Paul Krugman won the Nobel Prize in part for his work on economic geography.  Today, he has published a very good piece on the economics of coal while ignoring local economic and political geography.  That is interesting on several levels.  A few months ago Jonathan Eyer and I released this NBER working paper.

The paper's title is "Prolonging Coal's Sunset".  We argue that coal is heavy to ship so electric utilities closer to mines should be closer to the margin of adopting it as their primary fuel for producing power.  Such a trade gravity model does a good job of explaining coal shipments but now let me introduce politics.  Controlling for the distance between mines and power plants we document that power plants located in the same state as the coal mine's state are much more likely to use coal and buy locally.  Such political boundary effects represent "smoking gun" evidence that local politicians are using their clout to keep local power plants (those at the margin) using the dirty stuff. Thus, our title;  "Prolonging Coal's Sunset".   Dr. K ignores these points in his 34,000 foot view of coal. He instead engages in some Tom Friedman style cheerleading. His strong piece would be even better if he engaged in some local political economy analysis (and read our paper).

Suppose that all 7.5 billion people on the planet achieve the "American Dream" and buy a car that achieves 25 MP G and each drives 10,000 miles per year.  The "Paul Ehrlich/Jared Diamond" arithmetic show that the carbon footprint caused by this privately enjoyable consumption would be proportional to burning 3 trillion gallons of gasoline a year.

Such large numbers immediately highlight the importance of collective action in mitigating this ugly Tragedy of the Commons.  So, this is why the news is filled with stories saying "Trump Will Free Ride and Not Honor President Obama's promises".   Let's step back for a moment.  First, the Paris COP 21 had no enforcement mechanisms.  Second, most of the LDCs set goals relative to vague business as usual scenarios.  Recall what a BAU is.  Suppose I weigh 200 pounds and I say that I will go on a diet such that at the end of the year I will weigh 10% less than my "business as usual scenario".    A naive reader would say;  "great, that means that you will weigh 180 by the end of the year".   That is false because I haven't told you what my BAU will be.  Suppose I say that my BAU is to gain 20% each year so ,  my 10% diet reduction really means that I will weigh 200*1.2*.9 at the end of the year = 216 pounds.

If the USA walks out from "the deal", what happens next? Is the U.S the key to the galaxy in the year 2017?  Yes, there are multiple equilibria to this complex bargaining game, but here is my prediction.  Different nations will make different bets on the green economy. Elon Musk and Telsa will press ahead on its projects. A competition is taking place all over the world to build the green economy. Yes, a price on carbon would accelerate this progress but by how much?  The induced innovation economists have not written a convincing paper measuring how the uncertainty associated with political business cycles (i.e that Hilary Clinton would have remained in COP 21) affects the green tech investment option.  In a world of irreversible investment under uncertainty, this political risk should lead investment to freeze up. But will it?

I believe that the U.S action (which I do not support) will have a minor impact on global green innovation and thus the current headlines are over-played.  U.S journalists want to see the U.S as the key to the world's future.  We are entering a new period where we must be more modest about our role on this planet.  The U.S is a great nation but it is a small nation in a big world.

Ideas are public goods, let's have a competition to discover them and to help them to diffuse across borders.  If there is sufficient demand for the green economy, then the induced innovation hypothesis predicts that suppliers will step up independent of U.S policy.   Pessimists must argue that China's green push is only taking place because it thinks that the U.S will make this push. Strategic entry games from IO would make a different prediction.  Enter markets where your rivals aren't entering (unless you believe they have superior information about future demand conditions and thus you learn from observing their choice).  

My friends and students know that I like to talk.  Here are my slides for an upcoming speech I'm giving about real estate in China.

President Obama just gave a major speech in which he argues that climate change is causing food prices to spike.   Economists often write down models of induced innovation (see Acemoglu and Lin 2004 or my recent NBER paper).   If entrepreneurs smell profits from developing more robust and resilient foods and figuring out how to store foods and where to grow food (i.e Canada), will the price of food really spike in the medium term?  Is President Obama correct to be pessimistic about innovation in the agriculture sector?  Or are the endogenous technological change economists correct?  Ehrlich vs. Simon revisited!    I am willing  to bet BO on this one.

Brad Plumer is a thoughtful young columnist for the New York Times.  In this piece , he argues that a byproduct of President Trump's gutting of the Department of Energy's green subsidies is that world climate change mitigation will suffer a great blow.  Is he correct?  In his piece, he argues that  green economy investments remains risky both due to the inherent failure rates in R&D and due to shifting market conditions. For example, if you build a perfect electric vehicle but gas prices converge to zero due to fracking then your EV won't sell.  This macro risk (i.e future gas price dynamics) should affect your upfront investment.

So, Mr. Plumer argues that the government must engage in a type of parallel "Manhattan Project" to do the basic research so that the Elon Musks can then implement this.  As an academic, I applaud such a call for basic science but I believe the $ should go to the National Science Foundation rather than the DOE labs.

Mr. Plumer then contradicts himself with this quote from a Mr. Navin

“Companies need a degree of certainty from the agency,” said Jeff Navin, a former acting chief of staff at the Energy Department. “The worry is that if someone has a game-changing technology and is looking to the government to help them commercialize it, maybe Europe or China starts to look more attractive.”

So,  this suggests that the same technologies will be developed but that the United States may not be the financier.   From a climate change perspective, we don't care who earns these income effects (i.e who  owns the Tesla shares), we only care that the Tesla now exists. If the Chinese will finance it, why does Brad Plumer care that we didn't finance it?

Mr. Plumer might say;  "I want a green economy and a prosperous U.S economy".  Okay, that sounds good then U.S companies must learn to go to Beijing and beg for subsidies there or better they should educate Wall Street and Venture capitalists on the benefits of holding equity stakes in their companies.

Mr. Plumer does not discuss why federal $ is needed here at all. If some firms believe that the "future is low carbon" let them make a bet that future Democratic Presidents will enact carbon pricing.  Why must Federal $ be used for anything but basic research?  Do the basic research through the NSF and stop having the government (through the DOE) picking winners.


In a world where ideas are public goods, we are not doomed if the U.S fumbles the ball.   Mr.  Plumer's "nationalism" implicitly dismisses the ability of Chinese scientists to pick up and run with the ball.   Read Richard Freeman's piece on the rise of Chinese science. If there is $20 bill on the ground, it will be picked up even if plump Americans do not bend over to do so.

UPDATE:  I agree that the U.S has played a key role in scientific advance but we do not have a monopoly in this sector.  In the near future, other nations will begin to catch up to the U.S in terms of research capacity.  The U.S represents just 4% of the world's population.  Are you  going to argue that over the next 25 years that we will produce 95% of the world's great new ideas?    There are other great nations who can fill the void if the U.S reduces its investment in this green sector.  Ideas are public goods. Implicit in Mr.  Plumer's pessimism is a U.S style nationalism that "only the U.S can save the world".  I do not believe this.

Mr. Plumer also forgets the opportunity cost concept.   If U.S companies do not invest in the "green economy", they will invest in something else such as new medicines or new airplane safety equipment.  These investments have value for society. Mr. Plumer implicitly assumes that the green investment that does not occur because of Mr. Trump's change in the rules vanishes into a bottomless ocean.  That's not right.

James Heckman and Burton Singer have written an important AER P&P piece on "evidence".  This piece borders on philosophy as it touches on the deep issue of how do we as economists update our beliefs about how the world works.  Put simply;  "what is convincing?".     Towards the end of the article, Heckman makes a nice point about one of his own famous early 1990s AER papers;

"Another example of the abductive process is the work of Donohue and Heckman (1991), who addressed the complex question of whether the 1964 Civil Rights law advanced the economic position of African Americans. Multiple factors were at work at the same time: (i) a tight labor market fueled by the war in Vietnam and policies in the 1960s; (ii) the advancing level of education of African Americans; (iii) the Civil Rights Act and the civil rights movement. Using numerous historical datasets, as well as examining multiple outcomes and clues from newspaper stories and contemporary accounts joined with basic economic analysis, they establish the case for a powerful beneficial role for federal government activism. No single bit of evidence is decisive. It is the ensemble of evidence and the substantiation of additional hypotheses that makes the story compelling."

In this age of the field experiment, how does one take a "clean estimate" of a specific program and combine this with other evidence to tell a compelling story?  Or is the estimate the story?  How do we "aggregate" different pieces of evidence?

Geoffrey West has just  published a new book Scale that was recently reviewed in The Economist.  I have met Geoffrey on several occasions.  I'm a big fan of his and I have few points to make.  First, what is "scale"?   If Los Angeles had twice as many cars driving around, would congestion and pollution double?  This is a scale effect.

A major point in modern environmental and urban economics is that when considering urban ills that there are composition and technique effects that can offset scale effects.

If we are driving more, but the cars are Teslas and the electicity is generated from renewables then such technique offsets the scale effect of driving more.    This logic is at the heart of the modern environmental kuznets curve hypothesis.

If there are more cars on the road but government introduces dynamic road pricing,  traffic congestion can decline.  Both exogenous technological progress and Pigouvian government policy can offset scale effects.

Composition focuses on the types of economic activity. Pittsburgh is cleaner now because industry shifted from steel to human capital focused.  LA is cleaner now because pre-1975 vehicles have been retired from the fleet.

Scale matters but composition and technique effects can't be forgotten.

 

Air travel literally features little "wiggle room".  If you are late to your flight, you can't board.  As United Airlines recently demonstrated, if you are "randomly selected" to be kicked off the plane, you will be!  The airlines have slots for boarding planes and landing planes, if they miss the slot due to some shock, they wait and you are delayed taking off or de-boarding. If you are stranded at an airport because of logistics issues,  you are likely to not be able to find a cheap hotel room.

In a world of uncertainty where shocks do occur, what are your airport rights?  If Senators write out such a "bill of rights", then airports and airlines will have to comply and they will pass the costs back to people who fly.  Such a bill of rights will be a type of mandated insurance (one payer system!).  So, do we allow airlines to be low price and sometimes low quality or do we force all of them to offer a full set of Arrow-Debreu type securities and be higher priced?  By this last sentence, I mean the following.  Suppose a contingent event occurs such as a terror alert in the airport and all outbound flights are cancelled, must you airline have the ability to find you a free hotel room within a 10 mile radius on that night in the next 35 minutes?  That would be a type of contingency event!

If airlines had to provide this, you would not be sleeping on the airport floor and searching for a clean toliet but your airplane ticket would be more expensive. Who bears the risk? You or the airline?   Given the scale of air travel, perhaps the airlines should be bearing more of this risk.  Now, Milton Friedman would say that if you have a choice over which carriers fly routes then you will substitute away from the low quality carrier and this provides proper incentives to provide a good, cheap ride with contingent perks.    Why is this free market point wrong in the airline case? Are people underestimating the probability of nasty contingencies and thus undervaluing part of the quality of airline service?

Suppose the airlines wrote out a contingent contract where they state how much $ they will give you if the flight is delayed or they cancel the flight or kick you off. In expected value, how much would this cost the airline? Would this private contract impress customers or do air travelers have state dependent preferences such that they don't value $ when they are traveling and delayed?  Or are there so many contingencies that an airline couldn't write them all out? The actuaries must be able to calculate the probability of all of the main "bad events"?    So, now I'm thinking that no government intervention is needed here on routes that have at least 2 carriers.  

The New York Times has reported a story on Puerto Rico's fiscal challenges.  The area has a large deficit and a large part of this is due to allowing workers to retire on a generous pension plan at roughly age 50.  Using my micro data from California, I'd like to teach you a few facts about generous public sector pensions.  I use these data in this recent NBER Working Paper.

For 214,026 California workers in the year 2015, I know that they work for a city government such as Santa Monica and I know the youngest age they can retire at and their pension terms.   I use these data to calculate the empirical distribution of pension generosity.  So, look below;  the 50th percentile of the distribution (the middle or the median) can retire at age 55!  Are you eligible for that perk?    10% of the public sector workers can retire at age 50.

When these workers retire, they are eligible for the rest of their life and their spouse's life to receive a defined benefit payment.  Permit me to explain. Suppose your highest salary as a cop is $80,000 and you work for 30 years and retire at age 55.   If your pension plan is a 2% plan, then you would receive 30*.02 or 60% of your $80,000 salary as an annual defined benefit annuity.  So, your annual payment until you and your spouse both die is;  $48,000.  Given increased life expectancy, the state could be paying this flow out for 30 years or longer.

.
                          retireage
-------------------------------------------------------------
      Percentiles      Smallest
 1%           50              5
 5%           50              5
10%           50              5       Obs              214026
25%           55              5       Sum of Wgt.      214026

50%           55                      Mean           56.22377
                        Largest       Std. Dev.       3.94896
75%           60             67
90%           62             67       Variance       15.59429
95%           62             67       Skewness      -.5457838
99%           62             67       Kurtosis       12.89774


My data set also indicates how generous the public pension in California is for different public sector workers.  The median worker receives 2.3% of his highest pay per year of service.  10% of the workers receive 3% per year; so a worker with just 25 years of service would receive 75% of his highest salary as a defined benefit pension.

                           percent
-------------------------------------------------------------
      Percentiles      Smallest
 1%            2              1
 5%            2              1
10%            2              1       Obs              224479
25%         2.16              1       Sum of Wgt.      224479

50%          2.3                      Mean            2.41739
                        Largest       Std. Dev.      .3617814
75%          2.7            3.5
90%            3            3.5       Variance       .1308858
95%            3            3.5       Skewness        .205287
99%            3            3.5       Kurtosis       2.366788

The media reports that NYC received almost a month's total of rain in 3 hours recently.  While this imposed some time and inconvenience costs, I see little evidence from the following NY Times story that the city was "crippled" by this shock.   Urban areas are already ready for such shocks. Since we are urbanized, we can adapt.   For every person in the city during the rainstorm, how was their day disrupted? What would they be willing to pay for this storm event not to occur?  For everyone trying to  get to NYC (the people at the airports) or get out of NYC, were they productive? What did they lose?  This is the "smallball" of what must be quantified to measure the adaptation costs of climate change.



Suppose that 250 flights were cancelled and that each flight has 250 people on board.  Suppose that each person lost $1,000 in time and annoyance, then then the total cost for this group is $62.5 million.  This is sizable but small in the grand scheme of things.    The New York Times didn't report any fatalities.

I take this case study to be good news as a natural experiment that sophisticated rich cities can take a serious punch from Mother Nature.