Why the Choice of Energy Sources Should Be Left to the Market after Externalities Are Taken into AccountAlan Carlin | September 13, 2009
One of the major problems with attempts by government to select winners in the selection of energy sources is that they are almost certain to select inefficient and quite possibly even environmentally inferior choices compared to leaving these choices to the workings of the market. The choice of energy sources is complicated, region specific, and subject to being influenced by the many special interests with something to gain by the choice made. Industries that make solar panels or windmill parts are more than likely to lobby for their particular solutions without regard for the larger national interest.
The national interest is not to satisfy various interest groups but to supply energy at the lowest possible cost after fully taking into account the adverse environmental effects of each alternative. Energy is an input to many products and services; higher cost energy increases the cost of these products and services, and makes them less competitive in the marketplace.
Cap and trade, if implemented without favoratism (a big if, of course), is one way to try to take into account the adverse environmental effects of energy use on climate change. But attempts to use this approach assume that there is a significant relationship, and that if there is, that we can accurately determine the exact “cap” that would avoid the alleged adverse effects of the resulting increased emissions of CO2. As explained in an earlier post, the hypothesis that there is a significant relationship is not supported by current observations. Hence there is currently no basis for a cap on CO2 emissions.
With some significant exceptions, the choice of energy sources to be built and used has traditionally been decided in the United States by the market rather than by government. In order to insure that the environmental effects of each source are fully taken into account it is necessary that the full social costs of these adverse effects be taken into account by those making the choices. This is ideally done by including these environmental costs in the price of energy from these sources.
Adverse Environmental Effects of Energy Sources Can Be Determined or at least Attempted
About 15 years ago several economists and I attempted to compare then existing taxes on various energy sources with the adverse environmental effects each of these sources cause. In doing so, we excluded solar, wind, and the possible adverse effects of CO2 on climate to simplify the effort. Our findings can be found here and more fully here. Generally speaking, we found that coal was somewhat “undertaxed,” gasoline was about neutral, and natural gas “overtaxed” compared to their adverse environmental effects. Now that we know that there are no significant adverse effects resulting from increased CO2 levels in the atmosphere (at least based on currently available information), the results from this earlier study appear to be as valid today as they were then (although they could be usefully updated and expanded to additional sources, of course). The National Academy of Sciences is now making such an effort.
So contrary to current efforts to impose “renewable energy standards” the most economically justifiable approach would be to adjust existing taxes on various energy sources to account for the adverse environmental effects that we know exist and allow the market to work its will. This effort might start with our previous findings and add the adverse environmental effects of solar and wind sources. For example, wind turbines take a significant toll on migratory bird species that needs to be taken into account to the extent possible.
Renewable Energy Standards Can Be Very Expensive
Many economic decisions are best left to the workings of the market. Since markets generally result in more economically efficient solutions it makes sense to use them to make those decisions rather than using politically-based decisions. The choice of energy sources is an excellent example.
Some politicians may regard renewable energy standards as a “free” consolation prize for environmentalists if cap and trade should be turned down. Unfortunately, it is far from free. It is likely to lead to higher energy costs for many years and quite possibly inferior environmental choices. Where the energy source is intermitant, such as wind and solar, the cost of building substitute sources to insure availability needs to be taken into account, as they would be in private markets.