Green Shift, Green Shaft, or Green Pie in the Sky
The English language is one of connotation, and some words like “stupid” should be applied carefully, but when warranted, applied definitively. What Dan Gardner tries to imply in this recent article is that Stephen Harper is stupid, even though he has a degree in Economics, by flogging him with an interview with the renouned Economist, Dr. Greg Mankiw.
Stupid is defined by Websters as acting in an unintelligent or careless manner, or lacking intelligence or reason.
As the old adage suggests, “While leaving the house to call someone stupid, be sure you don’t bang your head into a mirror along the way.”
The MSM is as Stupid as it is Vain
I’m sure no one in this country has missed out on the Liberal Party’s proposed carbon tax, the Green Shift™. While Stephane Dion has been unable to even pronounce it in English, let alone explain it, the mainstream media has done a bang on job of praising this thing whenever or however it can. Still I have yet to hear on the news a basic Economics discussion of the subject, and I have yet to hear from any published peer reviewed literature as well. So when the mainstream media fails us, like it usually does it is time to turn to the blogosphere. And so we being The Green Shift - The Economics Lesson - in Basic for Dan Gardner™. Oh and we’ll include some peer reviewed journal articles as well.
The basic principle of the Green Shift is that by increasing a tax one artificially increases the cost of carbon producing substances or greenhouse gas substances (GGS) so that people consider purchasing substitute goods instead thus lowering the release of greenhouse gasses. Moreover by reducing people’s income taxes by replacing it with the increased tax revenue from GGS one avoids harming people along the way, or causing the much dreaded stagflation. It is worth pausing here, for those of you unfamiliar with economics, in order to read the wikipedia definition of stagflation and note in particular that :
First, stagflation can result when an economy is slowed by an unfavorable supply shock, such as an increase in the price of oil in an oil importing country, which tends to raise prices at the same time that it slows the economy by making production less profitable.[5][6][7] This type of stagflation presents a policy dilemma because most actions to assist with fighting inflation worsen economic stagnation and vice versa. Second, both stagnation and inflation can result from inappropriate macroeconomic policies. For example, central banks can cause inflation by permitting excessive growth of the money supply,[8] and the government can cause stagnation by excessive regulation of goods markets and labor markets.
Yep.
Anyway so let us set up a basic economics argument for the Green part of the plan as follows. Here is a supply and demand curve with price (P) increasing to (P’) as we increase or shift the cost or supply curve (S) of gasoline by adding a tax (S’). As you will see the quantity of gasoline demanded decreases from (Q) to (Q’) and the ticker tape ticks, the adding machines add, and all is well in economic pre Christmas land. (D is the demand for gasoline curve)
Ok now let us add the “Shift” into the plan. We’ll give back Canadians this extra revenue in the form of an income tax reduction. So without going into a lot of detail, suffice to state that when one increases the income of a group of people one also shifts up the aggregate demand curve. This is generally because as one has more money in one’s budget one is less constrained by costs. In other words, if we all get an extra $2000 a year in income tax rebates, some of us are going to drive to New York for the weekend like we always wanted to do.
Let’s see the curves shifting.
Whoops! As the demand curve shifts up from (D) to (D’) the quantity of gas consumed increases from (Q’) to (Q). We’re right back where we started! What we have done is simply artificially raised the price of things, but not done a thing to reduce consumption of gasoline or GGS for that matter.
What’s worse is that one has no real idea how these supply and demand curves are going to shift. They could in fact shift in a worse direction than one intended. For example as seen in this graph one could seen the consumption of GGS increase to (Q”) instead. More GGS consumed than before one played God-onomics.
The question comes down to the shape of the real demand curve for GGS. If the demand curve is “inelastic” it is a vertical curve, and this would mean no matter how much you increased the tax, the quantity consumed of GGS will not change as seen below.
Inelastic demand curves are seen when a good has no substitute goods, that is no readily available good with the same function that you can purchase in it’s place. Gasoline is a likely inelastic good as there really is no substitute for your Honda Civic you just bought. It cost $20,000, and unless you are Bill Gates, replacing it with a fusion powered vehicle isn’t going to happen anytime in the near future. Also as North American electricity generation is primarily from GGS, changing to non GGS generation will be a costly step with no immediate realistic substitutes other than Nuclear and Hydro power.
So what does the scientific peer reviewed literature demonstrate in regards to the elasticity of gasoline, the number one GGS? Hughes et. al state that:
We find the short run price elasticity of gasoline demand is significantly more inelastic today than in previous decades.
and
consumers have not significantly altered their gasoline consumption in response to higher gasoline prices.
interestingly
at lower income levels, the amount of travel has already been reduced to the minimum leaving little room for adjustment to higher prices.
In other words the evidence suggests that we’re pretty much locked into buying the gas we need. West et. al suggest that the cross-price elasticity between gasoline and leisure (the optimal tax rate on gasoline without causing external damage) is 35%. This happens to be the current tax rate on gasoline in Canada in most cities already, therefore taxing it more will cause significant burden.
And just how effective is the tax on gasoline at reducing air pollution? Sipes and Mendelsohn demonstrate that:
Our results indicate that if an environmental surcharge is added to gasoline taxes, then the additional tax will decrease gasoline consumption only slightly and, therefore, will have little effect on air pollution.
and more drastically
The results suggest that people with twice the income buy only 10–20% more gasoline. Of course, governments could use the revenues from gas taxes to address equity issues by lowering taxes on poor people or subsidizing services for them. However, in practice, it is not clear that current subsidies for transport actually benefit poor people more than others. Even if the income elasticity estimates in this paper are low, a tax on gasoline would most likely fall most heavily on the poor.
When it is all said and done, the people likely to suffer from the Green Shift are the poor themselves.
Dr. Mankiw is a proponent of the Pigovian Tax, that is a tax on things like GGS which have externalities such as pollution which are proposed to not be included in the price of the good itself. Dan Gardner seems to think that externalities are simply basic economics. They are not. In fact the theory of externalities is extremely complicated, and made more complicated by the question of whether externalities really exist.
At the end of the day, Stephen Harper has to decide a course to take. He doesn’t have the luxury of sitting in an Ivory Tower playing tiddly winks or black board what if’s. We have this Green Shift theory which sounds interesting, but what we don’t have at our finger-tips is the shapes of those curves I drew above. We also don’t really know how much they will shift and where they will equilibriate. The only way to know for sure is to experiment, and the most prudent way would be to experiment slowly, because we really have no idea how things will change - contrary to the apparent thoughts of Dion who thinks we need to act fast to save the planet.
Stephane Dion Uses Sign Language to Describe His Knowledge of Economics
We could easily make greenhouse gas output worse, we could have no effect at all. We could cause a depression, we could cause the worst outcome possible: stagflation. Many of the Canadian banks suggest that Canada is on the brink of a recession, recessions tend to mostly harm the poor, and the journal articles suggest the poor will bear the brunt of a Green Shift.
Therefore seems it would be stupid, Dan, to manipulate the Canadian economy so drastically at this time, that is when one considers the peer reviewed Economic evidence.
(Update: Read part II of the Green Shift)
* The Green Shift plan has no immediate consumer gasoline taxes. However if the plan is to actually reduce GGS it will have to target gasoline in some manner. Gasoline is the number one and major contributor to Canadian GGS. For now they will target producers, who will have to pass some of these taxes onto the consumer, some will be taken out of profits, and some will be taken from the employees of the firms. Once again there are graphs to explain all that, of which we have no idea the slopes etc. In the end gasoline prices will rise, anyone who thinks they won’t is selling you a bridge to nowheresville.
** It is likely that the effect of Anthropogenic Global Warming caused by GGS on global climate change is low or non-existant as no definitive proof exists, and many peer reviewed articles state there is no evidence. Moreover it is likely that the current land based data is corrupt.
*** While many economists including myself support a pure consumption tax rather than income tax, all taxes do have harmful effects on the economy and the poor specifically. Consumption taxes have their own side effects and have not been entirely studied.
Very good article. If you don’t already, you should check out http://www.mises.org for the Austrian School of Economics view on current situations.
Comment by Technical Bard — September 19, 2008 @ 6:44 am
I like your take on this green thingy.
If I may comment on eliminating income tax and only use consumption taxes …
Benefit, more people would have more money to take home and use to buy what they want. Perhaps the high consumption tax will prompt them to buy less or buy more carefully or not. That may or may not be good for the economy.
Problem, the opportunity for underground economy will grow right along with the level of consumption tax … unless it’s well hidden. Even then, who knows? We don’t keep stats on black market transactions.
Frustration, the poor will continue to make poor economic choices (that is why they are poor) they will continue to not get the education or skills to improve their lot (another reason they are poor) and will continue to panhandle government with guilt trips as required to get other peoples money. That actually works for them, but there will never be enough to shut them up. A FREE BEER attracts a continually growing line until the beer runs out. Then there are fights.
Conclusion, no matter what we do, we are dealing with crazy human nature and somehow there will always be unintended consequences and a lot of unpredictability.
Common sense dictates, The world’s climate will continue to do what the sun, ocean currents and cloud formations dictate and no amount of taxation will change that.
RE the external guilt trip, Bangladesh is a flood plane with millions of people who have zero prospects for prosperity. They should not be there in the first place.
I myself, can predict anything but the future.
Comment by John V — September 19, 2008 @ 10:14 am
Excellent article and well worth the read. Every blog needs to link you on this one.
Comment by Rob — September 19, 2008 @ 11:49 am
There are some articles which look at the Canadian economy in terms of a carbon tax. The problem with them I find, is that no-one really considers what happens when you shift the demand curve. Ross McKitrick, an economist I really respect even looks at the Green Shift itself, albeit in the 1990s. While I think his analysis is interesting he doesn’t look at the simple Demand shift caused by a reduction in income taxes AFAIK. He does consider it with a model but the demand shift is small. I will post those articles sometime later.
I think that the Green Shift is an interesting idea but I do suspect that it will not cause much of a reduction in emissions as there are no readily available substitutes in the short run.
Comment by langmann — September 19, 2008 @ 12:43 pm
Da proof is in da proof? How do you know if dere is a proof……? Well, you know dere’s a proof when da proof is proofen…..
Comment by Lori — September 19, 2008 @ 12:45 pm
What sort of assumptions are you making about income elasticities of demand to draw the second and third graphs? In the second, it looks as though you’ve assumed that the income elasticity for the demand of all other goods is zero: all extra income is spent on goods subject to the carbon tax. And in the third graph, it looks as though the income elasticity for all other goods is negative: when given extra income, people cut back on goods not subject to the carbon tax.
Comment by Stephen Gordon — September 19, 2008 @ 4:13 pm
Good article. Very good analysis of the elasticity in the price of gasoline, and the benefits of using a tax regime to limit consumption. The wealthy will not notice volatility in the price of fuel, but the poor certainly will.
Pound for pound, nothing beats refined oil as big bang for the buck fuel you can safely store and transport at air temperature. We are locked into the gasoline/diesel piston engine infrastructure, and there are alternatives available but they cannot be coerced into being in the way food grains have been diverted to fuel production. Unintended consequences can get ugly scaled up to global size.
All that said, it is not the honda that is the weak point but rather the kenworth. Everything on the store shelf or in your home carried at some point on a truck.
Moving goods around require work, we measure that in horsepower, quaint as that may be, and horsepower takes energy, tanstaafl. Without that fleet of trucks to move goods about there will be a severe impediment to the economy. I would guess that Chinas biggest transportation growth sector is trucking, scaling up alongside its economy.
Comment by Dana — September 19, 2008 @ 8:55 pm
@ Stephen Gordon, I making the assumption that GGS is a normal good. Since most of what we do in North America involves GGS in some manner, an increase in income is likely to result in an increase in consumption. Moreover as money is transfered from producer profits to consumers, it may actually result in more spending on GGS as the producer profits may have been invested in non GGS areas. (in other words they use the words revenue neutral but consumers are getting much more income due to income tax cuts.)
The fourth graph is the extreme inelastic good, using it for people unfamiliar with economics. For people unfamiliar with economics, if someone gives me a tax return of $2000 I’m probably going to go to Mexico on that vacation I have been meaning to have for years, spewing greenhouse gasses from the plane along the way. Espey, Energy Econ. 1998 estimates using meta-analysis that the income elasticity of demand for gasoline in the long run is >1.
The problem with the Green Shift as I see it is multifold.
The major problem is that there is no real substitute good for greenhouse gas producing goods.
Gasoline is claimed to not be taxed. This is unlikely to be realistically true as producers will face a tax, some of which will be passed on. Secondly if we don’t tax gasoline then we may as well not even have a Green Shift since gasoline is the number one cause of Canada’s greenhouse gas production. In other words the Green Shift is just a propaganda exercise.
Since we are giving people back their money they have no disincentive to not spend it on gasoline or other GGS as there are no substitutes (revenue neutral, this is confusing since most literature claims that a green tax may actually be GDP increasing if coupled with an income tax break?).
We have no real evidence or idea what will actually happen. We have no real evidence. So we have to go slow with this. This will not get us a year 2010 reduction that we can guarantee.
Finally there is no real good evidence that anthropogenic global climate change has occured in the first place.
Comment by langmann — September 20, 2008 @ 1:23 am
First, let me say that I don’t believe in the Green Shift plan. I don’t believe in climate change, and I don’t believe there are excessive negative externalities from energy consumption that require additional taxes.
However, I do not agree with your analysis of the situation. Your second graph presents the demand increase as a result of the increased income as a “given”, when we have no idea. I know you’re just trying to make a point, but I think some people would look at that graph and take that as your intended message. Anyways, that’s not really the point.
The point is that gasoline and energy consumption may be short-term inelastic (although we have now learned that is not necessarily true, as we see people cutting down on their gasoline consumption in the US), but that does not mean they are long-term inelastic. The recent reduction in traffic on US roads actually does show that people have the ability to reduce their gasoline consumption over the short-term. You present evidence for short-term inelasticity (and I had already read the Hughes piece before), but you ignore the concept of long-term elasticity and the alternatives people face over the long-term. The Hughes piece even points out that long-term elasticity of demand is key, and even has a brief, although only theoretical, discussion of long-term elasticity of demand.
How will people respond long-term to high gasoline prices? While, we can significantly reduce our consumption per kilometer driven to be closer to Europeans. We can do this by just buying smaller cars. We can place a premium on fuel efficient vehicles, pushing manufacturers in that direction. People can choose to densify, living closer to work in taller structures and accepting the condo life. Walking to work is fantastic actually. High gas prices make hybrids more attractive and actually make electric cars reasonable if prices can be reduced (and they will be reduced if there is economic incentive for manufacturers because consumers demand electric cars). So yeah, there is a lot that can be done to reduce long-term gasoline consumption, and those things will occur if gas prices remain high. This is not intended to be an argument for the Green Shift, but I believe it’s a reasonable argument.
Not only can gasoline consumption be reduced, but long-term energy consumption can also be reduced. People will demand efficiency if energy is more expensive.
Why don’t I believe that we need the Green Shift then? First, I don’t believe in climate change. But regardless, energy is already becoming more expensive, and the price of energy continues to increase. We have tapped a lot of the inexpensive resources already, and now we have to find energy in places where it is more difficult to extract and refine. There’s nothing wrong with that: it’s just economics. If energy from greenhouse gas emitting sources is no longer economical, then we will stop using it and use something else. That means previously inefficient methods of energy production will become efficient. If the commodity of energy is fundamentally more expensive, then that should decrease the standard of living. But what I really think will happen is we will become more efficient in energy use and production, and that will allow us to maintain standards of living despite rising costs.
The Green Shift is a bullshit policy, but if you watch, over the long-term you will see that the desired results can be achieved without government intervention.
Comment by Andrew — September 20, 2008 @ 3:36 pm
The recent reduction in traffic on US roads actually does show that people have the ability to reduce their gasoline consumption over the short-term.
Two comments - first, the question of long-term elasticity of demand is important, and it may well be (and probably is) the case that long-term elasticity is higher than short-term. Even so, the US experience is not encouraging - in the face of ~50% increases in price, demand dropped by a couple of percentage points. During the beginning of an economic slowdown. Langman’s argument is that elasticity is very low - I see this as a confirming data point. To the extent that long-term elasticity is higher, it likely correlates with income: if you are wealthy enough to turn over your car every three or four years, then you can more easily move to a better economy model; if you are stuck with the same gas burner for 10 years, then your elasticity will be relatively low - or the short-term for such a household will be a lot longer than for the guy with the new car every few years. Thus, the costs of the Green Shift will fall on the (relatively) poor who drive their own vehicles rather than take transit. Don’t get me wrong, my heart doesn’t bleed for them (work harder and get rich, you lazy bastards!), but it is a peculiar policy for an avowedly social-democratic party to be advancing - at least I would think so if almost every one of their policies wasn’t a monument to the law of unintended consequences and the triumph of feel-goodism over results.
The Green Shift is a bullshit policy, but if you watch, over the long-term you will see that the desired results can be achieved without government intervention.
Second - what are “the desired results?” If GHG’s are not a potential calamity (and more important, an avoidable, anthropogenic calamity) then why would we a priori desire any particular range of GHG production, high or low? We might as well tax -say- the colour Blue (every blue suit costs an extra $50; a blue shirt is $30; blue jeans are $20) - we might change sartorial habits, but why would that be a ‘desired result?’ Turning back to energy consumption patterns, I am willing to accept that an unfettered economy will produce the optimal allocation of resources, including the allocation between use of crude oil to make Barbie dolls and to power drag racers. If the Green Shift changes consumption patterns and allocation away from the equilibria established in the absence of the Green Shift, then the results are moving us away from an optimum allocation, so they are very much ‘the not to be desired results.’
But what I really think will happen is we will become more efficient in energy use and production, and that will allow us to maintain standards of living despite rising costs.
Okay - a third. Efficiency is not a goal in itself - it is a means to a goal, which is to make as much stuff for as many people as we can. Every dime and every minute of inventive, productive effort that is devoted to increasing energy efficiency due to a rise in energy costs is wasted if that increase in costs is simply a government policy decision. The capital and intellectual effort could have been expended on another (real) problem - say increasing materials efficiency, reducing real externalities (like NOx or particulate emissions, or solid waste creation), or directed to an entirely different problem; say providing potable water where now there is none. When the government interferes in the market, it had better be sure that it is addressing a real externality, and not a phantasm, or else we are just getting better and better at pissing money down a hole.
Comment by dcardno — September 20, 2008 @ 4:59 pm
1. Just to clarify, as a result of a significant increase in prices, short-term demand dropped by ~4.7% through June of 2008 relative to June of 2007 (http://www.cnn.com/2008/TRAVEL/08/13/american.drivers.ap/index.html?iref=werecommend). It sounds as if there may be inflection points in the elasticity of demand where people actually begin to care in the short-term how much energy they consume and seriously consider alternatives. I agree though that the costs of any policy change would fall on the poor first, because the capital invested in their current technology as a portion of their income should be relatively high. The costs of a carbon tax would fall on the poor; just another regressive tax which is should be against the beliefs of the Liberal party.
2. I don’t think a reduction in GHG emissions is necessarily a desired result. However, I believe that the market will likely give the green’s what they want to a certain extent over time just through the long-run elasticity of demand.
3. Your third point is consistent with what I was saying. I was saying that we will become more efficient in energy use and production which will allow us to sustain more people on less energy. There is no need to encourage efficiency through taxation in this case because the cost of commodities is already increasing on its own.
I am against the Green Shift, but I strongly believe that there will be a consumption shift over time away from our current fuel sources as they become relatively more expensive where other energy alternatives become relatively cheaper. I’m not saying that this is good in and of itself, but I think this is positive in the sense that we will not necessarily have our consumption squeezed by the additional demand from emerging economies.
Comment by Andrew — September 20, 2008 @ 9:41 pm
@ Andrew and dcardino:
Thanks for the intelligent comments.
Andrew I will say that over the long term I do think that increasing taxes on GGS will result in a decrease in consumption by effecting the Supply side. I think that the evidence is that GGS is relatively inelastic because there are no real substitutes. In the long term of course more efficient cars will be made and will result in a reduction as seen by the long term elasticity being slightly less inelastic. Especially in the long term we always move to more efficient electricity generation. It has always been that way, and I agree with you. Simple economics again, with the market self correcting.
Specifically the Green Shift is not an effective plan because the whole argument from a Kyoto point of view is that we have to reduce GGS by 2010, 2012, 2020 significantly. This is not going to happen unless serious action is taken. I would suggest destructive action at this point. Secondly the Green Shift doesn’t target gasoline directly (though it will indirectly), and since gasoline is the number 1 GGS in Canada this leads to my next point.
No one is yet truly commenting on what happens to the Demand side. What happens when all these people are given money to spend, money taken from producers and consumers? Will most of it trickle back into the purchase of the GGS we are trying to prevent? Especially when gasoline is not taxed to the effect that other GGS are? Heck it could cause an unintended consequence of making gasoline a cheaper energy generation source.
And the third point which you guys both remark on, is the effect to the poor who cannot buy the latest Prius fuel efficient car, or cannot afford the increase in consumer prices from transport and transaction costs. Those are the people who will be screwed by the Green Shift in the form of higher transportation and transaction costs.
At the end of the day I do believe that fossil fuels will not be a major energy source in the first world in 100 years. Once we get over the phobia we have for Nuclear power, and once we can produce more efficient hydrogen fuel cells I am sure the energy sources will shift. I am also confident that the market will figure it out and not the silly politicians, socialists, or even economists.
Comment by langmann — September 20, 2008 @ 10:38 pm
I was saying that we will become more efficient in energy use and production which will allow us to sustain more people on less energy.
My point was slightly different: although I agree that we will become more energy efficient, that is only a benefit if energy is the constraint on production. If -say- iron were the critical resource, then we would become iron-efficient (and steel-efficient); left alone, the market will determine the right balance between materials efficiency, labour efficiency, energy efficiency, and so on. The Green Shift will likely move us away from that optimum point.
At the end of the day I do believe that fossil fuels will not be a major energy source in the first world in 100 years… once we can produce more efficient hydrogen fuel cells
I am less optimistic about fuel cells, or conversely, more optimistic about fossil fuels: my counter-prediction is that we will obtain more energy from petroleum-equivalent combustion in 2108 than from H2 combustion. I hedge the prediction slightly in the anticipation that direct biological production of long-chain hydrocarbons vis genetic engineering may replace fossil extraction. 8- or 10-chain hydrocarbons are just such a great energy storage and transport mechanism, I think we will fight hard to retain them - or the market will place such a high value on them that retention will just make sense. I suppose the green lining in that scenario is that biologically-produced hydrocarbons are by definition GHG neutral, since we would just be fixing existing carbon stocks, rather than bringing up carbon that has been impounded since palaeolithic times. Of course, that will expose the green agenda, which is not pro-nature, but anti-market and anti-technology. No doubt, by that time they will have a new god or goddess to worship
Comment by dcardno — September 21, 2008 @ 10:36 pm
[...] read the previous Green Shift article first if you haven’t [...]
Pingback by clangmann.net » Green Shift II: Robbing Peter to Pay Paul — September 28, 2008 @ 10:39 am
Hydrogen Fuel is very promising, i only hope that we can mass produce soon enough.,,~
Comment by Caroline Bryant — May 19, 2010 @ 7:39 pm
hydrogen fueled vehicles are the best but they are still not widely available.’-’
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