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Resource Economics, Energy Externalities, and Energy Policy Economics 331b Spring 2010 1 Agenda Monday: Finish sketch of non-linear dynamic systems Introduce energy policy and externalities Peak oil hypothesis Wednesday: Hotelling theories Friday: Energy primer 2 What are major issues? What is special about energy? What are the market and efficient allocation of exhaustible resources (Hotelling theory)? How does this relate to peak oil theory? What are the major reasons to have an “energy policy”? Special sectors: - oil, autos, nuclear power, relation to global warming 3 Introduction on Energy Policy 1. Economists’ first presumption is that energy is just another good and service and should be allocated by market. 2. There are many important qualifications: a. Pollution externalities: a wide variety of harmful by-products of production (health, property, global warming, congestion, …) b. International complications: security of oil supply, military implications, monopsony power,… c. Business cycles: oil price shocks associated with inflation and recessions. d. Market failures: monopoly, regulation, subsidies, poor metering, network externalities, incorrect intertemporal discount rates, … e. Technological externalities: positive externalities from research and development (R&D). These are corrected by government subsidies, intellectual property rights (patents, …), regulation, and other f. Distributional: is energy a “merit good” along with food, health care, and shelter that should be subsidized for low-income households (normative); high prices increase inequality (normative). 4 Generic Strategies for Policies A. Taxes on “bads” Carbon tax on CO2 emissions; taxes on ozone-depleting chemics B. Subsidies on “goods” 1. Subsidies for private actions (usually tax credits) “Incentives” for vehicles, electricity, non-oil fuels, … 2. Federal expenditures Federal energy R&D, renewable electric, advanced nuclear C. Regulations that are implicit taxes or redistribute private costs 1. Efficiency standards Vehicle (CAFE) standards, appliance standards 2. Misc. market regulations Feed-in tariffs, mandate market shares for renewables (ethanol) 5 Overview of energy system Capital, labor, … Capital, labor, … Non-energy goods and services Utility: U(c1, c1, …, cn) Energy resources (oil in ground,…) Energy fuels (gasoline, electricity, …) Energy goods and services (passenger miles, warm house, hot coffee, … 6 External effects Market boundary Capital, labor, … Capital, labor, … Non-energy goods and services Utility: U(c1, c1, …, cn) Energy resources (oil in ground,…) Energy fuels (gasoline, electricity, …) Production externalities: SO2, CO2, … Energy goods and services (passenger miles, warm house, hot coffee, … Consumption externalities: congestion, … 7 MB, MC Social MC Private MC MB Pollution Efficient Pollution Market Pollution MB, MC Social MC Private MC+tax Pigovian tax Private MC MB Pollution Efficient Pollution= Market MB, MC Pollution regulation Social MC Private MC MB Pollution Efficient Pollution= Market McKelvey diagram on resources 11 Questions about exhaustible resources 1. Is it an “essential” resource? Question of elasticity of substitution between resource and other inputs. - Is there a backstop technology? At what price? 2. Is the use of the resources “sustainable”? This refers to whether net investment in the economy is positive. - E.g., investment in capital greater than disinvestment in value of resources 3. Are we overdiscounting the value of future resources? - This is the discount rate question we discuss later 12