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Markets in Everything

Paul Krugman's post rebutting the liberals who have turned on cap-and-trade because it would create a "market" for carbon and this "market" could be used for "profit" and "speculation" by members of "Wall Street" is probably the most important blog post you'll read today.

I'd just add that there's a reason that we all know the word "subprime" now. There are markets in a lot of things. Potatoes. Corporate debt. Gold. But it was the market in one particular thing that went horribly awry. That was where innovations meant to disperse risk instead hid and concentrated it, and ratings agencies meant to reward caution and prudence instead began slapping their seal of approval on tranches of a product that they didn't fully understand. But the reason all that was able to happen was that in the great sweep of history, there really had been innovations that helped to disperse and price risk, and there really had been agencies that helped market players better understand the products and options they were being offered, and people were extremely confident because there had been so many successes in these areas so many times before. Markets can work!

And not only can markets work, but it's good if markets work! They make things more efficient. In this case, it could make it more profitable for a company that can increase the efficiencies in its production process to do so quickly. It could make the rise in dirty energy prices more stable. It could increase the returns to developing low-carbon products able to displace current market competitors. And if a few firms get rich helping all that happen, well, they'll have earned it.

By Ezra Klein  |  July 21, 2009; 1:49 PM ET
Categories:  Climate Change , Solutions  
Save & Share:  Send E-mail   Facebook   Twitter   Digg   Yahoo Buzz   StumbleUpon   Technorati   Google Buzz   Previous: Lunch Break: Amazing Creatures Under the Sea
Next: Choice and Financial Products


Why not displace all this nonsense and simply impose a carbon tax?

Posted by: Dellis2 | July 21, 2009 2:37 PM | Report abuse

Dellis2, the answer to that question is two-fold: (1) a carbon tax is transparent so the ratepayer ends up seeing the effect of the Democrats' global warming alarmism and (2) a carbon tax doesn't set up an enormous government bureaucracy staffed by public employee union members.

The Democrats have to use this Rube Goldberg strategy because most people don't share their climate change alarmism - certainly not enough to pay the skyrocketing prices that even Comrade Obama agrees will result. It is also considered a feature not a bug that the Rube Goldberg system grows the government payroll - the Democrats are the party of government employee unions now. From the perspective of the taxpayer, an inefficient and unnecessary enlargement of the federal payroll is a negative. Government employee unions see this as an opportunity. We all know which side Ezra Klein, Paul Krugman, and Dear Leader are on.

Posted by: RezkoLot | July 21, 2009 2:45 PM | Report abuse

Krugman is wrong on this and you too are falling prey to the exception that somehow cap and trade and carbon markets are somehow going to do the trick. Sometimes Krugman, even though he is a Nobelist, makes choices to support initiatives purely out of political reasons. This is one of them. Here's what I posted on his blog:

Let's say we invented a market mechanism that made "health" a tradable commodity. Would you support that? For some reason cap and trade has gotten a pass from so-called progressives for too long.

Here are some problems:

1) Your analogy between wheat and other markets is flawed because these are pre-existing markets that unite multiple sources of supply with multiple sources of demand. A permit market has just one source for permits: the government. Inventing a market to distribute those permits is a needless layer of complexity. The fact that it is a planfully constructed market makes it a different species as well.
2) Martin Weitzman, the fellow who SPECULATED (intellectually) that you MIGHT in certain circumstances be able to regulate quantities of emissions rather than tax them or regulate them directly, has said that taxation is better than quantity regulation in the case of carbon. He would recommend quantity regulations only where a particular precise amount of something needs to be achieved..taxation seems better if you want to go in one direction to zero.
3) Price volatility and arbitrage are the inevitable result of markets. Wall Street and others like carbon markets because of the (needless) complexity of carbon trading and the potential exploit information assymetries. On the other hand to reduce carbon emissions we need a lot of long term investments that on the whole do not benefit from financial market fluctuations. Now try to calculate the NPV of an investment with a volatile carbon price...that's going to be difficult. Far easier if you know what the carbon tax rate will be within the next 5 or 10 years. Yes, there are mechanisms to dampen volatility and regulate the markets but these add still more complexity and sinecures for officials and representatives of market actors. It's like buying a Cadillac and ripping off the badge, scratching the paint and deflating the tires...why invent the market in the first place?
4) The regulators and actors on these carbon markets are inessential to cutting carbon emissions and will represent an interest group that will dampen and interfere with more serious efforts to cut emissions. All you need to cut emissions is a predictable price on carbon, positive government programs for infrastructure build-out, and/or "command and control" regulations that ban certain activities.

For some reason, there is a blind spot with regard to cap and trade among so-called seem to have fallen prey to it. Look a little deeper, please.

Posted by: michaelterra | July 21, 2009 3:52 PM | Report abuse

+2 on the simple carbon tax. Cap and Trade seems like a government version of Enron.

"But it was the market in one particular thing that went horribly awry. That was where innovations meant to disperse risk instead hid and concentrated it, and ratings agencies meant to reward caution and prudence instead began slapping their seal of approval on tranches of a product that they didn't fully understand."
Conveniently he leaves out the part where the implicit taxpayer backing of mortgages caused many issues. Conveniently he leaves out the part where subprime wasn't the primary issue, but where the drop in valuations caused the paper to be worth very little. Conveniently he blames the economic crisis on the CDS valuations of wall street, not on the housing bubble caused by mass public stupidity.

Posted by: staticvars | July 22, 2009 12:18 AM | Report abuse

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