Making Carbon Pricing Work Better

When it comes to the most economically efficient way to reduce Greenhouse Gas Emissions(GHG), the economic consensus is that a carbon tax, or, failing that, a carbon trading scheme is the best way to go. The idea is that a price for carbon will raise the cost of carbon-producing activities, nudging people and companies towards less harmful behavior.

I have a problem with this line of reasoning, since it rests on the false assumption that price signals are the most effective way to change behavior. That’s true is an economist’s ideal efficient market, but a moment’s reflection shows that the markets we want to affect are far from efficient.

Electric utilities are regulated entities, and hence insulated from market forces. Consumers don’t respond well to price signals either, because most don’t understand where they are wasting energy. If they did, there would be a run on caulk to air seal homes, since the payback from air-sealing can be a matter of weeks. If a 1000% annual return from air sealing is not enough to get people to spend a little time with a caulk gun, is increasing the return to 1200% with a carbon tax really going to make a difference?

Compact fluorescent bulbs are another excellent example of how the energy market often fails to be efficient. The payback on CFLs is usually on the order of months, but uptake was very slow until recently, now that higher wattage incandescent bulbs are being phased out. By regulation.

The adoption of CFLs is a concrete example where the most economically efficient outcome is being achieved by regulation, after years of failure by market forces.

I had just finished making the above case to an economist at a mixer at The Cary Institute in Millbrook, NY when I was asked to write for a public radio program sponsored by the Institute.  Earth Wise logo I had been talking to the Institute’s volunteer coordinator about opportunities that make use of my skills, and she hit on helping them write some segments for Earth Wise, a daily 2 minute radio program on WAMC.

So I went home and wrote up my ideas, outlined above, on carbon pricing.  The first draft did not work for them, since they had aired a program in favor of a carbon tax, so I re-wrote it with a focus on making carbon pricing more effective by making the energy market more efficient.   The result aired on July 3rd, and you can listen to it or read it here: http://wamcradio.org/EarthWise/?p=2668.

With only two minutes, it’s an interesting exercise of packing my ideas into just 280 words, especially considering that for me, 600 words is what I consider a short peice, and it’s not unusual for me to write several thousand.

For future episodes, I plan to tackle less complex subjects.

2 Comments »

  1. […] is a very inelastic market ( |elasticity| << 1 ), and so supports my argument that regulation is likely to be the most economically efficient approach to reducing residential […]

  2. Good point about how a carbon tax is not enough. Necessary but not sufficient. Economists can get stuck in their thinking sometimes…
    William Nordhaus: “To a first approximation, raising the price of carbon is a necessary and sufficient step for tackling global warming. The rest is largely fluff.”

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