Secretary Chu’s Befuddled Economics

by Marlo Lewis on October 27, 2009

in Blog

Revised 10/28/09

At the first Senate Environment and Public Works Committee hearing on S. 1733, the Kerry-Boxer “Clean Energy Jobs and American Power Act,” Department of Energy Secretary Steven Chu explained the economic rationale for adopting a Kyoto-style cap-and-trade program.

His argument, in a nutshell, goes like this:

  1. Reducing emissions globally will require a massive investment in “clean technologies” — an estimated $2.1 trillion in wind turbines and $1.5 trillion in solar voltaic panels by 2030. These investments will create many green jobs.
  2. “The only question is — which countries will invent, manufacture, and export these clean technologies and which will become dependent on foreign products.”
  3. The United States is falling behind. “The world’s largest turbine manufacturing company is headquartered in Denmark. 99 percent of the batteries that power America’s hybrid cars are made in Japan. We manufactured more than 40 percent of the world’s solar cells as recently as the mid-1990s; today we produce just 7 percent.”
  4. To seize the opportunity of clean tech and keep from falling farther behind, “we must enact comprehensive climate legislation,” the most important element of which is a “cap on carbon emissions that ratchets down over time. That critical step will drive investment decisions towards clean energy.”

There is so much silliness packed into Chu’s testimony that it’s hard to know where to begin.

Let’s start with Step 1: The world will need $3.6 trillion worth of clean tech by 2030. Suppose the world does decide to reduce emissions. There’s no good reason to suppose that wind turbines and solar panels will ever contribute more than a small fraction of the “solution,” because these technologies are not economically “sustainable” — they consume more wealth than they produce.

A recent report by the Rheinisch-Westfälisches Institut (RWI) finds that Germany’s Renewable Energy Sources Act (EEG) has utterly failed to make wind and solar power either commercially viable or cost-effective as an emission-reduction strategy. Herewith a few highlights.

First, renewable power is a net drain on Germany’s economy:

  • Germany subsidizes solar photovoltaics (PVs) at a rate of 59¢ per kWh. That is “more than eight times higher than the wholesale electricity price at the power exchange and more than four times the feed-in tariff [subsidy] paid for electricity produced by on-shore wind turbines.”
  • “Even on-shore wind, widely regarded as a mature technology, requires feed-in tariffs [subsidies] that exceed the per-kWh cost of conventional electricity by up to 300% to remain competitive.”
  • Germany has the second-largest installed wind capacity in the world, “behind the United States,” and the largest installed PV capacity in the world. However, installed capacity is not the same as production or contribution, and “by 2008 the estimated share of wind power in Germany’s electricity production was 6.3% . . . The amount produced by solar photovoltaics was a negligible 0.6% despite being the most subsidized renewable energy, with a net cost of about 8.4 Bn € (US 12.4 Bn) for 2008.”
  • “The total net cost of subsidizing electricity production by PV modules is estimated to reach 53.3 Bn € (US $73.2 Bn) for those modules installed between 2000 and 2010. . . .wind power subsidies may total 20.5 Bn € (US $28.1 Bn) for wind converters installed between 2000 and 2020.”

Even as a carbon-reduction strategy, wind and solar power are uneconomic:

  • “Given the net cost of 41.82 Cents/kWh for PV modules installed in 2008, and assuming that PV displaces conventional electricity generated from a mixture of gas and hard coal, abatement costs are as high as 716 € (US $1,050) per tonne [of carbon dioxide].”
  • “Using the same assumptions and a net cost for wind of 3.10 Cents/kWh, the abatement cost is approximately 54 € (US $80) [per tonne CO2]. While cheaper than PV, this cost is still nearly double the ceiling of the cost of a per-ton permit under Europe’s cap-and-trade scheme.”
  • Carbon permits are trading at 13.4 € per ton. “Hence, the cost from emission reductions as determined by the market is about 53 times cheaper than employing PV and 4 times cheaper than using wind power.”
  • Germany’s “increased use of renewable energy technologies generally attains no additional emission reductions beyond those achieved by ETS [European Trading System] alone. In fact, since establishment of the ETS in 2005, the EEG’s net climate effect has been equal to zero.”

Although the EEG creates some “green jobs,” the net impact on wealth and jobs is negative:

  • “While employment projections in the renewable sector convey seemingly impressive prospects for gross job growth, they typically obscure the broader implications for economic welfare by omitting any accounting of off-setting impacts. These impacts include, but are not limited to, job losses from crowding out of cheaper forms of conventional energy generation, indirect impacts on upstream industries, additional job losses from the drain on economic activity precipitated by higher electricity prices, and consumers’ overall loss of purchasing power due to higher electricity prices, and diverting funds from other, possibly more beneficial investment.”
  • “Proponents of renewable energies often regard the requirement for more workers to produce a given amount of energy as a benefit, failing to recognize that it lowers the output potential of the economy and is hence counterproductive to net job creation.”

As my colleague Don Hertzmark observes: “If you must continually pour external resources into an energy source, then it cannot be a net source of jobs in the economy, since those resources could have gone somewhere else to create real work.”

So, yes, via mandates and subsidies, governments around the world could pump $2.1 trillion into wind turbines and $1.5 trillion into PVs. But this is an unsustainable market that will make the world poorer, not wealthier, as Chu imagines.

Okay, now for Step 2: We must choose either to make clean tech or become dependent on foreign producers. This point is silly on many levels.

  • If we don’t enact cap-and-trade, then we won’t even have to consider buying or making trillions of dollars worth of “clean tech.”
  • Even if we choose to limit emissions, the German experience indicates that investing billions (let alone trillions) in clean tech is not cost-effective.
  • Even if we do enact a cap-and-trade program, and even if clean tech becomes cost-effective, why would we want to make our own wind turbines and PVs if imported products are cheaper?
  • Chu worries the United States could become “dependent on foreign products” — as if Denmark or Japan might refuse to sell us wind turbines or hybrid cars. Even oil is not the “energy weapon” it is sometimes cracked up to be, as Jerry Taylor and Peter Van Doren of the Cato Institute explain.
  • Besides, Toyota makes lots of cars — including hybrids — in the United States. Similarly, although Vestas, the world’s largest wind turbine manufacturer, is, as Chu says, ”headquartered” in Denmark, it is investing $1 billion in four Colorado plants. Chu’s fear of “dependence on foreign products” makes no sense in a globalized economy.

Step 3: The United States is falling behind in clean tech manufacture. If we’re “falling behind,” then why do Toyota and Vestas build factories here? Besides, “falling behind” is a problem only if the clean-tech industy is a net wealth-creator. As we have seen, this is not the case for wind turbines and PVs, which is why they require market-rigging subsidies, mandates, and penalties (caps or carbon taxes) levied against carbon-based energy.

If clean tech ever does become sustainable, the only legitimate role for policymakers would be to eliminate political impediments to market-driven investment. As MIT’s Thomas Lee, Ben Ball, Jr., and Richard Tabors wrote in the conclusion of Energy Aftermath, a retrospective on Carter-era energy policies:

The experience of the 1970s and 1980s taught us that if a technology is commercially viable, then government support is not needed and if a technology is not commercially viable, no amount of government support will make it so.

Step 4: To be leaders in clean tech manufacture, we must put a price on carbon — a cap that ratchets down every year.

This is convoluted. Chu began by arguing that we needed to invest in clean tech in order to reduce emissions. Now, he says we must reduce emissions to spur investment in clean tech! Apparently, if you can’t sell cap-and-trade on the basis of climate alarm, claim that it’s “about jobs.”

Another confusion — Chu suggests U.S. firms can’t or won’t develop clean-tech products for sale in the global marketplace unless the federal government boosts domestic market share by putting a price on carbon. Two problems here. First, a price on carbon does relatively little to increase the market share of wind and solar power, because even with a price on carbon to handicap fossil energy, renewable power is still uncompetitive. That’s why the Waxman-Markey bill includes a renewable portfolio standard in addition to a cap-and-trade program.

Second, a booming domestic market for a product is not a prerequisite to success in exporting that product. In the 1980s, the Asian Tigers produced enormous quantities of exports that were not widely purchased, and in some cases not even offered for sale, in domestic markets. If clean-tech products yield high returns in the global marketplace, enterprising U.S. firms will get into the game even if the products do not have a big market in the United States.

The irony is that a cap-and-trade program could actually be counter-productive to the development of an export-oriented clean-tech sector. Low-cost energy is a source of competitive advantage. By increasing energy costs, cap-and-trade would make all U.S.-based manufacture less competitive, including companies specializing in clean-tech products.

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