Chapter 2 Energy, Markets, and Society Part B Peter Schwarz, Professor of Economics and Associate, Energy Production and Infrastructure Center (EPIC), University of North Carolina Charlotte

Chapter 2 Outline (continued) I. Introduction II. What is Different about Energy? III. Efficiency (continued) IV. Social Welfare V. Sustainability of 16

Efficiency: Economies of Scale Declining long run average cost (LRAC) over relevant range of demand Natural monopoly Transmission, Distribution Generation? Marketing? of 16

Efficiency: Other Market Failures Imperfect information Second-best world Macroeconomic instability Non-efficiency market failures Inequity Unsustainability of 16

Efficiency: Imperfect Information Asymmetric information You buy compact fluorescent bulb that is predicted to last 20x longer. Seller knows that it won’t last that long if you turn lights on and off frequently. Also, you may not be aware of mercury content. Or difficulty of disposing of burned-out bulbs. http://www.designrecycleinc.com/led%20comp%20chart.html of 16

Second-best considerations Is subsidy for alternative fuels justified? Yes, if carbon (or other) emissions go unpriced. Renewable Portfolio Standards (RPSs) and Feed-in-Tariffs second-best policies If you rule out carbon tax, cap-and-trade. of 16

Efficiency: Macroeconomic Instability Rising energy prices have triggered most of the recessions in the U.S. since 1973 Inflation Unemployment Green energy could provide jobs But at what cost? Recent paper by Meredith Fowlie, et al. Looks at government program Do Energy Efficiency Investments Deliver? Evidence from the Weatherization Assistance Program https://energyathaas.wordpress.com/2015/07/07/do-residential-energy-efficiency- investments-deliver/ Stagflation of 16

Equity Ex. Taiwan a repository for old car batteries Can leak battery acids Including lead. Chester PA Used for toxic wastes Environmental (in) justice Larry Summers Taiwan ex. is efficient. Equity-efficiency tradeoff The Memo DATE: December 12, 1991 TO: Distribution FR: Lawrence H. Summers Subject: GEP (Global Economic prospects) 'Dirty' Industries: Just between you and me, shouldn't the World Bank be encouraging MORE migration of the dirty industries to the LDCs [Less Developed Countries]? of 16

Sustainability Special form of inequity Different ethic Not including future generations in your decision Precautionary Policy Do no harm Different ethic Value ethic Motive matters Vs. utilitarianism Consequences matter But not motive. of 16

Social Welfare Many possible efficient points Which to choose? Some may favor wealthy, others favor the poor Which to choose? Equity criteria Simplest: $ = $ Just choose the one with the largest net gain. As in Cost-Benefit Analysis of 16

Social Welfare (2) Pareto Pareto Improvement Possible to make someone better off without making someone else worse off. Efficiency Impossible to make someone better off without making someone else worse off. Hicks-Kaldor Potential Pareto Efficiency Winners could compensate the losers But compensation does not take place of 16

Social Welfare (3): CBA Consumer Surplus (CS) Producer Surplus (PS) Total Surplus = CS + PS Use market values for price, cost in competitive market if available Otherwise approximate competitive values If no markets, calculate shadow price. Price of carbon EU market Adjusted for competition Or survey of willingness to pay for C reduction. of 16

Social Welfare (4): CBA (2) Example Alaskan Pipeline Trans-Alaskan Pipeline (TAP) Alternative McKenzie Valley Pipeline (MVP) MVP better from efficiency and equity perspective No tradeoff Which was selected? TAP More profitable for producers. of 16

Sustainability Economic Environmental Social (Physical) Capital Human Capital Natural Capital Natural resource accumulation/depletion Social Capital Relationships among people that foster production Triple Bottom Line of 16

Sustainability (2): Energy Is the future better off if we spend $1 billion today on carbon sequestration project that has $3 billion benefit 50 years from now, or if we invest the money at a 3% interest rate? Strong Leave future as much of a specific resource as we have today. Weak Leave future as much production capacity as we have today. Robert Solow: An obligation to conduct ourselves so that we leave to the future the option or the capacity to be as well off as we are. Weak sustainability Examples: Norway– Oil revenues go into pension system. Texas – Oil revenues go towards University system. Alaska – Oil revenues pay dividend to current citizens (not sustainable). of 16

Sustainability (3): Energy (2) Efficiency misses evolution (very slow changes) Brock and Xepadadeas (2003) So sustainability corrects efficiency bias. Corrects “Defective Telescopic Faculty.” Pigou (1932) Equity Future generations are not here to represent themselves John Rawls: Theory of Justice (1971) Veil of ignorance We don’t know if we’ll be born today or in the future. We’re only as well off as our worst-off citizen. of 16