Ingredients for round two of economic growth policies:

1) Increase the H-1B visa-limit ten to twenty fold. These are non-immigrant visas that allow employers to essentially cherry pick the best and brightest from across the world, especially in engineering. The limit is currently a ridiculously low 6,500 per year. These highly skilled positons are critical to developing private sector employment and growth.

2) Repurpose $5B from unspent TARP funds and start a revolving government venture fund to seed startup investments. The government could invest anywhere from $10K to $1M in promising businesses and take a flat 25% equity stake. 10 experienced fund managers could be recruited as SES (Senior Executive Service; the highest level of career government employees, who are eligible for bonuses for good performance) to serve on a board to approve applications and provide oversight. Future cash flow from those that succeed would pay down the deficit. The fact of the matter is we live in an information and service-based economy. Unemployment insurance, State aid and new highway spending help with cyclical unemployment, but structural employment is best created with new, sustainable, innovative companies.

3) Enact a larger follow-on investment in next generation transportation. The stimulus bill had a measly $10B for high speed rail. Follow-on with another $50B to buy a lot more cars, build more tracks, and connect major population centers. Through the multiplier effect and contracting a lot of this out, these funds' employment effects could be amplified and drive permanent private sector employment. The U.S. is falling behind in the efficiency with which it can move goods and people, prerequisites for sustainable growth in a global economy. (*Postscript: the White House just announced a $50B transportation package to stimulate the economy.)

4) Revamp, rebrand, and rerelease the Public-Private Investment Program rolled out last year. This program is designed to increase the market for banks' bad mortgage backed securities, as well as mortgage related loans. (More details here - http://www.financialstability.gov/roadtostability/
publicprivatefund.html). Unfortunately, a specific design has stalled and the program has been delayed. The terms and capital levels should be reevaluated in order to make them sweeter for private partners, and then fund managers hired to scale this up and start the auctions.

5) Tax credits/rebates based on purchases. The idea here is to combined tax cuts with smart purchases that will increase aggregate demand. I.e., invest in clean energy or buy an electric hybrid and get cash back, or hire people who are unemployed and get a payroll tax holiday. This would create a strong incentive for both immediate spending, and immediate hiring, while developing new markets. This would essentially build off the phenomenally succesful Cash for Clunkers model. That was one of the most impressive government-private policy team-ups in recent memory and I'm surprised how quickly it has faded from policymakers' collective memory.

6) Reform the Payroll/FICA Tax to increase aggregate demand. Lower income individuals have a higher marginal propensity to consume than the wealthy. Poorer people also pay a larger share of their income in payroll taxes than the rich. In fact, some 75% of Americans pay more in payroll taxes than in income. FICA should be exempted for the first $20,000 of income (thus increasing spending the most) and the current cap on FICA should be raised from $106K to more like $250K. Warren Buffet has had a wager going for years for any executive who can prove they pay more in payroll taxes than their secretary. So far, no takers.

So Predictable

This last Thursday the latest big climate bill predictably failed in the Senate. Not just failed, like didn’t get enough votes, or even couldn’t break a filibuster. No, it got pulled from the legislative calendar. There wasn’t even a single minute of debate before it came to a rather pathetic end, without so much as a self-satisfied “well, at least we tried” whimper. It’s rather funny though, if not delusional, how many pundits and green lobbyists talked incessantly about how this was going to be the time. And yet this is the fourth such failure, after the three previous failures in ’03, ’05, and ’08.

I mentioned that this bill had no chance to every green intellectual I know and the most common reaction was one typical of our era defined by non-stop Hope branding. They laughed me off as irrelevant, or at the very least unimportant. They talked about how the cap could be simplified to just the utility sector. They trusted blindly in the power of Harry Reid. All the while, the bill lost it’s only Republican co-sponsor months ago and didn’t have anything close to the votes. And the biggest giveaway of all that it had zero chance? There’s 2 BLEEPIN’ weeks left on the legislative calendar and they haven’t even voted on the Supreme Court nominee, the BP spill response, or any budgets. And it’s, rather ironically, hotter than hell in DC and everyone just wants to get mandatory votes out of the way and flee to their summer vacations. Even with a strong coalition and Presidential support, both completely lacking in this half-assed effort, the calendar itself doomed this initiative. Trying to tackle the largest environmental legislation in history one week after passing a two year financial reform effort, and two weeks before vacation is either a) greenwash- political campaigning or b) delusional and impossible.

I’ll use that very dangerous word again- hope. I sincerely hope that this town will think rationally for a moment. And rather than letting every staffer, lobbyist and interest group on the Hill insert their page into the next aspiring climate bill, that we use a little Econ 101. We won’t have declining emissions until we replace dirty energy with clean energy. And we won’t ever have clean energy unless it is cheaper than dirty. And seeing as dirty energy can literally be scooped or dug out of the ground, and all amount of disaster and environmental catastrophe will never quell our appetite, and all the well-intentioned retrofitting and Prius rebates in the world will not reduce emissions so long as the world is growing, China and India are modernizing, and coal is abundant, the only way to achieve this is through altering the price of dirty energy. The equilibrium of supply and demand is determined by the price. Price is the only mechanism. And we wouldn’t even have to do anything- just put this gem of a bill on the calendar! 19 pages, no buy-offs, a clear price signal, how refreshing! http://www.govtrack.us/congress/bill.xpd?bill=h111-1337

To me it is obvious that those who have so strongly pushed for cap and trade meant well. Emissions targets, done the right way without too many offsets or free allowances, will reduce emissions. But it is just too complicated for most Americans or businesses to accept. And it tries to buy off so many groups that some will inevitably perceive themselves to be the losers and pose strong opposition, or throw some elbows at the trough to try and get theirs. A price is very simple. And it is equitable. Above all, cap and trade is a cynical structure. It seeks to hide the price increase of GHGs with a new name. “Cap and trade” is still a vague and confused topic to most Americans. The Greens know this, and they mistakenly think it will make it more appealing politically. How many failures must we endure before we realize this isn’t true? Will number four be enough? White House pollsters and media consultants explicitly told staff not to mention the climate change or price part, just green jobs. They've been saying fluffy, lazy stuff like this for a long time, and guess what, the White House wasn't any better served by it. Shit still didn't sell. If you're going to go out, why not do it at least authentically, discussing the issues directly. Their branding didn't help at all. Maybe a few of these slick 3 Blackberry toting, $5,000 suit NYC media types actually, gasp, don't know what the fuck they're talking about. Maybe they're overpaid losers, not the winners we always assume them to be. What the fuck do they know about policy, about climate change? And why would we purposefully play the American people. No. We should be as direct as possible.

We should just level with the American people. Do not underestimate them or try to hide the ball. Tell them we need to make clean energy more affordable and investment-worthy by making people pay for their pollution. And then tell them that this won’t cost them anything more, because we’ll rebate all the taxes right back into their bank account. This seems so obvious, but what any political pollster will tell you is that you can’t mention taxes. But what if we did? What if we had a straightforward debate on this? If the President laid out all the options for solving climate change- e.g. cap and trade, renewable portfolios, regulations, carbon tax or feed-in tariffs/subsidies. And then explained how a carbon tax is the best method. Why not? Because it makes too much sense.

Until then, R.I.P. cap and trade:

http://thebreakthrough.org/blog/2010/07/time_to_bury_cap_and_trade_and.shtml

Research Note

News just came out that April was the largest U.S. trade deficit in almost a year and a half, putting the U.S. on pace for another $500 billion deficit like 2009. The current account deficit was larger still in 2008 at some $700 billion. There is nothing inherently wrong with deficits, so long as they can be financed with GDP growth. However, if they continue to increase, it could undermine international confidence as doubts linger about the seriousness of long-term U.S. fiscal and trade policy, or drive uncertainty around whether there is high currency risk via the U.S. monetizing the debt by printing money, reducing creditor's purchasing power. Add to the fact that as China grows in prominence over the coming decades, U.S. denominated assets and debt obligations may become less in demand. China will in all likelihood surpass Japan in 2010 as the second largest national economy and is on pace to surpass the United States by mid-century. The U.S. dollar may become the secondary currency for international trade in the long-term. In the short term though, correcting this imbalance could be achieved through the double prong strategies of reducing the fiscal deficit and promoting U.S. exports, thus creating jobs and reducing the need for foreign savings.

The current account deficit is a rough measure of U.S. economic competitiveness relative to the global economy. It is the difference between national saving and national investment, or the net of foreign reserves entering the U.S. economy and U.S. dollars going out. The U.S. buys more (dollars out) than it sells abroad (reserves in), financed mainly by foreign purchases of our debt. The biggest factor in this imbalance is the mutual dependence between the U.S. and China. China depends on U.S. demand for export growth, the largest driver of their GDP growth, while the U.S. depends on China to buy and roll over our debt, used in large part to buy their exports. Each needs the other, and so it is both an unsustainable, and self-perpetuating, cycle. Here are three things the U.S. should do to lower this balance and increase foreign demand:

1) Biggest long term priority should be innovating new products and exporting this trade advantage to the world. This would lead to some dollar appreciation, but the increased demand would create sustainable jobs and generate reserves. The biggest market here, both in terms of marginal return on investment and depth of demand globally, is clean energy technology and services. A domestic price signal on carbon would catalyze the U.S. economy to leap ahead in this area and close the trade imbalance as we export smart energy applications, concentrated solar, consulting services, wind turbines and other carbon neutral or carbon negative technologies abroad. The U.S. could get ahead of the curve by adopting this price signal before other countries.

2) In the shorter term, bring the fiscal deficit down.

3) Continue to make progress with the U.S.-China Strategic Dialogues, nudging China to stop suppressing their currency to promote U.S. demand, and to create a stronger domestic credit environment and social safety net to prevent cash hording and exorbitant savings. Freeing up Chinese savings for consumption would help decrease the net trade imbalance between the two economies.

The Audacity of the Grand Bargain

Seventeen years after George H. W. Bush signed the United Nations Framework Convention on Climate Change, committing the U.S. to seek greenhouse gas emissions limits, one chamber of Congress finally passed the first U.S. climate change bill in history. Coincidentally this fell on my birthday- I always thought I was the climate messiah. Too bad the 1300 page American Clean Energy and Security Act of 2009 is full of so many complicated, unnecessary and potentially dangerous provisions. The proposal commits the U.S. to reduce emissions 17% below 2005 levels by 2020 and 83% below by 2050, sets up a 20% renewable energy portfolio standard by 2020, and establishes a menagerie of committees, criterias, offsets, definitions and standards on how to measure and verify everything, all to be figured out later when these regulations are drafted.

This bill hands out all rights to emit carbon dioxide and five other gases to industries for free, in direct contrast to Obama’s campaign pledge. The results are windfall profits and the potential for an energy driven asset bubble. It provides no assurances that the price placed on carbon will actually be one that makes clean energy profitable, which was exactly the experience in Europe when they established the same system in 2005. Credits were handed out for free, and in order to get votes everyone got a big piece of the pie (resulting in more credits being handed out than there were emissions), and the price has hovered at near $0 per ton ever since, while Europe has lived with a huge regulatory bureaucracy and burden while actually increasing its greenhouse gas emissions. And if the price of carbon gets “too high”, well then more permits are handed out for free to lower the price. And if the price is still too high, well then the cap no longer applies, so everyone paid a lot of money for a big complicated system that didn’t reduce emissions. Not to mention that we are in the midst of the worst recession in three generations, largely precipitated by an asset bubble and excessive speculation in the housing market, a market that has been studied and regulated for hundreds of years. This bill sets up a multi-trillion dollar market for the next 50 years, one in which the U.S. has no experience. The same people who pushed this through so voraciously will be the same ones decrying the excesses of carbon credit default swaps and derivatives in 10 years after we have seen another huge unsustainable bubble pop.

Then there is the issue of offsets, new emissions credits that can be generated when firms offset their emissions with something that captures carbon. Except, what exactly that means and who measures it will be figured out later by the Department of Agriculture. This will take years and many lawsuits to resolve, and even then the standards may be overly broad and subject to some very clever abuse by Wall Street, who frankly I put my money on over USDA any day of the week when it comes to cleverness. Not to mention the agriculture community is in large part the regulated party, a slight conflict of interest. Then there are the trade sanction provisions. This will allow the U.S. to bring action in the WTO and UN against countries who “artificially subsidize” their products by not attaching the same carbon price as the U.S. India and China have already drawn a line in the sand and said they will reciprocate any climate change tariff or quota and challenge our actions via arbitration, which typically takes about a decade to resolve. Of course by the time this is resolved we’re already supposed to have reduced emissions nearly 20%, so we’ll either have to march on with significantly high energy costs while India and China walk, or wait until a nasty trade dispute is resolved. And of course the bill raises $650 billion in new tax revenues, not to be recycled back to the American people.

Much superior to this convoluted grand bargain, we should place a price on carbon so it is the cheapest alternative, rebate it back to the American people, and cut out 1000 pages of special interests pay-offs in the process. If we want a clean energy economy, we don’t need the government telling every business and consumer exactly how much carbon they can emit every year for the next 50 years. And we don’t need dozens of new programs and thousands of new bureaucrats trying to figure out how much we’re emitting in the first place. All we need is for clean, renewable energy to be cheaper than dirty finite energy. If clean energy is cheaper, consumers will buy it, there will be demand pull. If clean energy is cheaper, it will represent a larger profit margin and greater return on investment for producers, there will be supply push. The price is the market maker, not the government. This bill could very well result in the grotesque situation of firms producing unprofitable products for consumers who are forced to pay more for them. Many people on the Hill act as though once you acknowledge the reality of climate change, there can only be one way to address it. There is no discussion of the multiple potential approaches and associated tradeoffs. Just one bill, and a lot of gray-haired men ramming it down everyone’s throat. The consequences of such little context for debate could be some very unintended consequences.

The Obama Administration is pushing hard on so many mega issues- health care, financial regulatory reform, energy and climate change, the largest budget in the history of the world, and now it looks like immigration too. The implicit tradeoff with this ‘boil the ocean’ approach, in contrast for instance to a more incrementalist one, is it requires engagement with the entire universe of very powerful special interests. You either have to commit to hard slow negotiations with the lobbies, and take very public and potentially damaging defeats in the process, or give them broad sway in order to get votes and flattering headlines, but live with policies you may come to regret. Obama and chief whip Emmanuel have consciously chosen to attempt to complete their entire agenda in what would be a truly historical first term (and guarantee for a second) in exchange for being very willing to play ball with the interests they want to regulate. The stimulus was a prime example. The White House sent a list of broad goals and top line numbers up to the Hill, and like throwing meat to a pack of ravenous dogs said, “fill in the details.” Lobbyists get a bloated bill full of new government contracts, Congress gets the support of their local haymakers, and the White House gets a resounding legislative victory. We also get a lot debt, a still increasing unemployment rate, and a bill the American people are increasingly souring on. If all that bill produces is a few hundred thousand jobs, and nearly a trillion dollars in new debt, that could be just the opening the GOP needs. (*POSTSCRIPT: Excerpt from Fall 2010 Paper: "Mr. Obama is already faced with the reality that voters have, fairly or not, decided that his first big effort to revive the economy, the $800 billion package enacted right after he took office, was a qualified failure, and that anything tagged as further 'stimulus' will be cast by Republicans as throwing good money after bad.")

And if all this climate bill produces is mountains of new regulations, costs, and system gaming, with few emissions reductions (like Europe), then the White House just gave the GOP a gaping hole to meander through. Obama said at the time he was pushing the stimulus, "my job depends on this bill"- he knew the risk he was taking. If politics is the art of the possible, then this is some very fine art. Perhaps it’s impossible to achieve much better, but we won’t know unless we try. The bill that was passed Friday shows more about how many people want to be Rahm Emmanuel’s friend, and who don’t want to cross Henry Waxman, than about who wants to actually usher in a clean economy in the most efficient way.

GM/White House need to think outside the box

The auto industry bailout should be a coordinated framework to re-imagine personal transportation in this country- including electricity providers and boutique next generation auto startups, not just two imperiled giants. Focusing simply on making GM and Chrysler cash flow positive with newly innovated offerings and lower debt burdens might do the job, but it ignores how integrated and market-infrastructure dependent the auto industry is. After this perfect economic storm, there will very likely be little space in the future for the government to intervene wholesale across the financial and auto landscape as they have in the last 6 months, and little opportunity to bridge the auto manufacturers and electricity producers’ interests.

The Administration only has so much credibility in lecturing the private sector how to make a buck, and only so much room to leverage the benefits of examining the sector in totality. By focusing on the manufacturers in isolation, the government risks supporting fuel efficient vehicles while leaving electric infrastructure developers on the sidelines. The Energy Department has $100 billion in new loan/grant authority, and could indirectly support the automakers by investing in companies like Better Place and Coulomb that develop the electric fueling stations that are a prerequisite for any true Detroit game-changers. The plug-in electric gas hybrid Chevy Volt will be substantially more expensive than an average car to begin with, curtailing sales and lengthening innovation cycles while stalling recovery. Costs will come down only with significant volume, which is a mere pipedream absent a national charging network. And in a world poised to add a billion new cars in China and India in the next 20 years, this is no longer just a matter of pristine design, but self-preservation. Making sure the market infrastructure is there when the new Volt rolls off the line is just as important as making sure they have competitive compensation agreements or streamlined supply lines.

Similarly, private startups operating today at the forefront of auto development, like Tesla Motors, could benefit from the breadth and relative financial depth of the big automakers, while the big automakers could benefit from their new platforms and next generation technology. Joint operating agreements or tech for equity swaps could speed up the bigs’ innovation while giving struggling and investment heavy startups (Tesla is asking for government cash) the market exposure they need to drive costs down. A note of caution however, this is not to say the government should impose anything. The big prize that awaits in the coming years and decades for clean energy winners, and the fierce competition among private actors it will engender, is a catalyst that should not be muted. However, the government and its auto task force is the perfect forum and moderator for getting these parties in a room to talk and see what pencils out. At a minimum they could talk about the non-exclusive aspects and infrastructure they will all need and brainstorm a general strategy, and at most cut some very lucrative deals.

It’s always the time for bold thinking, but very rarely is there the opportunity to actually implement it. The current public appetite for grand new economic architectures (whether TARP or TALF or the Legacy private-public partnership or the auto bailout or the Housing Plan or the Stimulus) is fast dissipating. Ad hoc investments in whatever the market would bare got the industry to this point, and ad hoc government negotiations and a spattering of tiny grants all over the place will just be further death by a thousand cuts.

Cap n’ Trade = Tax n’ Trade = Tax n’ (Bubble + Windfall)

There has been a lot of talk about a market-based cap and trade system as the ticket to a clean energy future. It’s a good solution. It could work. But it also carries significant risk, risk that a revenue neutral price signal (tax) would not. A recent MIT report highlights the expediency involved in getting climate policy right the first time. This 2009 study projects a median increase of 5.1 C (9.2 F) by 2100, up from a 2003 projection of 2.3 C. This kind of warming will have serious implications on everything from biodiversity to agricultural and forestry production to sea levels on a scale of meters. Any policy the United States seriously puts in place will take years. The EPA for instance has just completed a draft mandatory reporting rule for every producer that emits more than 25,000 pounds of GHGs a year, about 13,000 in the U.S. It has taken years of dialogue to get to this point. The rule still has to be finalized, then a registry set up ands tested, and then the actual cap would have to be developed, and then a tidal wave of litigation resolved. The point is, after all of this is sorted through, the system we get better work. Because of the potential for bubbles, price manipulation and windfall profits in a cap system, there is an elevated risk that it might not. The resultant public pushback and backlash in Washington could very well cause significant modifications if not outright repeal of such a system.

There are three basic issues with a cap system: 1) it’s just a nicer word for a tax because a cap creates scarcity which increases prices 2) even if the permits are auctioned off at the outset if can still result in huge windfall profits that can distort markets and create bubbles and 3) there is an implicit trade-off between price volatility and emissions reductions. This last point is because there is either a price ceiling or there isn’t. Without one, prices can be as high as the market will allow. In the case of the acid rain market, permits got above $1,000/ton and last year showed 75% year over year price volatility. This is far from good for businesses, investors or consumers. And this is in a market where there are readily available technological substitutes. Low sulfur coal is abundant. Scrubbers that capture SO2 and NO2 exist and are cheap. The same is not true for GHG reductions, so there is every reason to think that without a ceiling the price in the GHG market would be higher not lower than the already very high-priced and volatile acid rain market. However, if there is a ceiling, it is maintained in the same way the Federal Reserve targets interest rates, by open market operations with a reserve of credits. In the Fed’s case, reserves in cash, in the GHG market the reserves would be GHG credits. But what happens if you run out of these credits held in reserve? In other words, what happens if it takes more credits than have been set aside to deflate the price to the level prescribed in law? Well then you just create more permits, oh and there goes the whole point of the system – because you’re above the cap, e.g. you’re not reducing emissions which is a primary purpose of the system.

And it is often said that the issue of windfall profits, assigning private rights to a previously non-exclusive public good (like atmospheric emissions) that enriches the recipient of the now newly minted asset class, can be solved with a 100% auction system. Why is this an issue? Say the auction sells credits to the market at $5/ton CO2. The EU and Chicago Climate exchange (the largest U.S. exchange for GHG emissions) have historically traded CO2 at around $4 ton, so in all likelihood $5 is a very high initial assumption and it’ll be more like $2. But even if it’s $5, these permits will be held onto by the market until they appreciate. And the anxiety alone of a new energy scarce world will probably lead to significant appreciation right away. Not to mention that when a firm needs to buy these credits they have few short terms options and so it’s not hard to imagine them being bid up. Now if the price in the market is $20/ton, then there is a 300% windfall, the asset netted 3x what it cost, equivalent to a 75% subsidy. If there was no auction, the windfall would be infinite (something for nothing) – so it’s less windfall than without an auction, but still a windfall. Windfalls are basically strong subsidies, and subsidies distort price signals, create artificial value and expands the size of the market because of the elasticity of demand. So there is value creation absent new productivity, and absent new wealth creation these prices can not be supported indefinitely, they will have to fall. E.g. a classic boom and bust cycle – originating in windfall profits. In short, if firms get assets that trade at $20 for $5 they have a $15 profit margin, which is a good thing for the firm, but that $15 now has to be put somewhere. And because it was created simply by an actuarial identity, because the government said the credits will be sold for that price, and not because of $15 productivity gain, this $15 will contribute towards inflation and asset appreciation that is not sustainable in the mid-run.

Cap and trade can work, it is just that we must be sober about the risk it carries and think hard about getting it right. One approach would be to design a system that is entirely revenue neutral – so all that new money out there is offset by government spending. Another approach might be to smooth out price volatility by creating larger margin calls or position limits. Or, here’s another idea.

MLS to Portland and Some Econ

After Adrian Hanauer’s brilliant orchestration of bringing MLS to Seattle (in ’09 baby!) I think it’s Portland’s turn. Check it out - http://www.mlstoportland.com/ With an estimated cost to the city of $85m and annual benefit of $30m it would be a big win all around. Bring MLS to Ptown baby!!

And here are 10 macroeconomic prescriptions that might be good now that everyone’s talking about economic policy in DC.

10) Independent World Class Regulators for all Large Financial Firms – Independent Meaning they set their budget and world class meaning they follow GAAP, this wasn’t the case for GSEs or I-banks – this includes 10% reserve ratios, not 2.5% say like Fannie and Freddie, e.g. better leveraging

9) Housing PITI – Principal Interest Taxes Insurance – Documented and verified. This only became a rule in July 2008 when Bernanke pushed it though at a Fed meeting! (And it won't take effect until Feb '09) Why did it take so long to require borrowers to check a box at the end of their mortgage docs releasing their tax records? Then Standard and Poor's or Moody's would have had actual data to base their bond ratings on. The FDIC has been restructuring loans at or below a 30% debt/income ratio to much success (but it can only do it to assets it has acquired, which is basically IndyMac) - this would be a good threshold for lenders to loosely base restructuring (after all they will take a bit of an interest rate hit, but it's better than losing the whole loan). There's also a new study which estimates a million mortgage defaults could be prevented via utilizing $10b of TARP to increase the fees HUD provides private mortgage securitizors (source of over 50% of current defaults) get for restructuring a loan. Right now there is little incentive for them to make the effort to restructure versus just write off or auction off.

8) Global Exchange Harmony – If you trade in a market you are subject to its rules, for instance European/London traders in NYMEX are often exempt as they are considered to be regulated from abroad, not good, e.g. close loopholes. If a satellite trading shop for a European firm opens in Atlanta it should be fully regulated by the U.S.

7) Fix Entitlements – Non-discretionary spending is 65% of federal spending today and will continue to spur deficit spending and eat up the budget, which crowds out private investments – either a Greenspan style fix by say indexing benefits to the CPI rather than wage and bumping up the retirement age, or more innovative (and promising) approaches like volunteer personal savings accounts (the market has never had less than 7% returns over a decade, ever)

6) Infrastructure stimulus – Largely in the form of revolving loans to states and localities, including national direct current electricity grid (particularly applied in so called 'solar parks' which establish all the prerequisites for solar permitting and transmission in government land leased by private firms, removing the uncertainty that currently inhibits at scale development along with #5) and water infrastructure

5) Embrace the clean economy – less taxes on labor and income and more on pollution. The marginal social cost of carbon according to the Stern Report, the International Academy of Sciences and the U.N. is about $30/ton CO2, conveniently about the exact amount needed to make renewables and sequestration cheaper than coal, tar sands, oil shale etc. The IRS could oversee this program with existing authorities at the point carbon enters the economy, either the ground or port, and then recycle all revenues back via tax cuts.

4) 50% margin call (collateral) for paper (non-deliverable) hedging and speculating, today it’s often 2-5% which encourages speculating and thus bubbles

3) Warranty on bond ratings – If collateral backed bonds get a rating from one of the big agencies that proves grossly inaccurate they should take big haircuts in their contracts

2) Successful WTO Doha round – Trade needs to be opened up, and this means new negotiations with more flexibility on easing subsidies and accepting developing economy safeguards (this was the big sticking point)

1) Relax – Expectations and anxiety are self-fulfilling, losses are only realized if you sell, most of the big banks had balance sheets that were OK, it was the market cap losses that did them in. Citigroup for instance has lost $2b each of the last couple quarters, on a balance sheet of nearly $2 trillion and with tons of cash on hand (and $25b more thanks to TARP). And yet they have a current market cap of $21b, grossly undervalued in my opinion, traders would benefit from some perspective - any company, even very strong ones, can be undone by 90%+ market cap losses (which all that have gone under have sufferred). If bovine mass hysteria dictates market positions, any company can be victim - and valuation models are powerless in the face of this. If Wall Street focuses on creating wealth rather than manufacturing it (creating wealth includes products, services, consulting, insurance, liquidity/risk management, and manufacturing it includes things like arbitraging bond rates with SIVs (structured investment vehicles) or backing capital raises with deteriorating underwriting standards, like subprime backed collateralized debt obligations or massive paper speculation/derivative bets). Wealth production beyond wealth creation is the root of bubbles, and they will always burst.

Also, I think the Big Three should get their additional $25b, which is far far less than it would cost the economy if they failed. But they need to realize this is a bridge loan in two senses: 1) getting on a sustainable cash flow trajectory and 2) finally innovating. The top reason they are in this position is not because of events of the last few months but because they have been making the same vehicle since Carter was in the White House, and actually have gone backwards in fuel efficiency. As a result they've had their shirt handed to them by Japan and German automakers. Maybe with the Chevy Volt the Big Three can finally be out front on the innovation curve instead of three decades behind.

The Next Industrial Boom

Carbon Tax Shift Reflects Broad Consensus

Jamie Dimon, Chairman and CEO JPMorgan Chase & Co. “We don’t have an energy policy, we don’t have an environmental policy, we don’t have an education policy, we don’t have an infrastructure policy. And folks, these are not partisan, ok? These are more long term. We may have, I’m going to call it institutional sclerosis. You’ve seen it happen with huge institutions, with the British Empire. We are unable to make some tough decisions, for example, it would be a shame to let gas go below $3.50 or $3.25 a gallon – we should add the taxes to BTU, charge energy. We’ll all learn to be a lot more efficient, it’s not that big a deal…And then you also have alternative energy, people aren’t gonna put $100 billion into alternative energy if oil can go back to $50. And it’s a commodity, there will be a surplus one day and it will go down. But that fortitude, someone’s gotta say the truth and help us get it done. And you the citizens of this country, I think we’re gonna have to give it back to lower paid people. You know, so they’re losing $2000 a year now on oil and on food, so it’s gotta come out of payroll taxes or low income, and we shouldn’t be selfish about it. We need a real policy, and once you have a real policy, a serious policy of the United States of America, oil future prices will start to come down…I think if we don’t get our hands around this energy issue we could severely damage the future health of the United States.”

Vinod Khosla: “From an investment perspective, the current climate finds businesses in a holding pattern, unwilling to fully commit resources because of what may happen next – carbon pricing and a fuller appreciation of the externalities of our current energy sources has the potential to blow the old investment models out of the water. What sane CEO would bet that no climate change legislation will be enacted in the next fifty years, the typical life of their investments? We must remove this unnecessary risk for our businesses. The devil we know is better than the one we don’t when it comes to climate change legislation.”


They don't come much smarter than Mr. Dimon and Mr. Khosla. And they are dead right that the way to solve climate change, improve our national security, and usher in a real, sustained economic boom for the next couple of decades is to tax income or labor less, and CO2 more. More incentives on good things and you get more of them. Less incentives on bad things, you get less. Just some of the wonders that follow from competitive, fungible markets with efficient price signals (and big externalities like climate change are not efficient!) A green (referring to both dollars and the environment) is by definition more efficient, or Pareto optimal. So let's get into the the details about one proposal that would do exactly what these gentlmen are proposing, the Carbon Tax Center's policy, which advocates a REVENUE NEUTRAL carbon tax - meaning it is not a tax hike! Rather it shifts the burden from income and productivity to dangerous greenhouse gases. CO2 should be taxed as upstream as possible, either at the well-head if it's domestic or the port if it's foreign. A good price signal would be $25/ton CO2. At this rate you could slice some $50 billion a year off income taxes, or the payroll tax, or just mail every American a check for a couple hundred dollars. And at this price, clean coal with carbon capture (IGCC + CCS) is cheaper than current coal, because of the tax savings from not emitting the CO2. Coal currently costs about 2.5 cents/kWh, clean coal about 10 cents/kWh. Prototyped concentrated solar power (CSP, like solar thermal, which is way better than photovoltaic and already has baseload reliability) today costs about 7 cents/kWh. Get it? At this price point solar beats coal! And this means lots of new investments and jobs and growth. And these technologies will not just create more economic opportunities, but better ones. It is estimated for instance that each gigawatt of solar thermal energy will require 3,400 construction jobs and 250 permanent employees, twice the rate as a typical coal or gas plant. (Krupp, 65) So now more digging....

The CTC’s proposed $37 per ton revenue-neutral carbon tax, ratcheted up the same amount each year over the next decade, is consistent with the recommended range of both the U.N. Intergovernmental Panel on Climate Change, and the influential Stern Review on the Economics of Climate Change. A $37/ton carbon tax is equivalent to about a $10 per ton tax on carbon dioxide. CO2 would then have a price of about $100/ton at the end of 10 years under the CTC’s plan, or about $80/ton CO2 when adjusted for inflation.

This price point is consistent with the range of recommended prices provided by the IPCC and Stern review, and close to the conclusions of the Inter-Academy Council of Sciences. It is the consensus of these reports that such a level would provide the long-term price signal necessary for renewable technologies, from solar-thermal to carbon capture and storage, to be deployed at scale. It is also the consensus that it would stabilize CO2 concentrations at the threshold level of 550 ppm by century’s end. Absent such a price signal, CO2 levels under “business as usual” scenarios are projected to triple from pre-industrial levels to around 840 ppm. The last time CO2 levels were that high was about 40 million years ago when crocodiles roamed the North Pole.

The Intergovernmental Panel on Climate Change cites a range of $20-80 per ton of CO2 equivalent by 2030 as the necessary level to stabilize emissions at 550 ppm. (IPCC Working Group III Report Summary for Policymakers, 19) The Stern Review cites a review of 103 separate estimates of the social cost of carbon gathered from 28 published papers. It determines the mean abatement cost from these estimates to be $29 per ton CO2 equivalent. (Stern, 287) However, the Review goes on to develop an economic model that more accurately incorporates the market valuation of risk from potential catastrophic climate change, concluding, “We would therefore point to numbers for the ‘business as usual’ social cost of carbon well above (perhaps a factor of three times) the Tol mean of $29/tCO2.” (Stern, 287) The report recommends a real CO2 price of $85/ton CO2 equivalent. The $80/ton real price of CO2 advocated by the Carbon Tax Center is then consistent with both the IPCC and Stern Review estimates.

The $80/ton CO2 price signal is also generally consistent with the conclusions of the Inter-Academy Council of Arts and Sciences. As the Inter-Academy emphasizes, it is far more critical that such a price signal be certain and long-term than it is to mandate emission cuts year by year, as a cap would do. As they write in their recent report, Lighting the Way: Toward A Sustainable Energy Future, “establishing in every market that there eventually will be an emissions price – in the range of US$ 27-41 per ton of carbon dioxide equivalent – is more important than establishing exactly the number of years in which such a transition will occur.” (Chapter 4, 131) The Carbon Tax Center’s policy would put the price of CO2 in this range over a period of three or four years. It would then continue to ratchet up the price of CO2 as the transition costs to clean energies decreased alongside the renewed incentive for the development and deployment of such technologies. These reduced transition costs would act to mute the economic costs of further CO2 price increases.

It is notable that all three reports, reflecting the consensus of the scientific community, determine that there is a clear threshold price level necessary to induce widespread clean technology development. Such a price level is far from guaranteed under a cap and trade system, where prices can exhibit significant volatility. Under the Chicago Climate Exchange for example, the largest traded market in the world for greenhouse gas emissions allowances, the price per ton of CO2 has fluctuated between $1-7 over the past five years since its founding. This falls $13 below the lowest recommended level mentioned in the Stern Report, IPCC or the Inter-Academy. Such a low price level per ton does not make clean energies cost-competitive, nor does it provide the necessary incentive to prevent harmful anthropogenic climate change. A carbon tax shift guarantees price-competitiveness for renewable energies.

It is estimated that in the long-term carbon dioxide will need a price per ton of at least $30 to make the vitally important technology of carbon capture and sequestration (CCS) cost-competitive. This is no small matter. As Stern notes, without CCS the world will need a “dramatic shift away from existing fossil fuel technologies” (Stern, 368). With atmospheric concentrations of CO2 already at 380 ppm, and almost certainly to reach at least 450 ppm in the coming decades, some scientists say we cannot reduce concentrations below 550 ppm without carbon capture and storage. Given the pervasiveness and entrenched interests of coal producers in both the United States and emerging economies like China, it is unlikely any mitigation legislation could move forward without meaningfully incenting CCS technology.

Dr. Klaus Lackner, Professor of Geophysics and Director of the Lenfest Center for Sustainable Energy at Columbia University, estimates the long-term cost of capturing and storing CO2 to be at or below $30 ton. He has pioneered a technology that can suck CO2 out of the air and store it safely underground in an inert solid form. As he comments, “With off-the-shelf items we have right now, I can drive the cost of CO2 capture from air below $100 per ton of CO2. And I feel that, if you pursue this longer, the ultimate end game will be below $30 per ton of CO2.” (http://www.pbs.org/newshour/bb/environment/jan-june06/globalwarming_06-08.html) If his forecast proves correct, a real price of about $80/ton CO2 makes widespread deployment of CCS a no-brainer. If CCS cost reductions prove harder to come by, $80/ton CO2 makes carbon capture technologies essentially cost-competitive at current prices. The Carbon Tax Center’s plan provides the necessary incentive for the deployment of CCS under either scenario.

The bottom line is that an $80/ton long-term real price on CO2 reflects a broad scientific consensus. It is the level needed to incent the critically important long-term deployment of carbon capture and sequestration technology. Without CCS, hundreds of new coal plants in developing countries will pour tens of billions of tons of CO2 into the atmosphere in the coming decades. Without CCS you will be ignoring 55% of current CO2 emissions in the United States. CCS is a game changer. With a cap system there is no guarantee, to firms or developers or society, that CCS is an investment that will pay off. At an average price of some $4/ton CO2, like we see in the Chicago Climate Exchange or the European Union, it would be much cheaper for energy providers just to purchase allowances (or not comply) than retrofit plants with carbon capture technologies.

A tax shift is not just better for the climate and emerging clean technologies than cap and trade, it also offers the greatest potential for political compromise. These political strengths were on full display during the recent U.S. Senate debate of the Liebermann-Warner Climate Security Act. Critics of the Act correctly pointed out that the cap and trade system represents an over $4 trillion tax increase, as about 50% of the revenues raised over the next 40 years via auctioned permits are kept by the Treasury.

Add on a “safety-valve” provision (which would put a price ceiling of about $12-22 per ton CO2 via the government releasing (worthless) permits as necessary to maintain the ceiling) there is no clear price signal for carbon capture and sequestration deployment, or solar for that matter. Additionally, with a safety-valve market participants would be forced to purchase and trade permits that don’t even maintain the stated emissions reduction goals, as they are above the cap. Throw in the potential for massive volatility, and it is unclear what the adjustment and abatement costs for regulated firms will ultimately be under a cap system. And this uncertainty will only keep more clean energy capital waiting on the sidelines. As the Wall Street Journal points out, The Climate Security Act would represent the largest income redistribution since the advent of the income tax. With a tax shift from income or labor onto carbon this potent and effective argument against tackling global climate change disappears overnight.

Additionally, by returning the revenues of a carbon tax to the private sector, foreign companies that do not yet have to similarly comply will not gain a competitive advantage as domestic tax levels will remain unchanged. Such concerns could also probably be offset with WTO compliant (particularly GATT Articles 3, 11 and 20 - paper I wrote on this) cross border adjustments (tariffs) for countries that have less stringent standards than the U.S. This however would lead to long and unpleasant arbitration and probably result in retaliation by large U.S. trading partners for years to come. The fact is that with a meaningful price on carbon the United States will see huge new economic investment and growth. Jobs and capital will flow to areas like direct current transmission lines, so called “smart grids” that allow consumers to sell clean energy back to utilities via feed-in tariffs, carbon capture retrofitting, and proven renewable energy sources, among many others. Once it is apparent that a revenue neutral price on carbon is a win for the economy, the environment and national security, other countries will not be able to jump on the bandwagon fast enough. With SO2, ozone and particulate pollution it was either the EU or U.S. who first led and lesser developed countries, like China and India, who soon followed. The same would happen if the U.S. led by putting a real price on carbon. The opportunities stare the United States in the face.

The CTC’s plan has the science right. It is consistent with every major international consensus report on the economics of climate change. It is consistent with the incentive needed for critically important carbon capture and renewable energy technologies. It is revenue-neutral, unlike the fatally-flawed Climate Security Act. And with the potential for commensurate tax offsets, ranging from corporate to personal income taxes, to the FICA payroll tax, to straight dividends returned to every household – it offers a tremendous opportunity for both increased economic efficiency and political compromise. Oh yeah, and it could save the planet too.

Let's Do Something About Climate Change - But Let's Get it Right

10 Reasons Why a Tax Shift is Better than Cap and Trade

By Wyatt Boyd, The Earth Institute at Columbia University

1) Command and Control versus Market Forces. A cap dictates emissions levels and creates price uncertainty. With a safety valve provision (the government will release as many permits as it takes to get below a price ceiling) it completely loses the so-called “guarantee” of emissions reductions. Then it’s just like a tax, except more expensive because of the administrative and regulatory costs. A carbon tax gives price certainty and allows the market to do what it does best – allocate resources given complete price information. In the SO2 market, permits reached prices excess of $1,000 - do you think a cap and trade system will be accepted without a safety valve? Yet with it you can imagine a scenario where firms and states are paying for permits with absolutely no real value (they're above the cap) which is also unacceptable, and expensive.

2) A cap and trade system is a tax hike, while a carbon tax, ironically, is not. With a revenue-neutral carbon tax, money could be returned to taxpayers in two basic ways. Either a check could be cut and mailed to every taxpayer, similar to the petroleum fund in Alaska, or the amount raised in carbon could be offset in payroll and income tax rates. Either way the money will go back to the people and the overall tax burden will not increase. Does Liebermann-Warner have a provision to return money to the taxpayers? No. It will create scarcity in the carbon market, thus price increases that all Americans will have to face – with absolutely no relief.

3) Windfall Profits. Initially in Liebermann-Warner, over 70% of the carbon credits are handed out, for free, to applicable firms. Assigning private property rights to a current public good and then handing them out has a name – windfall profits. A cap and trade system will essentially give the largest and most polluting firms billions of dollars in new assets and value on their balance sheets. This creates distortions in the market and perverse incentives for companies to support a cap and trade system. And then when they do auction off the allowances, the Treasury keeps about $5 trillion of the $6.7 trilloin generated over the lifetime of the Act. It should be revenue neutral, like a tax shift would be.

4) Traders Bonanza. A cap and trade system would mean a huge new overnight business for traders and brokerages all over the world. As the traders say, volatility is valuable. It allows arbitrage and profits. A huge push for Liebermann-Warner has nothing to do with the environment, national security, or the economy – but solely the ability for traders to make a healthy percentage profit on each and every carbon credit trade. If that sounds expensive it’s because it is. As Mayor Bloomberg (who knows something about Wall Street as he only built its backbone, or terminal) said about the costs of cap and trade versus taxes, “if anything, they will be higher under cap-and-trade, because middlemen will be making money off the trades.”

Additionally, oil executives have recently testified that the “true”, supply-demand determined, price of oil today is about $60 per barrel. This makes sense considering Saudi Arabia alone has 1.8 million barrels a day in spare capacity and U.S. refineries are only operating at 85% capacity. There are over 2,000 federally approved drilling permits in the U.S. representing over 30 milion acres of land that are currently undeveloped. It is not because of scarcity that prices today are in uncharted territory. A full half or more of current prices result rather from speculation and irrational exuberance. When one long position pays off, it can create a stampede of similar positions and upward price spirals that further incent a long (call) position – a bubble. Do we want such speculation to extend to all carbon-based sources via a cap and trade system? Ironically, rising gas prices make a revenue neutral carbon tax less popular, when in fact it is the system most likely to control price surges that occur on the futures market and provide greater ultimate price containment.


5) Price Threshold. Carbon has a real (currently external) cost, and there is a critical cost needed to provide incentives for large-scale deployment of technologies like solar or carbon capture and storage. According to Sir Nicholas Stern, the IPCC and the International Foundation for Science, it’s around $30/ton of CO2. Setting a cap and having price volatility provides great uncertainty as to whether this price point will be reached. For instance, the Chicago Climate Exchange, the biggest cap system today in the world, prices carbon now at about $4/ton – not even close to providing the necessary level of incentives to combat climate change. There is a “tipping point” for renewables and new technologies to be deployed at scale and it demands the price certainty only a tax shift can give.

6) Efficiency. A tax shift from income and labor onto carbon produces a more efficient outcome via reducing climate change emissions and increasing productivity. Providing more incentives for good things (like income) and less for bad things (like greenhouse gases) results in more of the good and less of the bad, which is better for everyone. Mayor Bloomberg summarized it well in a recent carbon tax endorsement speech that can be found at http://cityroom.blogs.nytimes.com/2007/11/02/bloomberg-calls-for-tax-on-carbon-emissions/



7) Non-Partisan Congressional Budget Office Findings. The CBO’s recent report “Policy Options for Reducing CO2 Emissions” (http://www.cbo.gov/ftpdocs/89xx/doc8934/toc.htm) concludes a carbon tax is up to 5 times as efficient as a fixed cap system, writing: “A tax on emissions would be the most efficient incentive-based option for reducing emissions and could be relatively easy to implement.” This is largely because a tax lets firms smooth out their investments in clean technologies over time, rather than being legally forced to do it in mandated timeframes courtesy of a cap system.

8) Politically Possible. British Columbia is going to implement a tax shift from business and personal income to carbon starting in July. French President Sarkozy has endorsed a revenue neutral tax, saying "We need to profoundly revise all of our taxes...to tax pollution more, including fossil fuels, and to tax labour less." This is politically doable. (http://afp.google.com/article/ALeqM5gx9Wyuo7XJiydxsqseJmVdX3-MoQ)

9) Regulation and Litigation Nightmare. If Liebermann-Warner is passed it will take years for the EPA to draft regulation and settle an avalanche of suits from firms seeking exemption. Given the EPA’s current denial of California’s emissions waver under the Clean Air Act, I don’t have to tell you how arduous it can be to get any agency to enforce the law – even if it’s clearly in their purview. A shift in the tax code would be a very simple and unambiguous piece of legislation and could be implemented years before a cap and trade program even cleared the courts. Where does the government have more competency than in tax policy?

10) The Dean of Climate Change has spoken. In the words of Former vice-President Al Gore in his Nobel speech: “And most important of all, we need to put a price on carbon – with a CO2 tax that is then rebated back to the people, progressively, according to the laws of each nation, in ways that shift the burden of taxation from employment to pollution. This is by far the most effective and simplest way to accelerate solutions to this crisis.”