Beware of the Green Energy Crusade

Wednesday, February 2, 2011

One conspicuous difference between the last Congress and the present one is the disappearance of a comprehensive cap-and-trade system for carbon dioxide emissions from the overall political agenda. But its demise as a grand social policy should be understood, at least on the part of the president, only as a tactical political retreat and not a change of political will. In place of cap-and-trade, the president has reiterated his earlier support for "green" energy from renewable sources, in part to reduce overall levels of carbon dioxide emissions.

Illustration by Barbara Kelley

In my view, this change of approach on energy policy is a bit like jumping from the fire into the frying pan. Before attempting such a heroic task—and one that will arguably do a counterproductive job of regulating elusive carbon dioxide emissions—it is better to apply sound regulatory principles to admitted forms of pollution, which is not quite achieved by cheerleading for green economics and green jobs. In being critical of the presidential change of approach, I don’t want to be pigeon-holed as someone who just does not care about environmental issues. Quite the opposite, in fact: I am prepared to pay a good deal of hard-earned income to that end, so long as the program is done right.

Put otherwise, my concerns with cap-and-trade are not directed to the method of regulation itself. The system has worked quite well with respect to sulfur dioxide emissions, for example. The gas is emitted by a relatively few sources, has known harmful qualities, and is confined within narrow geographical regions, all of which allow for the creation of a sensible trading framework. But none of those conditions are satisfied for carbon dioxide, which is why it is dangerous to wrench a regime that works well in one context and apply it aggressively in another. The same cautious approach is appropriate for green industries. My opposition to the president’s proposals rest on the flaws in their key design features, not on any steadfast hostility to environmental protection writ large. A quick primer explains why.

The first point is that it would be foolish to insist that all forms of environmental regulation should be examined under a presumption of distrust. As an inveterate student of the common law, I do not like starting out by framing the issue as one of "environmental" law at all, because it diverts attention away from the individual actors whose conduct should be subject to legal sanctions. Rather, it is better to think of this cluster of issues as falling under the law of nuisance. That ancient body of law starts out with a concern for those "nontrespassory invasions" like pollution, noise, and odors that move from one person’s land to another. An ordinary lawsuit might do the job when a single polluter despoils the land of a single neighbor.

Cap-and-trade is effective at limiting sulfur dioxide emissions, but it is unlikely to successfully limit carbon dioxide emissions.

Unfortunately, the facts on the ground often are not amenable to a solution involving individual lawsuits. Unlike a simple entry onto land, pollution can cut a wide swath, raining destruction down on public and private lands and water alike. The most ardent defender of laissez-faire recognizes the need to offer protection to these well-established property interests, but despairs of the high transaction costs that are incurred in order to allow each injured party to maintain a lawsuit against each of the many parties that might be responsible for the injuries.

So we need a better tactical approach. No matter how much you bite your lip or clench your teeth, in the end a system of direct public regulation, warts and all, is needed to cut through the murk, so that one organized party acts on behalf of the many private and public interests that are hurt by the wide array of nuisances, such as pollution from tailpipes or cows. At this point, the question becomes one of technique.

The key structural point is that the shift from private to public enforcement changes the mode of attack, but not the permissible ends of attack. The state can only work to control pollution through damages and injunctions that act in the same fashion, and under the same types of conduct, as those actions properly subject to private suit. Otherwise, the massive shift to public enforcement is an open sesame grant for the government to do anything that it wants to address environmental issues, no matter what the collateral costs of those policies are. If, as is the case, the private rights of action converge on efficient solutions, using state control to transform the underlying system of property rights will always lead us astray.

Here, in a thumbnail, is how the correct rules should go. The real problem with coal plants, for example, is that they emit pollution in varying degrees. The correct system of social control makes it critical that the fines collected by the state should track the level of damages that each of these defendants would have paid if sued individually by an aggrieved party. When fines bear little or no relationship to the actual harm caused, that mismatch will encourage some facilities to shut down when they should stay open, and others to stay open when they should shut down. The correct level of taxation operates like a sensible cap-and-trade system for sulfur dioxide: the firms that cannot pay the taxes (or purchase the permits) for their excess pollution fall out of favor. Quite simply, such firms cannot remain in competition with their more efficient competitors who pay less for pollution permits.

Unfortunately, the current environmental system is inefficient in this critical respect because it gives an undeserved regulatory advantage to old, sooty plants relative to newer ones. Dirty old plants can continue operating for years, while cleaner new plants have to survive an exhaustive certification program before they can go into operation, assuming their owners do not first quit out of frustration. The correct response is to get rid of grandfathering for older dirty sources. Then, main line polluters will have real incentives to upgrade their systems without having to meet super-strict government standards as to how to design plants that meet that ineffable standard of "best available technology."

One real problem with subsidies for clean energy is that they do not price pollution correctly. First, the decision to subsidize any or all clean energy sources has a negative impact on all traditional forms of energy, regardless of their relative efficiencies. The good coal plant is hurt as much by the clean energy subsidy as is the bad one, even though the very purpose of a good regulatory program is to distinguish between the two. In an odd sense, therefore, the new gimmick thus perpetuates the mistakes of the current system.

We need to regulate pollution. But that does not mean more green economics and more green jobs.

Second, the government subsidies often go to firms that are also sources of pollution. The not-so-quiet whirring of many windmills causes serious damage, for example, to nearby wildlife. The process of putting these clean energy sources into place may well involve the unwise use of dirty technologies. Yet when the subsidies are doled out, no one is asking just how dangerous these hidden sources of pollution might be.

The correct approach imposes the right tax on all externalities from all sources. Once that is done, clean coal may well fare better than renewable green energy, given the many disadvantages (e.g., erratic service from remote points) that no subsidy can wish away. So forget the fancy stuff and let markets price the inputs that are bought and the services that are sold. This combined use of prices and taxes (or caps, with trades) will outperform any system that preaches the virtues of green energy.

And thus the discussion of environmental harm shifts back to classical liberalism and the limits of state action. The blunt truth is that no one in government knows the relative prices of all inputs in advance. The state, therefore, should do only what it can do, which is contain pollution externalities in ways that prevent cross subsidies between rival technologies. After that, decentralized markets should displace the nascent nationwide industrial policy. It is not enough to believe in the grand ends of a clean environment. On environmental matters, regulatory technique and institutional design matter as much good intentions.