Generator permits again

As we move into climate change debate season again, a timely post from Greg Mankiw about an issue that appears to be dividing the Government and, at least, the climate change activist part of the Coalition.

In discussing climate change legislation over at his blog, Paul Krugman says something that I believe to be correct, but he does not fully draw out the logical implications of what he says. Here what Paul writes:

And the burden on households from cap and trade depends on what’s done with the rents. In the original Obama plan, the rents would be used to pay for middle-class tax cuts; in Waxman-Markey, many of the permits are initially granted to utilities — but since these utilities’ profits are regulated, many of the rents would end up being passed on to consumers through lower prices.

In my view, that is a bug, not a feature, of the Waxman-Markey bill. From the standpoint of economic efficiency, the price of carbon emissions should be passed on to consumers in the form of higher energy prices, so that consumers can make optimal decisions regarding energy consumption. Consumers should be compensated for paying these higher prices via cuts in income or payroll taxes. Those tax cuts would be financed by the revenues received from the auctioning of carbon rights (or, better yet, a carbon tax).

To promote an efficient allocation of scarce resources, relative prices should reflect true social costs. Shielding consumers via the regulatory process, rather than through tax cuts, fails to achieve that goal and, as a result, makes environmental protection more costly than it needs to be.

You will recall that the Coalition falls on the ‘feature’ side of this issue. I think it would be a bug.

5 thoughts on “Generator permits again”

  1. I am not familiar with the detail of either of the US proposals, nor our the Australian proposed bill. I am familiar with the rhetoric however. The coalition argument on this point has always struck me as economically odd if somewhat politically understandable. It seems obvious to me that Utilities should not receive special status presicely for the reasons the coalition claims they should.


  2. Johusa:
    <i>To promote an efficient allocation of scarce resources, relative prices should reflect true social costs.</i>
    Umm okay. Can you quantify it?


  3. The other way to tackle the problem is rather than paying more for energy that pollutes we charge less for non polluting energy. How can we do that? As the 80%+ of renewable energy costs are capital costs we could charge less finance for renewable energy plants but we compensate by paying back more over the long term.
    This can be done by charging zero interest on loans to build a renewable plant but requiring say 150% of the loan to be repaid.
    With zero interest loans to build a solar power plant (or almost any renewable ) the wholesale cost of energy is 1 cent per kwh at the factory gate. As the NSW average wholesale cost is 6 cents per kwh there is plenty of scope for renewables to repay their zero interest loans quickly. The renewables that will be built will be the ones that give the most return over a long period. That is we have taken out the time value of money from the investment equation and have biased investment to long term benefit – not short term financial gain.


  4. $64k question – is the Australian Government actually proposing to reduce distortionary taxes? If they are not, then a further distortion is introduced with associated welfare costs.


    Electricity is too cheap in Australia.  It is a simple price distortion that we don’t include the cost of carbon.  Any solution that doesn’t pass through the full variable cost is lacking bite.
    Energy efficiency only starts to matter when you pay the full energy cost.  If the cost of energy doubles, it halves the pay-back time of any efficiency upgrade.
    Pass through the full cost of electricity and raise the tax-free threshold to compensate.
    Industry support needs to be gradually phased out over say 20 years.  Lots of those industries don’t have a permenant future, support is simply about getting workers to transition and letting the coal industry die with dignity after many productive years.


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