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WEALTH OF NATIONS
How to Get Serious About Energy Policy
Politicians of both parties take it for granted that the American voter cannot tolerate an explicit tax on carbon.
The next president of the United States will arrive at the White House committed to a radical new approach to energy policy. Barack Obama and John McCain have both pledged to take climate change far more seriously than the current administration has done. They promise to curb greenhouse gases through a cap-and-trade system of emissions permits. Both advocate, in addition, an array of measures to promote energy conservation, the use of alternative fuels, and all manner of "clean-energy" innovation.
Their aim is to give the country what both candidates say it now wants: energy security, energy independence, affordable fuels, and the leadership role in fighting global climate change that the Bush administration surrendered when it walked away from the Kyoto Protocol in 2001. Yet both men, in my view, have failed to understand the main issue or, more likely, are deliberately obscuring it.
As you would expect, McCain and Obama are currently emphasizing their differences rather than the more important elements that their energy policies unfortunately have in common. Both are especially keen to respond to voters' complaints about the cost of energy and the current price of gasoline in particular.
Thus McCain thinks he has a winning issue in offshore drilling for oil. He wants to lift federal restrictions. "There is no easier or more direct way to prove to the world that we will no longer be subject to the whims of others than to expand our production capabilities," he says on his website. Earlier in the campaign, McCain, along with Hillary Rodham Clinton, also advocated a gas-tax holiday to provide more-immediate relief. Obama dislikes both ideas. He argues that drilling will do nothing in the short term (and almost nothing even in the long term) to cut the price of gas. He called the gas-tax holiday a meaningless gimmick.
As for his own proposals, Obama emphasizes the need to "crack down on excessive energy speculation," which he says is partly to blame for the current oil price spike. McCain agrees that speculation should be looked into, but he seems to regard it as a lower priority. Obama also advocates a "windfall profits" tax on the oil companies, with the proceeds "invested in a number of measures to reduce the burden of rising prices on families." McCain opposes that position. "A windfall profits tax on the oil companies will ultimately result in increasing our dependence on foreign oil and hinder investment in domestic exploration," he says. "Jimmy Carter put a windfall profits tax in place with little to no useful results."
On these contested issues, who is right? Obama is correct that offshore drilling will have little or no impact on the price of oil--which is set, as he says, in the vastly bigger global market. But this does not make offshore drilling a bad idea. If the oil can be recovered profitably, with environmental safeguards in place, it is a valuable asset that the United States should exploit.
Nobody told Britain or Norway to leave their oil under the North Sea because recovering it would make little difference to the price of petrol. Regardless of the effect on the world price, that oil added tens of billions of dollars a year to their national incomes. McCain is therefore right to call for offshore drilling (where it can be done with adequate environmental protections), though not for the reason he states. It is about realizing a valuable asset, not achieving "energy independence."
On the gas-tax holiday, McCain was just plain wrong. Consumers would get little if any benefit from a short-term measure of that sort, because the oil companies would pocket most of the relief. If the polls are any guide, voters figured this out. (Maybe they asked themselves why, if the gas-tax cut was such a good idea, it should be temporary rather than permanent. I would still be interested to hear McCain's answer.) On the windfall profits tax, both men have a point. Undeniably, the oil companies have scooped a profit windfall thanks to the recent spike in prices. On the other hand, you cannot tax the profit away (and implicitly tell the oil industry that the same thing will happen next time) and expect planned future investment to go forward as though nothing had happened.
What about evil speculators? This is largely a nonissue--although a useful opportunity, duly seized, for Obama to stroke populist antimarket sentiment. As almost every market-watcher has pointed out, if speculators were driving prices up, inventories of oil would have expanded as output was taken off the market. That has not happened. Prices have surged because increasing global demand has encountered fixed (in the short term) global supply. Tactically speaking, Obama may be wise to keep hammering away at the issue; as a matter of oil-market economics, he is wrong.
In any event, however, these areas of disagreement about current gas prices are sideshows. Much the most important part of both programs is the seemingly brave commitment both have made to a long-term cap-and-trade regime for control of carbon. This could indeed be, to use Al Gore's favorite word, a "transformative" undertaking. Obama sets a goal to reduce carbon emissions to 80 percent below 1990 levels by 2050. McCain's goal is a bit less ambitious--a cut to 60 percent below the 1990 benchmark by 2050. Both are promising, in effect, a wholesale restructuring of the U.S. economy around the goal of carbon abatement.
Let us assume this is desirable. Do they mean it? Do they understand what these commitments entail? (If they do, they certainly aren't spelling it out to voters.) Is there any chance that either goal will be met?
You have to wonder. The country's mood on global warming has changed--most people now seem to take the danger seriously--but public opinion on energy policy has two contradictory strands. People are worried about rising temperatures and changing climate; but they are also worried about expensive gas. If you are serious about reducing carbon emissions, expensive gas is not a problem; it is an unavoidable part of the solution.
Politicians of both parties take it for granted that the American voter cannot tolerate an explicit tax on carbon, which would be the best way to curb greenhouse gases. This supposedly immovable resistance is why the presidential candidates advocate a system of tradable emission permits instead. But if cap-and-trade binds tightly enough to make a difference, it will necessarily make carbon-releasing fuels more expensive. The system cannot work any other way: It can succeed only by attaching an implicit tax to carbon.
Do Obama and McCain think voters are too stupid to see this? When fuel gets more expensive, won't voters object just as strenuously as they would have if a carbon tax had been imposed in the first place? You cannot hope to transform the economy and have nobody notice--can you?
And another thing: In setting their bold targets for 2050, Obama and McCain know they will not be held accountable for failing to meet them. Any such failure is 42 years away and somebody else's problem. Politically, their best bet may be to take credit for seeming to confront the problem while deferring real action and its unpopular consequences another four or eight years.
Europe's politicians have already worked out their own way of seeming bold on climate change while actually doing nothing: It is called the Kyoto Protocol. America's promised cap-and-trade system could easily go the same way. Willingness to advocate an explicit carbon tax--or at any rate, to spell out the equivalent consequences of a binding cap-and-trade system--is the real test of whether either candidate is ready to confront this issue. So far, both are failing that test.
As it happens, I think the political toxicity of a carbon tax as against cap-and-trade--assuming we are serious about this, and contemplating a cap-and-trade system that makes a difference--is exaggerated. A revenue-neutral package of a carbon tax and cuts in other taxes is surely within the bounds of domestic political salesmanship. But also bear in mind the decisive international advantage of a straightforward carbon tax.
Yes, America should lead on global climate change, but it cannot solve the problem alone. Its efforts will be futile unless other big emitters--especially China and India--join in. Reaching agreement on a global cap-and-trade regime, and coordinating each country's efforts within it, would be fantastically difficult. Think about Europe's problems with Kyoto, and multiply by 10. It would be far, far simpler to organize international efforts around a harmonized carbon tax. Why strive to coordinate a million quantities, when you can gradually coordinate a single price?
I already gave the answer. Doing the far simpler and more effective thing requires you to be honest with voters at the outset. Apparently not even Barack Obama or John McCain will go there.
"Wealth Of Nations" offers an international perspective on global affairs and politics as well as world finances and economic development.