Economic Dreams - Economic Nightmares

Ethanol: Whose subsidy? At what cost?

Foreign Policy, March 7, 2006 features The Green Bullet by Lester B. Lave, W. Michael Griffin. The authors begin: "There's a straightforward way for Washington to end America’s addiction to foreign oil, while reducing greenhouse gas emissions and resolving the impasse on international trade: Turn farm subsides into fuel subsides." Then they offer up minor "economic" and "environmental" roadblocks, that they easily dismiss:

...So what’s the catch? Corn farming is rough on the environment. Soil erosion due to wind and water is rampant. Fertilizer and pesticide runoffs produce algae blooms that result in “dead zones,” including one in the Gulf of Mexico that is so polluted it cannot support aquatic life. Furthermore, building the ethanol processing plants will take 3–4 years, and gas stations would have to commit to providing ethanol. And, because ethanol uses only the starch in corn, not the oil, protein, or other components, converting corn into ethanol is attractive only if there is a market for the byproducts. Opinions differ, but some estimate that byproduct markets could saturate well short of 11 billion gallons of production.

Fortunately, the surplus corn that isn’t economic to convert to ethanol doesn’t have to be grown, because it could easily be replaced with switchgrass. The prairie grass that President Bush mentioned in the 2006 State of the Union Address is naturally resistant to many pests and diseases, requiring far smaller amounts of chemicals and fertilizers. It’s also drought-tolerant and can grow in poor soil. Most important, it can be used to produce ethanol. If the current federal subsidy given to corn were extended to switchgrass, farmers would realize approximately the same income per acre as they do growing corn today. The new crop would use less fertilizer and pesticides, resulting in less erosion. Fertilizer and pesticide runoff would be dramatically reduced, and much of our motor fuel would be renewable.

To be sure, producing ethanol from switchgrass uses new technology that isn’t fully developed. There are pioneer plants in Canada and Brazil, but the costs of commercial production are unclear.

… And the best part: It can be done without Washington spending a dime more than it already does.

Others are not so sanguine. Robert Bryce's Corn Dog, Slate, July 19, 2005, is subtitled "The ethanol subsidy is worse than you can imagine." Bryce cuts quickly to the chase:

...The stickiest question about ethanol is this: Does making alcohol from grain or plant waste really create any new energy?

The answer, of course, depends upon whom you ask. The ethanol lobby claims there's a 30 percent net gain in BTUs from ethanol made from corn. Other boosters, including Woolsey, claim there are huge energy gains (as much as 700 percent) to be had by making ethanol from grass.

But the ethanol critics have shown that the industry calculations are bogus. David Pimentel, a professor of ecology at Cornell University who has been studying grain alcohol for 20 years, and Tad Patzek, an engineering professor at the University of California, Berkeley, co-wrote a recent report that estimates that making ethanol from corn requires 29 percent more fossil energy than the ethanol fuel itself actually contains.

See also Science Daily, April 1, 2005 , Study: Ethanol Production Consumes Six Units Of Energy To Produce Just One,
And, especially, Ted Patzek's collection of Biofuel Literature.

Obviously my bias lies with the skeptics. Are we wrong?

Posted first on Ecological Economics

Stiglitz on 'The Moral Consequences of Economic Growth'

In his Foreign Affairs review of Benjamin Friedman's The Moral Consequences of Economic Growth, George Stiglitz endorses Friedman's thesis that the ultimate "[economic growth] question should be, are there policies that can promote what might be called moral growth—growth that is sustainable, that increases living standards not just today but for future generations as well, and that leads to a more tolerant, open society?" Stiglitz emphasizes that "debate should not be centered on whether one is in favor of growth or against it," but rather on what type qualitative growth we ought to strive for.

Stiglitz has some quibbles with (or extensions to) Friedman's book, but overall Stiglitz praises it. Here is one: "Meanwhile, Friedman's contention that growth brings with it the virtues of greater openness and tolerance invites these questions: Is the United States, as it becomes richer, becoming more open and tolerant? Do openness and tolerance entail putting equal weight on modern science and pre-Enlightenment views?"

Stiglitz immediately follows with: "Friedman is right, however, in arguing that democracy is less sustainable in poor countries," concluding that the US should invest in poor countries with intent on helping them help themselves and lead by good, rather than bad example.

Here are a few snips:

…Unlike so many growth proponents, Friedman realizes that what matters is not simply growth; it is the policies that give rise to it. His work thus provides an important critique of those studies (such as at least one prominent World Bank study by Paul Collier and David Dollar) that correlate growth and poverty reduction or growth and integration into the global economy. For the most part, the policy decision facing governments is not to grow or not to grow or to integrate or not to integrate (though politicians often try to oversimplify in that way). The questions are more specific: whether or not to reduce tariffs, whether or not to liberalize capital markets, whether or not to invest more in research and development, whether or not to spend more on education. And the answers are less clear. Some of these policies may promote growth in ways that will increase poverty; others may promote growth in ways that will reduce it. Some growth strategies may be good for the environment; others may not be.

In short, the debate should not be centered on whether one is in favor of growth or against it. The question should be, are there policies that can promote what might be called moral growth—growth that is sustainable, that increases living standards not just today but for future generations as well, and that leads to a more tolerant, open society? Also, what can be done to ensure that the benefits of growth are shared equitably, creating a society with more social justice and solidarity rather than one with deep rifts and cleavages of the kind that became so apparent in New Orleans in the aftermath of Hurricane Katrina?

…Friedman ends his book, which covers a delightfully wide range of topics, with an analysis of the kinds of policies that the United States might pursue to achieve his vision of moral growth. This discussion is simultaneously optimistic and pessimistic. The policies are clearly within our grasp. Yet they are a far cry from the policies the United States has been pursuing in recent years—which have led to a double whammy, simultaneously stifling growth (the most damaging consequences of which may lie years in the future) and creating a society marked by greater social injustice.

Among the developed countries, the United States has been doing well in the growth sweepstakes—or so you might assume if you focused exclusively on GDP. GDP statistics, however, can be very misleading. They do not really measure how well the country is doing or how much better off its citizens are becoming.

…Friedman's book is thus an important antidote to the populist antigrowth movement and also to those who say that the free market is all we need. It joins a growing chorus calling for a change in the direction of U.S. economic policy -- toward achieving growth that is stronger and more sustainable. Whether or not you agree with Friedman's particular policy prescriptions, this much is clear: this kind of reasoned analysis is precisely what is necessary to put the United States back on the right track.

Some have argued (here and here) that Stiglitz errs in his critique of unfettered 'free markets' and what he calls "the myth of the invisible hand." I disagree and admire the work of both Stiglitz and Freidman—while admitting that I’ve not yet read Friedman’s latest. So many books, so little time!

Efficient Markets, Spin, Speculative frenzy, …

I’ve been reading The Father of Spin. It’s about Edward L. Bernays and others who lay claim to the title in the USA. Bernays was the nephew of Sigmund Freud, who would likely have been displeased to see how Bernays used Freud’s ideas not on individuals but on broader groups, even whole societies to create preferences for products as diverse as bacon, cigarettes, and even political candidates. The point for us to remember is that preference are not “given” but are molded and shaped in the course of public deliberation and, regrettably, by advertising and other propaganda campaigns. But what does any of this have to do with efficient markets?

The efficient market hypothesis (EMH) has, arguably, guided much of the thinking and theorizing about market mechanisms for some years. According to “The Efficient Market Hypothesis on Trial: A Survey,” by Philip S. Russel and Violet M. Torby,

“The EMH has provided the theoretical basis for much of the financial market research during the seventies and the eighties.” But the EMH is being questioned more and more again because of the influence of psychological behavioral studies.

Bernays “spin” is but one of the problems with the framing that sits behind the efficient market hypothesis, and other neoclassical economics assumptions. The point here is to cast doubt both on the short-term efficiency of markets and on assumptions of human rationality that underlie much of economic theorizing. It isn’t that it’s all wrong, but that it ought to be taken with a grain of salt if not aspirin. Neoclassical theory is one way to think about humans, and for longer term views it may have some value, but one ought not to bet one’s life or one’s retirement on it. As the ‘EMH on Trial’ points out, it may be better to be informed by the fact that in the long run things tend to work around an efficient market trend, but remember, as did Keynes that markets can stay aberrant longer than any of us can stay solvent.

Speculative frenzy or irrational optimism, and irrational pessimism that often sets in after bubbles burst, and wrenches its way deeper into the mind whey secular bear markets play themselves out, are part of the cognitive psychology that sits in the mind of “efficient markets” critics. So each of us ought not to let such thinking be far from our thoughts either.

When we hear economists laying claim to ideas of improving efficiency, or stock market cheerleaders telling us stories of new economy, we had better beware. We had better remember that spin and politics go hand in hand, that crony capitalism is the name of at least part of the game here, and that kleptocracy is the name of the game writ large throughout history.

Government is not all bad. Business is not all bad. Even corporations are not bad (well we might draw a line here unless the court system repeals excessive rights now granted to corporations).
But none is all good either. Neither can any of us as individuals claim to be other than an enigma—some good, some evil.

With that in mind, let’s look at contemporary America through the eyes of William Greider, author of Secrets of the Temple: How the Federal Reserve Runs the Country, and One World Ready or Not. Greider’s “America’s Truth Deficit” tells us to beware of media spin. Greider also tells us to beware of economics spin, political spin, …. Here are the concluding paragraphs of Greider’s article:

…Washington defines "national interest" primarily in terms of advancing the global reach of our multinational enterprises. Elites are persuaded by the reigning orthodoxy that subsidiary domestic interests will ultimately benefit too. The distinctive power of America's globalized companies is reflected in trade patterns. Nearly half of American exports and imports are not traded in open markets - the price auction idealized by neoclassical economics - but within the companies themselves, moving materials and components back and forth among their far-flung factories. A trade deficit does not show on the company's balance sheet, only on the nation's. In recent years, much of the trade deficit has reflected the value-added production and jobs that companies moved elsewhere.

The United States is thus especially vulnerable to the downward pressures on working-class wages that exist on both ends of the global system. American producers are generally free - and even encouraged by Washington - to shift production to low-wage locations. Companies regularly use this cost-cutting technique as a competitive weapon without regard to the domestic consequences. The practice works for companies and investors, but not so well for a nation.

INDEED, the cumulative effects of retarding labor incomes worldwide repeatedly threatens stagnation or worse for the entire system. Workers, to put it crudely, cannot buy what the world can make. Too much capital leads to the speculative "bubbles" that bounce around the world, visiting financial crisis on rich and poor alike.

At a different moment in history, American leadership might have stepped up to these disorders and led the way to solutions. If globalization is to continue without encountering more crisis and random destruction, governments must together shift the balance of power so labor incomes can rise in step with rising productivity and profits. If the United States is to avert its own reckoning, it must take decisive action to draw firm limits on its exposure to trade deficits, that is, resign its position as the open-armed buyer of last resort. In effect, Washington would also reform its own national interest imperatives so that they more closely resemble what other nations already embrace. Ultimately, American remedial action may protect the global system from its own crisis - the moment when trading partners discover they have just lost their best customer.

But to describe plausible remedies is to explain why none are likely. The webs of mutual interests connecting government, corporate boardrooms and Wall Street are too deeply woven, as are habits of thought among policy makers and politicians. So I do not expect anything fundamental will be altered in time. We are going to find out if the dissenters are right.

And to dispel in advance any thoughts that either Greider or I harbor angst exclusively against those now in power, consider Greider’s similar icy blast against the economics theory under girding the last Administration:

Finally, more extended and “wonkish,” here are a few snippets from “The Efficient Market Hypothesis on Trial”

A Credible Cost-Benefit Analysis

In my economics practice, I have spent the last 25+ years blasting cost-benefit analysis. E.g., here. Most recently in comments on CBA posts over at the Environmental Economics weblog.

Today, however, I would like to daylight a cost-benefit analysis example I found to be informative and credible. It comes from the American Bar Association’s May/June 2005 Environment, Energy, and Natural Resources Newsletter (Trends): "Green buildings: An overview and recent developments" [pdf], Edna Sussman

What I like about Sussman’s write-up is that it immediately sets the context : Depletion of natural resources and pollution of the planet require us to take a close look at our societal standards, including building standards. Sussman highlights the Redefining Progress report on how various countries fare on sustainability account. US fares poorly, ranking 45th worldwide.

Then Susmann talks specifically about green building design, a rating system that shows promise, and the many communities across the US that currently require the LEED (Leadership in Energy and Environmental Design) Green Building Rating System standards be incorporated into public and some private construction.

After context has been set, there are two sections for "Costs of green buildings," including life-cycle costs and "Benefits of green buildings," including water conservation, emission reduction, waste reduction, and health and productivity improvement. The two sections conclude, somewhat independently:

… found a minimal average cost increase of about 2.00 percent. When the many ancillary benefits of green building are added to the analysis, the case for building green is compelling. … With the many benefits of green buildings, incentives to promote green buildings have already been initiated in many jurisdictions. These incentives can often be used to drive down the costs of building green even more."

Guess what? No claims of "economic efficiency" gains, no grand index is developed, no discounting is employed. Nada! What a refreshing change from standard-fare cost-benefit analysis.

What if the cost differences had been, say 20 percent instead of 2 percent? Would it have helped the "green" case to have brought in the wizards of Cost-Benefit Analysis? I doubt it. And it might have hurt the case, particularly with all the recent media focus stigmatizing corporate moguls, accountants, and others for "cooking the books."

Problems in Measuring Efficiency

I have been engaging folks over at Environmental Economics on matters of analysis and decision-making methods. Today, in a post titled "More on Benefit Cost Analysis," I noticed, among other things, this line:

[Since the benefits of the project exceed the costs], the environmental economist would conclude that siting the plant is a good idea (i.e., it improves economic efficiency). This information is advisory. Politicians and other decision makers are free to make whatever decision they'd like.

I expect that my and other comments on an earlier post led to the disclaimer. But what struck me as odd was the allegation that "it improves economic efficiency." How so?

Suppose I am a business owner and I decide that a particular investment will improve my bottom line by by X. Does that mean that I’ve improved the efficiency of my operation by X? Does it mean I've improved the efficiency of my opertion at all? I don’t think so. Would it do so for a government agency? I don’t think so. How does one then jump to a place where I could claim I’ve improved “economic efficiency?” Strange jargon from these environmental economists methinks.

My ongoing concerns are detailed in a little thing I worked up this spring for my Forest Service economist counterparts. Since it, like most my writing is not published (neither polished), here it is:

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Problems in Measuring Efficiency: A chronology
Dave Iverson

Criticisms abound relative to the measurement and meaning of economic efficiency. I will point to a few of these and invite others to counter my claims that we need to rethink our practice in what is frequently called "efficiency analysis." Maybe we don’t need to rethink our practice, but rather we need to “better explain what we do and why we do it.” Or maybe we are just fine the way we are. First let me lay out a bit of the history that led us to where we now stand.

Storm Clouds Gather Around “Efficiency”
In the early part of 20th Century USA there was a near-consensus social movement toward “growth and development.” Calls for “efficiency” were heard throughout the land, and no wonder given how wasteful we had been with our nation’s natural resources.

In 1959 Samuel Hays shed light on this era in Conservation and the Gospel of Efficiency: 1890-1920. In a chapter titled, “The Conservation Crusade,” under a heading “The Gospel of Efficient Planning,” Hays says:

The conservation movement was closely associated with other organizations which attempted to promote efficiency. …. They applauded heartily when [President Theodore Roosevelt] sought to bring order, efficiency, and business methods into government. ….

Concern for the elimination of natural resource waste contributed to a wider gospel of efficiency in every phase of human life. Joseph N. Teal, a prominent Oregon conservationist, for example, declared, “I hope that the time will come when efficiency in all directions will be given consideration. When that time comes we will begin to get our money’s worth for what we spend.” ⁷ … The editor of an engineering journal which heartily supported resource conservation proclaimed: “The Millennium will have been reached when humanity shall have learned to eliminate all useless waste…. When humanity shall have learned to apply the common sense and scientific rules of efficiency … then indeed will we be nearing the condition of perfect.” ⁸ And Theodore Roosevelt declared … in May 1908, “Finally, let us remember that the conservation of natural resources … is yet but part of another and greater problem … the problem of national efficiency, the patriotic duty of ensuring the safety and continuance of the Nation.” ⁹ (pp. 124-125, citations in original)

But the “near-consensus” was fleeting at best, and never all that real since, as Hays points out in concluding his book:

This conflict between the centralizing tendencies of effective economic organization and the decentralizing forces inherent in a multitude of geographical interests presented problems to challenge even the wisest statesman. The Theodore Roosevelt administration, essentially hostile to the wide distribution of decision-making, grappled with this problem but failed to solve it. Instead of recognizing the paradoxes which their own approach raised, conservationists choose merely to identify their opposition as “selfish interests.” Yet the conservation movement raised a fundamental question in American life: How can large-scale economic development be effective and at the same time fulfill the desire for significant grass-roots participation? How can the technical requirements of an increasingly complex society be adjusted to the need for the expression of partial and limited aims? This was the basic political problem which a technological age, the spirit of which the conservation movement fully embodied, bequeathed to American society. (pp 275-276).

Hays' questions have haunted us since, but we were often distracted:

• 1920s – We believed wrongly that we had a new economy on our hands and threw ourselves a great big party.
• 1930s – We suffered from the inevitable irrational pessimism that follows on the heels of irrational exuberance.
• 1940s – We forgot ourselves in the midst of World War Two, that some argue had roots, among other roots, in the mismanagement of American economy and society in the Twenties and Thirties, including the aftermath of World War One.
• 1950s – We were caught up in The American Dream that followed from being the only major county not bombed into the “stone age” in World War Two.
• 1960s – Then-latest attempts to homogenize American life during the Forties and Fifties came crashing down on our collective heads and shoulders as we grappled with pent-up issues of racial inequality, women’s rights, and student unrest.
• 1970s – We got Earth Day and a host of environmental laws and regulation to enhance our ability to deal with “externalities,” the social costs of industrial waste and unbridled development. Such regulatory framing served also to cloud the dream of “efficient resource use.”
• 1980s, 1990s – We seemed to be more oriented toward either getting rich or surviving as best we could while others we’re hell-bent on getting rich.
• 2000s – At the dawn of the New Century, the New Millennium, we seem to be fear-filled, and anxious on many levels as to how things will go from here. Nobody trusts government much, neither business corporations, neither one another.

Efficiency, Sustainability, Collaboration, Civic Engagement
Today, in the midst of what we are and what we’ve become, we grapple more with terms like sustainability, collaboration, and civic engagement than we do with efficiency. Mary Clark said it well, in 1990, at the first gathering of the clan that calls itself the International Society for Ecological Economics. Clark said, paraphrasing, “It’s time for a Gestalt Shift. It’s time to change the topic of conversation from growth and development, to sustainability.”

The quest for efficiency is still with us, as it should be. But we increasingly question our ability to come to terms with it in any algorithmic way. Some of us have rightly recognized that we deal with efficiency as a means to given social ends, rather than as an end in itself. To some extent is has always been such, but for a long time the ends seemed more as a given, than as something to be fought over in defining “public good.” Private good, or “individual good” does not go away and is grappled with alongside collective good as the body politic deals with defining itself.

Paradox On Many Levels
As Sustainability becomes the watchword for society and culture we find it hard to deal with. Sustainability tends toward paradox. So does collaboration, along with efficiency, productivity, ecosystem management, ecological economics, and a host of other popular terms and composites when we take time to delve into them. It seems that all we deal with these days is the stuff of paradox, interdependence, cross-scale interactions, etc. Maybe it’s time we learn to live with paradox and embed it into our practice. See, for example: Lance H. Gunderson and C.S. Holling’s Panarchy: Understanding Transformations in Human and Natural Systems, Hanna J. Cortner and Margaret A. Moote’s The Politics of Ecosystem Management.

Grappling with Economic Dilemmas

Today I ran across an interesting blog. It’s called Catallaxis: An Integral Economics Weblog

I found refreshing stuff about organizational learning applied to the framing of markets and market functioning embedded in social and political structures. I learned a bit about Daniel O’Connor’s struggle to better understand both the crisis and possibilities of economics in our emergent world, including insight into economic dilemmas: freedom vs. fairness, efficiency vs. effectiveness, and growth vs. sustainability.

I found much that compliments my own journey of understanding. And I found some interesting application of double- and triple-loop learning in an economics and market framework, particularly in his most recent post, “Asset Price Bubbles: Monetary Inflation and Leveraged Speculation” and in his background paper “Stable Instability”

Below find a few snippets from O’Connor’s site and his book: "A Crisis of Vision" (an introduction to Market Learning: Toward a more Integral Economics)