Advice for the New Administration: Spend Green Today, Tax Green in the Future

Politicians are often tempted to think that a policy to help one goal, say air quality, must also help lots of other goals, say economic growth.  Economists are more likely to presume tradeoffs, and to use the principle of targets and instruments.  That principle says that you cannot expect to hit more than one bird with one stone, except by coincidence.

At the American Economic Association meetings in San Francisco January 3, I was on a panel titled “Energy and the Environment: Policy Advice for the New Administration” (along with some real energy experts; I am a relative latecomer to the area).  Within the framework of targets and instruments, I proposed a matrix such as the one that appears below.

There are examples that go either way.

  • My favorite example of hitting several birds with a single stone is a gas tax.  This one instrument hits seven targets! (See page 4 of my slides. Too bad the gas tax has always been considered political suicide for whoever proposes it.)  More often, independent policy instruments have independent effects; a measure that helps one goal might hurt another.
  • An example of an initiative that successfully addressed one important environmental goal with the side effect of making another worse was the Montreal Protocol.  It successfully addressed stratospheric ozone depletion, but banning CFCs led to substitution of HFCs and (worse) PFCs, which are Greenhouse Gases (GhGs) and thus worsen Global Climate Change.
  • Another example, which arouses greater passion, is the question whether to start building nuclear power plans again.  Environmentalists should like that nuclear power is an energy source that does not create GhGs, but worry that nobody wants to store the nuclear waste in their own state.  National security buffs should like that it helps reduce dependence on imported oil, but nuclear plants in other countries increase risk of proliferation of nuclear weapons.

Government in practice makes decisions in largely independent policy processes (“stovepipes”).  We need an overarching conceptual framework.  Consider the matrix below.  Across the top are the labels of columns, each of which represents a different objective; down the side are the labels of rows each of which represents a different policy instrument.

Energy Policy Matrix

To illustrate: the energy tax measures (gas tax, BTU tax, oil tax, carbon tax) all tend to work in the same positive directions: helping local reduce local air pollution and traffic congestion, improving national security, and providing revenue that the government can use to cut distortionary taxes or fund social security; thus energy taxes receive “pluses” in all these columns.  But CAFÉ standards, as other performance standards or “command and control” policies are an inefficient way to attain a given environmental goal, and so receive a “minus” in the Economic Efficiency column.  Indeed, the decision to grant more lenient standards to light trucks probably allowed the SUV craze to start, thereby perversely increasing traffic congestion and serious accidents (especially relative the alternative of a gas tax).

In two places in the table, I have distinguished between long run effects of a policy and shorter run effect.  One place concerns the Cheney-McCain policy of “drill, baby, drill” on federal lands and offshore.  The other concerns the Strategic Petroleum Reserve.  For details see the last two pages of my slides.

Computing the optimal combination of policy measures to hit the desired set of policy targets is straightforward in theory (so long as there at least as many instruments as targets).  Needless to say, it is more difficult in practice.

Moving to the situation that Barack Obama will step into on January 20, Priority no. 1 is, and should be, a fiscal stimulus package.  It can be a “green stimulus” package.  From a macroeconomic viewpoint, the goals should be stimulus in 2009, without abandoning all hope of fiscal discipline in future years.  From an environmental policy, the goals should be getting started quickly on those energy investments that meet a cost-benefit test, and also sending the signal that prices of energy, especially carbon, will be higher in the future.  All four goals can be met by the general principle:   Spend green today; tax green in the future.

US Tax Policy Will Be in Intensive Care This Year

I am sometimes asked, “Okay, we know that most of the economy is in the tank. But what are one or two sectors where you see potential for growth in 2009?” The conventional response would be “green technologies.” But another sector occurs to me: Intensive Care Units.

January 1 brought a new year, but January 20 will remind us of the follies of a president who was inaugurated 8 years ago. I realize that picking at an old scab is tedious. But the subject of this blog post is a feature of the tax law that was enacted early in the Bush Administration: the abolition of the estate tax in 2010. The Republicans would not settle for abolishing the estate tax on estates of less than $100 million; they insisted that it be eliminated completely. But here is the thing. As with other parts of their pro-capital-motivated tax cuts, in order to make up for the loss in revenue so that ten-year projections of budget deficits would not look so bad, at the same time that they reduced the estate tax to zero for 2010, they legislated that it would bounce back to its old level in 2011 (a tax rate of roughly half of everything above $1 million). So that means that someone with a $100-million estate who has the “good fortune” to die in 2010 pays no estate tax at all, whereas someone who holds on until 2011 pays roughly $50 million to the government in taxes, and someone who dies in 2009 pays almost as much. We are really talking about his heirs, of course.

Consider the implication. If old Uncle Joe is very sick in 2009, it is now worth a huge amount of money to his heirs to keep him artificially alive until January 1, 2010. After that, they can pull the plug whenever convenient (so long as it is before the end of 2010), because “Uncle Joe would not have wanted to be kept alive in this way indefinitely.” It is my understanding that an Intensive Care Unit can do this for many terminally ill patients. But it is expensive. The family of wealthy patients will have to endow some hospital wings, or commission some private units of their own, in order to create sufficient ICU capacity. The creation of ICUs is a business worth jumping into right away.

Six years ago , I used to say this as a joke. It was widely assumed that this absurdity in the tax law would be fixed, to smooth out somewhat over time the level of estate that is exempt from taxation. But now it seems too late to enact a huge increase in 2010 estate taxes relative to existing legislation. Furthermore the Obama Administration is not likely to start raising taxes on the wealthy (even such a no-brainer as this tax) until the economy begins to recover from the current recession. Unless any tax lawyers or medical experts can tell me the flaw in my logic, tax-motivated ICU production in 2009 seems a serious proposition. Can I patent this business plan?