Streetwise Professor

February 21, 2021

Touching the Third Rail: The Dangers of Electricity Market Design

In the aftermath of the Texas Freeze-ageddon much ink and many pixels have been spilled about its causes. Much–most?–of the blame focuses on Texas’s allegedly laissez faire electricity market design.

I have been intensely involved (primarily in a litigation context) in the forensic analysis of previous extreme electricity market shocks, including the first major one (the Midwest prices spike of June 1998) and the California crisis. As an academic I have also written extensively about electricity pricing and electricity market design. Based on decades of study and close observation, I can say that electricity market design is one of the most complex subjects in economics, and that one should step extremely gingerly when speaking about the topic, especially as it relates to an event for which many facts remain to be established.

Why is electricity market design so difficult? Primarily because it requires structuring incentives that effect behavior over both very long horizons (many decades, because investments in generation and transmission are very long lived) and extremely short horizons (literally seconds, because the grid must balance at every instant in time). Moreover, there is an intimate connection between these extremely disparate horizons: the mechanisms designed to handle the real time operation of the system affect the incentives to invest for the long run, and the long run investments affect the operation of the system in real time.

Around the world many market designs have been implemented in the approximately 25 year history of electricity liberalization. All have been found wanting, in one way or another. They are like Tolstoy’s unhappy families: all are unhappy in their own way. This unhappiness is a reflection of the complexity of the problem.

Some were predictably wretched: California’s “reforms” in the 1990s being the best example. Some were reasonably designed, but had their flaws revealed in trying conditions that inevitably arise in complex systems that are always–always–subject to “normal accidents.”

From a 30,000 foot perspective, all liberalized market designs attempt to replace centralization of resource allocation decisions (as occurs in the traditional integrated regulated utility model) with allocation by price. The various systems differ primarily in what they leave to the price system, and which they do not.

As I wrote in a chapter in Andrew Kleit’s Energy Choices (published in 2006) the necessity of coordinating the operation of a network in real time almost certainly requires a “visible hand” at some level: transactions costs preclude the coordination via contract and prices of hundreds of disparate actors across an interconnected grid in real time under certain conditions, and such coordination is required to ensure the stability of that grid. Hence, a system operator–like ERCOT, or MISO, or PJM–must have residual rights of control to avoid failure of the grid. ERCOT exercised those residual rights by imposing blackouts. As bad as that was, the alternative would have been worse.

Beyond this core level of non-price allocation, however, the myriad of services (generation, transmission, consumption) and the myriad of potential conditions create a myriad of possible combinations of price and non-price allocation mechanisms. Look around the world, and you will see just how diverse those choices can be. And those actual choices are just a small subset of the possible choices.

As always with price driven allocation mechanisms, the key thing is getting the prices right. And due to the nature of electricity, this involves getting prices right at very high frequency (e.g., the next five minutes, the next hour, the next day) and at very low frequency (over years and decades). This is not easy. That is why electricity market design is devilish hard.

One crucial thing to recognize is that constraints on prices in some time frames can interfere with decisions made over other horizons. For example, most of the United States (outside the Southeast) operates under some system in which prices day ahead or real time are the primary mechanism for scheduling and dispatching generation over short horizons, but restrictions on these prices (e.g., price caps) mean that they do not always reflect the scarcity value of generating or transmission capacity. (Much of the rest of the world does this too.) As a result, these prices provide too little incentive to invest in capacity, and the right kinds of capacity. The kludge solution to this is to create a new market, a capacity market, in which regulators decide how much capacity of what type is needed, and mandate that load servers acquire the rights to such capacity through capacity auctions. The revenues from these auctions provide an additional incentive for generators to invest in the capacity they supply.

The alternative is a pure energy market, in which prices are allowed to reflect scarcity value–and in electricity markets, due to extremely inelastic demand and periodic extreme inelasticity of supply in the short run, that scarcity value can sometimes reach the $1000s of dollars.

Texas opted for the energy market model. However, other factors intervened to prevent prices from being right. In particular, heavy subsidies for renewables have systematically depressed prices, thereby undercutting the incentives to invest in thermal generation, and the right kind of thermal generation. This can lead to much bigger price spikes than would have occurred otherwise–especially when intermittent renewables output plunges.

Thus, a systematic downward price distortion can greatly exacerbate upward price spikes in a pure energy model. That, in a nutshell, is the reason for Texas’s recent (extreme) unhappiness.

As more information becomes available, it is clear that the initiator of the chain of events that left almost half the state in the dark for hours was a plunge in wind generation due to the freezing of wind turbines. Initially, combined cycle gas generation ramped up output dramatically to replace the lost wind output. But these resources could not sustain this effort because the cold-related disruptions in gas production, transmission, and distribution turned the gas generators into fuel limited resources. The generators hadn’t broken down, but couldn’t obtain the fuel necessary to operate.

It is certainly arguable that Texas should have recognized that the distortion in prices that arose from subsidization of wind (primarily at the federal level) that bore no relationship whatsoever to the social cost of carbon made it necessary to implement the kapacity market kludge, or some other counterbalance to the subsidy-driven wrong prices. It didn’t, and that will be the subject of intense debate for months and years to come.

It is essential to recognize however, that the underlying reason why a kludge may be necessary is that the price wasn’t right due to government intervention. When deciding how to change the system going forward, those interventions–and their elimination–should be front and center in the analysis and debate, rather than treated as sacrosanct.

There is also the issue of state contingent capacity. That is, the availability of certain kinds of capacity in certain states of the world. In electricity, the states of the world that matter are disproportionately weather-related. Usually in Texas you think of hot weather as being the state that matters, but obviously cold weather matters too.

It appears that the weatherization of power plants per se was less of an issue last week than the weatherization of fuel supplies upstream from the power plants. It is an interesting question regarding the authority of ERCOT–the operator of the Texas grid–extends to mandating the technology utilized by gas producers. My (superficial) understanding is that it is unlikely to, and that any attempt to do so would lead to a regulatory turf battle (with the Texas Railroad Commission, which regulates gas and oil wells in Texas, and maybe FERC).

There is also the question of whether in an energy only market generators would have the right incentive to secure fuel supplies from sources that are more immune to temperature shocks than Texas’s proved to be last week. Since such immunity does not come for free, generator contracts with fuel suppliers would require a price premium to obtain less weather-vulnerable supplies, and presumably a liability mechanism to penalize non-performance. The price premium is likely to be non-trivial. I have seen estimates that weatherizing Texas wells would cost on the order of $6-$9 million per well—which would double or more than the cost of a well. Further, it would be necessary to incur additional costs to protect pipelines and gas processing facilities.

In an energy only market, the ability to sell at high prices during supply shortfalls would provide the incentive to secure supplies that allow producing during extreme weather events. The question then becomes whether this benefit times the probability of an extreme event is larger or smaller than the (non-trivial) cost of weatherizing fuel supply.

We have a pretty good idea, based on last week’s events, of what the benefit is. We have a pretty good idea of the cost of hardening fuel supplies and generators. The most imprecise input to the calculation is the probability of such an extreme event.

Then the question of market design–and specifically, whether weatherization should be mandated by regulation or law, and what form that mandate should take–becomes whether generation operators or regulators can estimate that probability more accurately.

In full awareness of the knowledge problem, my priors are that multiple actors responding to profit incentives will do a better job than a single actor (a regulator) operating under low power incentives, and subject to political pressure (exerted by not just generators, but those producing, processing, and transporting gas, industrial consumers, consumer lobbyists, etc., etc., etc., as well). Put differently, as Hayek noted almost 75 years ago, the competitive process and the price system is a way of generating information and using it productively, and has proved far more effective in most circumstances than centralized planning.

I understand that this opinion will be met with considerable skepticism. But note a few things. For one, a regulator’s mistakes have systematic effects. Conversely, some private parties may overestimate the risk and others underestimate it: the composite signal is likely to be more accurate, and less vulnerable to the miscalculation of a single entity. For another, on the one hand skeptics excoriate a regulator for its failures–but confidently predict that some other future regulator will get it right. I’m the skeptic on that.

Recent events also raise another issue that could undermine reliance on the price system. Many very unfortunately people entered into contracts in which their electricity bills were tied to wholesale prices. As a result, the are facing bills for a few days of electricity running into the many thousands of dollars because wholesale prices spiked. This is indeed tragic for these people.

That spike by the way, is up to $10,000/MWh. $10/KWh. Orders of magnitude bigger than you usually pay.

It is clear that the individuals who entered these contracts did not understand the risks. And this is totally understandable: if you are going to argue that regulators or generators underplayed the risks, you can’t believe that they typical consumer won’t too. I am sure there will be lawsuits relating in particular to the adequacy of disclosure by the energy retailers who sold these contracts. But even if the fine print in the contracts disclosed the risks, many consumers may not have understood them even if they read it.

One of the difficulties with getting prices right in electricity markets which has plagued market design is getting consumers to see the price signals so that they can limit use when supply is scarce. But this will periodically involve paying stratospheric prices.

From a risk bearing perspective this is clearly inefficient. The risk should be transferred to the broader financial markets (though hedging mechanisms, for instance) because the risk can be diversified and pooled in those markets. But this is at odds with the efficient consumption perspective. This is not a circle that anyone has been able to square heretofore.

Moreover, the likely regulatory response to the extreme misfortune experienced by some consumers will be to restrict wholesale prices so that they do not reflect scarcity value. That is, an energy only market has a serious time consistency problem: regulators cannot credibly commit to allow prices to reflect scarcity value, come what may. This means that an energy only market may not be politically sustainable, regardless of its economic merits. I strongly suggest that this will happen in Texas.

In sum, as the title of the book I mentioned earlier indicates, electricity market design is about choices. Moreover, those choices are often of the pick-your-poison variety. This means that avoiding one kind of problem–like what Texas experienced–just opens the door to other problems. Evaluation of electricity market design should not over-focus on the most recent catastrophe while being blind to the potential catastrophes lurking in alternative designs. But I realize that’s not the way politics work, and this will be an intensely political process going forward. So we are likely to learn the wrong lessons, or grasp at “solutions” that pose their own dangers.

As a starting point, I would undo the most clearcut cause of wrong prices in Texas–subsidization of wind and other renewables. Alas, even if stopped tomorrow the baleful effect those subsidies will persist long into the future, because they have impacted decisions (investment decisions) on the long horizon I mentioned earlier. But other measures–such as mandated reserve margins and capacity markets, or hardening fuel supplies–will also only have effects over long horizons. For better or worse, and mainly worse, Texas will operate under the shadow of political decisions made long ago. And made primarily in DC, rather than Austin.

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February 18, 2021

How Low Can Prices Go, and Why?

Filed under: Climate Change,Economics,Energy,Politics,Regulation — cpirrong @ 6:04 pm

A quick follow up to the previous post.

I noted that negative prices have been a thing in Texas for years. Indeed they are in every market with substantial renewables penetration.

This is particularly true in the US, where the Production Tax Credit pays qualifying renewables facilities $23/MWh to produce, regardless of prices. Meaning that a recipient of the PTC will continue to produce even if prices are -$22.99/MWh.

So why do prices go negative? In particular, why do other producers who do not get the credit continue to produce even when there are negative prices? Why don’t enough of them cut output to make sure that prices don’t fall below variable cost?

The answer in a word is: indivisibilities. Or, if you prefer, non-convexities.

Specifically, many thermal generators incur costs to shut down or start up. These are basically fixed costs, of the avoidable variety. A unit currently operating can avoid shutdown costs by continuing to operate. A unit currently idle can avoid startup costs by remaining idle. Minimum run times and ramping constraints are other examples of non-convexities.

So, for example, when demand is low and wind turbines continue to blend birds (and generate electricity), prices can go negative but a gas or coal or nuke plant may continue to operate (and incur fuel costs as well as incremental O&M) because it is cheaper to PAY to sell output (and pay variable costs as well) than it is to shut down.

If the cost of adjusting output of a plant to or from zero was zero, whenever prices fall below marginal operating cost the plant would shut down. This would put a floor on prices equal to marginal cost. However, if there is a fixed cost of adjusting output to or from zero, it can make sense to continue to operate even when prices do not cover variable costs–and when prices are negative–in order to avoid paying this cost of shutting down (and/or the cost of starting back up again when prices are higher).

Generation technology is such that efficient baseload plants (i.e., units with lower per MW variable costs) tend to have higher shutdown and startup costs, and more acute operating constraints that give rise to other forms of non-convexity. As in all things in life, there tends to be a trade-off: low variable costs must be traded off against higher avoidable costs/less flexibility to adjust output. Thus, negative prices hit such units especially hard. They are faced with the bleak choice between paying to sell what they produce, or paying a cost to avoid producing. Obviously this choice is bleaker, the costlier it is to avoid producing. For many, the cost of shutting down is big enough that they continue to spin even when prices are negative.

Economists have long known that non-convexities can interfere with the operation of a price system. If you look at classic Arrow-Debreu proofs of the welfare theorems (i.e., that competitive prices call for the efficient level of production and consumption), you’ll see that they assume that production technologies are convex. That is, they assume away things like shutdown and startup costs. When production technologies are characterized by non-convexities (e.g., fixed avoidable costs), the proofs don’t go through.

Indeed, an equilibrium in prices and output may not exist if indivisibility problems are sufficiently severe: in my earliest academic life, my work on applying core theory focused on this issue. If an equilibrium does exist, it may be inefficient.

Put simply, the invisible hand can get really shaky if indivisibility problems are severe.

Liberalized electricity markets (e.g., PJM and other ISOs) have devised various means of addressing these indivisibilities. The results are not first best, but the mechanisms allow an energy market with prices approximately equal to marginal cost to survive.

The subsidization of wind, especially through the PTC, greatly exacerbates indivisibility/non-convexity problems because its effects fall with particular force on generating units with more pronounced indivisibilities. These tend to be the most efficient, and also the ones most essential for maintaining reliable system operation.

This means that although renewables subsidies punish investment in thermal generation generally, they punish investment in units that operate nearly continuously at low cost with particular severity. Having these units available nearly 24/7/365 is vital for keeping electricity prices low, and for ensuring a highly reliable power system.

So the distortions caused by renewables subsidies, particularly of the pay-to-produce variety, are more severe than “we have too much renewables capacity and too little thermal capacity.” Yes, that’s a problem, but the distorted price signals also distort the types of generation invested in. In particularly, they are particularly punitive to generation with more acute indivisibilities. Since these also tend to be low operating cost, high reliability technologies, that is a very costly distortion indeed.

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Who Is To Blame for SWP’s (and Texas’s) Forced Outage?

Filed under: Climate Change,Economics,Energy,Politics,Regulation — cpirrong @ 12:44 pm

I am back following a forced outage, due to forced outages of Texas electricity generators caused by the cold snap–brutal by Texas standards, routine compared to what I experienced in my 40+ years up north–that is just relaxing its grip. Having some foresight, I had laid in some firewood, and that kept things from getting unbearable. Other than the power outage, water pressure was an issue: I thought my faucets needed a prostate check, but as of about 10AM the flow is back.

So, with fingers crossed, I have the opportunity to comment on what happened. As with so many things–everything?–today, the commentary has been highly partisan, and largely wrong. Blame wind power (or the lack thereof)! Uh-uh! Blame fossil fuel generation!

The facts are fairly straightforward. In the face of record demand (reflected in a crazy spike in heating degree days)

supply crashed. Supply from all sources. Wind, but also thermal (gas, nuclear, and coal). About 25GW of thermal capacity was offline, due to a variety of weather-related factors. These included most notably steep declines in natural gas production due to well freeze-offs and temperature-related outages of gas processing plants which combined to turn gas powered units into energy limited, rather than capacity limited, resources. They also included frozen instrumentation, water issues, and so on.

Wind was down too. Wind defenders have been saying that wind did great! because it sucked less than ERCOT (the Electricity Reliability Council of Texas) had forecast; that is, wind generation was somewhat higher than the low levels that ERCOT had predicted. The defenders were spinning, even if the turbines were not.

However, wind performance was objectively worse than thermal. In the weeks prior to the Big Freeze, wind was operating at ~50-65 percent of installed capacity, and supply ~40-60 percent of Texas load. When the freeze hit on Monday (and I was throwing another log on the fire), due to turbines freezing, capacity utilization fell to around ~10 percent to ~5 percent, and wind was generating ~3-10 percent of ERCOT load. Meaning that the relative performance of wind vs. thermal was worse during the cold wave, even as bad as thermal performance was. Further meaning that if wind had represented a larger fraction of Texas generating capacity, the situation would have been even grimmer.

The last few days wind defenders have been saying that the problem wasn’t with wind per se, but the failure to winterize adequately wind generators in Texas. After all, there are windmills in Antarctica! (Not to mention Sweden, etc.).

This brings to mind what Adam Smith wrote in the Wealth of Nations:

By means of glasses, hotbeds, and hotwalls, very good grapes can be raised in Scotland, and very good wine too can be made of them at about thirty times the expense for which at least equally good can be brought from foreign countries.

That is, you need to consider cost. Yes, winterizing windmills to withstand the conditions observed in Texas this week is inside the production possibilities frontier, but winterizing is not free. It is a question of whether the benefits exceed the cost.

The same thing is true with regards to thermal generation (and natural gas production). After all, power plants in far colder climes (it was below zero in Missouri, for example) hummed along in even more frigid conditions. Similarly, gas continues to flow every year in winter conditions in Canada and Siberia. But achieving these results is not free. It is a question of cost vs. benefit.

The cost of not winterizing power plants that shut down due to temperature-related outages (rather than limitations on fuel supply) were certainly material. Power prices spiked to around $9,000/MWh, and were routinely over $1,000/MWh. For a 500MW plant, losing an hour at a $9000 price means $4.5 million in revenue forgone. Even at $1,000, that’s $500K up the flue. (That’s the gross loss. The net loss is harder to calculate, given that natural gas prices also spiked).

That’s a lot of money, but whether it would have been worthwhile to incur the cost to ensure operation under the conditions we observed also depends on the probability of the event. Given the extremes observed, the probability is pretty small. Meaning that it might have been rational for generators to forego the expense: zero failure rate is never optimal. This is in contrast to a generator in say Minnesota, for which such conditions are the norm.

I would imagine that there will be a pretty intense review of utilities’ decisions regarding winterizing their plants. The cost should be fairly easy to estimate. By applying market prices or the value of lost load (VOLL) it should be similarly straightforward to estimate the cost of such weather induced outages. The probability, however, will be much harder. It is inherently difficult to estimate the probability of extreme events, especially when they are seasonal in nature.

Similar considerations hold for gas processing plants and gas wells. The opportunity cost, and the cost of upgrades, are fairly straightforward to quantify. The probability that the upgrades will actually pay off (by avoiding shutdowns) is far more amorphous.

The events of this week also bring to the fore longstanding debates regarding the appropriate generation mix in Texas. Yes, thermal experienced unprecedented outages, but as noted above, it performed both absolutely (measured by capacity utilization) and relatively (measured by decline in utilization) better than wind. Texas would have been better off with less wind and more thermal. Maybe not enough to avoid blackouts altogether, but enough to mitigate substantially their severity.

Texas has had longstanding concerns about reserve margins. The main drivers have been the retirement of substantial amounts of coal generating capacity, and relatively low rates of increase in natural gas generation (a measly 3.5 percent over the past 4 years) at the same time wind capacity has more than doubled and solar capacity has increased by 2000 percent.

The problems here are twofold. First, wind and solar availability and output are often negatively correlated with demand. (Solar wasn’t doing much at 10PM on Monday, now was it?) Second, and more insidiously, wind and solar generation depress prices–often to below zero–at other times, which undermines the economics of thermal generation. Hence, the low rate of investment in gas, and the actual disinvestment in coal.

As I said, this is a longstanding problem. I remember hosting a roundtable on this issue at UH in 2005 or 2006. Generators were already raising alarms that negative prices were a powerful disincentive to investment.

Things have only worsened since, and perverse policy is to blame. It is unarguable that wind and solar capacity have increased to extremely inefficient levels due to lavish subsidies, especially at the federal level. As a result, Texas has a grotesquely inefficient resource mix.

And with the new administration, the outlook is even worse. It has embraced increasing demand for electricity (electrify everything!–echoing the malign and evil Bill Gates) and subsidizing the production of electricity using unreliable renewables.

Texas’s travails raise questions about the viability of ERCOT’s “energy only” market design, in which generator revenues are solely from the sale of energy (or ancillary services). In this model, price spikes are intended to incentivize investment in generation (and upgrades to enhance availability rates). But price signals distorted by excessive renewables are a strong disincentive to investment.

The standard kludge in these circumstances is capacity requirements plus a capacity market. This was mooted in my roundtable so many years ago. If price signals are allowed to work, a capacity market is unnecessary and inefficient. But prices have been so distorted that it will receive serious attention going forward.

This is unfortunate, in the extreme, as the better approach would be to destroy the price distortions at their source–subsidies for renewables. Alas, in the current political environment it is likely that the nation will move strongly in the opposite direction, making the problem worse not better. Perhaps Texas could find ways of counteracting national policies–e.g., by imposing a state “reliability tax” on renewables–but this is likely to be politically impossible (although it would be a nice illustration of the theory of the second best!) Meaning that in the end, we will kludge our way to increasing reserve margins.

Not a cheery picture, but what is these days?

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November 25, 2020

How Green Is My Valley? After the Greens Get Done With it–Not Very Green At All, or Living In A Material World.

Filed under: Climate Change,Commodities,Economics,Energy,Politics,Regulation — cpirrong @ 7:21 pm

The biggest intellectual defect of modern environmentalism–and there are many–is its monomania. The obsession with greenhouse gases has led it to advocate drastic changes in the production and consumption of energy without regard for the non-GHG-related consequences of these changes, including in particular the environmental consequences.

Fossil-fuels are carbon intensive, but the alternatives to fossil fuels and fossil-fueled vehicles, heaters, appliances, etc.–electricity generated by wind and solar, batteries, vastly expanded transmission networks, electric cars and appliances–are incredibly material intensive.

Many–most–of these materials need to be mined. Electric vehicles and batteries utilize massive amounts of metals and minerals, e.g., copper, nickel, cobalt, lithium. The mining of these things generates massive amounts of pollution of the air and water and the ground.

Just a few examples. Many of the largest Superfund sites in the US are defunct copper mines, like the Berkeley Pit in Montana, where decades after its retirement the country’s largest earthen dam holds back–hopefully!, as I’ll discuss in a moment–6.5 trillion gallons of toxic sludge. And the mine itself is now a 900 foot deep, mile long, toxic lake.

What did I mean about “hopefully!”? Well, there have recently been massive failures of containment dams at mines in Canada, Brazil (at least two) and Australia, which have cost hundreds of lives and massive ecological and economic damage.

Even when there are not such catastrophic failures, the accumulation of toxic tailings is hardly green.

And tailings are not the only issue. Let’s talk about air pollution, shall we? Specifically with a mineral that will be crucial to the production of massive batteries–nickel.

Riddle me this: what city has the worst air pollution in Russia, and among the 10 most polluted in the world? If you answer “Norilsk”, you’re a winner. Why? Nickel production. The world’s largest nickel mine and processing facility located there spews out “four million tons of cadmium, copper, lead, nickel, arsenic, selenium and zinc” per year. And the river runs a beautiful красный for good measure. Not very зеленый!

The “green” electrification of the entire world will require massive amounts of rare earths. The vast bulk of rare earths are produced in China. Not because it is uniquely endowed with them–they are actually quite common. Because only the Chinese are willing to accept the pernicious environmental impacts of rare earths mining.

And it’s not just environmental impact. It is historical impact as well. Rio Tinto obliterated a 40,000 year old archeological site to expand an iron ore mine. The “Sacred Valley” in Peru is also being mined extensively.

These things are happening at current scale, and they are an inevitable consequence of industrialization. But the question is whether the benefit of reducing GHG emissions justifies increasing commensurately these impacts. For you multiply these environmental consequences by many times when you consider the impact of multiplying electrical vehicles and appliances and batteries by many, many times.

Wind and solar generation facilities also consume massive amounts of material. Many of these are mined, or involve polluting production processes (including not immaterially–pun intended–concrete, which is a major GHG producer).

But there’s also the land. I’m so old that I can remember (though I was very young at the time–so I’m not THAT old!) Lady Bird Johnson campaigning against the visual blight of highway billboards. Quaint, really: they were a ribbon of eyesores, at most. In contrast, the amount of wind and solar facilities required to achieve the grandiose objectives of the Green New Deal or its proposed counterparts around the world (ya I’m looking at you Boris) would create square mile after square mile of eyesores.

Not to mention (a) displacing land from other productive uses, and (b) creating large risks for fauna, especially birds. Wind farms are collections of bird blenders, and solar farms bird fryers.

The lack of thought to environmental consequences behind grandiose “carbon neutral” visions is also apparent in the failure to consider the substantial diseconomies of scale in wind and solar. Meaning that costs will rise disproportionately to increases in renewables generation.

You can expand wind output on an intensive margin–siting windmills closer together. But this cannibalizes the wind, leading to output per turbine decline with density, and hence rising costs. You can expand wind output on an extensive margin–devoting more land to wind farms. But this also reduces average and marginal productivity because it requires expanding into progressively less windy places. Moreover, it results in higher average and marginal costs, because even holding windiness constant, the marginal value of the displaced land in alternative uses increases (because holding windiness constant, you’ll develop on the cheapest, least productive land first).

Solar is hard to expand on the intensive margin, but expansion on the extensive margin faces the same sources of rising cost as wind.

Meaning that these plans to substitute wind and solar for existing fossil fueled generation at the same time as dramatically substituting electricity for other forms of energy (e.g., electric cars instead of ICEs, electric appliances instead of gas) will inherently result in steeply rising costs.


If you look at countries (or states like California) that have even been able to get a mere ~20 percent of their electricity generation from renewables, you will see they are also the countries where electricity is most expensive. Usually by a factor of 2 or 3 or more than those that rely on conventional generation. Given the inherent increasing cost nature of renewable production, think of how much more expensive it will be to produce close to 100 percent of total energy consumption from renewables.

Rational people take into account trade-offs. Drastic reductions in GHGs involve massive costs. Many of these costs are environmental. The environmental pollution–real pollution, not the sort-of-pollution of say CO2–that will result from the massive production of materials necessary for electric vehicles, electric appliances, large scale storage batteries, transmission lines, wind turbines, and solar installations is staggering. Staggering. The consumption of natural resources–not just those buried in the earth, but the earth’s surface–will be prodigious. The cost of energy will rise, which will make people poorer: and the poorest will be hardest hit.

I often use Jefferson Davis’ proposed epitaph for the Confederacy–“Died of a Theory”–to illustrate the destructive tendencies of those wedded to a single principle, to the exclusion of other considerations. Unfortunately, it is too early to use it as an epitaph for modern environmentalism, because that is all too alive. But the idea fits. Monomaniacally wedded to theories of climate change and GHGs, modern environmentalists are pursuing a course that will, paradoxically and perversely, wreak massive environmental destruction.

How green is my valley? After the greens get done with it–not very green at all.

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November 18, 2020

The Anglosphere: Hurtling Down the Road to Serfdom

Filed under: Climate Change,Economics,Energy,Politics,Regulation,Uncategorized — cpirrong @ 7:07 pm

From 911 through the early days of the invasion of Iraq, there were some on the right who argued that the Anglosphere–the US, UK, Australia, Canada, and New Zealand–would save the world from a dark future. I was always skeptical, because it was evident that the Commonwealth countries in particular were already hurtling down the road to serfdom: from the earliest days of this blog, I referred to the UK as the “Ghost of Christmas Future,” because its embrace of collectivism and political correctness bode ill for the US.

Recent events have validated that skepticism–and how. I could cite many verses in many chapters, but two recent developments make the point.

The first is covid. The allegedly doughty Anglosphere has been as been as much of a collectivist collection of bedwetters and repressers as any country or group of countries in the world. The panic and consequent lockdown policies are largely attributable to the hysterical predictions of University College London’s crack–as in crackpot–epidemiological modelers. And the government’s panicked response thereto. The UK locked down once–to little effect. It is now locked down again, with progressively more draconian restrictions on normal life.

The evidentiary basis for this: zip, zilch, nada. There is no evidence that lockdowns improve public health outcomes, and there is considerable evidence that they don’t. There is evidence beyond counting that the economic and health consequences of lockdowns is severe. All pain. No gain.

Parts of Australia have also imposed draconian lockdowns, complete with police state enforcement methods and limitations on individual freedom. Ditto New Zealand. Canada has also been highly restrictive.

These efforts have been statist and collectivist in the extreme, with the smattering of protests about liberty being screeched down by the better thans who have proven themselves utterly impotent, not to mention incompetent. But we’re supposed to obey them. Because they give incantations to SCIENCE!

The other telling indicator of the intellectual and moral bankruptcy of the Anglosphere elites is climate policy. The UK, Australia, Canada, and New Zealand are all hard core worshippers in the Church of Climate Change (while the pews of the Church of England are empty, notably).

Australia has implemented policies intended to displace totally fossil fuels within a short time frame, substituting renewables in their place. This has had a too small to measure impact on global climate, but has blessed Australia with more expensive and less reliable electricity.

Not to be outdone, “Conservative” British PM Boris Johnson said “hold my ale,” and has just announced a grandiose “green industrial revolution.”

Note to Boris: the original industrial revolution was an endogenous, self-generated process that massively improved living standards; your proposed “industrial revolution” is a government-driven, centrally planned process that will produce penury in exchange for trivial environmental benefits (and indeed, may involve serious environmental harm, when the consequences of mining, distorted land usage, etc., are considered). To compare what happened in the 18th and 19th centuries to what you propose for the 21st is an abuse of language that staggers the imagination.

So what is Boris’ Big Plan? This:

“My ten point plan will create, support and protect hundreds of thousands of green jobs, whilst making strides towards net zero by 2050.

“Our green industrial revolution will be powered by the wind turbines of Scotland and the North East, propelled by the electric vehicles made in the Midlands and advanced by the latest technologies developed in Wales, so we can look ahead to a more prosperous, greener future.”

The push forms part of the UK’s pledge to go carbon neutral by 2050, and comes ahead of the COP26 climate summit in Glasgow next year.

The plans include producing enough offshore wind to power every home, quadrupling how much Britain produces to 40GW by 2030, which would support up to 60,000 jobs.

It also aims to generate 5GW of low carbon hydrogen production capacity by 2030, and develop the first town heated entirely by hydrogen by the end of the decade.

The UK Government also wants to advance nuclear as a clean energy source to help support 10,000 jobs.

Then there are wider plans for electric vehicles, public transport and well as an expansion of cycle and walk routes.

Mr Johnson will also discuss making homes more energy efficient, creating 50,000 jobs by 2030 and installing 600,000 heat pumps every year by 2028.

In other words, like California, except with crappy weather.

The key word is “plan.” It’s Boris’ 10 Year Plan. Maybe Boris can borrow from Lenin and promote it with a slogan: “Utopia is Tory government combined with green electrification of the entire country.”

It bears all of the intellectual defects of such grandiose schemes. The reliance on centralized decision making. The focus on dictating technological means for achieving an objective–and relying on technologies that are either unproven, or extremely unlikely to be scalable (wind energy in particular). Further, the monomaniacal agenda: reducing CO2 emissions, to the exclusion of any consideration. Putting aside that CO2 is what makes things green, there is apparently no consideration of the environmental consequences (e.g., from mining) of large scale wind power and battery usage (in autos and to make intermittent wind a reasonable power source). Nor is there consideration of other trade-offs: what are the costs, in terms of foregone output and opportunities, of pursuing this single goal? What are the benefits that will be achieved?

Further, the entire agenda is profoundly anti-freedom. The private automobile was the greatest liberating force of the 20th century–which is why the left hates it with such a passion. Boris’ (not so) green electric machines will be far more costly, and far more limiting, making them more expensive and less useful to the hoi polloi. The policy obviously aims to push the proles onto public transport. Yeah. I’m sure British train service will get so much better. And even if it does, it is inherently more regimented and limiting than autonomous personal transport.

I guarantee that this effort will be a bacchanal of rent seeking, incompetence, and failure. If you doubt this, contemplate the multiple failures of the UK government’s covid responses like testing and test-and-trace. But sure, they will totally nail a complete re-engineering of the entire energy system!

If Boris et al really believe that CO2 is a deadly menace, then tax it and get the hell out of the way. Let individuals figure out the most efficient way to trade-off carbon vs. other human wants. This centrally planned approach is doomed to failure. Which means that the green industrial revolution may spark a real revolution when Britain sinks into penury. While sitting in the dark and cold.

Again, climate policy is merely an example. I could go on. But it illustrates the Anglosphere’s descent into collectivism and statism and corporatism: and alas, the US–at least about half of it–want to follow them all the way down.

The beginning of this descent can be dated to the end of WWII. Churchill’s loss in 1945 is probably a good starting point. The pace of decline has varied over time: things were so dire by the late-1970s in the UK that Thatcher came to power and slowed, and in some cases reversed the decline. But it has resumed apace, and the adoption of green energy lunacy by an ostensibly conservative government suggests that the decline is now irreversible.

In some ways, Australia’s decline is the most depressing. Once upon a time Oz was more individualist, and disdainful of the pommy bastards. There was a kinship between Australia and the American west, a frontier kinship as it were. But that seems largely a thing of the past.

This came home to me when I re-watched the Mad Max trilogy last week. Watching those paeans to rugged individualism (personified by Mel Gibson’s Max), then reading about Australia today (especially the lockdowns in Victoria and the dysfunctional energy policies), I said to myself: “What the hell happened to you?”

Well, whatever happened to them has happened to the Anglosphere as a whole. (Don’t even get me started on Canada, ex Alberta.)

And it is happening to the US too. The recent election results, and many other political developments, suggest that at most half the country resists joining the UK et al on the road to serfdom. And that half is politically marginalized–perhaps by electoral manipulations engineered by the other half.

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September 26, 2020

Water, Water, Not Everywhere and Still Not a Drop to Drink, Or, The Very Natural State

Filed under: Climate Change,Derivatives,Economics,Exchanges,Politics,Regulation — cpirrong @ 2:53 pm

The WSJ reports that the CME Group is launching a cash-settled futures contract on California water, with Nasdaq providing the cash price index. I predict, with a high degree of confidence, that this will not be a commercial success. That is, it will not generate substantial trading volume.

Why not? For the same reason that listed weather derivatives hardly ever trade. Information flow is a necessary (but not sufficient) condition to make people want to trade. For weather derivatives, there is very little information flow until shortly prior to the pricing month. For example, what information arrives between today and tomorrow that leads to updates in forecasts about what the weather in Chicago will be in December 2020, let alone December 2021? Virtually none. Given the nature of weather dynamics, information flow occurs almost exclusively quite close to the contract date (e.g., in late-November 2020 or 2021, if not in December itself). There is little information that arrives today that would motivate people to trade today contracts with payoffs contingent on future weather, even for a future only months away.

So they don’t.

I predict a similar phenomenon for water derivatives. Most of the fundamental shocks are weather-driven, and those will be concentrated close to the pricing month, leading to little demand to trade prior thereto.

Moreover, successful futures contracts rest on functional physical markets. As this recent article from The American Spectator summarizes, it is a travesty to characterize the means of allocating water in California as “a market.” Instead, it is an intensely politicized process.

If you don’t consider the AmSpec reliable, do a little digging into the scholarly literature about water allocation in the West, notably things written by my friend Gary Libecap. The conclusions are depressingly similar.

The politicization of water allocation is not new. It has existed since the beginning not just in California, but the West generally. Control of water confers enormous political power. You think politicians are going to give that up?

Again, this is not a new thing. Read up on the “California Water Wars.” Or, for a more entertaining take, watch Chinatown, which is a fictionalization/mythologization of the conflict of visions between William Mulholland and Frederick Eaton over water in Los Angeles. Spoiler: the romantic vision died (literally drowned), and the corrupt vision prevailed.

California politicians will become charismatic Catholics before they give up control over water. In a way, it reminds me of the effect of sanctions in say Saddam’s Iraq. Restrictions on supply resulting from sanctions empowered the regime. It could use its power to grant access to a vital resource in order to obtain obeisance. Similarly, California politicians can use their power to grant access to the vital resource of water to obtain political support, and exercise political power.

In a way, this is the quintessence of something I used to write about in regards to Russia: “the natural state.” Here, the analogy is even more trenchant, given that it relates to a natural resource.

The natural state operates by creating artificial scarcity, which in turn creates rents. The natural state allocates those rents in exchange for political patronage.

To do things that would undermine the rents–that is, to alleviate the scarcity–would undermine political power. That will NOT happen voluntarily. Markets for water would be a good thing–which is precisely why they don’t exist, and are unlikely to exist, especially in places like California where water is scarce and hence real markets would be most beneficial.

So CME/Nasdaq California water futures face two huge obstacles. First, even if even a simulacrum of a cash market for water existed, the nature of information flows is not conducive to active trading of water futures. Second, there is not even a simulacrum of a water market in California. What exists in place of a market is a political, and highly politicized, mechanism. That is also inimical to building a successful futures contract on top of it.

PS. Riffing of the Rime of the Ancient Mariner in the title provides an opportunity for another Python reference!


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August 18, 2020

California: Boom, Boom, Out Go the Lights

Filed under: Climate Change,Economics,Energy,Houston,Politics,Regulation — cpirrong @ 6:44 pm

Twenty years ago, California experienced its Electricity Crisis. Or, given current events (which will be the subject of what follows), may be known as the First Electricity Crisis. The problem in 2000-2001 was, in the main, a problem of insufficient generation, caused by a variety of factors. The ramifications of the supply shortage and resulting high prices for California utilities, ratepayers, and state finances were greatly exacerbated by a dysfunctional market design implemented only a few years before, in the mid-1990s. (When I gave talks about the subject, I used to quip: “California wanted to deregulate its power markets in the worst way. And it succeeded!”)

The lore of the crisis is that it was caused by Enron and other Houston bandits and their manipulative schemes. These schemes were not the cause of the crisis: they were the effect, and the effect of the dysfunctional market design, which created massive arbitrage opportunities which will always be exploited.

California is experiencing another crisis. It cannot yet rival the first, which went on week after week, whereas the current one has lasted about a week. But for the first time since Crisis I, the state is experiencing rolling blackouts due to a shortage in generating capacity.

The proximate cause of the problem is a massive heatwave which is causing high demand. A contributing proximate cause is low hydroelectric supply driven by a lower than average snowpack. But the underlying cause–and the cause that should get the attention of most Americans, including those who experience schadenfreude at the Insufferable State’s misery–is the Green Mania that has taken root in California which has made it impossible for the state to respond to demand spikes in the way power systems have done around the world for nigh onto a century.

In particular, California has adopted policies intended to increase substantially the share of power generated by renewables. This has indeed resulted in massive investments in renewables, especially solar power, which alone now accounts for around 12,338 MW.

But this capacity number is deceiving, because unlike a nuclear or coal or combined cycle natural gas plant, this is not available 24/7. It’s available, wouldn’t you know, when the sun shines. Thus, during the mid-morning to late afternoon hours, this capacity is heavily utilized, but during the evening, night, and early morning contributes nothing to generation. At those times, California draws upon the old reliables.

But that creates two problems, a short term one (which California is experiencing now) and a long term one (which contributed to the current situation and will make recurrences a near certainty).

The short term problem is that during hot weather, demand does not set with the sun. Indeed, as this chart from the California Independent System Operator shows, today (as on prior days) demand has continued to grow while solar generation ebbs. This figure illustrates “net demand” which is total demand net of renewables generation. Notice the large and steady increase in net demand during the late afternoon hours. This reflects a rise in consumption and not matched by a rise in solar generation before 1400, and a fall thereafter.

Go figure, right? Who knew that the hottest time of day wasn’t when the sun is at its height, or that people tend to come home (and crank up the AC) when the sun is going down?

Here’s the plot of renewables generation:

Note the plateau from around 1000-1400, and the decline from 1400 onwards–during which time load increased by about 10,000 MW.

So gas, nuclear, and (heaven forfend!) coal have to fill the growing gap between load and non-dispatchable renewable generation. They have to supply the net demand. Which brings us to the longer term problem.

The growth in solar generation means that conventional and nuclear plants aren’t generating much power, and prices are low, during the hours when solar generation is large. Thus, these plants earn relatively little revenue (and may even operate at negative margins) during these hours. This deterioration in the economics of operating conventional plants, combined with regulatory and political disdain for nuclear and coal has led to the exit of substantial capacity in California. A large nuke plant shut down in 2015, all 10 coal plants in the state have shut down (though three have converted to the environmental disaster that is biomass), as have many gas plants. In 2018 alone, there was a net loss of around 1500 MW of gas capacity, and from 2013 the net loss is about 5000 MW–over 10 percent of the 2013 level. (NB: the shortfall in capacity the last few days has been around 5000MW. Just sayin’.)

And note–demand has been rising over this period.

Notionally, the loss in nuclear and conventional capacity has been roughly matched by the increase in solar capacity. But again–that solar capacity is not available under conditions like the state has experienced over recent days, with hot weather contributing to high and rising demand in the late afternoon when solar output is declining. That is, these forms of capacity are very imperfect substitutes. They are most imperfect in the afternoons on very hot days. Like the last week.

In a nutshell, at the same time it massively incentivized investment in renewables, California has not incentivized the necessary investment in (or retention of capacity in) conventional generation. That mismatch in incentives, and the behavior that results from those incentives, means that from time to time California will have inadequate generation. That is, California has not incentivized the proper mix of generation.

So how do you incentivize the retention of/investment in conventional capacity that will remain idle or highly underutilized most of the time, in order to accommodate the desire to increase renewables generation? There are basically two ways.

The first way is to have really, really high prices during times like this. Generators will make little money (or lose money) most of the time, and pay for themselves by making YUGE amounts of money during a few days or hours. This is the theory behind “energy only” markets (like ERCOT).

The problem is that it is not credible for regulators to commit to allowing stratospheric prices occur. There will be screams of price gouging, monopoly, etc., and massive political pressures to claw back the high revenues. This happened after Crisis I, as more than a decade of litigation, and the payment of billions by generators, shows. Once burned, twice shy: generators will be leery indeed about relying on government promises. (A David Allan Coe song comes to mind, but I’ll leave that to your imagination, memory, or Googling skills.)

Relatedly, who pays the high prices? Having retail customers see the actual price creates some operational problems, but the main problem is again political. So the high prices have to be recovered through regulated retail pricing mechanisms that give rise to the credible commitment problem: how can generators be sure that regulators will actually permit them to reap the high prices during tight times that are necessary to make it worthwhile to maintain the capacity?

That is, for a variety of reasons energy only pricing faces a time consistency problem, and as a result there will be underinvestment in generation, especially when renewables are heavily supported/subsidized, thereby reducing the number of hours that generators can pay for themselves.

The other way is the Klassic Kludge: Kapacity markets. Regulators attempt to forecast into the future how much capacity will be needed, and mandate investment in that amount of capacity. Those with load serving obligations must pay to buy the capacity, usually through an auction mechanism. The idea being that the market clearing price in this market will incentivize investment in the capacity level mandated by the regulators.

A Kalifornia Kapacity Kludge was proposed a few years back, but the Federal Energy Regulatory Commission shot it down.

All meaning that California leapt headlong into the Brave New Green World without the market mechanisms (either relatively pure, like an energy only market with unfettered prices, or a kludge like a capacity market) necessary to bridge the gap between demand and renewables supply.

So what happens? This happens:

California’s political dysfunction makes it a near certainty that it will not implement reasonable market solutions that will provide the right incentives, even conditional on its support for renewables. Indeed, it is almost certain that it will do something that will make things worse.

Milton Friedman once said that inflation is always and everywhere a monetary phenomenon. Given that the major power crises in recent years–in California, in Australia, and a near miss in Texas last year–have involved renewables in one way or another, I have an analog to Friedman’s statement: in the future, always and everywhere power crises will be a renewables phenomenon.

And this is why Americans should pay heed. Whatever ventriloquist has his hand up the back of Biden’s shirt has him promising a massive transition towards renewable electricity generation, beyond the already swollen levels (swollen by years and billions of subsidies). A vision, which realized, would result in California’ s problems being all of our problem.

So look at California like Scrooge did the Ghost of Christmas Future. And be afraid. Be very afraid.

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May 14, 2020

Strange New Respect

Filed under: Climate Change,CoronaCrisis,Economics,Energy,Politics,Regulation,Tesla — cpirrong @ 5:50 pm

The past few weeks have brought pleasant surprises from people whom I usually disagree with and/or dislike.

For one, Michael Moore, the executive producer of Planet of the Humans. Moore does not appear on camera: that falls to Jeff Gibbs and (producer) Ozzie Zehner. The main virtue of the film is its evisceration of “green energy,” including wind and solar. It notes repeatedly that the unreliability of these sources of power makes them dependent on fossil fuel generation, and in some cases results in the consumption of more fossil fuels than would be the case if the renewables did not exist at all. Further, it points out-vividly-the dirty processes involved with creating wind and solar, most notably mining. The issues of disposing of derelict wind and solar facilities are touched on too, though that could have been beefed up some.

If you know about wind and solar, these things are hardly news to you. But for environmentalists to acknowledge that reality, and criticize green icons for perpetrating frauds in promoting these wildly inefficient forms of energy, is news.

The most important part of the film is its brutal look at biomass. It makes two points. First, that although green power advocates usually talk about wind and solar, much of the actual “renewable” energy is produced by biomass, e.g., burning woodchips. In other words, it exposes the bait-and-switch huckersterism behind a lot of green energy promotion. You thought you were getting windmills? Sucker: you’re getting plants that burn down forests. You fucked up! You trusted us!

Second, that biomass is hardly renewable (hence the quote marks above), and results in huge environmental damage. Yes, trees can regrow, but not as fast as biomass plants burn them. Moreover, the destruction of forests is truly devastating to wildlife and to irreplaceable habitats, and to the ostensible purpose of renewables–reduction of CO2.

The film also points out the massive corporate involvement in green energy, and this represents its weakest point. Corporations, like bank robbers, go where the money is. But that begs the question: Why is there money in horribly inefficient renewables? Answer: Because of government subsidies.

Alas, the movie only touches briefly on this reality. Perhaps that is a bridge too far for socialists like Moore. But he (and Gibbs and Zehner) really want to stop what they rightly view as the environmental and economic folly of renewables, they have to turn off the money tap. That requires attacking the government-corporate-environmentalist iron triangle on all three sides, not just two.

I am not a believer in the underlying premise of the movie, viz., that there are too many people consuming too much stuff, and if we don’t reduce people and how much they consume, the planet will collapse. That’s a dubious neo-Malthusian mindset. But put that aside. It’s a great thing that even hard core environmentalists call bull on the monstrosity that is green/renewable energy, and point out the hypocrisy and fundamental dishonesty of those who hype it.

My second candidate is long-time target Elon Musk. He has come out as a vocal opponent to lockdowns, and a vocal advocate for liberty.

Now I know that Elon is talking his book. Especially with competitors starting up their plants in the Midwest, the lockdown in California that has idled Musk’s Fremont manufacturing facility is costing Tesla money. But whatever. The point is that he is forcefully pointing out the huge economic costs of lockdowns, and their immense detrimental impact on personal liberty earns him some newfound respect, strange or otherwise.

Lastly, Angela Merkel. She has taken a much more balanced approach to Covid-19 than most other national leaders. Perhaps most importantly, she has clearly been trying to navigate the tradeoff between health, economic well-being, and liberty. Rather than moving the goalposts when previous criteria for evaluating lockdowns had been met, when it became clear that the epidemic was not as severe in Germany as had been feared, and that the economic consequences were huge, and that children were neither potential sufferers or spreaders, she pivoted to reopening quickly and pretty rationally.

The same cannot be said in other major countries, including the UK and France as notable examples. She comes off well in comparison to Trump, although the comparison is not completely fair. Trump only has the bully pulpit to work with, for one thing: actual power is wielded by governors. But Trump’s use of the bully pulpit has been poor. Moreover, he has deferred far too much to execrable “experts,” most notably the slippery Dr. Fauci, who has been on the opposite sides of every policy decision (Masks? Yes! Masks? No! Crisis? Yes! Crisis? No!), is utterly incapable of and in fact disdainful of balancing health vs. economics and liberty, and who brings to the table a record of failure that Neil Ferguson could envy, for its duration if nothing else. The Peter Principle personified: he is clearly at the level of his incompetence, and due to the perversity of government, has remained at that level for decades.

Merkel’s performance is particulary outstanding when compared to those who wield the real power in the current crisis, American governors, especially those like Whittmer, Pritzker, Evers, Walz, Brown, Wolf, Cuomo, Murphy, Northam, and Newsom. These people are goalpost movers par excellence, and quite clearly find the unfettered exercise of power to be orgasmic.

It is embarrassing in the extreme to see the Germans–the Germans–be far more solicitous of freedom and choice than elected American officials, who seem to treat freedom–including the freedom to earn a livelihood–as an outrageous intrusion on their power and amour-propre.

Will this represent the new normal? Will SWP props for Moore, Merkel, and Musk become routine in the post- (hopefully) Covid era? I doubt it, but for today, I’m happy to give credit where credit is due.

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December 27, 2019

China Syndrome–Or Socialism Syndrome?

Filed under: China,Climate Change,Economics,Politics — cpirrong @ 2:20 pm

China’s economy exhibits numerous symptoms of severe weakness that even its most world-class product–economic statistic manipulation–cannot conceal. One indicator of this is an increasing number of bond defaults (more on this in a bit). But there are others. Such as imposing the death penalty on the CEO of a large bank, pour encourager les autres, presumably.

Perhaps the best indicator is the palpable indication of nervousness at the highest echelons of the political (i.e., CCP) leadership. For example:

As China struggles to deal with the slowdown of the world’s second-largest economy, it has embarked on a new strategy of placing financial experts in provinces to manage risks and rebuild regional economies.

Since 2018, President Xi Jinping has put 12 former executives at state-run financial institutions or regulators in top posts across China’s 31 provinces,regions and municipalities, including some who have grappled with banking and debt difficulties that have raised fears of financial meltdown.

Only two top provincial officials had such financial background before the last big leadership reshuffle in 2012, according to Reuters research.

This is utterly futile. Although it reflects a realization by Xi and his minions that there is a problem, it also reflects that they have no idea what the cause of the problem is. Indeed, it shows that they are completely captured by their worldview, which believes that China will achieve wealth–and world domination–via the wise guidance of the Party and its enlightened leadership. (This worldview is not limited to Chinese Party cadres–the likes of Tom Friedman and Naomi Oreskes* and numerous other bon savants in the West share it.)

Their solution is a symptom of the problem. China’s current incipient crisis is a direct result of its economic model, which relies on state-directed investment to meet growth targets. No, there is not a granular, proscriptive investment program a la Stalin’s USSR. But provinces and local governments face strong incentives to meet growth targets that are most readily met via massive investment in infrastructure and housing: that these kinds of projects create corruption opportunities is just part of the incentive structure. Further, the financial system, with its repression of consumption and flip-side of subsidized credit, has provided further incentives to indulge the edifice complex.

This has resulted in massive malinvestment. The financial straits of these government entities, and the financial entities that have funded them, are merely a manifestation of the malinvestment: the investments have not generated returns sufficient to cover the costs of financing them. This is pretty amazing, given the magnitude of the direct and indirect subsidies.

Appointing managers with more “expertise” to exercise control at the sub-national level is not going to fix the fundamental fault in the system. The fundamental fault inheres in the socialist, centralized, Party-dominated, investment/credit-driven model.

The USSR showed that a centrally planned system can generate glittering results in terms of official statistics. For a while. But this largely reflects the flaws in national income accounting, especially in highly state-centric economies. Investment is a cost–a use of resources–but counts as contribution to national income. Pile up the costs at an insane rate for years, and you can show totally awesome GDP growth rates!

But eventually, the chickens come home to roost. If the investments are ill-advised, they do not generate a stream of consumption (and remember that consumption is the point of production, and investment) than can recoup the costs. Honest accounting would require writing down of these “investments,” causing a drop in measured national income. But this is never done.

The Soviet Union went through this “yeah we have problems but we just need better managers” phase. And it was a phase. The next phase was a slide into economic collapse. The phase after that was . . . outright economic collapse.

The Chinese and Soviet systems are not the same. But they share essential similarities, the most notable being that they are/were investment-driven and centrally directed, and horribly misprice credit. The means of direction are quite different, but the ultimate trajectories are quite similar. Investment-driven models that focus on achieving national income growth targets are prone to eventual collapse because of massively perverse incentives that lead to horrible misallocations of resources.

This has interesting short-run and long-run implications for the US (and the West generally). (“Interesting” being the most fraught word in the English language.) In the short run, it provides the US with considerable leverage over China with regards to trade: serendipitous developments, such as Asian swine flu increase this leverage. In the longer run, the fundamental flaws in the socialist model with Chinese characteristics will sharply reduce the Chinese geopolitical threat.

The problem is the interval between the short-run and the long-run. Big powers facing decline or economic crisis are inherently a source of instability. This problem is exacerbated in China, where the personalized, de-institutionalized nature of government under Xi also creates internal sources of instability. Xi is mortal, and has grandiose ambitions: as he sees the time to achieve those ambitions shrink, his incentive to take risk increases. Further, such systems are inherently unstable when the leader dies or becomes incapacitated because of succession crises–crises that are exacerbated by the fact that the ruler has a strong incentive to crush potential successors, rather than cultivate them.

Thus, there is likely to be a period of substantial internal turbulence in China, and this could have dire implications for the US and the world, especially given the changes that Xi has wrought in recent years.

In sum, China is entering the “we need better managers” phase of its development. This is a symptom of socialism, and a sign on the road to severe economic decline. A socialism syndrome, if you will. As an avowedly socialist country, China is not immune. Indeed, methinks it is particularly susceptible, especially given the neo-Maoism of Xi. This bodes well for no one.

*Oreskes is a Harvard “historian of science” who is primarily responsible for manufacturing the factoid (or should I say fiction?) that 97 percent of scientists believe in the threat of anthropomorphic climate change. Per the linked article: Oreskes believes in “change, owing perhaps to a sensible program of environmental regulation under Communism, and vindicating ‘the necessity of centralized government.'”

Sensible environmental regulation under Communism. LMFAO. Every Communist country is an environmental nightmare. I remember reading the official English-language Chinese paper when I was in China in the mid-2000s. It was a litany of environmental catastrophes. I truly shuddered when I thought that this was probably the sanitized view.

And has Naomi been to Beijing in January?

These are our better thans, people. FFS.

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November 30, 2019

The Invasion of the Control Freaks

Filed under: China,Climate Change,Economics,Politics,Regulation — cpirrong @ 11:47 am

It’s impossible to turn around these days without being beset by control freaks.

Exhibit 1. Michael Bloomberg, who is running for president. Bloomberg is infamous for his desire to control everything, from what you eat to what you drive to how you defend yourself. Bloomberg thinks taxing “sugary drinks” (among other things) is a great thing, despite the regressivity of this tax, because it’s good for the poor:

And if you buy a gun do defend yourself, you’re pretty stupid–so he will take them away:

Pretty sure his security detail is heavily armed. But that’s the credo of his ilk: for me, but not for thee.

Bloomberg also sucks up to the world’s leading control freaks, the Chinese Communist Party. When (amazingly) confronted about this by (amazingly) a PBS interviewer, Mikey totally flacked for them:

And behold the stunning dishonesty here–the lengths to which he goes to avoid criticizing the CCP. Bloomberg wants to control the entire energy system in order to reduce the emissions of global greenhouse gases (GHG). The Chinese are building coal plants at a frenzied pace, yet when confronted on this, Bloomberg treats the Chinese coal plants as merely an issue of local particulate pollution in places like Beijing.

As an aside on this issue: the silence of the Davos Douches (control freaks all) who sucked up to Xi on this issue, and so many others involving China, is deafening.

Exhibit 2. Elizabeth Warren, reprising her “you didn’t earn that” bullshit:

What pretzel logic. Because you might have benefited from some public goods, you are obligated to let Lizzie decide what she will take from you in order to pay for all the non-public goods that she wants.

I have a better idea: I’ll gladly pay taxes for public goods that earn a return in excess of the cost of capital, and Lizzie can STFU.

Exhibit 3. Angela Merkel. Zere vill be NO free speech for you!:

Nice hand gestures there. Wonder where she picked those up?

Such a good little Ostie, ain’t she?

Exhibit 4: “Scientists”:

The irony of this is that those so wise in the ways of science

are obviously lecturing the developed world, which in their wisdom they apparently haven’t recognized is depopulating. Population growth is overwhelmingly concentrated in very low income Africa, the Middle East, Asia, and the Subcontinent, whose peoples (a) will never hear what these scientists are demanding, and (b) would ignore it in any event.

So what are these scientists proposing? What coercive powers will they deploy against brown people in order to achieve their vision?

No doubt Bloomberg has the answer: if they don’t submit voluntarily, kill them. You know, for their own good.

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