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June 2009 Archive for Economic Sense

RSS By: Matt Bogard, AgWeb.com

Matt's primary interest is in the biotech industry and ag policy.

Got (Green) Milk?

Jun 27, 2009
By Matt Bogard

Another example of the 'Invisible Green Hand' at work. This time in the dairy industry. See link from Science Daily  here.

Excerpt:

"The study shows that the carbon footprint for a gallon of milk produced in 2007 was only 37 percent of that produced in 1944. Improved efficiency has enabled the U.S. dairy industry to produce 186 billion pounds of milk from 9.2 million cows in 2007, compared to only 117 billion pounds of milk from 25.6 million cows in 1944. This has resulted in a 41 percent decrease in the total carbon footprint for U.S. milk production."

This is just one more example why we really may not need climate change legislation.Left on its own, the market is producing the incentives and the technology necessary for increasing output while utilizing fewer resources ( and reducing emissions).

The current Markey-Waxman  ( Cap and Trade) legislation, narrowly passed in congress, in theory is supposed to put a price on carbon and provide the incentives that will encourage more such innovation. But in reality, it has become so overloaded with regulations that it will not be effective at either harnessing market forces or reducing emissions.  ( for a more thorough discussion see Knowledge Problem here). 


A better approach for dealing with climate change or any environmental problem is to develop resilient market based economies that are able to invest in the technology necessary to adapt to ever changing resource constraints. We know that this works, becuase we see it everyday in the agriculture industry through better management and technology. 


Reference:
Capper, J. L., Cady, R. A., Bauman, D. E. The environmental impact of dairy production: 1944 compared with 2007. Journal of Animal Science, 2009; 87 (6): 2160 DOI: 10.2527/jas.2009-1781

Green Jobs

Jun 20, 2009

By Matt Bogard

Recently there has been a lot of hype created regarding the creation of 'green jobs' and even excitement that the creation of green jobs may help stimulate the economy. This may be counter to what we would expect given basic economic theory.

Recent research by Gabriel Calzada Álvarez (link) indicates that job losses may result from what economists refer to as the broken window fallacy.

'we find that for every renewable energy job that the State manages to finance...that the U.S. should expect a loss of at least 2.2 jobs on average, or about 9 jobs lost for every 4 created, to which we have to add those jobs that non-subsidized investments with the same resources would have created.'
'Each “green” megawatt installed destroys 5.28 jobs on average elsewhere in the economy: 8.99 by photovoltaics, 4.27 by wind energy, 5.05 by mini-hydro.'

With the broken window fallacy, as the analogy goes, breaking the baker's window leads to jobs for glass repair workers, and thus acts like a stimulus to the economy. It is a fallacy in that it does not consider the jobs that other wise would have been created had the baker not had to fix his window, but expanded his business or invested the funds. Jobs may be created on both accounts, but who is to say which jobs create the most value for the economy.


Green jobs created by government are not equivalent to those created by the free market. A recent story from the Charlotte Observer points out that according to a study by Pew Charitable Trusts "Green-jobs growth has occurred without consistent regulatory support... "All the states that grew were responding directly to consumer demand."

A prime example of green job creation via the free market can be found when we look at modern agriculture. As pointed out in a recent AgWeb blog post 'Biotechnology: An Agriculture Success Story' recent research from PG Economics indicates that biotech crops have greatly reduced agriculture's carbon footprint and reduced pesticide applications. In essence, all biotech realted jobs and jobs created by growers using biotech are 'green jobs.'


Green jobs created by the biotech industry are created voluntarily. Investors and entrepreneurs recognized that the money they invested in biotech would yield more benefits to society than any alternative at the margin. Or else they would have invested their money elsewhere.

When government tries to create green jobs, it has to arbitrarily take money from one place and put it somewhere else. Because they base their decision on the limited knowledge and preferences of at most a few voters, politicians, and bureaucrats vs millions of market participants, they have no way of knowing whether the additional benefits to society from their program are greater than the costs. ( and they risk destroying more jobs than they create).

If we truly want increased growth, decreased poverty, and improved environmental quality, our best chance is going to be to leverage the power of the 'invisible green hand' and let the market create green jobs where they are needed most. The ag industry has already set the example.


Behavioral Economics

Jun 20, 2009

By Matt Bogard

A recent story on National  Public Radio ( link) gives an overview of a subfield of economics called behavioral economics. Behavioral economics incorporates elements of psychology into economic theory. Some people believe that behavioral economics will improve economic models because it makes a correction for what they believe are errors in the assumptions of classical economics. As a result many people have come to think that behavioral economics may even justify the unprecedented amount of government intervention in the economy and improve our lives. 

First, I would say that the term 'behavioral economics' is very misleading from the start. I don't doubt that there may be ways that concepts from psychology could improve certain aspects of economic models. However, a better term would be psychological economics, cognitive economics, or psychonomics. Economics in general is the study of choices, and how they are made compatible in a world of scarce resources. It is already all about behavior. To name a subfield 'behavioral economics' is redundant and confusing.

Secondly, a major criticism of classical economics is the assumption that people are perfectly rational and perfectly informed. As the article states:

"Economists literally assume that the agents in the economy are as smart as the smartest economist," Thaler says. "And not just smart: We're not overweight; we never overdrink; and we save just enough for retirement. But, of course, the people we know aren't like that.......An imperfectly rational human being challenges a really important idea: the notion that markets work well because individuals can be counted on to make the best choice for themselves."

  One problem is that people get too excited about behavioral economics and over exagerrate the fact that people are not perfectly rational. We all know that people don't always appear rational, and don't always make the best decisions. Some people make very bad decisions. When people learn that  economic 'theory' assumes that people are perfectly  rational, a naive reaction is that economics has to be wrong.  That is a huge mistake.

As an example, we might learn in science class that the earth is not perfectly round and smooth, but we still use perfeclty round smooth globes to learn about geography. We all know that most pool players don't do physics and calculus in thier heads for every shot they take, but the shots can be easily modeled using the laws of physics. We don't trash globes or stop teaching physics in schools just because these 'models' aren't exactly like the real world. In fact these models are useful only because they are not exactly like the real world. They approximate the real world just enough to be useful. To make these models match the real world exactly would make them so complex that they wouldn't be easy to use.

In fact, one of the major criticisms of behavioral economics is that it makes models to complex to be useful. From a the Economist's View blog David Andolfatto writes:

"There are an infinite number of ways in which people might be irrational; and the behavioral theorist is forced to choose among an infinite number of "behavioral rules" that he or she believes captures this irrationality in a plausible manner. The only hope that a behavioral theorist has for developing a general theory is in discovering that people are irrational in some systematic manner."

A lot of people are holding out hope that 'behavioral economics' will save us from our selves. That it will allow us to break a basic law of nature: that people own themselves and that you as an individual are the best person to decide what is best for you. If behavioral economics allows this, then there is no limit to what government can do. Suddenly there is no limit to how high taxes can be raised. We can raise the wages for the poor and cap the wages of the rich with no consequence. We can print as much money as we want and not worry about inflation. We can ignore large budget deficits. We can tell car companies what kind of cars to build and return them to profitability. We can tell farmers what kind of crops to grow and how to raise their livestock and still feed the world.

Even if behavioral economics were to offer great breakthroughs, another subfield of economics called Public Choice casts doubt on whether our elected leaders would actually put better policies ahead of thier own personal and political party's gain.

With the basic assumptions of economics, we've seen that people do appear to respond to incentives. We see that tax cuts can lead to job creation and economic growth. We see that  minimum/living wages lead to decreased opportunities for the most disadvantaged. We see that printing large amounts of money leads to inflation. People don't have to be perfectly rational for the most basic principles of economics to be relevant, and behavioral economics likely won't change these findings. ( see Gregory Mankiw's 10 Principles of Economics ).


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