Streetwise Professor

June 5, 2011

If You’re Wondering About That Slow Recovery

Filed under: Economics,Energy,Financial crisis,Politics,Regulation — The Professor @ 12:58 pm

Cheniere Energy is back in the news–and arguably, back from the dead.  Cheniere has been on a roller coaster for about 5 years–right along with the gas market.  In the mid-2000s, when the conventional forecast was that the US was facing gas shortages and persistently high prices, Cheniere was investing in facilities to import liquified natural gas and re-gasify it.  But then the financial crisis and the shale boom caused gas prices to crater, and Cheniere’s import terminal at Sabine Pass looked to be a white elephant.  But prices fell so far in the US relative to the rest of the world that the opposite play appeared promising.  And indeed, a couple of weeks back the company received permission to export LNG.  Its stock price doubled on the news.

Cheniere is looking to configure its facility to be capable of importing or exporting gas.  Like many physical assets, Cheniere’s facility is a real option.  Under the original plan, it was an option to transform foreign gas into domestic gas with a strike price equal to transportation and gasification costs.  With the ability to import or export, it is an option to transform foreign gas into domestic gas, or domestic gas into foreign gas, again with a strike price determined by transportation and transformation costs.

These options can be quite valuable given the volatility of relative prices in the US and elsewhere, with relative price volatility being driven by technology shocks, the development of new fields–and notably, politics.  Developments like Germany’s shutting down of its nukes or the UK’s imposition of punishing taxes on North Sea extraction can have profound effects on relative prices that affect the profitability of real options like those possessed by Cheniere.

Although political developments and uncertainties generate volatility that enhances the value of real options like Cheniere’s facility, politics may also pose its greatest challenge.  Greg Meyer of the FT, who wrote a good article on the company’s change in fortune, pointed out to me this language in the Department of Energy’s decision approving Cheniere’s application to export gas:

We intend to monitor those conditions in the future to ensure that the exports of LNG authorized herein and in any future authorizations of natural gas exports do not subsequently lead to a reduction in the supply of natural gas needed to meet essential domestic needs. The cumulative impact of these export authorizations could pose a threat to the public interest. DOE is authorized, after opportunity for a hearing and for good cause shown, to take action as is necessary or appropriate should circumstances warrant it. Furthermore, DOE/FE will evaluate the cumulative impact of the instant authorization and any future authorizations for export authority when considering any subsequent application for such authority.

This is mercantilist.  No–it is Putinist.  It is a threat to do in the US gas market what Putin did with the Russian grain market–cut off exports in order to depress domestic prices in order to favor particular domestic constituencies.  It is a threat to micromanage trade–transactions undertaken by consenting adults for mutual advantage–through coercion.  It is contrary to free trade principles that the US often piously promotes in lectures to others, but all too often flouts in practice itself.

It is also a piece with this administration’s modus operendiwhat Richard Epstein calls “government by waiver” in this typically incisive article.  A government agency arrogates to itself the discretion to permit or disallow individuals and firms to engage in voluntary transactions, with only the vaguest statement of the criteria it will use to make these decisions.  Decisions that can make someone wealthy–or ruin them.  Note that there is not even an assertion–let alone a proof–of a real externality (as opposed to a pecuniary, distributive one) to justify this threat of intervention.  This is purely a threat to use coercion to achieve a politically desirable distribution of wealth between producers and consumers of natural gas.

“Good cause.”  “Threat to the public interest.”  “Essential domestic needs.”  In whose eyes?  Under what criteria?  What public?

All this really means is: we will do what we want when we want for whatever damn reason we want.  It is, as Epstein argues, the antithesis of the rule of law in which general principles are applied uniformly and impersonally; it is a return to the personalized, arbitrary, natural state.  It bears creepy similarities to Putinism.

And as such, it will have–is having–the same consequences.  The DOE’s ominous statement puts Cheniere and any other company thinking about exporting natural gas on notice that a sword of Damocles hangs by a hair over its head.  But this is just one company, one hair, one sword.  There are tens of thousands of swords, tens of thousands of hairs, tens of thousands of companies.  More even: as Epstein notes, Obamacare dangles a sword over every company–and every person–in the US.  Dodd-Frank does the same in financial markets.

The threat of arbitrary government action poses grave risks to every company subject to it.  Which is to say every company, with the risks becoming greater by the day.

This cannot fail to have a depressing effect on investment and hiring.  Given the moribund recovery from the Great Recession–a recovery that was never robust, and which is sputtering noticeably today–it is reasonable to conjecture that there is a link between the hyperactive regulatory policies of this administration and anemic economic performance.  Robert Lucas notes that what made the Great Depression great was not its initial severity, but the failure to recover from it, a failure that persisted for almost a decade.  Lucas conjectures (and he is not alone in this*) that the hyperactivity of the Roosevelt administration–and yes, the Hoover administration before it, conventional wisdom on this score being laughably wrong–prevented recovery from a crash initially caused by faulty monetary policy.  He further conjectures that the eerily similar failure of the US economy to bounce back from the Great Recession is the direct result of “harmful real policies” and “the demonization of business.”

His list of destructive policies, which mirror’s Epstein’s, makes depressing reading:

• Believe it is more accurate to say that the problem is government is doing too much

• Again, I see analogies to the U.S. of the 1930s

• Likelihood of much higher taxes, focused on the “rich”

• Medical legislation that promises large increase in role of government

• Financial legislation that assigns vast, poorly-de?ned responsibilities to Fed, others [this is another example of the Epstein discretion point]

• Are these conditions that foster a revival in business investment, consumer spending?**

Are they indeed.

When every regulator at every government agency has the power–and the active encouragement of the political authorities–to say “Nice little business you got here.  Wouldn’t want anything to happen to it, would you?” one should not be surprised that these businesses are reluctant to invest or hire.  Not in Putin’s Russia.  Not in Obama’s United States.

* Robert Higgs has been the most forceful advocate of this view.  Harold Cole and Lee Ohanian have performed substantial empirical research that supports this contention.  With respect to the L-shaped “recovery” in the US, I argued here on SWP early in the Obama administration that its regulatory onslaught would lead to such an outcome.

** The list could, of course, be expanded dramatically.  It could include, for instance, the flouting of bankruptcy law and the expropriation of creditors as with Chyrsler and GM, and the outrageous decision of the NLRB to prevent Boeing from opening an assembly line in South Carolina.

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  1. “Lucas conjectures (and he is not alone in this*) that the hyperactivity of the Roosevelt administration–and yes, the Hoover administration before it, conventional wisdom on this score being laughably wrong–prevented recovery from a crash initially caused by faulty monetary policy.”

    What were the yearly rates of economic growth during the Hoover Administration?

    What were the yearly rates of economic growth during Roosevelt’s first two terms?

    In the post WWII period, has the US economy ever grown as fast as it was growing during Roosevelt’s first term?

    Comment by A — June 5, 2011 @ 5:30 pm

  2. In Cheniere’s submission to export LNG, it had to state what impact, if any, approval might have on domestic gas availability and how exports would be in the public interest (that’s required by law). See page 16 of the application on the DOE/FE website (
    Cheniere said its exports will be small compared with total domestic production and the gas market.
    Lots of other firms are expected to make similar applications. Looked at individually, none of these will have much an impact on domestic gas availability or prices.
    But COLLECTIVELY they could have a substantial impact if they are all granted.
    All DOE/FE is saying is that it reserves the right to judge the applications and reconsider in the light of ALL the circumstances.
    It is trying to adopt an intelligent approach to regulation. It’s a pity that other regulators have not done the same in the past.
    Why is that so bad?
    Maybe it would be better to have completely free trade in natural gas (and crude oil?) so that U.S. prices are equalised with those in the rest of the world. But that is not what the law currently requires. DOE is merely doing its job as mandated by Congress.
    If the law is to be changed, that’s a job for Congress, not the DOE.

    Comment by John Kemp — June 6, 2011 @ 11:06 am

  3. If that’s the law, the law’s an ass. Yes, it would be better to have free trade–that’s a no brainer. An intelligent approach to regulation–often an oxymoron. ALL the circumstances . . . I’m sure politics and rent seeking will have nothing to do with it.

    You’re missing the pattern here–that’s a major point of the post (e.g, the links to Epstein and Lucas). You’re also missing the fact that the vast discretion that the DOE is arrogating to itself makes it very difficult for anybody to plan sensibly, and to invest in the confidence that they will not be hammered later by a regulator that is not acting intelligently. Indeed, you effectively concede this point when you acknowledge that “regulators have not done the same [i.e., acted intelligently] in the past.” Given that regulators regularly act stupidly or venally or in response to rent seeking pressures–which you admit, as I say–how can you possibly be so insouciant with the prospect of the DOE acting intelligently in the future? Especially a DOE that is part of this administration?

    Again, you concede the point. Companies collectively may want to do things that impact the domestic price of gas. (A) So what? and (B) How are they to know what the magic number is? Especially as each is operating independently of the other. This uncertainty dramatically raises the risks of making investment plans and committing capital.

    There is potentially–potentially–a role for regulation to deal with problems such as externalities. But as I note in the post, DOE does not make any statement about the existence of such externalities. This is an exercise in threatened price control via export control, done in a way that maximizes uncertainty. Price control is illegitimate, wealth destroying use of regulatory power.

    It’s horrible policy, and whether it’s DOE that is primarily at fault or Congress I really don’t give a damn. And as I say, it is part of a pattern that is plausibly a major contributor to the non-recovery recovery.

    The ProfessorComment by The Professor — June 6, 2011 @ 1:31 pm

  4. The DOE has been and is a COMPLETE waste of money. It is laughable to consider its expressed purpose as defined by Jimmy Carter and what has transpired since its creation.

    I am in a hotel now and watching Weiner give his disgusting mea culpa-sorry for the offtopic.

    Comment by pahoben — June 6, 2011 @ 2:30 pm

  5. @pahoben–re watching press conference at the hotel. . . do you have to watch on one of the pay-per-view porn channels? 🙂

    The ProfessorComment by The Professor — June 6, 2011 @ 2:45 pm

  6. Very funny

    Comment by pahoben — June 6, 2011 @ 2:50 pm

  7. pahoben wrote, “4.The DOE has been and is a COMPLETE waste of money.”

    Huh. And here I thought that more than half of DOE spending was on nuclear warheads and related matters. I guess we should completely defund that, too?

    Comment by liberal — June 6, 2011 @ 8:55 pm

  8. “What were the yearly rates of economic growth during the Hoover Administration?”

    “What were the yearly rates of economic growth during Roosevelt’s first two terms?”


    “In the post WWII period, has the US economy ever grown as fast as it was growing during Roosevelt’s first term?”


    Comment by A — June 7, 2011 @ 4:21 am

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