Economic Effects of Environmental Regulation

Jeffry Dorfman, an agricultural economist at the University of Georgia, weighed in on Obama's proposed environmental regulations at Real Clear Markets.  After discussing the fact that the environmental effects are probably smaller and more nuanced than most people expect, the got to the economics of the issue:

First, rising energy prices. A fascinating part of the special-interest coalition that makes up the Democratic Party is how many of its groups have aims which are at odds with another coalition partner. Environmental groups advocate a set of policies that uniformly hurt poor people. Environmental protection is essentially a luxury good. If you have enough money to provide food, clothing, and shelter for your family, then you start to care about the environment.

Krugman and I can both afford to pay a little more on our electricity bill and when we fill up our gas tanks, but those higher energy costs are regressive. Poor people spend a higher percentage of their income on energy bills, so raising those costs in order to improve the environment means that the poor will feel more pain than those with higher incomes. If we were talking about tax policy, no liberal would forget to mention the poor and how the rich should carry more of the burden. Yet, somehow, on environmental policy most liberals favor policies which hurt the very people they normally want to help.

Then he gets into the broken-window fallacy - that somehow by forcing companies to invest in new equipment, everyone can be made better off.  

Now if we build a brand new power plant while continuing to operate all the ones we have, that can lead to economic growth because we are increasing the productive capacity of the economy. But shutting down a plant that is fine in every way except for producing emissions that worry some people is the same as when a natural disaster destroys property. Something that had value no longer exists. The idea that replacing the previous item leads to economic growth is one of the most basic fallacies in all of economics, known as the broken window fallacy.

The Eli Lehrer in the Weekly Standard also had an interesting response to Obama's proposed environmental regulations. Here is one snippet:

Indeed, if free-market conservatives really want evidence of climate change, they ought to look towards the insurance markets that would bear much of the cost of catastrophic climate change. All three of the major insurance modeling firms and every global insurance company incorporate human-caused climate change into their projections of current and future weather patterns. The big business that has the most to lose from climate change, and that would reap the biggest rewards if it were somehow solved tomorrow, has universally decided that climate change is a real problem. An insurance company that ignored climate change predictions could, in the short term, make a lot of money by underpricing its competition on a wide range of products. Not a single firm has done this.

and yet, Lehrer rightly says:

The scientific consensus that exists about the causes and effects of climate change can’t point to an optimal policy solution any more than improvements in heart surgery techniques can provide guidance on health care reform.

Agricultural Policy Distortions

Which sector in the economy accounts for 70% of the global cost of trade distortions but only 3% of global GDP?  Agriculture.    

Kym Anderson, Gordon Rausser, and Jo Swinnen have an excellent review article in the newest issue of the Journal of Economic Literature on agricultural policy worldwide.  They reveal that agricultural markets are among the most distorted in the world, recent price spikes have been amplified by agricultural policies, and some of the poorest people in the world are hurt by agricultural policies in developing and developed countries alike.  

A few of quotes: 

For advanced economies, the most commonly articulated reason to restrict food  trade has been to protect domestic producers from import competition as they come under competitive pressure to shed labor. However, such measures harm not only domestic consumers and exporters of other products but also foreign producers and traders of food products. Accordingly, these measures also diminish national and global economic welfare

and

policies in developing countries have not been motivated by a desire to alleviate poverty in their rural areas (where most of the world’s poor reside) any more than have been the policies of developed countries.

and

In developed countries, agricultural policy remains disproportionately important compared to the relatively small shares of the upstream agriculture component in GDP and employment. For example, the Common Agricultural Policy (CAP) continues to absorb 40 percent of the entire EU budget

The paper is chock full of fascinating figures on trade distortions in agriculture, such as this one on international comparisons of relative rates of assistance (RRA), which measure the policy-induced price distortions in agriculture relative to a country's non-agricultural policy-induced price distortions.  A positive number means a country's policies are pushing up agricultural prices relative to the world price (and relative to non-agricultural sectors); a negative number implies the opposite.  The larger the number in absolute value, the bigger the distortion and thus the larger the misallocation of resources.

What Do Regular People Want Out of the Farm Bill?

One of the things I vividly remember learning in my first class on agricultural policy was that the farm bill is a result of a political compromise.  As the story goes, including food stamps in the farm bill encourages support from urban legislators while the farm support provisions bring in the more rural legislators (farmers benefit from food stamps too by poorer consumers having more money to spend on food).  The farm bill is a grand compromise of sorts - a comprise funded by the taxpayers.

After a long run, it appears this compromise might be breaking down.  Much has been written in the past couple weeks about the defeat of the farm bill in the House.  Here is one decent description at Forbes.com of the politics at play.  In short, Democrats were unhappy with the cuts to food assistance and the introduction of work requirements to get food stamps.  Some deficit-watching Republicans didn't think the cuts went far enough.  It is true that the cuts to food assistance were large in dollar terms (see the graphics in this Washington Post article) but if you place them in terms of a percentage reduction relative to the overall size of the farm-bill budget, they are actually smaller than cuts to some other areas.  The reasons is that food stamps and nutrition programs make up almost 80% of the farm bill budget.  

I've shared my general thoughts on farm programs in chapter 7 of the Food Police but here are a few more.  Although I realize it is probably politically infeasible (although perhaps less so given recent developments), it would seem to make some sense to me to separate the components of the farm bill and see if they can stand on their own.  Those advocating for food-stamp spending should make their case and put the money over in the Department of Health and Human Services.  Those advocating for farm supports should make arguments with merits that stand on their own grounds.  

Right now I'm not going to get into the merits and demerits of the current farm bill.  However, what I don't see reported much is what regular folk think.  A couple years ago, we conducted a survey on exactly this topic and the results are discussed in Choices Magazine, a publication of the Agricultural and Applied Economics Association.  In the survey, we posed the following questions to respondents: "Suppose the USDA gave you $100 to divide among its six budget categories. How much money would you give to each budget category? (If you would not give money to a certain category, please place a zero (0) in its box."  In essence, we asked people to make their own farm-bill budget.  For one group, we gave them information on the spending allocation by the USDA in 2008, for another group we didn't give them any information.  

Although people prefer a lot of support for food assistance (28% or 20% of the budget depending on information) , this is much lower than current farm bill proposed allocation (almost 80%).  Moreover, here are the results from another question, where we simply asked people to indicate which category they thought was most important. 

Far and away, food safety and inspection was seen as most important. 

Now, I'm not saying we should set policy based on these kinds of survey responses (e.g., did people understand the FDA not the USDA handles a lot of the food safety and inspection issues in the country?; We didn't ask if they wanted the size of the pie to be larger or smaller, etc).  But I find them interesting nonetheless.  

Why don't people shop like they vote?

The fact that people are often willing to vote to ban items that they willingly buy in the supermarket is something of a paradox.  In the case of eggs from caged hens, about 63% of Californians voted to ban eggs from cages, but the market share of caged eggs is only about 5-10%.  I talked about this in my co-authored book on animal welfare with Bailey Norwood and I've written about it in published research in other contexts with Kate Brooks.

I've heard Glynn Tonsor at K-State refer to the effects of this sort of situation as an unfunded mandate, and I think that is an apt description.  Voters mandate that farmers adopt a practice that they subsequently are unwilling to fund with their shopping behavior.  

Yesterday, Modern Farmer ran a story on precisely this quandary.  They interviewed Norwood about the issue and here is what he had to say: 

“It is a real part of them, just like it’s real when you say you want to lose weight,” hypothesizes Norwood. “But then when you actually have to go to the gym or eat the smaller meals, you’re less likely to do it. We always fall short of our ideal self.”

Also, he says, humans are social animals, and in different settings, people act differently. At the store you’re thinking about getting what you need, saving money, acting as an individual. “In the voting booth, you’ve got your ethical hat on, thinking as a citizen,” says Norwood.

Bailey is describing what many have referred to as the citizen vs. consumer hypothesis.  I definitely think that is part of what is going on.  

When I present this "paradox" to academic audiences (or when I've heard others present it), it is very common for someone to conjecture that people vote this way to constrain their future selves.  The argument is that consumers really want to buy cage free eggs but when they get in the store, they just can't commit to doing so.  This sort of answer is conceptually plausible and it is partially (though not fully) consistent with Bailey's explanation.  But, I don't find it likely.  Here's why.  People could constrain themselves in other ways but they don't.  For example, they could shop only at grocery stores (like Whole Foods) that only carry cage free eggs.  It is simply hard for me to imagine that paying an extra $1 to $2 for a dozen eggs is a result of a lack of willpower.

I seriously doubt that there is a single explanation for the "paradox."  My favorite (unproven) hypothesis is simply that price is more salient in the store than the voting booth.  People are more likely to vote for a ban because, unlike the grocery store, the costs aren't transparent, immediate, and direct.  

Of course, there are many other competing hypotheses and I'm working now with Norwood and Tonsor and Brooks to try to understand the issue more fully.  It's problems like this that make research fun!

How effective are sin taxes?

This is from a paper by Callison and Kaestner in the journal Economic Inquiry

There is a general consensus among policymakers that raising tobacco taxes reduces cigarette consumption. However, evidence that tobacco taxes reduce adult smoking is relatively sparse. In this paper, we extend the literature in two ways: using data from the Current Population Survey Tobacco Use Supplements we focus on recent, large tax changes, which provide the best opportunity to empirically observe a response in cigarette consumption, and employ a novel paired difference-in-differences technique to estimate the association between tax increases and cigarette consumption. Estimates indicate that, for adults, the association between cigarette taxes and either smoking participation or smoking intensity is negative, small, and not usually statistically significant. Our evidence suggests that increases in cigarette taxes are associated with small decreases in cigarette consumption and that it will take sizable tax increases, on the order of 100%, to decrease smoking by as much as 5%.

I'm no fan of smoking, but this evidence seems quite clear that the spike in cigarette taxes have not had the intended effect.  Rather, they seem to have been primarily effective at extracting money from smokers.  What these results imply is that the  reduction in smoking that has occurred over the past 20-30 years is better and more confident information that smoking is unhealthy.