Matt Nolan

Banning fossil fuel plants

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The government has decided to ban the construction of new fossil fuel plants for the next 10 years, as they believe that they are unnecessary.   However, I feel that this policy is unnecessary.

I do believe that if we left power generation to the free market, too much CO2 would be produced, and our liability under the Kyoto protocol would be ‘too high’.  But wasn’t that why the government introduced a carbon trading scheme?

In economics terms, the externality from fossil fuel plants is greater than the externality from Hydro, or wind power generation.  The government can try to fix this externality by putting an externality charge on unit production (which is what a tax or a carbon trading scheme does) or by directly regulating the industry.  As the carbon trading scheme is coming into place, the firm producing the power will have to pay the full social cost of producing the power.  In this case, if the firm still decides to build a coal power plant instead of a wind farm, it must be because the full social cost of the coal plant is lower than the full social cost of the wind farm.  As a result, banning the construction of fossil fuel plants seems unnecessary, as in this example, society is better off with this coal plant than with the wind farm.

jamesz

Risky regulation in the dairy industry

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An article on Stuff reports that the government is choosing to do nothing about a potentially dangerous protein found in most milk produced by NZ cows. Apparently it would be very damaging to the NZ dairy industry to act on the rather uncertain scientific evidence, so the Food Safety Authority is downplaying the situation. The nutrition expert who wrote a report for the NZFSA says, “it does raise the whole question about how well… the question of uncertainty is dealt with by the authority” and partially attributes the problem to “government risk aversion com[ing] into play.” Risk aversion is well known to economists and is exhibited by most people; however, the government here is not exhibiting risk aversion at all.

What the government is doing is avoiding certain costs in favour of maintaining the dairy industry’s profits with a huge cloud of uncertainty sitting over them. Doing something about the protein now would be costly but would avoid any future risk of adverse scientific results hurting our exports. Doing nothing exposes the industry to the entire risk of such results. Why would the government act in such an apparently risk-seeking fashion? The answer comes from the field of behavioural economics and, in particular, prospect theory.

This theory was proposed by Daniel Kahneman and Amos Tversky to explain two observations pertinent to the NZFSA’s actions: loss aversion and risk seeking behaviour for losses. Loss aversion describes how people feel the pain of a loss far more keenly than the happiness of a gain of equal size. Tversky and Kahneman also found that, while people are risk averse for gains, they are risk seeking for losses. They will be willing to take huge risks in an attempt to avoid making any sort of loss. Taking these factors in to account perfectly explains the NZFSA’s behaviour: they are more than willing to take on the risk of future damage to NZ’s dairy industry in order to avoid the guaranteed losses of taking action now. Whether this is in the best interests of the country or the dairy is quite another matter as the comments in the article make clear.

Matt Nolan

Nationalism, the All Blacks, and the 2007 World Cup

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Now remember, I hate nationalism. However, when I wrote this I found I was being strangely defensive of New Zealand. This made me realise that nationalism is just something that happens to people, often people aren’t explicitly trying to be nationalistic, society is just influencing the persons preferences in such a way that they become biased towards that nation.

After the recent loss by the All Blacks, a psychologist said that this was a ‘blow to the Kiwi tribe”. This idea has been criticised here, and in an update here. In the first criticisim the author says that he doesn’t feel like it’s the end of the world, therefore the psychologist is wrong. He seems to think that this influence on society may have existed 30 years ago, but not now. The second criticisim is from an author here. I agree with their article, that people mis-use statistics in order to make up stories.

Now I agree with the criticism raised by the second author (of course 😉 ), it seems strange to make such sweeping statements of national identity without evidence. However, at some level I think that the psychologist may have a point, albeit an obvious and not particularly enlightening one.

The psychologist is saying that there is a group that sees themselves as New Zealanders, and this group also feels very strongly about rugby. I agree that there are large numbers of people that do not associate themselves with this, however this group does exist. Furthermore, the importance of rugby to ‘New Zealanders’ is often placed on TV, taught in schools, and for someone who is brought up in NZ it does form part of the way that they identify the society that surrounds them.

In some sense, an individual’s preferences are partially endogenously defined by the society they grew up in. So even though a person makes choices based on their preferences, their preferences are a function of the way society is shaped. In this case a social event that occurs when an individual makes a utility maximising decision can influence the choice both by influencing the structure of the game or by changing the individuals’ preferences. Examples of this are:

  1. The values of the group you associate with are included directly in your own preferences. So when the NZ rugby team loses you as you feel like part of the team that did the losing.
  2. Although you do not have a preference over which team would win, you still want to function well in society. If you expect that an All Black loss changes the utility function and choices of other agents in the game, then you will respond by changing your behaviour

The first case is an example of when society defines an individual’s preferences. The second case is an example of when an individual will change their behaviour based on the belief of how other agents will react.

The idea of a ‘blow to the kiwi tribe’ relies on the fact that some individuals will take the result of the All Blacks game in the first sort of way. The loss of a rugby game must influence some New Zealanders preference set. Once we know that the loss of a game can influence the preference set of part of a given group, there is a case for other agents to change their behaviour as a result of the event, since the event will affect their expectations of the choice made by other agents. Ultimately, for there to be a ‘blow to the kiwi tribe’ the social event must provide a negative payoff from the part of an individuals preferences that are determined by society. I am not sure that the new social equilibrium post game must provide less ‘welfare’ than the pre-game social equilibrium, however I suspect in most cases it will be.

I prefer soccer to rugby by a mile, but I still felt hurt when the All Blacks were knocked out. As a result, on a personal level I can understand where this result the psychologist was discussing comes from. However, as the second author implied, it is sort of silly to make blanket statements without any evidence, especially when the above problem is likely to be full of assumptions that require us to assume cardinal utility! As a result, I don’t think it is appropriate to go from how the All Black loss affected me to how the All Black loss has influenced society.  This is the mistake the psychologist seems to have made.

Matt Nolan

New Zealanders like having more money

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An ‘enlightening’ survey by the Business Council for Sustainable Development finds that 75% of New Zealanders would like a tax cut.

The people that said they didn’t want a tax cut were probably thinking about the issue that was raised in the next question in the survey, which asked if people would want tax cuts that meant spending on health, education, and welfare fell. To this over half of the people said no.

Ok, so the Business Council took this as evidence that people think tax cuts are affordable. The chain of logic that I think they are using is: People want tax cuts. They wouldn’t want tax cuts that cut down services. So they think the government can afford tax cuts without cutting services. However, I’m not sure that this survey was the cleanest way of asking that question. After all, many people won’t think of the opportunity cost of the tax cut, just the fact that they would be able to buy more. As a result, even though I accept that the survey showed (to some degree) the premises, I’m not sure the conclusion necessarily follows.

I think the cleanest way to ask if people believed the government could afford tax cuts would be to ask: Can the government afford tax cuts?

Overall, I think that asking people if they want tax cuts is nearly as silly as asking people if they want a $20 note. If you don’t give them an idea of the opportunity cost you are simply offering them money for nothing, which most utility maximising agents would accept (unless they can use it as a signal, or if refusing the money gives them more utility than the best thing they can spend the money on, which means they are implicitly consuming a good with the money anyway 😉 )

Update: Stuff digs into more detail and finds that the participants were asked whether tax cuts were affordable, and a massive 72% said they were. Now that I know they actually had answers to the question that they said they had the answers for, I feel a lot more comfortable with their result 😉

Matt Nolan

Fortnight in numbers

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  1. June Quarterly GDP growth of 0.7% (seasonally adjusted)
  2. August Non-residential consents up 1.3% (seasonally adjusted) on July
  3. August Residential consents up 0.8% (seasonally adjuste) on July
  4. $945m trade deficit in August
  5. August Credit card data down 0.3% on July

I don’t usually say anything about the data, but ….

That GDP number, I wouldn’t have picked it. I was saying that the RBNZ was on crack saying that we would have 2.9% GDP growth in the year to March 2008. However, after that it looks like they knew what they were talking about, and I was the one on crack.

I’ve got to admit, if you question the experts (the RBNZ), you’re often going to be wrong. What can I say, I prefer Microeconomics anyway 😉

dant03

Protection rackets, cartels, and compulsory industry bodies

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So, the Real Estate Industry of New Zealand has censured a member for advertising it’s services by citing the general level of service in the industry, which it claims has customers paying “too much” for not good enough service. Sounds like a competitive claim to me.

But not to the Real Estate Institute of New Zealand (REINZ). REINZ was set up under the auspices of the Real Estate Institute of New Zealand Act 1976, and all licensed real estate agents are required to belong to it and abide by its rules.

The REINZ is one of a class of industry bodies that has been given government recognition. In many other industries, there is no government recognition/compulsion, yet the motivation for setting up the bodies is largely the same. These industries usually have some kind of bar to entry, but it is not one that is strictly prohibitive – for instance a professional qualification may be needed (eg estate agents license, admittance to the bar to practise law). Ostensibly, the bodies regulate the behaviour of members, who ordinary people cannot fully understand or regulate themselves because of the informational difficulties (cannot tell them apart, do not understand things like lawyer-client privelige or are in a compromised position (you are at the mercy of your lawyer in the middle of a trial) etc). It is argued that it is more efficient for the body to regulate, as it is cheaper than legislation, more adaptive to community needs etc.

Sometimes, the industry bodies are formed by members to prevent government regulation – leading members set the bodies up and claim to be preventing poor conduct on behalf of the industry, to stop the government doing so, presumably because they believe that the rules will be less onerous if they write them themselves.

Where this happens and a kind of defacto-power is given to these bodies (or actual power in the case of the REINZ), problems emerge. Often hurdles to competition and industry entry are set up under the semblance of increasing standards – higher qualifications required, minimum practise times, a majority of members need to approve their power to practise. In the end, without actual and real government oversight it is almost innevitable that these bodies move to become quasi-cartels that aim to protect their members under the guise of protecting the helpless consumer. So it is that the REINZ has censured a member for seemingly only competing.

Which brings us to the question of what good it is having them. If without government oversight these bodies invariably abuse their position, why have them and not simply have the government set the rules? I personally find this compelling as an alternative to compulsory industry governed bodies. However voluntary bodies should not necessarily be treated the same, particularly where those who are non-members can be recognised by the public and accordingly treated with due care. If these ‘rebels’ prove reliable enough, there is no reason why they can’t establish their own reputation for protecting consumers etc, and set up their own bodies with their own rules in competition with the established one. If sufficient information is out there for competition to emerge, the two watch dogs will compete on keeping their members in line. The key here is that there is an ability to compete rather than a defacto cartel. On the other hand, cartels running themselves clothed as consumer interested altruistic organisations are no good, and have no place in the New Zealand economy.