As a follow up to yesterday’s post. Upon consideration you can characterize the differences between Tyler Cowen and I as a dispute over which margins The Blob would adjust if cut down to size.
Cowen believes that the important margin would be the amount of “customer service.” That is, fewer regulators means fewer people to help guide the regulated through the regulatory labyrinth.
I believe that there would be other margins. Fewer rules, or less complicated ones–that is, a less gnarly labyrinth. And crucially, fewer regulators to obstruct and harass (rather than facilitate) companies endeavoring to do wealth-enhancing things.
Along these lines, the recent book by Supreme Court Justice Neil Gorsuch–Over Ruled: The Human Toll of Too Much Law–comes down firmly on the obstruct/harass side of the argument:
In one such story, an agent from the U.S. Department of Agriculture informed a young magician, Marty Hahne, that he needed a license for using his rabbit in the act he had just performed at a local library. Hahne subsequently learned he also needed an evacuation plan for the animal in case of a hurricane or some other disaster. This requirement originated in a federal statute, the Animal Welfare Act, which regulates the treatment of dogs, cats, rabbits, and other animals for research, teaching, testing, and exhibition. Congressional lawmakers called on the USDA to apply the law to such venues as “carnivals, circuses, and zoos.” USDA regulators interpreted those exhibitions to include magic shows.
There are other stories.
Of course, argument by anecdote (or parable) has its problems, most notably how representative the anecdotes/parables are. But the kinds of things Gorsuch describes cast serious doubt on the “we’re from the government and here to help you” theory, and support the alternative view that the real story is “we’re from the government and here to make your life miserable.”
In which case, cutting down the number of those with power to make you miserable has to be a good thing, even if from time to time they actually do help you.
The impetus for the article is Elon Musk’s statement that he would be willing to serve on a Department of Government Efficiency that would be tasked with cutting down the bureaucracy’s head count. Cowen refers to the fact that at Twitter Musk cut head count by 80 percent with no loss in output (and thus causing a 5-fold increase in productivity) and says it can’t be done with the bureaucracy.
Why? Sayeth Cowen:
Businesses need to make plans, and they frequently consult with regulatory agencies as to what might be permissible. The Food and Drug Administration needs to approve new drug offerings. The Federal Aviation Administration needs to approve new airline routes. The Federal Communications Commission needs to approve new versions of mobile phones. The Federal Trade Commission and Department of Justice need to give green lights for significant mergers. The Federal Deposit Insurance Corp. needs to approve plans for winding down failed banks. And so on.
There are so many problems with this argument. Where to begin?
Well, for one thing Musk’s Twitter experience demonstrates that even private business can have many zero marginal product (and indeed, zero average product) workers. But somehow the Federal bureaucracy doesn’t? It couldn’t be made more efficient by cutting the dead wood? Of which there is obviously a lot? Given that Cowen often writes about zero marginal product workers, it is rather remarkable that he implicitly argues that government workers are overwhelmingly positive marginal/average producers, especially given the extremely low power incentives and lack of accountability for poor performance that they are subject to.
In other words, identify the people who are actually performing the “customer service” to which Cowen refers, and get rid of the rest. Of whom there are likely a lot.
Moreover, these “customer service” functions represent only a fraction of what bureaucrats do. A good deal of it is administrative overhead which could be reduced if head counts and budgets are cut.
Another big part of it is writing rules and interpreting rules that were promulgated previously.
The number of pages of new rules added to the Federal Register is a common metric of increased regulatory burden. It is these rules (and their implementation, which I discuss below) that generate the deadweight costs of regulation. Fewer bureaucrats, fewer rules, greater economic efficiency. Without hitting “customer service,” and indeed, reducing the need/demand for customer service, since most of what Cowen describes as the essential function of the bureaucracy is helping business navigate a labyrinth of rules. Less bureaucrats, fewer rules, simpler labyrinth, less need for customer service (and the bodies necessary to perform it).
I would also argue that this customer service is chimerical, and is in fact a form of rent extraction that reduces wealth. That is, in supposedly “helping” business, bureaucrats’ produce bads, not goods.
I view regulation through the lends of property rights economics. Regulation is essentially an incomplete contract. Congress creates a really incomplete contract, bureaucrats craft regulations that make them somewhat more complete, but still wildly incomplete.
The allocation of residual control rights (rights not specified in the incomplete contract, or specified but non-verifiable) is vital in incomplete contracts. It is this allocation that affects incentives by affecting bargaining power. In regulation, it is the regulators who have the residual control rights. The “customer service” that Cowen describes involves negotiations with regulators who have residual control rights. They can say no to what you are asking for, or can add conditions, etc., etc., etc.
Property rights economics states that residual control rights (which in the literature basically involves control rights of access to assets) affect investment incentives because those with the rights have bargaining power. It is efficient to put bargaining power (and hence residual control rights) in the hands of those who can make non-contractible, value enhancing investments.
This is one reason why regulation, when viewed as an incomplete contract with a particular allocation of residual rights, is so likely to be highly inefficient: businesses, not government bureaucrats, are the ones who can make non-contractible, value enhancing investments but they don’t have the bargaining power. This is ass-backwards.
How do regulators use their bargaining power? To extract rents, which is what anyone with bargaining power does. Rents that do not incentivize wealth producing investments. They can’t receive these rents in monetary form (you can’t even take a regulator to lunch and pay for it). So they collect them in the form of justifying their existence, getting bigger budgets and staffs, empire building, implementing ideological objectives, ego and envy (feeling powerful by sticking it to those who make a lot more money), and creating obstacles so that they can sell themselves to the private sector as expert in working around.
(Again note the synergy between rule writing and bargaining with the regulated over implementation of the rules).
My experience with CFTC regulation, and in particular my short-lived experience as a consultant to the CFTC Inspector General, gives me an understanding of how this process works. One of the things I’ve written about over decades is the thicket of interpretations, no action letters, advisories, etc., that grew up in the aftermath of the passage of each major revision to the Commodity Exchange Act. The project I was working on with the IG was to document how extensive this practice has been, and how much the CFTC has relied on it.
The process by which this thicket is created is exactly the process that Cowen describes. “Consulting with regulatory agencies to see what might be permissible.” In essence, negotiation between the regulators and the regulated, with the bargaining power–and the ability to extract rents–resting in the hands of the regulators. (I do understand that sometimes information asymmetries give bargaining power to the regulated. My experience decades ago looking into the 1988 S&L bailouts showed me how this can work).
So, what would happen if the number of regulatory personnel was reduced? Cowen thinks it would reduce the output of successful negotiations, and that businesses would be stymied in the absence of such.
But is that really the case? For one thing, the zero MP/AP issue discussed above means that a reduced head count does not imply a reduction in output (the number of successful negotiations). But even overlooking that, if one views a major effect of these negotiations as rent extraction, reallocating bargaining power away from bureaucrats can improve efficiency.
Regulators with less capacity to negotiate have less bargaining power: the ability to string things along (which is easier when you have more bandwidth) enhances that power. Furthermore, more regulators typically means more fiefdoms within the bureaucracy that have a place at the bargaining table, hence more negotiations, more complicated negotiations (since more bureaucrats have effective veto power), and greater power to extract rents. The potential for multiple marginalization problems grows. (Think of when every local lord could extract tolls from those traveling a road that ran across their lands).
The real difference between Cowen’s view and mine seems to be that he believes that increasing the number of bureaucrats increases the output of wealth enhancing negotiations, whereas i believe that it likely increases the amount of wealth reducing rent extraction that occurs due to bureaucrats’ bargaining power.
A customer service model vs. an extortion racket model, if you will. Help with navigating through complex and confusing regulations (complex and confusing due to their incompleteness) vs. using that complexity and confusion to hold up wealth producers.
Starkly different views with starkly different implications. Cowen may not be all wrong, but his rosy “I’m from the government and here to help you” view clashes with the economics of bureaucracy, and certainly my personal experience with it.
So I say hack away. That’s the only way to find out which parts of the bureaucracy enhance wealth and which don’t. Hire back the ones that do and force those that don’t find an honest living.
J. D. Vance has been nominated as the Republican candidate for Vice President. I wrote about Vance, and his book Hillbilly Elegy, about 3.5 years ago. The end of the piece talks about the venom directed at Vance and those he wrote about when the movie version of the book came out:
In sum, Hillbilly Elegy is a Rorschach Test. Show it to me, and it evokes the attributes and deep flaws and great struggles of my family–struggles that made it possible for me to have an unbelievable blessed life that has been able to grab the boundless opportunities America offers. Show it to the coastal “elite” and it triggers all they hate about America, and many who live in it.
Streetwiseprofessor.com
That disdain and vituperation has been turned up to 11 since Trump announced him as his VP choice. It’s fair to say that VDS–Vance Derangement Syndrome–has spread faster than the Spanish Flu on the left.
MSNBC’s Alex Wagner accused Republican vice presidential nominee JD Vance of dropping an “easter egg of white nationalism” by mentioning that he hoped to be buried in his family’s plot in Kentucky during his speech at the Republican National Convention Wednesday night:
MSN
It’s easy to understand why Trump chose Vance. Trump wants to be an impactful president. He wants to leave a lasting legacy. A MAGA legacy. Of all national political figures, Vance is most closely aligned with Trump ideologically. He is young. There is no one more fit to make MAGA a historical era, rather than a transient phase tied to a particular personality.
And perhaps it is this that is driving the left even more insane than usual about a decision (choice of a vice president) that is seldom of great and lasting importance.
Trump wisely rejected all of the traditional criteria for choosing a VP, specifically ideological, geographical, and identity balancing. Picking a say Nicky Haley as VP would have ensured that Trump’s impact would be evanescent (except on the mental health of the left). Historically such decision making has worked out badly–G. H. W. Bush being perhaps the best example.
As for Vance, he truly does tick all of the Jacksonian boxes identified by Walter Russell Mead in his famous article of decades ago. Most notable is his belief in the primacy of what Mead called the American “folk community” (something that was a big part of his acceptance speech) as opposed to newcomers and foreigners. This is precisely the thing that the progressive left considers a barbarous atavism, especially considering those whom Vance considers to be the bedrock of the folk community. Hint: they don’t live in Brooklyn, NY. (Some in Brooklyn, MI maybe).
Relatedly, no globalist he. With that comes a foreign policy vision starkly at odds with the Uniparty consensus that harkens back to Republicans of an earlier era, like Henry Cabot Lodge and (fellow Ohioan) Robert Taft, and indeed to George Washington with his aversion to foreign entanglements. He is an anti-Wilsonian–and hence an anti-Bushian and anti-neocon, which is why people likely Lindsey Graham looked so glum when Vance spoke in Milwaukee. And keep Vladamir Zelensky away from sharp objects.
This mission to protect the folk community also leads him to favor trade protectionism, also something of a throwback to historical Republican policy–the Republicans were the protectionist party, and the Democrats the free traders, through the 19th and early 20th centuries. He is also well-disposed to various forms of industrial policy and minimum wages and has said nice things about antitrust loon Lina Khan.
Another Jacksonian trait is his intense hostility to the political establishment, the economic elite (corporations now, the Bank of the US in Jackson’s day), and the federal bureaucracy.
I share many of Vance’s views, and so I heartily support his candidacy–especially when considering the alternatives. Where I part ways is on economic policy (which is true of Jacksonianism generally). Protectionism for the purpose of supporting domestic industry is highly inefficient: one could have a debate about the merits of substituting tariffs for other forms of taxation that also have distortionary effects (e.g., capital taxation) but the flaws of protecting dying industries are beyond dispute. Minimum wages are another disaster. If the current experience in California’s fast food industry isn’t convincing enough, he’s not capable of being convinced on this.
Various forms of industrial policy, which in the end come down to picking winners and losers, propping up the winners with subsidies and protection and entry barriers, are also disasters in waiting that have no chance of achieving their stated objectives and which inevitably wreak huge collateral damage.
The best way to rejuvenate American industries is to lift the appalling regulatory burden that has been heaped on them for decades–a process that has reached a frenzied level under Biden. Here Vance’s antipathy to the bureaucracy could be the spur to meaningful action.
In brief–slash away at existing policies and regulations: don’t add new ones. That would help the American folk community immensely.
Of course, all policy views are aspirational. Given that Jacksonians are hardly a major presence in Congress, the media, or the bureaucracy, the ability of Trump and Vance to realize their aspirations is doubtful, at best. But at least it will help to have the executive pushing in the right direction and against the DC consensus, rather than pushing it forward with all its might (as with the current administration).
I had been hoping that Trump would choose Vance, and did so fully aware of my areas of disagreement. On the biggest issues–the overawing power of the federal government and its abuse thereof, immigration, and a more restrained, non-globalist, non-Wilsonian foreign policy–Vance is on the right side. Where he’s not, I can live with.
But precisely because of where he stands on those big issues, he has achieved Derangement Syndrome Status faster than perhaps faster than anyone in history. Considering those he has deranged, that’s the biggest endorsement of all. He has all the right enemies. May he destroy them–he has already driven them mad.
The recent Supreme Court session was one of the most significant in recent memory. A major thrust of many of the most important rulings was a fundamental shift in the allocation of authority among the branches of government. The decisions made clearer who can drive in what lane.
In the most important decisions, Congress was the winner, although it might not be happy with the prize because it shifts responsibility to the legislative branch, a past master at shirking responsibility.
Loper struck down “Chevron deference,” meaning that administrative agencies cannot expansively assert their authority in the face of statutory ambiguity or lacunae. It requires judges to interpret statutes to determine whether a regulator has the authority to do what it wants. This sharply circumscribes the power of the executive. Although it would be more accurate to say that it sharply circumscribes the power of a de facto separate branch of government operating outside the tripartite structure created under the Constitution: although formally part of the executive, unaccountable bureaucratic agencies are largely outside its control.
The bump stock ruling in Cargill constrains agencies from straying from explicit statutory language and arguing that since X is kinda like what is explicitly defined and outlawed in a statute the agency can outlaw X too even if it does not meet the statutory definition.
Both of these shift responsibility for regulation back to Congress, and puts the onus on the legislature to write laws that clearly delineate agency powers. Like I said above, this probably doesn’t make members of the legislative branch happy because it forces them to work hard, work carefully, and work precisely. So much easier to say “we delegate the formulation of the specifics of the law to three letter agencies.”
In Jarkasy the Court limited the enforcement power of agencies by requiring jury trials in Section 3 courts in lieu of proceedings before in-house administrative law judges.
Thus, these major decisions can be summarized: agencies lose power, Congress and the courts gain power. Or perhaps more accurately, powers that have been usurped by agencies are returned to their proper Constitutional homes.
The most controversial but arguably least impactful decision for the long term was the ruling on presidential immunity in Trump. The Court formalized a three part division of presidential acts, granted absolute immunity in one (explicitly Constitutionally recognized powers), strongly (but not completely) presumptive immunity in a second (“official acts”), and no immunity in a third (“unofficial acts”). The Court recognized that drawing the line between what is official and what is unofficial is a fact-intensive exercise and mandates that lower courts undertake this exercise seriously with appropriate fact-finding procedures. It sharply criticized the DC circuit court in Trump for rubber stamping the government claim of no immunity rather than engaging in the necessary fact-finding.
The left is hysterical about this decision, but they have no one to blame but themselves. The issue of the extent of presidential immunity has always been fraught with uncertainty. But by pursuing Trump in two federal cases the Biden administration forced the Supreme Court to open the legal Schrödinger’s box to rule that their beloved cat is dead.
That is why I say this ruling will be among the least impactful in the long term. The Republic operated very well with the uncertainty and widespread acknowledgement that presidential immunity was quite expansive until the Biden administration forced the issue with lawfare against Trump. The ruling will sharply reduce the ability and incentive to engage in such lawfare and thereby return the country to a very workable status quo ante. That is, the impact is almost purely situational and relates to an unprecedented situation created by the current administration.
Another situational impact of the decision may come from Justice Thomas’s concurrence that questioned the legality and constitutionality of special counsel Jack Smith’s appointment. Wink, wink, nudge, nudge, Judge Cannon. (And she apparently has taken the hint, scheduling hearings on this issue in the classified documents case in Florida).
As for the other decisions, they will likely have enduring impact, but how much remains to be seen. The demise of Chevron is clearly important–it has already put some major agency rules, such as the FTC’s non-compete rule and the FCC’s net neutrality rule, in jeopardy. But the “major questions” doctrine that was revitalized by earlier Supreme Court decisions already cut back on agency power: the incremental effect of Loper remains to be seen. And no doubt agencies will press their luck in court rather than meekly stay in their lanes, if for no other reason than to learn how far the ruling reaches, or to play the legal lottery. The application of Loper by highly ideologically diverse district and appeals courts means that agency interpretative powers aren’t dead yet and some courts may side with agencies. Ditto goes for Cargill. Jarkasy is more clearcut, but its scope is narrower than the other two decisions.
But overall, the movement is in the right direction. Reining in agency powers is essential. The war is not over by a long shot, but these decisions change the correlation of forces in that war.
The dissents in these cases were embarrassing. They relied on emotional and consequentialist arguments rather than legal and Constitutional ones. For example, in Cargill the argument was that the Las Vegas shooter used a bump stock, so we should ban bump stocks even though Congress (that has had ample opportunity to do so) has not: this is an argument for the courts to usurp legislative powers based on the emotional reaction to one extreme event. In Trump the dissent offered up a parade of horribles, such as the presidency becoming a monarchy or the president unleashing SEAL Team 6 to dispatch political opponents. None of which transpired in the status quo ante that the decision restores.
The most amusing response was from Harvard Law Professor Lawrence Tribe who lamented the effect of Loper on all of those sturdy professors and practicing lawyers toiling in the fields of administrative law. Oh! The humanity! And insofar as professors are concerned, this is incumbency bias. Big new decisions create big research opportunities opening up the field to new scholars. Creative destruction, as it were.
The most disappointing decision was in the free speech case, Murthy. Here the Court refused to rule that government suasion of social media companies of the “nice little platform you got here, shame if anything happened to it” variety was an unconstitutional infringement of First Amendment rights. This unleashed a righteous–and right–dissent from Judge Alito.
Here the game is not over. It is possible that when the issue is adjudicated in the lower courts it will return to SCOTUS and be resolved correctly on the lines Alito forcefully argued.
One of the most revealing aspects of the just-completed term is the behavior of Amy Coney Barrett who had her coming out party as the new version of Anthony Kennedy or Sandra Day O’Connor. What is it with justices with Irish surnames appointed by Republican presidents that makes them wishy-washy “balancers” apparently trying to remain in the good graces of the DC establishment?
On the other hand, Chief Justice Roberts exceeded expectations.
Every Supreme Court term is just a battle in a war that has waged since Marbury v. Madison. This term is no different. But it represents a signal victory for those opposed to the trajectory of government since the New Deal. Yes, there were losses, but that is true of every battle. And maybe it is just the end of the beginning, not the beginning of the end, for the administrative state in particular. But that’s not nothing.
UMass-Amherst associate professor Isabella Weber is a darling of the Eurocrats (and presumably of Davos). Per her own telling, she is a superstar:
Her first book How China Escaped Shock Therapy: The Market Reform Debate is the winner of the Joan Robinson Prize, the International Studies Association Best Interdisciplinary Book Award and the Keynes Price and has been recommended on best book of 2021 lists by the Financial Times, Foreign Policy, Project Syndicate, ProMarket and Folha de S.Paulo among others. The book has been translated into five languages. Isabella has become a leading voice on policy responses to inflation and has advised policy makers in the United States and Germany on questions of price stabilization. For her public policy work she has been profiled in the New Yorker, recognized as one of TIME100 Next, Bloomberg’s 50 Ones to Watch, Germany’s 100 women of 2022 and Capital 40 under 40 and has been awarded the Kurt Rothschild Prize and the 2024 Hans-Matthöfer Prize. For her work on China’s market reforms she has won the International Convention of Asia Scholars’ Ground-breaking Subject Matter Accolade and the Warren Samuels Prize for Interdisciplinary Research in History of Economic Thought and Methodology. Isabella is an Open Society Foundations Ideas Fellow.
www.isabellaweber.com
She is also an idiot.
The evidence for this proposition is profuse: just look at any one of her opeds or articles. Rather than bore you with her corpus, I will just focus on one of her most recent retchings, on a subject that is clearly in one of my lanes–commodity storage, commodity prices, and speculation.
Weber and her co-authors Merle Schulken, Lena Bassermann, Lena Luig, Jan Urhahn (no changing names to protect the guilty on SWP!) recently released a “policy paper” called “Buffer Stocks Against Inflation.” (NB: “policy paper” is a tell for lack of rigor. The tell is quite accurate here). The Guardian shared Weber’s deep thoughts from the paper in a long article. (NB: another accurate tell).
The gravamen of the argument:
Weber’s new paper, published on Thursday, looks at how grain prices spiked in 2022 as Covid snagged supply chains and Russia invaded Ukraine. The price hikes helped to drive record profits for corporations while pushing inflation higher and increasing global hunger. In the paper, Weber and colleagues call for the creation of buffer stocks of grain that could be released during shortages or emergencies to ease price pressures.
The Guardian.
And what is the root of this volatility? Can you say speculation? I knew you could:
Speculation causes prices to swing wildly even though the prices are often detached from the physical reality of the commodity. While Russia’s 2022 Ukraine invasion led to temporary local threats of physical grain shortages, the global supply of grain always remained well above levels to meet demand in the medium term, the paper notes.
The Guardian
The need for a government-run storage system presumes that private storage is inadequate or inefficiently small. Of course Weber et al don’t even attempt to demonstrate this. And no, volatility–including extreme price movements like those following the invasion of Ukraine in 2022 is not sufficient to demonstrate inadequate storage.
Optimal storage is the solution to a dynamic optimization problem. This solution frequently involves “stockouts” when storage is drawn down to near zero. Prices tend to be highly volatile in such circumstances. Recent events in the cocoa market are a near textbook illustration of this. This is a characteristic of an efficient market, though it is all too often taken (by people such as Weber) as prima facie evidence of inefficiency. If you say that, you are betraying your ignorance.
These episodes can be avoided only by holding excessive stocks. This is wasteful because (a) storage is costly, and (b) it means that some resources that are produced are never consumed. Paying money to hold something you never use (and which was costly to produce) is obviously dumb.
Specifically, the invasion of Ukraine clearly increased economic uncertainty. The rational response to this is to increase storage of commodities (including corn and wheat) affected by this uncertainty. The only way to increase storage is to reduce consumption. Therefore, the increase of uncertainty alone caused an increase in price over and above the effect of the invasion on output or trade. This creates the outsized price movements that give Weber and her ilk the vapors.
Weber also seems to overlook the fact that government stocks are substitutes for private stocks, and that increased government stockholding will result in decreased private storage. Meaning that government stocks are bigger than the amount by which such a policy increases stocks.
Government stockholding also injects a new form of uncertainty into the market. Private stockholders have to forecast what the government stock policy decisions will be. When will they accumulate stocks? When will they release them? Will the decision be driven by economics or politics? If the latter, political uncertainty is an important consideration. And it could have particularly detrimental impacts on private stockholding. The main benefit of holding stocks is the ability to sell them at a high price under tight supply and demand conditions. Release of excessive stocks by the government during such conditions seriously undermines the incentive for private entities to hold stocks.
Wright and Williams also show that the details of government policy and uncertainty about them plague such schemes. One important point that they make is that government storage policies are subject to time inconsistency problems (a la the important work of Kynland and Prescott in the ’70s) (also referred to as subgame imperfection). That is, a government may design an efficient policy but cannot commit to it. Under some circumstances the government will find it desirable (for it!) to deviate from the policy. Thus, the abstract existence of an optimal policy does not mean that it can be implemented in practice. Moreover, trying to figure out when time inconsistency is going to kick in is a source of uncertainty that feeds back to private decisions.
Weber’s writing betrays no contaminating exposure to economic analysis like Wright and Williams’.
In Wealth of Nations Adam Smith pointed out some of the irrationality of government policies regarding storage. In the laws he discussed, English governments thought that private traders were holding excessive stocks, and punished such “hoarders” and “engrossers.” Which obviously undermined the incentive to accumulate inventories in the first place.
Yes, these policies are different from the one that Weber advocates, but they illustrate how political forces lead to highly destructive interference in storage decisions.
Weber has no theory of how speculation distorts prices or causes excessive volatility. She has no evidence that it does. But no problem! She blames it anyways.
I guess she is proving her green credentials by recycling discredited ideas.
You’d think that a policy paper would include analysis of the recommended policy in practice. In Weber’s case, you’d be wrong.
Looking at Weber’s corpus you will see that all of the disqualifying defects described above are rife. She is a sworn enemy of markets, but her analyses betray zero careful analysis of how markets actually work, or what causes their problems. She is a huge fan girl of government intervention, but never contemplates the possibility of government failure, being instead a slave to the Nirvana Fallacy.
Her latest work on storage is arguably a minor sin compared to some of her other transgressions against good economics. Most notably, she is a major advocate of comprehensive price controls as a means of controlling inflation.
One would not be wrong to call her Gosplan Girl.*
But of course this is why she is a rock star in Brussels. EU bureaucrats run the gamut from dirigistes to full on commies, and gobble up her garbage like it is going out of style.
Which, unfortunately, it is not. Which is why the EU is a stagnant economic wreck which will only get worse if it embraces the deep thoughts of Isabella Weber.
*Izabella Kaminska at The Blind Spot pointed out the Gosplan analogy to me.
Might the copper market suffer a similar squeeze [to the Hunt episode of 1980]? Until now, I would have been confident in saying no. But speculators are about to get an easy and completely legal way to dominate the market for the red metal — a development that regulators seem far too relaxed about.
Bloomberg
Why not worry, let alone panic? Many reasons.
First, I don’t know where Javier has been, but this is hardly a new development. There have been physical copper ETFs around for over a decade: I addressed a similar moral panic that erupted when that was introduced. There are also physical ETFs in other metals. The scare scenario has not transpired in all that time.
As I say every time I teach about speculation (as distinct from manipulation), what is necessary for it to distort prices is that it must somehow distort the physical market, that is, distort supply or demand. The doom scenario outlined (“As more money pours into the new fund, more copper will need to be stockpiled as backing”) seems to envision a distortion in supply. Specifically, uneconomically withholding stocks from the market.
First of all, that scenario assumes really dumb money. I mean really dumb. Buying shares in an ETF that will turn around and buy physical copper and add to inventories at a time when inventories should fall (thereby causing spot prices to be too high) means buying high and selling low. Indeed, the market is likely in backwardation under those circumstances, and in that case prices tend to trend down–and everybody can see this. Not a good investment strategy! One almost guaranteed to lose money. Yes, maybe there are lemmings, greater fools, etc., but such people would be perfect short bait. (Though maybe Roaring Kitty will make copper ETFs a meme investment!)
The Hunts (mentioned in the article) are example of how irrational stock building and holding ends in tears. As I joke in class, the Hunts are the poster children for the old joke: “Want to make a small fortune in commodities? Start with a large fortune.” All because they propped up the price of silver by accumulating ever-expanding quantities of physical silver.
Another example that may be even more on point is the International Tin Council, which tried to imitate OPEC in the worst way–and succeeded. Rather than restrict output (a la OPEC) it tried to inflate prices by offering to purchase tin at supercompetitive prices. It ended up accumulating vast amounts of tin in storage, and when the money to keep buying tin ran out the price collapsed and the ITC suffered huge losses–and almost brought the LME down with it. (This is the so-called “Tin Crisis,” not to be mistaken with the LME’s “Nickel Crisis” of 2022).
In my 2012 post on physical metal ETFs, I wrote that one mechanism that would also limit the potential distortionary effects was that if such an ETF were uneconomically maintaining excessive physical stocks, someone could buy shares of the ETF, and tender them in exchange for physical metal, and then liquidate the stocks so obtained. That is, the ETF’s management could not unilaterally withhold stocks from the market.
If you look at the Sprott prospectus, you might conclude that use of that mechanism is highly restricted: there is an option to exchange shares for metal, but it can be exercised only on a semi-annual basis.
However! Elsewhere the prospectus says:
The Trust will have the ability to optimize the value of the Trust through Copper optimization transactions, including the use of futures, warrants, CME or LME warehouse receipts, and other financial instruments [swaps? options?] to complement the Trust’s Copper procurement strategy, so long asthese transactions provide value to the Trust.
So this isn’t a pure copper piggy bank for shiny pennies or the cathodes you can make them from. If the fund is managed to maximize value, it will trade its physical copper optimally, and reduce stocks when the price signals indicate this is optimal. For example, it could sell inventories outright and replace the copper exposure with futures with deferred expiration dates. Or it could engage in spread transactions that are common on LME, e.g., selling cash and buying three month or 15 month or whatever futures.
In this respect, the ETF is really more analogous to a hedge fund. It’s managers have a lot of trading discretion within the copper space. In this respect it is very different than other commodity ETFs (e.g., the US Oil Fund) which have virtually no discretion.
Indeed, it is my sneaking suspicion that the fund’s restriction on withdrawals of metal is due precisely to the fact that it will essentially be engaged in fractional reserve banking, as it were. That is, its potential obligations to deliver will exceed its holdings of physical metal because its “optimization transactions” will involve accumulation of large paper positions, and its notional tonnage will exceed substantially its actual physical holdings. This restriction is analogous to the restrictions on withdrawals that hedge funds impose on investors–another point of tangency between this ETF and hedge funds.
Furthermore, even if the money is dumb and the managers are too (or are like Scrooge McDuck and just enjoy frolicking in their shiny stash), it can only distort supply to the extent its physical holdings are somehow pivotal, and/or there isn’t a lot of competition among those holding copper stocks. If total stocks should fall by X, as long as enough others collectively hold more than X they can supply that copper to the market even if the Sprott fund ignores the price signal and keeps a death grip on its physical holdings.
As for “cornering,” here Javier is playing fast and loose with a loaded term. The word (and squeeze, also used in the article) connotes manipulation. Manipulation is intentional conduct. Under US law in particular, it is conduct that involves a specific intent to cause “artificial prices.” (The Frankendodd revisions of the Commodity Exchange Act and CFTC regulations issued pursuant thereto have new provisions that arguably weaken the intent requirement, but it remains in Section 9).
Yes, an ETF that can take physical ownership can corner whereas a purely futures ETF that cannot own physical cannot. (I’d also note that a fund that holds ONLY physical metal cannot engage in market power manipulation either, or at least is guaranteed to lose money if it tries). But using the “optimization transactions” in futures to manipulate a market crosses a legal line, and indeed, a line that has been in place for over a century. That is something regulators (and market participants who have private right of action under the CEA) would be very unrelaxed about.
Moreover the incremental manipulation potential posed by this ETF is likely small. Manipulations have occurred in copper, and the industrial metals, from time immemorial. Remember Sumitomo? There have been other though less severe and shorter lasting cases of likely manipulation on the LME in the decades since. The proximate cause of the Panic of 1907 was a copper squeeze. Right now with all of the hedge fund money out there, as well as the big physical players, the potential for market power manipulation is omnipresent. Sprott will be a minnow in this ocean that already has a lot of big sharks.
I also chuckle at this concern about cornering. I excoriated Javier Blas severely for his failure to see that yes, a hedge fund–Armajaro–cornered the cocoa market in 2010. Indeed Javier seemed to have a man crush on the eventually disgraced head of the fund, Anthony Ward (AKA “Chocfinger”). One of my posts suggested they get a room. (Ward’s karma came a few years later when he bet wrong in the cocoa market, and Armajaro–which had taken delivery of enough beans to make billions of Hershey Bars in 2010–was sold for less than the price of one of these).
So I reprise my 2012 Alfred E. Neuman persona: What, me worry? Well, certainly not about a physical copper ETF.
This Brokers, Bagmen, and Moles podcast really took me back. It tells the complex and convoluted tale of the FBI sting operation on the floors of the CBOT and CME, and the trials that followed in the 1987-1990 period.
I worked for an FCM (located in the CME building at 30 S. Wacker) during one year that the sting occurred. Leo Melamed appears prominently in the podcast (and not in a good way, I might add): I frequently saw him in the elevator there. I had just started teaching at Michigan in January 1989 when the Chicago Tribune (to the fury of the FBI and DOJ) broke the story of the investigation. In something of a Walter Block moment, I wrote a paper (not published, nor even submitted) explaining, and to some extent justifying, the conduct that put some traders in jail (though not the right ones, from the perspective of podcast producer Anjay Nagpal).
I hadn’t thought about that paper in a long time, but the podcast resurrected it from the recesses of my memory. In a nutshell, as described in the podcast, a major aspect of the allegedly fraudulent conduct engaged in by floor brokers and locals revolved around the issue of “out trades.”
Out trades were an inherent feature of floor trading. Out trades were mistakes. Two traders could trade, and agree that they traded with one another, but disagree on the price. Those were relatively easy to resolve. Bigger problems occurred when, say, ABC said he sold to XYZ and XYZ said he didn’t buy from ABC. Or when ABC said he sold to XYZ and XYZ said he sold ABC.
These types of errors were endemic in the bustle and commotion of the pits. And they were often material. In essence, if an out trade occurred when a broker traded for a customer, and the error was detrimental to the customer, the broker had to make up the loss. In the case of ABC being a broker, and the price moved down subsequent to the time the trade should have occurred, and the broker corrected the error by selling for the customer at the lower price, ABC had to pay the customer the difference. If the error worked in the customer’s favor, he got to keep the benefit.
Especially in volatile markets and for big orders, six figure errors were not unheard of, and five figure errors were pretty common.
In essence, brokers were short a random number of options (the randomness being due to the unpredictable nature of out trades). This was a cost of doing brokerage business, and could be an appreciable cost.
And this was the hook for my paper. The bulk of the allegations against the traders was that in the aftermath of an out trade, a broker would make a trade with a local (i.e., an independent floor trader) that was profitable to the broker, but unprofitable to the local. This local was called the “bagman,” hence the middle word in the title of the podcast (and a book). The broker would later pay back the local by making off-market trades that cost customers money but were profitable for the local. For example, selling to the local at a price below the best bid in the pit.
When I first read the allegations, this struck me as an insurance arrangement, and hence the paper was titled (if I recall correctly–I’m looking for an old copy) “Broker Fraud as Out Trade Insurance.” In essence, the losses from out trades were spread out among all (or least many) of the broker’s customers. The bagmen were like insurance companies: eating a loss was a claim. The profits from off-market trades were the premiums. The customers paid the premiums in the form of unfavorable trading prices. (I also argued that broker associations, also controversial, were in large part an insurance arrangement).
My argument was that this was plausibly an efficient arrangement, as it led to a more efficient sharing of out trade risk, where out trade risk is inherent to open outrcry trading, just as fire risk is inherent to owning a house or accident risk is inherent to driving.
So were customers hurt? Well, if these practices were indeed insurance, customers actually benefited. A more efficient sharing of out trade risk reduced the cost of supplying brokerage services. With a highly competitive market for brokerage services, this lower cost would be passed on in the form of lower commissions, or better service, or more perks (like picking up bar tabs or losing more to the customer on the links).
Of course, it was almost certain that some of this type of trading was not undertaken to insure out trade risk. Some brokers no doubt took advantage of the widespread nature of the practice (where its ubiquity was driven by its putative efficiency) to rip off customers on some trades. However, as I argued in the paper, the ultimate effect of that kind of behavior on customers was mitigated by competition among brokers. The ability to harvest those kinds of illicit profits reduced the reservation commission that brokers charged.
(In making this argument, I riffed on an example from (then) Donald McCloskey’s price theory/micro text. He argued that the practice whereby shipyard labor cutting wood on sailing ships pocketed and sold shavings from the wood they cut had little impact on the cost of building or repairing ships, because labor market competition reduced wages by an amount commensurate with the value of the wood thus taken. McCloskey used this to illustrate the idea–originating with Adam Smith–of compensating wage differentials).
So the argument was basically not only was this not worth a federal case (or what was at the time the most expensive FBI investigation in history), it was arguably efficient, or at most a victimless crime (in equilibrium, anyways).
Other allegations included things like trading after the close. Again, in many cases this could be viewed as efficient, and beneficial to customers: trading at the close was often insanely chaotic, making it impossible to execute all orders before the bell rang.
Labor unions know that one of the most effective ways of disrupting a production process is to “work to rule”, i.e., adhere strictly to every agreed upon rule. In any tightly coupled system (e.g., an assembly line, an airline operating on a schedule, or a trading floor), allowing for some play in the joints–some departures from strict adherence to the rules–can allow it to operate more efficiently. Strict adherence to the rules would likely have interfered substantially with the efficiency of the floor trading process.
Or think of the mess that an NBA game would be if refs called every foul. “No harm no foul” is a reasonable way to call a game.
To the outrage of other defendants–who claimed that nothing untoward happened on the floor–the lawyer for two defendants (a guy named David Durkin, interviewed in the last episode of the podcast) argued that yeah, this stuff happened all the time, and it wasn’t fraud. He didn’t make exactly the same argument as I did, but his argument rhymed with mine. That is, the intent of these violations of the rules was not to defraud, which would be necessary to achieve a criminal conviction. (The argument was not tested at trial. For perfectly understandable reasons, guys facing RICO charges and 20 years in Club Fed took a deal and pled out for terms of 8-10 months. One could argue that the relatively big delta between the deal and the penalty if they had lost reflected the government’s assessment that the argument could have indeed been persuasive to a jury.).
Take it as you will. All I can say is that nothing in the podcast made me change my mind from what I came to believe 35 years ago. (Time flies!)
The podcast delves deeply into the genesis of the investigation. This material was pretty new to me. I had heard nothing previously to challenge the public explanation that ADM’s Dwayne Andreas was ticked off (no pun intended) at being ripped off by the floor, and sicced the FBI on the exchanges. But after listening to the podcast, like Nagpal I find it unpersuasive. Would that really be sufficient motivation for the DOJ and FBI to launch such an ambitious investigation? (Perhaps they didn’t realize how hard it would be, and doubled down once they got in–the sunk cost fallacy at work.). Was it really aimed at the exchanges themselves, or the bigwigs there? Was it really launched to investigate mob money laundering? After all these years, these remain open questions, despite Nagpal’s dogged efforts to answer them.
The podcast also featured extensive interviews with various traders–some convicted, some not, and some not even charged. Those brought back memories of the floor in all its glory, color, character, and characters. And the accents! Having been away for years, the distinctive Chicago accents were truly noticeable and entertaining: at the time, as a fish in those waters, they would have seemed to be normal.
My only criticism of the podcast is in its attempt to draw Big Lessons. Nagpal’s big lessons were: (a) this conduct was rife; (b) it was fraudulent and harmed customers; (c) it was so rife that bigwigs–notably Leo Melamed–participated in it; (d) the fact that the bigwigs skated was a travesty of justice; and (e) the episode demonstrates the fundamental flaws in exchange self-regulation.
Here Nagpal gets preachy. Though in the last episode (in which Durkin plays a prominent role) he does start to wonder whether the bad stuff really wasn’t so bad after all, and that some of the bad guys really weren’t that bad.
As someone who wrote a lot about self-regulation in the 90s in particular (in large part due to the experience of dealing with it in the aftermath of the Ferruzzi episode), I am surely not in the self-regulation hallelujah chorus. However, I vigorously disagree with Nagpal’s contention that putting the futures exchanges under the aegis of the SEC would represent an improvement (not least because stock exchanges regulated by the SEC are also self-regulatory organizations). In the case of the investigation of the floor, the assumption that self-regulation failed presumes that the conduct was truly predominately fraudulent: as argued above, that’s debatable.
And yes, exchange governance is political–as discussed in detail in my 1995 and 2000 JLE articles. But government regulation is politicized too.
Overall, though, those are quibbles. In laying out in detail the complex facts, and letting the principals speak at length, Brokers, Bagmen, and Moles sheds considerable light on a long forgotten but epochal moment in the history of Chicago’s exchanges. It’s a kind of unvarnished history and I hope that others make similar contributions before the old floor traders, like old soldiers, just fade away like the sound in the pit after the closing bell.
Well, the FTC done gone ahead and done it, implementing a broad prohibition on “no compete” clauses in contracts. As with most recent FTC rules and court cases, it brings to mind Coase’s observation to the effect that some people see a market practice they don’t understand, their immediate conclusion is that it is some sort of nefarious exercise of market power.
The FTC’s main bugaboo is that non-competes create lopsided bargaining power in favor of firms. Such bargaining power per se should not give rise to antitrust concerns. And indeed, lopsided bargaining power may be an efficiency enhancing feature that makes both firms (the supposed beneficiaries) and employees (the alleged victims) better off.
One needs to remember that there are at least two stages here. Ex ante, when the employer and employee agree on terms to a contract, which may or may not include the non-compete clause (and the employee can reject an offer that includes one), and ex post, when the employee has found a potentially superior outside opportunity and would like to get out of the restriction. The bargaining power under non-competes is unbalanced in the ex post stage.
A threshold issue is why would the employer and employee agree ex ante to an arrangement that is inefficient, i.e. reduces their joint wealth? If the benefit of the restriction to the employer is smaller than the cost to the employee, there would be a bargain without the non-compete that would make both parties better off. Crucially, this is true regardless of the distribution of bargaining power. Thus, it is highly likely that the mutual agreement to employment contracts including non-competes indicates that they are efficiency enhancing.
This then raises the question: what is the source of efficiency at the ex ante stage that induces the parties to enter into an arrangement that ties the employee’s hands and limits his/her bargaining power ex post?
Property rights economics provides an answer. In a zero transactions cost world, who owns assets is irrelevant. (The Coase Theorem.) However, if certain things are non-contractible (because, for instance, they cannot be verified by 3rd parties like courts), transactions cost are positive and the distribution of asset ownership matters, and can impact efficiency. It matters precisely because it can affect bargaining power ex post.
The owner of assets has bargaining power over non-owners with whom he contracts: he can withhold the employee’s access to the asset, thus depriving him/her from any benefits from it.
This can affect efficiency because it affects incentives to invest ex ante. The party with the bargaining power (the asset owner) extracts most of the rents from the relationship between the two parties. That affects that party’s incentive to make (non-contractible) investments that increase the amount of ex post rents to be split between employer and employee because he gets the lion’s share of these gains.
Placing the bargaining power in the hands of the party who is best able to make rent-increasing investments therefore leads to better investment decisions, and to greater surplus to be divided between the parties.
Designing contracts that allocate ex post bargaining power unevenly can therefore improve incentives ex ante, and crucially, make both sides better off–including the putatively disadvantaged party. Disadvantaged ex post, anyways.
Non-compete clauses, by the FTC’s own admission–hell, lament–allocate bargaining power. Property rights economics suggests that is likely a feature, not a bug. Crucially, it can explain why these clauses come into existence in the first place.
Firms can make non-contractible investments in their employees’ general human capital. Moreover, apropos my recent post on learning by doing, firms can increase knowledge and information by increasing their output or scale. If employees can walk across the street and sell that knowledge and information to others the firm’s incentive to invest in employees’ human capital or engage in actions that lead to employee learning by doing is reduced. However, with non-competes firms have the bargaining power that allows them to extract those ex post rents, which preserves their incentives to make non-contractible investments in generalized employee human capital, including human capital generated as the result of experience/learning by doing..
The real conundrum with non-competes is the one common to all arrangements relating to the production and dissemination of information. There are static losses if information already in existence is sold at a price above its marginal cost–effectively zero–or not sold/transferred at all. However, if information is transferred at a zero price, but is costly to produce, too little is produced. This is effectively a dynamic effect.
The same tension/trade-off exists with patents and copyrights. The ex post trade in costless information is restricted in order provide incentives to create it in the first place. Non-compete clauses that allow firms to extract most of the rents associated with knowledge production in their employees provides similar incentives.
I would also note again (as I have in earlier posts) that non-competes don’t create bargaining power ex ante, and restricting them will therefore not affect the distribution of gains at the contract formation stage. However, the magnitude of the gains to be split will be smaller in the absence of non-competes if they have the incentive effects discussed above.
Non-competes are a form of vertical restriction. Such restrictions often–and I would say typically–have efficiency rationales. Indeed, these rationales often relate to attempting to restrict free riding on information. Think of Lester Telser’s argument about resale price maintenance, or research on things like exclusive dealing and exclusive territories. Non-competes clearly relate to property rights in information, and therefore eliminating them will have baleful consequences.
But the Lina Khan FTC only has a market power hammer in its tool box, and is therefore bashing away at what is likely an efficiency enhancing contract feature that has nothing at all to do with the exercise of market power qua market power.
Alas, the mind eating virus has even infected many who were once sensible, or at least periodically sensate or sentient. Such as the FT’s Tim Harford. (I am guessing that the brain eating ameobae at the FT have finally gotten to him.)
In a nutshell, Harford invokes learning by doing, which he refers to as Wright’s Law in honor of an aeronautical engineer in the 1930s who first identified this phenomenon. It has since been documented in numerous other areas, starting probably with Liberty Ships in WWII.
Yes, LBD is a thing. It has been part of the theory of economic growth since at least the 1970s, starting most notably with Paul David’s work on the antebellum cotton spinning industry in the US, and earlier than that even with work by Kenneth Arrow. Robert Lucas taught about it in the economic growth undergraduate (!) course I took as a small child at Chicago in 1981, FFS. (What a privilege and experience it was to be in that course.) I was so taken by the subject that my paper for George Stigler’s economic policy course in 1982 (when he won the Nobel Prize) examined empirically learning by doing at the Springfield and Harpers Ferry Arsenals prior to 1860. It’s hardly a new idea, or an unexplored one.
Alas, there are numerous problems with Harford’s application of LBD/Wright’s Law to solar.
One issue is: who is to say that the highly touted reductions in the cost of solar aren’t due to LBD?
That is, since cumulative output in solar panels has indeed increased dramatically over the years, learning would presumably have taken place and that plausibly accounts for some of the cost reductions. Harford himself says “PV is now so cheap that the question is moot.” So, perhaps LBD did its work.
Empirical evidence would be nice. And at most what Harford is saying is that we could have learned earlier. But if the learning has taken place (as evidenced by it being “so cheap”), albeit belatedly, solar should be taking over the world now, without subsidies, right?
Further, if Harford really means that too little learning has taken place, or it has occurred too late, then that would require (a) externalities/spillovers in learning, (b) the large subsidies to solar (which Harford pooh-poohs) were in fact too small and/or too late to generate the right amount of learning at the right time, and (c) market participants were unaware of the spillovers and did not take obvious steps to internalize them. He provides support for none of these.
With respect to externalities, it is not obvious that LBD effects are largely external to firms. Firms may be able to keep the benefits of their experience largely to themselves. To the extent they are internalized, there is no rationale for subsidies, and competitive firms will treat current production in part as an investment in future lower costs and expand output accordingly without need for government support or protection.
(NB. Non-compete agreements may be one way firms attempt to keep the benefits of experience internalized. I will soon write a post on the idiocy of the FTC’s ban of such agreements.)
I have analyzed LBD in the US shale sector in detail. I have found extensive learning effects, but the evidence for learning spillovers is weak. A firm’s own experience contributes more to its productivity than collective industry experience. This is evidence that learning is internalized.
Further, firms respond rationally to spillovers–by trying to internalize them. Mergers, consolidation, and concentration are means of internalizing learning. I note that consolidation is coming to shale only after more than a decade after the industry dramatically increased output and drilling experience.
In shale, it is plausible that much of the learning is done by service firms who internalize the benefits. Thus, even to the extent that industry experience explains productivity improvement, to the extent that service firms who, well, service the industry are the ones who generate this learning, these industry experience effects may be internalized as well.
That is, just because there is learning by doing, doesn’t necessarily mean that there are learning spillovers of the type that justify subsidies (or tariffs) to increase output (and hence learning). And if there are, there are strong economic incentives to internalize them. And if there aren’t, there’s no justification for subsidization. (David’s work on the cotton industry addressed the question of whether tariffs to stimulate domestic cotton cloth output were justified because of learning spillovers.)
All of these factors undercut the argument that the PV industry learned too little, too late. Where is the evidence that PV is unlike shale, and characterized by large learning spillovers which industry participants did not attempt to internalize through merger or other means? (I would also like to highlight the irony that Harford’s argument would imply that shale, for which there is actual evidence of LBD, should have been subsidized decades ago.)
Harford also has a myopic focus on PV cost, and fails to consider the total cost of renewables, including solar. Like other renewables, solar has intermittency and diffusiveness problems. Moreover, it has large and predictable output fluctuations (e.g., the “duck curve” problem in which solar output plunges when the sun starts to set). Due to these inherent features, useful solar will require beyond revolutionary innovations in battery technology (something Menton has analyzed in detail) that are not anywhere on the horizon.
(I note that battery technology has been the subject of massive research. It has also experienced tremendous growth in cumulative output, which has presumably contributed to learning. Yet it is nowhere even close to being an economical way to address output variability for renewables.)
Word to the wise: we are not going to be able to learn our way out of the sun rising, and more importantly setting. Or out of rain, clouds, and hailstorms. Or out of voracious needs for land to site renewables. Or out of the difficulties of disposing defunct panels.
Solar is part of a complex energy system. The cost of solar panels is actually among the least important aspects of the cost of relying on solar as a source of energy.
And talk about hindsight. Harford laments our failure to gaze into the distant future and foresee with precision the obsession with CO2 and climate change, and supersize solar panel output in time to provide cheap solar power when those obsessions became manifest. Yeah, and I should have invested in Apple when Harford says we should have subsidized solar. Or Bitcoin in 2013.
In sum, Harford’s woulda, coulda, shoulda lament in the FT is yet another example–as if more were needed–of the intellectual vacuity of those hyping the “energy transition.” Harford invokes a respectable economic concept–learning by doing–but does so in a superficial way that betrays a complete lack of understanding of it. And in a way that also betrays a lack of understanding of the real challenges of transforming an extremely complex energy system. Cheap solar panels may be a necessary condition for a cheap transition, but it’s hardly a sufficient one, or indeed, even likely an important one.
Alas, learning by doing doesn’t appear to apply in the writing of newspaper columns.
In the Wealth of Nations, Adam Smith famously wrote:
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. Would it be a reasonable law to prohibit the importation of all foreign wines, merely to encourage the making of claret and burgundy in Scotland? (WN IV.ii.15)
At its plant, electrolyzers break down water into hydrogen and oxygen, using electricity generated from nearby wind and solar farms. The hydrogen is then transported to a reactor, where it meets CO2 captured from local refineries, setting off a series of complex chemical reactions aided by patented catalysts. The result is a synthetic fuel with the same chemical properties as its fossil fuel-based cousins.
Yes, this process can create “equally good” fuel as traditional hydrocarbons. But at what cost? Well, they could tell you, but then they’d have to kill you:
How Infinium fits into that future remains to be seen. Schuetzle is tight-lipped about the company’s exact plans. While acknowledging that Infinium’s e-fuel is “more expensive” than conventional fuel, he didn’t disclose the cost difference.
Probably not the 30x of Adam Smith’s Scottish wine, but evidently a large enough multiple to frighten the horses if disclosed.
Because of this cost differential, this industry will come into existence only as the result of heavy-handed government policy, in the form of subsidies, kneecapping competitors (namely traditional fuels), or more likely both. And echoing Smith, the question becomes “is it a reasonable law or policy to rig they system to favor this technology, merely to encourage the making of efuels?”
Smith did not answer his question because it answered itself. And the same is true of mine.
To repurpose an old joke, the government wants to address climate change in the worst way, and it is. Picking technologies that are feasible but exorbitantly costly in order to achieve a putatively desirable objective is a tried and false modus operandi of government. And this has been especially true of environmental and energy policies in the United States going back to the dawn of the EPA in the early 1970s, and the energy crisis of the mid-to-late 1970s.
I recall the “synfuels” boondoggles of the late-70s, e.g., making oil from shale. No, not the shale revolution you might be thinking of that actually resulted in the economical production of vast amounts of crude oil and natural gas, but taking shale rock in Wyoming with embedded hydrocarbons, subjecting it to energy intensive transformations (redolent of those described above for the efuels project) to produce oil at vastly higher cost than even the then-elevated price of conventionally produced oil. The government spent billions back when a billion actually meant something on this effort (and other synfuel efforts). And every dollar was wasted.
And reading the Bloomberg article demonstrates that the government, in its wisdom, is doing Adam Smith one better: it wants to mandate technologies that don’t really exist (unlike Smith’s “glasses, hotbeds, and hotwalls”):
Some regulators seem to agree with that thinking. The EU will phase out government subsidies for e-fuel made with fossil fuel-sourced CO2 by 2041.
This generation of efuels will come into existence only as the result of government diktat, just as the first generation–ethanol and biodiesel–did. And the efuel technological greenhouse forcing is just one small part of an array of mandating of technology choices, all in the name of fighting global warming. The electrification of everything is if anything a more extreme example: the EPA’s mileage mandates (intended to make ICE vehicles uncompetitive with EVs), its emission standards for fossil fuel generation, and the lavish subsidization of inefficient (because diffuse and intermittent) renewables are if anything more egregious than growing the efuels industry like orchids.
But bureaucrats are geniuses, and will only do what’s best, right? Right? To disabuse yourself of such notions, refer back to the synfuels case discussed above. Or consider two more recent examples.
One was the European policy to force the replacement of gasoline engines with diesel ones in passenger vehicles, with the unintended–but totes foreseeable–result of increased particulate emissions (and widespread fraud by automakers to conceal that). Europe had to jettison that policy, so it has substituted another: eliminating ICE vehicles altogether. I’m sure that will work out swell.
Another that I find particularly rich is the sulfur standards for marine fuels introduced in 2020. In another unintended (but again foreseeable) consequence, the resulting reduction in particulate emissions is allegedly contributing to global warming. The irony behind this (compounded by the fact that efuels funder Bill Gates is also a fan of this technology) is demonstrated by serious proposals–recently experimented with–to inject particulates into the atmosphere to, yes, mitigate global warming.
So why do governments repeatedly adopt excessively costly policies to address putative problems? One part of the answer is hubris combined with the knowledge problem: they think they know a lot more than they do. But that’s not the entire answer.
At root, I think the more fundamental driver is public choice-related. Specifically, specific technologies have specific constituencies who would benefit from their subsidization (or other forms of policy support). They exert influence on legislators and bureaucrats to implement policies that favor them. (It is not a coincidence, comrades, that Bill Gates and the like have connections with many of these schemes.)
In contrast the effects of policies such as a carbon tax or cap and trade are much more diffuse and far less predictable because the ultimate outcome would be determined by market processes in a complex system. Adjustments would occur on myriad margins, not just by large firms but billions of individuals. The winners and losers in such a process are unknown, unknowable, and highly diffuse–these are not the concentrated interests that exert disproportionate influence on public policy.
(NB: I am not endorsing a carbon tax or cap and trade. I merely assert that they would be better ways of reducing carbon emissions than subsidizing or mandating technologies to do so. An exercise in the Theory of the Second Worst, if you will.)
In sum, political systems produce bad “solutions” to problems because of the very nature of politics, a nature that Mancur Olson and others pointed out years ago. A nature in which “public choice” means that the public gets screwed.
