good and thought-provoking ideas presented clearly for non-specialists (and backed up by extensive references at the end for further analysis). I don’t remember where I saw it, but I think someone commented that we should send a copy of Alex’s book to every member of Congress and their staffers. That would be a valuable education process.

See also a short essay drawn from the book, and listen to Alex’s EconTalk podcast with Russ Roberts discussing the book.