Course video 5: The marginal revolution and Carl Menger

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Lynne Kiesling

The Marginal Revolution in Economics from Lynne Kiesling on Vimeo.

A fundamental question in economics is value theory — where do prices come from, what determents the value of a commodity, product, or good? The classical economists operated with a labor theory of value, but in the mid-19th century, three different economists from three different countries independently developed their own theories of value based on subjective utility and decision-making at the margin. This paradigm shift in economics opened up a wealth of new thinking about human decision-making, and remains the dominant value theory in economics to this day.

Mike Munger in Cato Unbound on recycling

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Lynne Kiesling

As is his wont, Mike Munger speaks vast amounts of sense in this month’s Cato Unbound, focusing on the political economy of recycling. I’ve never seen a better articulation of the various energy and economic tradeoffs associated with recycling than Mike’s presented here.

For example, Mike does a great job of pointing out the reasons why municipalities underprice landfill dumping — to reduce incentives for the illegal dumping and burning that it’s costly to monitor and enforce — and how that incentive may at the margin create reasons for recycling, even though lots of recycling uses more energy to process waste and create a not-very-valuable “resource”. He concludes by arguing for a nuanced view of recycling as a matter of policy:

Neither the simplistic “if it’s recyclable, it should be recycled!” view nor the “let unfettered markets handle it!” perspectives are defensible.  For sound economic reasons, advanced nations underprice landfill space, often by substantial margins.  If you think that doesn’t matter, just take a look around at all the ad hoc dumps, burning, and trash in developing nations.

The problem with underpricing landfill space is that we throw away many commodities and old packaging that could be disposed of more cheaply in some other manner.  It is at this point that the price system would be of value, but it’s because people are insulated from actual prices that we have the problem in the first place.

As a “second-best” solution, since we are denied the first-best price solution, we try to divert commodities out of the waste stream using moral suasion, appealing to public spirit rather than to the self-interest of the citizen.  But this requires that we elevate the value of the landfill space somehow in the minds of those we are trying to reach.  Unfortunately, without prices to guide us there is no limit on the value placed on landfill space, and we begin to make a fetish of garbage.  In extreme cases, citizens and public officials may even begin to try to divert garbage that should, on economic grounds, actually be disposed of in the landfill.  And when the relative scarcity of commodities changes because of the dynamics of modern economies, it may be very difficult to explain adjustments to those citizens who are persuaded that “Recycling is always cheaper, no matter how much it costs.”

Mike applies property rights logic to argue that a better approach would be to assign packaging disposal liability to the manufacturers of products, to align their incentives to reduce packaging and/or make it easier to reuse or more biodegradable.

Not surprisingly, for a lot of consumer products this is already happening without regulation or legal precedent, brought into being in the market through reputation mechanisms. Companies as diverse as Apple and Amazon have been changing their packaging (minimizing it consistent with cushioning, replacing plastics with cardboard or with plant-derived plastics) in response to consumer preferences and perceptions. Wine shippers have moved from styrofoam to molded cardboard to hold bottles in boxes. And those are just the examples I have off the top of my head.

The richness and depth of Mike’s analysis is superb, and not to be missed. I look forward to the rest of the contributions over the month.

The ephemeral Schumpeterian monopoly

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Lynne Kiesling

The Atlantic’s Derek Thompson parses Mary Meeker’s annual state of the Internet presentation, which includes some nifty and insightful analyses of data. Here’s my favorite:

mm pres os market share

Note that this is in percentage terms, so it doesn’t show the overall increase in the number and variety of digital devices used — the number of devices using Windows OS hasn’t necessarily declined, but the growth in the past five years of mobile devices using Apple and Android OS is truly striking in terms of its effect on the WinOS overall market share.

The decade-long (1995-2005) Windows OS dominance and its subsequent decline is interesting to those of use who study the economic history of technology. To me it indicates Schumpeter’s point about the ephemeral nature of monopoly and how innovation is the process that generates the new products and platforms that compete with the existing ones.

Perennial gale of creative destruction indeed.

US shale deposits changing global oil landscape

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Lynne Kiesling

As Megan McArdle noted on Wednesday, fracking in the US is causing dissension within OPEC; couldn’t happen to a nicer bunch of cartel members. Megan’s analysis is dead on, well worth reading, and reveals how different the ideal strategies are of the different OPEC members.

At some level, this is not new — Saudi Arabia has been the low-cost producer for decades, and they have been the dominant party in OPEC due to their low costs and plentiful reserves. At the margin, the increase in US oil supplies due to shale oil will first displace higher cost suppliers in OPEC, who can’t afford the price decreases that may accompany US shale oil and that Saudi Arabia will be able to withstand for longer.

Building on that observation, here’s a video clip of Deloitte’s Branko Terzic (with whom I’ve had the pleasure of working in the past on some electricity restructuring efforts) analyzing the effects of increased US oil supplies on the global market and on OPEC’s production and pricing strategies.

Branko notes that Saudi Arabia is still a swing supplier in the global oil market, and at least for now, they retain some market power and ability to move price by changing their production. How long that power persists remains to be seen.

More on the purported environmental benefit of cutting down trees

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Lynne Kiesling

As a follow-up to my previous post about cutting down trees for biofuels, here’s some interesting news about the unintended consequences and perverse incentives embedded in regulations to promote the use of biomass as fuel: a BBC investigation reveals trees cut from swamp forests in the US being used to fuel electricity generation in Britain.

Critics say subsidising wood burning wastes money, does nothing to tackle climate change in the short term, and is wrecking some of the finest forests in the US.

I have tracked the controversial trade from the swamp forests of North Carolina to the towering chimneys of the UK’s biggest power station, Drax in Yorkshire, which is converting half its boilers from coal to wood.

The implications are complicated and disputed, but it is clear that EU leaders did not have burning American wood in mind when they mandated that 20% of Europe’s energy should come from “renewable” sources.

But that’s what’s happening, induced by billions of pounds worth of subsidies in Britain. 

History of economic thought course video: John Stuart Mill

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Lynne Kiesling

You may know John Stuart Mill the utilitarian philosopher, the JS Mill of On Liberty and of Utilitarianism. You may know him as the philosopher who can’t hold his shandy in the Monty Python philosopher’s song.

What you may not know is how important an economist Mill was. He made some original contributions that bridged from the classical economics of Smith and Ricardo (and others) to the subsequent marginal revolution of Jevons, Menger, and Walras.

You can read some of them yourself in Mill’s Principles of Political Economy (1848), available at the Library of Economics & Liberty.

Cutting down trees for biofuels?

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Lynne Kiesling

Cutting down trees to generate biofuels to substitute for fossil fuels can’t make sense in terms of carbon accounting, can it? I never thought so, but apparently some people have contended that it does. This Project Syndicate essay from Bjorn Lomborg addresses the question, and I think it’s worthy of consideration not just because I think his argument is persuasive (which may reflect the quality of the argument or my confirmation bias, take your pick), but also because he provides several links to published papers that suggest that such strategies may actually increase GHG concentrations.

His point is more important and more subtle, though. What happens when deliberate cultivation of biomass crops changes the land use and moves agricultural production to other plots of land?

But the biggest problem is that biomass production simply pushes other agricultural production elsewhere. Studies are just beginning to estimate the impact. In Denmark, a group of researchers estimated by how much various energy crops would reduce CO2 emissions. For example, burning a hectare of harvested willow on a field previously used for barley (the typical marginal crop in Denmark) prevents 30 tons of CO2 annually when replacing coal. This is the amount that proud green-energy producers will showcase when switching to biomass.

But burning the willow releases 22 tons of CO2. Of course, all of that CO2 was soaked up from the atmosphere the year before; but, had we just left the barley where it was, it, too, would have soaked up quite a bit, lowering the reduction relative to coal to 20 tons. And, in a market system, almost all of the barley production simply moves to a previously unfarmed area. Clearing the existing biomass there emits an extra 16 tons of CO2 per year on average (and this is likely an underestimate).

So, instead of saving 30 tons, we save four tons at most. And this is the best-case scenario. Of the 12 production modes analyzed, two would reduce annual CO2 emissions by only two tons, while the other ten actually increase total emissions – up to 14 tons per year.

Rather than displace agricultural production (with all of the attendant distortions in other markets that would arise), I tend to think about doing research in and exploring technologies for biomass waste recycling. Things like anaerobic digesters to process dairy waste and use it to generate electricity. In that case you are generating two benefits — electricity for consumption and waste management — so the combined value of those two benefits may make a more costly technology economical. Here are some suggestive numbers about that net benefit from Wisconsin, although I caution putting too much credence in them.