Sometimes green incentives can have unintended consequences.
Our story begins in an airport. About to board a flight, an environmentally concerned individual purchases “carbon offsets.” Yes, that flight will pollute the air but the offset could be used to fund a project that reduces emissions. The offset purchase is the incentive. It encourages others to pollute less if the payment is more than the reduction costs. Yes?
Unfortunately, firms that produce air conditioning coolants figured out how to use payments for polluting less to pollute more. Located in countries ranging from India to Mexico, plants producing gases used in air conditioning and refrigeration started making more coolant than they otherwise would have produced. Then, by capturing and destroying harmful waste gases, they could get thousands of “waste gas credits” from the United Nations. Selling the credits made them millions of dollars. Meanwhile the buyer of the credits could now legally pollute. The result? Some of the producers are overproducing the coolant to get huge waste gas credit revenue.
Another air conditioning story that we looked at recently also had unintended consequences. Hoping to reduce pollution, Mexico subsidized low emission air conditioner and refrigerator purchases. Because they were so cheap, though and because electricity was also inexpensive, people ran them longer than the inefficient units they had previously used. The result? More emissions.
But the last chapter of our story has a happy ending. Its unlikely title is the Environmental Kuznets Curve. Connecting more affluence in poor nations to pollution, the curve reflects data showing that as people become richer, first their country pollutes more and then it pollutes less. Why? More affluent households have greater political power. More affluent countries have the resources to lower pollution. The turn around point seems to be average annual income of $11,000 in 2007 dollars.
In a second happy ending, the European Union has announced that it will prohibit coolant producers from purchasing waste gas credits for manipulated emission reductions. I am concerned, though, that people will outmaneuver whatever solution regulators figure out as a replacement.
This academic paper and this paper tell more about Kuznets Curves. My facts about coolant producers are based on this excellent NY Times article. I also recommend 2 Teaching Company lectures from economist Robert Whaples about pollution.
Posted by: adminEcon
Tags: carbon credits, CO2, environment, environmental Kuznets curves, global warming, HFC-23, incentive, India, industrial gases, marginal analysis, pollution, United Nations
What to do when you’ve paid extra for an aisle seat and a person asks you to switch with his wife so that they can sit next to each other? Do you say yes or endure his irritation through the entire flight?
Watching, an economist might have cited a negative externality. The airline needed the revenue and the person in the aisle seat wanted more legroom. Between 2 parties, the transaction was satisfactory. Then, though, the negative externality materialized when a third individual became unhappily involved. The third individual also “paid” for the aisle seat through his inconvenience.
A negative externality represents the cost “paid” by an uninvolved third party. Not being able to study in a dormitory because of loud music and respiratory ailments from factory emissions are examples of third party “cost.” On the other hand, a doctor and patient generate a positive externality, a benefit to others, through a vaccination.
As the proliferation of fees shifts our flying behavior, I wonder how much new externalities are adding to our cost.
Considered through economic lenses, this NY Times article and this Huffington Post article on airline preferential seating bring to mind many third party costs. Here, here and here, econlife looks at airline fees.
Please note that this post has been edited.
Located 30 miles from Cape Cod, Massachusetts, the island of Nantucket has no traffic lights. Instead, drivers respond to stop signs, rotaries and courtesy. More often than not, if a walker or a biker needs to cross the street, cars stop. When someone is making a left turn or leaving a parking lot, cars wait.
Nantucket’s lack of traffic lights started me thinking about Nobel laureate Elinor Ostrom who researched how we abuse the free goods that we share. Called the tragedy of the commons, in a communal pasture, we overgraze our cows. In a workplace refrigerator, we create a mess. Dr. Ostrom believed though, that when people care about their common pasture or refrigerator, the tragedy of the commons becomes a solvable problem of the commons.
Telling about a communal pasture in Switzerland, Dr. Ostrom explained how farmers avoided overgrazing by creating voluntary rules. “What we have ignored,” she said after her Nobel Prize was announced, “is what citizens can do . . . as opposed to just having someone in Washington or at a far, far distance make a rule.”
Perhaps Dr. Ostrom would have seen another example of her work in Nantucket. There have been no meetings in Nantucket for everyone to discuss our commonly “owned” roads and yet abuse is rare. Is it because we have a fundamental drive to cooperate that sometimes overrides our short-term self-interest?
Elinor Ostrom died on June 12. As the first woman to receive the Nobel Prize in economics, a political scientist, and someone who paused during a radio interview to go to her backyard to observe a beautiful deer, she sounds fascinating. You might want to read more about her work and life here. And, in a classic 1968 article, Garrett Hardin describes the tragedy if the commons.
Sometimes a nudge is not enough.
According to science writer Jonah Lehrer, society has to do more than “nudge” us when it wants to change our behavior. When Sacramento, California wanted to diminish energy usage by showing customers what their neighbors consumed, they hoped competition would spur results. Close to 1.5%, the decrease was slight.
Suggesting more persuasive alternatives, Carnegie Mellon behavioral economist George Loewenstein and Daniel Schwartz further discuss the “shove” we need to diminish carbon emissions. They say that the problem is the short-term/long-term trade off. Whether dealing with an attractive mortgage deal, a pastry vs. cottage cheese, or saving for retirement, many of us favor the short-term benefit.
Loewenstein and Schwartz believe that we have a “fear deficit” for climate change because our evolutionary fear system is a short-term device. We see the predator, the adrenaline surges and we run…fast. For long-term fear, we might be physiologically inadequate.
How then to get results? Loewenstein and Schwartz suggest a “shove” rather than a nudge through taxes and regulation. And then, to make the “shove” politically palatable, society could use the revenue stream appealingly.
The Economic Lesson
While psychologists cite a “fear deficit” as a cause of climate change inaction, for economists, the problem is the “free rider.” Let’s assume that Sue never turns her lights or her air conditioning off. Although her energy usage is astronomical, she assumes that her decisions will have little impact. Then, if everyone else is more environmentally disciplined, she can enjoy the benefits of their behavior. An economist would call Sue a free rider.
An Economic Question: Which “free rider” situations could you identify?
The environment or employment?
- Environmentally superior, they automatically transmit data about electricity usage. As a result, we can better manage our demand for energy.
- The tradeoff? Even including smart meter R & D, IT services, manufacture and installation, we would have a net job loss.
- The 2009 Stimulus Act’s $4 billion allocation to a smart grid was primarily for smart meters. According to recovery.gov, more than 5 million smart meters have been installed.
- Reducing CO2 emissions could have a substantial long-term impact on the well-being of millions of people.
- The Tradeoff? In the short-term, faced with new emissions control regulations, businesses tend to diminish investment and job creation. Discussed in this CBO report, emissions reduction from cap-and-trade tends to increase government spending, reduce government revenue, increase energy prices, and diminish jobs in industries that are high carbon emitters.
- President Obama reversed an EPA directive that sought to reduce ground level ozone levels.
You see where this is going. Discussed by NY Times columnist David Brooks here, environmental initiatives create dilemmas.
The Economic Lesson
You might want to listen to a good discussion of environmental dilemmas from a panel with diverse perspectives during this NPR Diane Rehm show podcast. As the discussion unfolds, it becomes increasingly evident that our environmental positions depend on our own incentives. For politicians is it votes? For industry, is it profits? For labor, jobs? And, you can see in this post, that during the recession, consumers bought fewer environmentally superior products because they were more expensive.
An Economic Question: For smart meter and current ground ozone level reduction, explain why you agree or disagree with the Obama administration.