Category Archives: Water and the Oceans & Seas

… the Tea Party

Jeb HensarlingHow is it that I often hold the same opinions on legislation as Jeb Hensarling?

Jeb Hensarling is not a person I am particularly fond of. He consistently votes against hate crime legislation, LGBTQ rights, pro-choice and women’s rights, and other morally correct things to do. He is socially conservative, and promulgates all of the negative social rhetoric that characterizes social conservativism. The world would be a better place if he were not a Member of Congress. Nevertheless, I actually agree with many of his positions on economics. How could I be so diametrically opposed to conservatism and yet agree with some of his policy?

I think the answer to this question lies in the distinction between social and economic policy, or more so, social conservatism and economic conservativism. I would characterize my political position as economically conservative, and much farther to the left socially. As a society we have coopted all of conservatism into Republicanism, and all of liberalism into being a Democratic, but truly that is not the case. The political spectrum is at least two-dimensional, and I certainly do not identity myself on the one-dimensional left-right spectrum.

Jeb Hensarling is the Chairman of the House Financial Services, which makes his opinions on financial matters of outsized importance. And recently, he has come out against a number of policies that I too do not hold favorably:

  • Export-Import Bank
  • Flood Insurance
  • Terrorism Insurance

Before diving into the policies and the foundations for our opposition, it is helpful to expound a bit on my personal economic philosophy. Market intervention is warranted by the government when there is the presence of a market failure. Furthermore, regulation is justified when government policy creates perverse incentives that ought to be contained. For instance, heavy industry generates pollution, which is a cost that people who do not necessarily consume the products of industry have to incur. This is known as a negative externality and is an example of a market failure. Therefore I believe that the government has a role in helping to resolve this failure.

Similarly, many countries in the world have deposit insurance for banks. Because of this assurance banks may take more risky gambles. This is known as moral hazard. Therefore I believe that the government is justified in regulating banking, insofar as the regulations are crafted to control the moral hazard that its policies create. However, beyond these types of corrective interventions in the market, I believe that the government should not intervene and let market forces prevail, which is to the benefit of all actors in the economy. I believe that those statements express a philosophy of economic conservativism. And certainly, in terms of economics, I may not be as far right as certain conservative politicians – the Rands come to mind – but I am certainly to the right of most self-identified liberals.

Export-Import Bank

Recently, since this section of the article was drafted, Congress outgunned our man Jeb and pushed the reauthorization of the bank through

The Ex-Im Bank is a government sponsored enterprise, first established during the FDR Administration. It borrows money at the government borrowing rate (Treasury rate), and then uses that money to support American industrial exports abroad. It has four main financial programs:

  • Direct loans to foreign purchasers
  • Guaranteeing loans made by banks to foreign purchasers
  • Insuring loans made by US exporters and banks to foreign purchasers
  • Loan guarantees for working capital lines of credit made by banks to American industrial firms

The purpose of these financial activities is to promote exports; in particular, to finance exports that the private sector deems too risky. Loan guarantees make up the bulk of Ex-Im financing. Direct loans are second up. Smaller firms typically take advantage of the working capital guarantees, particularly since their banks get nervous when receivables are in a foreign currency.

Due to the Ex-Im Bank’s ability to borrow at the Treasury rate it is a very profitably institution. So profitable in fact, it kicks money back to the Treasury – about $1 billion a year. The bank is not appropriated any budget funds, and has a very low default rate. However, the mission of the bank is not to generate income for the federal government. The purpose is to promote exports, support the American industrial and manufacturing economic base, and create jobs. Jobs jobs jobs!

airplaneHensarling & Co. dislike the Ex-Im Bank because they consider it “corporate welfare,” a clever piece of rhetoric meant to mean, ‘giving money to rich companies that don’t need taxpayer help making any more of it.’ They claim that for all the money it dishes out it is fundamentally excluding other businesses. Other worthy businesses. And this is not right, so they oppose the bank, which primarily support America’s largest companies, such as Boeing, GE, and Caterpillar.

This simply is not the case. To construct the Ex-Im Bank as a deliberate attempt by the US government to support fat cats at the expense of other businesses is a distortion of reality. The government does not spend any money on the bank. Given the government’s ability to borrow at low rates, the government could set up any number of financial institutions with a similar financing model and support any industry it sees fit. It just happens to be that for 80 years the government has chosen to specifically support industrial exports (and many other industries, which the Tea Party is choosing not to mention). The opponents of Ex-Im are simply using the bank for political theatre. Like most of their arguments, their rhetoric is misleading.

Why don’t I particularly care for the Ex-Im Bank? It is because there is no evidence to point to a market failure in the export financing sector. Furthermore, the bank creates export subsidies, which distort international markets away from their natural equilibrium. It’s the same reason that I am in favor of free trade agreements. However, over 60 countries have export credit agencies like the Ex-Im Bank, so there is more or less an even playing field. But there would be just as much of an even playing field if every country scrapped their subsidies and let the market take care of international trade on its own.

Furthermore, the Ex-Im Bank is a government sponsored enterprise (GSE). It borrows at government rates and uses that money to guarantee loans aligned with the government’s long-term goals. This is exactly like Fannie Mae and Freddie Mac, the two most notorious GSE’s (which, not to my surprise, Hensarling also opposes and has sought to wind down). Now I am not saying that the Ex-Im Bank is headed towards a default a-bomb (nor am I saying that it is not), but in general, I am opposed to GSE’s. When the government supports a particular market and not others it picks winners and losers. Not particular companies as winners and losers (like Hen-chmen claims), but particular industries, as the recipients of capital or not. People see winners and shift their capital to those fields. Capital pools in one industry, whereas a more even distribution among industries may be more optimal. In addition, it actually creates moral hazard, wherein financers take on more risk than they normally would have because of the government guarantee.

With Fannie Mae and Freddie Mac, this all contributed to a huge housing bubble. The country did not need so many new single family homes. We needed affordable housing, infrastructure, investments in education, and a host of other capital intensive construction, but because of the government supporting home ownership, everyone went full speed ahead into housing until it was too late.

I don’t believe that we are in a manufacturing and industrial export bubble; however, the market may be distorted by the cheap capital flowing to the sector from the government. The market may naturally be demanding renewable energy, infrastructure, affordable housing, technology, and software, but instead a disproportionate flow of capital is going to heavy industry. In my opinion, it would just be better to not directly financially support particular industries with capital, and instead just create policies that allow industries to flourish naturally (tax policy, employment policy, intellectual capital and patents, etc.).

During an industry’s infancy direct capital support may even be the correct policy, but as an industry matures, which heavy industry in the United States certainly has, so too does the policy need to, and the capital support needs to taper and eventually disappear. This has not happened, and we continue to see massive American firms such as GE, Boeing, and Caterpillar, getting the largest sums of our export credit support.

Flood Insurance

I nearly wrote an article about government flood insurance a few years ago after Hurricane Sandy, but everything that needed to be said at the time was published by other people, so I abstained from writing my own opinion. But I think that now is an appropriate time to return to the topic.

hurricane-sandy-nyc

Private homeowner’s insurance does not cover flooding. It used to, until the 1950’s and 60’s, when losses were mounting to insurance companies, premiums were rising, poorer people in flood zones were left – ahem­ – without a paddle, and insurance companies began dropping flood coverage altogether. Federal flood insurance covers this gap. Homeowners pay premiums and the government covers losses. Originally, the program was implemented to reduce the government’s exposure to flood losses. FEMA was paying out large sums after natural disasters to uninsured homeowners, so the insurance program was extended to communities in flood zones that were willing to adopt flood mitigation and management plans. In addition, the federal government hoped that by pooling funds into a national program, localized events could be covered and absorbed by premiums paid into the system nationwide.

However, in practice, the supposedly self-sustaining program has become costly and far from self-sustaining. Rates remain below market levels and risk has been poorly quantified and distributed. The system (which is administered by FEMA – they’re doin’ a heckofa job!) has borrowed from Treasury on multiple occasions, and is currently $24 billion – ahem – underwater.

One of the problems is the flood maps. Anyone living in a flood zone as indicated on these maps is legally required to have flood insurance. But the maps are outdated and not accurate. They underestimate the risk of floods. As a result, people who are in fact in flood zones, even though they do not have insurance because the maps do not require them to, are getting flooded out and requesting emergency relief funds. Plus, people who do have coverage are under-insured because the maps are not adequately estimating the risk that they are under.

The problem with risk identification does not point to a philosophical objection to the policy, but instead a problem with how it is carried out. These problems could be resolved by simply updating the flood maps and having premiums reflect actual risk. However, I have a more fundamental objection to the national flood insurance program: people who do not live in flood zones are subsidizing people who do live in flood zones.

I am from the Hudson Valley, which is historically a relatively safe place to live and not flood-prone. It is one of the reasons why I love my home region. And as a taxpayer, I do not want my tax money to be subsidizing people who have multiple homes or choose to live in riskier areas, such as beachside. Government policy should be incentivizing development in less-risk regions, and people who elect to live in riskier zones should foot the entire bill themselves (in this case through a private flood insurance market).

Of course, there are always questions of poverty and mobility. There are many impoverished communities around the United States in flood prone areas. I am amenable to a program that assists these communities, but this would be a vastly scaled down national flood insurance program, not the $24 billion indebted behemoth that we see today. Over time the country would be better off if flood-prone regions became less populated. Scaling back flood insurance would achieve that. Some of the saved money could even be used for relocation assistance, or any number of other assistance programs.

Terrorism Insurance

The Terrorism Risk Insurance Act (TRIA) was enacted after September 11, 2001 so that large development projects could continue as insurance companies, banks, and developers, readjusted their models for terrorism risk. It has been continually renewed since them. It is supported by Congresspersons and Senators from major metropolitan areas, developers, and of course insurance companies who can transfer their risk to the federal government. Organizations such as the NFL and NASCAR also support TRIA, since it helps to insure large events such as the Super Bowl.

Treading into appropriate risk and terrorism is an ideological minefield. Dare I ‘let the terrorists win’? Pushing aside those considerations (which, yes, I believe are asinine), if there is risk in development, then I believe that the federal government and by extension, the taxpaying public, should not have to bear the risk. This is a running theme in this article and a general belief of mine. Investors should bear risk, not anyone else. If large-scale development is too risky because of the potential for terrorist attacks, then do not engage in large-scale development, or at least modify plans to disperse risk and make them less desirable or less likely targets.

A market failure common in insurance is adverse selection. Adverse selection is when the people most likely to have to make a claim buy the most insurance. This overwhelms the mutual risk sharing pool of premiums (since not many people who are not making claims are paying in) and the insurance scheme fails. It is very common in health insurance. Sicker people bought more insurance, and as a result policies were always going up and up and up, forcing out healthier people (and putting them at risk for sudden and expensive health emergencies). The individual mandate in the affordable Care Act was meant to address this very issue of adverse selection. But I do not see any adverse selection taking place in the terrorism insurance market. The case can certainly be made that New York and a handful of other states bear more risk, but insurance is administered at the state level anyway, so this risk concentration is not contributing to any adverse selection at a national level.

Another theme in this article is that I do not categorically oppose all of these programs and want their subsidies rescinded, immediately. However, moderation and more specific selection of beneficiaries are imperative. With the example of terrorism insurance, perhaps developers in Washington DC do bear outsized risk due to the presence of the federal government. The government could then rightfully offer terrorism insurance for developments in the District of Columbia. And as I mentioned in the case of the Export-Import Bank, direct government support of infant industries may be warranted and appropriate. However, I do not agree with these largescale subsidy programs.

TRIA is likely a program that had its merits in 2001 and 2002 when America was one big patriotic brothel and everyone wanted to do anything that they could to fight the terrorists and help the country get out of a recession quickly. However, since then, there have not been any terrorist attacks and there has never been a terrorist insurance claim filed (the Secretary of the Treasury has to declare an act of terrorism for the government to backstop the insurers, and he declined to do so after the Boston Marathon Bombing). Since 2001 terrorism insurance has just become a profit getting boondoggle for the insurance companies. New developments are required to have terrorism protection by the banks, so the insurance companies are guaranteed revenue, while the federal government backstops the majority of the risk. The risk is also extremely difficult to quantify and model, because terrorism attacks have been extremely rare, are subjectively defined, and the loss distribution of the attacks has been extremely wide. This directly calls into question the insurance industry’s pleas for government support.

Twin Towers

Luckily, there have not been any terrorist attacks in the United States since September 11. As a result, terrorism insurance has only cost tax payers $1 million a year in administrative fees. However, were there to be an attack, in addition to the loss of life, injuries, and property damage, a huge hole may get blown in the national budget. Taxpayers, whether or not they are shareholders of development companies, would have to fill this hole.

Essential Air Services

I am not aware of Representative Hensarling’s position on Essential Air Services (EAS), but it is a government program in the vein of the others that I have discussed here in this article. I am not a fan of the program.

Prior to 1978 the government heavily regulated air travel. Fares and routes were mandated by the government. This system provided flights to smaller and more remote cities around the country. After deregulation, communities feared that airlines would eliminate flights to smaller cities, since these flights are less profitable. In response, the government enacted EAS, subsidizing flights to 160 rural communities around the country (43 of these communities are in Alaska). Excluding Alaska, which has separate operating parameters, the program cost $241 million in 2014. Apply the Eric Test: Is there evidence of a market failure in the rural aviation industry? I don’t believe so.

Small Airport

By subsidizing flights to smaller rural cities the government is making the cities marginally more attractive places to live. However, the economy works most efficiently when labor moves to where it is in demand. During the early and mid-20th century smaller rural cities were certainly labor centers. Agriculture was more labor intensive and employed more Americans, mining was more prominent, and industry and manufacturing was more dispersed. However, in the current economy demand is concentrated in larger cities that have hi-tech firms, universities, established industries, cargo infrastructure, and large health care systems. Smaller rural cities ought to shrink in size until they reach equilibrium – residents who desire to remain in the city and receive satisfaction from doing so can live there, and they can pay workers in the service industry sufficient wages so that everyone in the city can maintain happy and healthy lifestyles. EAS disturbs this equilibrium, and we are all paying for it! I don’t like it.

I do not propose that these communities be immediately cut off. People and communities need time to adjust. However, over time, service needs to be transferred away from these communities, and I suspect that population will decrease as well. Many of these communities were once thriving, due to the presence of industry, such as mining, which is no longer present. These people would now be better off, and so would the rest of the country, if they moved to other population centers where their labor is in demand and they have easier access to public and private services, such as quality health care, education, shopping, entertainment, banking, government services, and social networks. Kill EAS, Jeb!

Government subsidies and related economic support programs are often pet projects of politicians from around the country. That is why so often politicians from across the aisle get in bed together on these issues. If the policy benefits their district or state they will support it, political and economic philosophies aside. To see through this political theatre and their rhetoric apply the Eric Test: Is there evidence to indicate the presence of a market failure? If not, oppose the policy or regulation.

https://www.washingtonpost.com/opinions/robert-samuelson-the-misleading-debate-on-the-export-import-bank/2014/07/01/91bb7208-0138-11e4-8572-4b1b969b6322_story.html

http://www.nytimes.com/2015/06/26/business/jeb-hensarlings-fight-against-ex-im-bank-succeeds-for-the-moment.html?_r=0

http://www.insurancejournal.com/news/national/2014/05/22/329812.htm

http://www.politico.com/story/2014/03/jeb-hensarling-financial-services-compromise-104502

https://www.transportation.gov/sites/dot.gov/files/docs/Subsidized%20EAS%20report%20for%20non-Alaska%20communities-Jun%202014.pdf

http://www.theguardian.com/business/2014/jun/19/congress-renews-tria-terrorism-insurance-bill

Advertisements

… Oil

Having now written four articles on oil, its price, and the consequences that has for everyday uses of oil, such as gasoline and airfare, I have decided to turn these into a series of posts I am calling the Economics of Oil.

Fill Up at the PumpPart 1:

The Economics of Gas Prices

 

 

Oil PumpPart 2:

The Economics of International Oil Price Conspiracies

 

 

airplanePart 3:

The Economics of Airfare

 

 

Bitcoin MiningPart 4: 

The Economics of Bitcoing Mining*

 

 

As always, comments are welcome and encouraged, even if you disagree with me on any point.

*And yes, you will see just how much similarity Bitcoin mining has to oil

… the Inter-Oceanic Canal

Ometepe Island, in Lake Nicaragua

Ometepe Island, in Lake Nicaragua

Today marks the day that Nicaragua and her Chinese backers are breaking ground on the grand inter-oceanic canal that in five years will bisect the Central American isthmus and allow super-tankers too large for the Panama Canal to make the Pacific-Atlantic journey with ease.

Except it is never going to happen.

The history of Nicaragua is basically the history of failed canal attempts, and the foreign manipulation and betrayal, as well as the domestic anguish and languish that this brings. This is no less than the 72nd official proposal for a Nicaraguan canal. This won’t even be the first time that construction has begun. The first plans for a canal across Nicaragua were hatched by the conquistadors way back in the 1500’s, and Cornelius Vanderbilt nearly secured the financing he needed to construct the canal before the Civil War scuttled his attempts. But he did manage to incite a war and build a railroad through Nicaragua in the meantime.

Anyone who looks at a map of Central America may be puzzled by the proposal for a canal through Nicaragua. Costa Rica and Panama are far less wide. Nicaragua is the largest country, by area, in Central America. However, Nicaragua also has the largest lake in the region, Lake Nicaragua. At its closest, it is only 17 km from the Pacific Ocean. And Lake Nicaragua drains all the way to to the Caribbean Sea by way of the Rio San Juan (San Juan, or Saint John River). The vast majority of Nicaragua is an Atlantic, not a Pacific watershed. The Rio San Juan is rocky, shallow, and fraught with rapids at spots, but that has not stopped pirates from sneaking all the way up the river, as well as steam ships from being towed up the river. It is the most logical path for a successful canal through Central America.

As treacherous as the terrain of the river, the geopolitics of the river are far more rocky. The Rio San Juan is the border between Nicaragua and Costa Rica. However, it is the only riparian border in the world that is wholly owned by one country – in this case Nicaragua. And that has created endless problems and disputes with Costa Rica. So many, in fact, that the proposed route of the canal is completely bypassing the river and being cut straight through the interior of Nicaragua (and even so Costa Rica still has watershed issues that they claim Nicaragua is not responding to, in regards to the canal).

I don’t see why this time around should be any different from the 71 other attempts.

The main, insurmountable obstacle this time is the estimated price of the canal. Panama started with a good ‘ole American-made canal. Let’s say a Ford. And they have made a series of upgrades through the years. Let’s say right now they have a nice BMW model. To compete with Panama, Nicaragua is trying to acquire a Buggati. A $50 billion Bugatti, super-wide, super-deep, complete with access roads and highways, two deep-water ports, an airport, electric generation, pipelines, free-trade zones, a railroad, and a number of other necessary supply and infrastructure projects! They estimate it will take 50,000 workers and only take five years to complete.

So how is Nicaragua going to secure investors willing to provide nearly 4.5x its annual GDP ($11.26 billion, 2013 estimate, according to the World Bank)? I’ve put together a small list of possible backers and will go through my thoughts on each:

  • China
  • Nordic Sovereign Wealth Funds
  • Middle Eastern Sovereign Wealth Funds
  • Malaysian Sovereign Wealth Fund
  • Big Banks, the Backers of the Many Engineering Marvels of the Past
  • Venezuela and ALBA

China

If you ask a Nicaraguan where the money is going to come from they always say “China.” I don’t think so. Sure, the main investor at this point is a Chinese telecom mogul. And he is a multi-billionaire. But no one in the world has $50 billion to throw around, and our man in China is quick to point out that he has absolutely no backing from the Chinese government with regards to the canal. No one believes him, but it makes it very unlikely that he can muster $50 billion from his own domestic sources. Besides, between 2010 and 2012 China invested $101 billion, in total, in the entire continent of Africa (source: Business Insider). To think that they would even put half of that into one small country is irrational.

Nordic Sovereign Wealth Funds

I’ll make this one easy. Nordic countries, primarily Norway, have a lot of oil money that they are saving. But they are not going to invest it in Nicaragua. These countries have already pulled back on diplomatic channels and foreign aid to Nicaragua because of transparency concerns. They’re not going to pull a 180 and start pumping billions into a project fraught with questions and uncertainty.

Malaysian Sovereign Wealth Fund

Same story as Norway. They’re saving their oil money, and they’re not going to give it to Nicaragua. Unfortunately, this year, Malaysian Airlines, owned partially by the fund, had a rough one, losing two 777’s in their tragic entirety. The fund had to bail out the airline.  The price of oil is tumbling, which is probably helping to prop up Malaysian Airlines, on the one hand, but it is stunting the funds cash flow, on the other hand. I doubt they will be announcing a non-stop to Managua from KL anytime soon.

Middle East Sovereign Wealth Funds

And that leaves the Arabs. This is where I see the miracle coming from, if it comes from anywhere. Everyone knows that the Arabs have lots of oil wealth. And they’re known for the audacious. For one, Dubai. For seconds, it was the Arabs who bailed out some of the banks and hedge funds in the early days of the Sub-Prime Mortgage Crisis, long before Lehman Brothers became all too well known. So maybe, just maybe, a jet-setting Chinese man and Ortega’s outdated mustache can convince the right mix of petrocrats to throw in a good chunk of the $50 billion and really get the show on the road.

The Big Banks

No way Josue. Big banks in America, Europe, and elsewhere, are under immense pressure to demonstrate the viability of their investments. American regulators would pounce on any bankers working on this less-than transparent project, and European banks are already very bearish on shipping, since Northern European banks with shipping exposure were under extra scrutiny during the recently completed European banking stress tests, since global shipping has been very weak since the global recession.

Venezuela and ALBA

For years Hugo Chávez’s Venezuela was the standard-bearer for Latin-American Leftist opposition to America. When Chavez died last year his followers all started pounding their chest to become his heir. This included Correa in Ecuador, Ortega here in Nicaragua, Evo Morales in Bolivia, and of course Maduro in Venezuela. For years Venezuela, and its leftist sphere of influence, the Bolivarian Alliance of the Americas (ALBA in Spanish), have been financing cheap oil for member states as well as other social development projects. However, this all comes from Venezuelan stability and a steady stream of oil dollars into her state coffers. But with oil prices tumbling and Venezuela simmering in social unrest, it’s another no way Josue.

It is serenely ironic that the same trends, the rise of US oil and gas production, are giving rise to the need for an American super-canal, while at the same time driving the nail into the coffin of possible financing options, by driving down the price of oil.

The Sovereign Wealth Fund Institute has a nice map showing the size of sovereign wealth funds around the world. Click on the map for the link:

Red circles represent oil wealth, and blue circles represent other wealth (often mineral)

Red circles represent oil wealth, and blue circles represent other wealth (often mineral)

So it is never going to happen. But that does not mean I do not want it to happen. No one doubts that Nicaragua is starved for development. It is tied for being the second-poorest country in the Americas. Haiti takes the unfortunate crown, with Bolivia tied for second with Nicaragua.

The largest concern, after the obvious financing issues, is environmental. First and foremost, there is a 20-foot tide differential between the east and west coasts. And plans for the canal have not addressed this engineering obstacle yet. But furthermore, the canal will drive through protected wetlands, productive agricultural communities, and protected indigenous communities on the Caribbean coast. This is all not to mention that the route will go straight through and require the dredging of Lake Nicaragua, which is the largest source of freshwater in Central America. It is already an extremely fragile freshwater ecosystem due to agricultural and other pollutants streaming into the lake. Everyone from locals to parties interested in the fledgling tourism industry are in extreme opposition to the canal.

But lastly, I doubt that Nicaraguans will reap the benefits of the canal, which is how Ortega is selling the whole scheme to his people. The Chinese development corporation has a 50-year concession on profits, with another 50-year option to extend. Ortega is promising 250,000 jobs that will be born as a result of the canal, plus the need for 50,000 laborers on the construction. But of course I have my doubts. The canal will drive through some of the most sparsely populated and least developed departments of the country. Hundreds of thousands of people will have to relocate in order to realize those 250,000 jobs, which will lead to a lot of social strains on the country. Plus, given the under-education of the Nicaraguan people, the best-paying of the 50,000 construction jobs will mostly go to foreigners, not Nicaraguans. And I think it also bears mentioning that the highest HIV rates in Nicaragua are often in mobile populations, much like the worker camps will be. Has anyone put any thought into the epidemiological and public health effects of this project?

Nicaragua and the Chinese development company hired McKinsey to conduct a feasibility study. Officials refuse to release the results, but they are quick to point out the stellar economic projections. In 2013 GDP growth paced along at 4.6%. Official projections for the canal show that in the first year of construction GDP growth will skyrocket to above 14% and stay there for the foreseeable future. I just finished reading Confessions of an Economic Hitman. I hated the book. It was poorly written and not believable. But I can’t fail to mention that the author emphasized that the main tool of an economic hitman is inflated growth projections. It is guaranteed that the construction of a canal would attract a ton of foreign direct investment in Nicaragua, but sustained rates above 10% are preposterous and only part of the Chinese boondoggle to attract investment in the first place.

If the project ever truly gets off the drawing board (the groundbreaking today is ceremonial, nothing more) I will be in opposition. I fear that Nicaragua will bear many negative externalities while reaping few benefits.

… an International Climate Change Treaty

This post is apologetically months and months overdue, but I am glad that I am now completing it and posting it because I am passionate about this subject, and with all eyes on Lima now and Paris next year, it remains vitally important.

Back in October 2010 I wrote a writing sample for a job application called, “The Economics of International Climate Change.” I didn’t get the job, not even an interview, but ironically, I had to drive past the Company every day for my job at Ernst & Young in Tysons Corner that I did wind up taking. Given the attention on climate change in New York this week, I have resurrected the writing sample from the bowels of my external hard drive (an indispensable item for a Peace Corps Volunteer, I assure you) and re-tooled it here for this blog.

Western world leaders have placed great emphasis on climate change. Their contention: if the current accumulation of greenhouses gasses is not allayed then climate change is sure to wreak havoc upon vulnerable populations around the world. However, stemming the accumulation of greenhouse gasses requires a trade off with economic output that many people around the world are not willing to part with. This opposition is led by emerging nations, particularly India, Brazil, and China.

Technically, there is a rather simple solution to preventing climate change. Once environmental scientists reach consensus on what the acceptable level of greenhouse gasses like carbon in the atmosphere is (a consensus which surveys of the relevant literature reveals has been quite elusive) then governments must simply charge a price – either by taxing emitters or issuing tradable emission permits – so that the quantity of emissions is reduced to levels scientists deem appropriate. The economics of this solution is elegant in its simplicity. Sources of greenhouses gasses (electric generation, automobiles, etc.) will “pay the price” until it is cheaper for them to abate the deleterious emission than paying the tax or buying permits. They can achieve this abatement by either decreasing output or producing their products in a way that emits less greenhouse gas. These methods will increase the price of the products, so demand will re-equilibrate to a lower quantity, ensuring that the markets remain efficient while still preventing the advance of climate change.

Clearly the citizens of the world will have to pay for this protection of the environment. High gas mileage vehicles, alternative energy, and other abatement methods are costly for an economy. The institution of a comprehensive international environmental treaty would certainly decrease global output for years to come. Herein lays the heart of the opposition to such an arrangement. Low-income countries which are rapidly expanding their economies towards prosperity would have to languish in poverty for years to come, while high-income countries already enjoy relative prosperity even though they caused the overwhelming majority of greenhouse gas accumulation.

On one hand, the appeal to fairness by countries led by China seems valid [and given recent developments, no one can argue that China is not at least pretending to search for a solution]. Every person in the world has the right to economic prosperity, so countries that already enjoy high standards of living should bear the burden of global environmental stewardship while the rest of the world catches up. But there is something unsatisfying about this approach. It is arguable that knowingly damaging the environment is just morally wrong, so emerging market countries do not have any legitimate base to pollute their way to prosperity no matter the prosperity of others. It is simply unfortunate that developed countries did not know about the harms of greenhouse gas during the Industrial Revolution, because then they would have altered their behavior decades ago and prevented this crisis in the first place.

Despite these fundamental ethical dilemmas, a solution to the international deadlock on a climate change treaty is still feasible from an economic point of view. It would be prohibitively expensive for developed countries to abate all of the environmentally required greenhouse gasses on their own. It is in the economic best interest of the developed world to recruit the support of emerging nations. Therefore, developed nations should offer transfer assistance to developing nations in exchange for abating emissions. Developing nations should be willing to accept aid which exceeds their economic costs of reducing emissions, while developed nations should be willing to pay to the developing world anything less than the cost they would have to bare in order to assuage climate change all on their own. Coming to the terms of this agreement will surely take intense deliberation between nations, but there is nothing fundamentally barring its fruition.

Just to make you feel like I posted this article back when all eyes were on the UN in New York, here are some great pictures I gathered from the climate march that was held concurrently in Manhattan:

Just to take things from 2010 pseudo-academic Eric to nearly 2015 blogger Eric, I want to really quickly boil down my point here. If we want to strike an international global climate change treaty the rich countries will need to pay the poor countries. Just like water, countries take the path of least resistance to prosperity. We did back during the Industrial Revolution, not knowing the harms of the chemicals we were emitting. Now developing countries are doing it to, but they can’t afford to stop. They are poor, and their people need economic growth to achieve quality of life. So the only way to get their leaders to agree to enforce greenhouse gas emission limits is by compensating them for the economic growth that we are asking them to deliberately pare down. How is this deliberate, you may ask? If they want their prosperity to not follow the path of least resistance, they are going to have to go slower and use more expensive technologies.

 

… El Niño

El Niño has been gathering some attention in the United States and in Nicaragua, where I am currently living and serving as a US Peace Corps Volunteer. Basically, El Niño is when a wide band of surface water in the Pacific Ocean off northwestern South America heats up, altering weather patterns worldwide. I guess at this point I want to emphasize that whether or not this is a good or bad thing is completely subjective. It depends on your stake in the climate. For house insurers in coastal areas, it is definitely a good thing. For farmers in Nicaragua, not so much. However, from an economic point-of-view, the effects of El Niño, I believe, can be objectively discussed and predicted.

First of all, we’re not in El Niño yet. The National Oceanic and Atmospheric Association (NOAA) has to declare an El Niño based on observed conditions, and they haven’t been observed yet. However, many climatologists are predicting an El Niño to be declared later this year, and the effects of the oceanic temperatures are already being felt. Last week the federal Climate Prediction Center released a monthly report giving an El Niño event a two-in-three chance of developing.

If you live in a hurricane zone, you can breathe a sigh of relief. The weather patterns sparked by El Niño typically subdue hurricane forces in the Atlantic, leading to a below average hurricane season. The polar vortex probably won’t be back this winter. And California may have some wet months ahead to quench its drought (but with storms come mudslides in California). However, unless this El Niño is intense, which is looking increasingly unlikely, it probably will not bring enough rain to completely alleviate the drought conditions.

Two hurricanes! In Hawaii?

Two hurricanes! In Hawaii?

On the other hand, if you’re in the Pacific hurricane zone (Mexico and Central America – which means me, in Nicaragua) get your go-bag ready. El Niño can make for more and stronger Pacific storms. The Midwest also better dust the cobwebs out its storm cellars. There is a correlation between tornadic activity and El Niño.

Parched California

Parched California

So what does this all mean for economic activity in the latter part of this year and 2015?

Crop yields and livestock production will probably drop in 2015 as a result of the changes in weather patterns, which will drive up prices and put a minor dent in GDP. Adverse effects on crops in Southeast Asia could also drive up prices on foodstuffs like palm oil, which is already feeling the pinch from Ebola. However, more significantly, the warmer weather through the winter could be a boon for consumer spending (no one goes out and does stuff or buys stuff when it’s snowing, as we saw this last winter, but during mild winters GDP usually gets a healthy boost). Ironically, Japan is monitoring for the opposite effect. The coming seasons could be unseasonably mild and wet, dampening consumer spending.

Agricultural production is a relatively small portion of the US economic output, so the effects of El Niño could be quite muted in America (of course the wildcard is freak storms, severe droughts, or other unanticipated effects that have dynamic effects of the economy). However, in many countries around the world – in fact, in most countries around the world, agriculture is a much larger component of economic output. Nicaraguan farmers are already struggling with a slow rainy season, and hot weather in the mountains could be contributing to the spread of “coffee rust,” a disease that affects coffee plants and is spreading through Nicaragua and other parts of Central America. Since agriculture is such a large part of the Nicaraguan economy, the impacts of El Niño could be far more serious down here. Plus, American farmers have crop insurance at their disposal to insulate themselves from the effects of a poor harvest. Most Nicaraguan farmers have no such recourses and their personal well-being and that of their families’ could be seriously harmed by adverse El Niño effects.

Coffee rust

Coffee rust

%d bloggers like this: