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Are Subsidies a legitimate use of Tax Dollars?

February 14, 2012

Here is one of the arguments posted by a media publication, Intelligent Utility, which was submitted by a reader explaining why there should be government subsidies for renewables.

“Without subsidies, the wind farms would not have been built, one wrote. On the other hand, without subsidies, there would be no national railroad network, no national defense highway (interstate system), no sewage treatment plants, few hospitals of any size, no drinking water systems, [and] no large hydro-electric dams to speak of. In short, the country has invested (and that is the key here) in almost every large infrastructure project in history … this is one of the reasons we have governments and taxes, to move the ball forward where large infrastructure investments need to be made.”

While this is the argument used to support government subsidies for renewables, and to have government force renewables onto the public with renewable portfolio standards (RPS or RES), it is specious. The argument also claims there is a “need” for government subsidies to build large infrastructure projects.

It’s specious because it ignores the reasons why these infrastructure projects were built with government support. The argument’s claim that there is a “need” for wind etc. is also fallacious.

Taking the later point first; renewables would be built with private money if they were efficient. Unfortunately, wind and solar are both very inefficient. Investors couldn’t earn a return on their investment without subsidies because they would not be able to sell the electricity generated by wind and solar because it costs more than electricity produced by natural gas or coal-fired power plants. There is no “need” for renewables because there are huge reserves of natural gas and coal and they can generate electricity very efficiently.

I suspect that the person making the comment was referring to a “need” to cut CO2 emissions, but for reasons covered in earlier articles, this is a false premise.

Giving free land to companies so that railroads could be built across the United States was a subsidy, but there was a genuine need for transportation to carry goods and services across the continent.  Without railroads it would have been impossible to develop the vast expanse of the United States. There was a genuine need, there was no alternative to railroads and the risks were too great for private investment alone.

The New York Subway system was originally built with private money because the investors could charge a fare and earn a return on their investment.

Dams were largely built as a flood control measure, which also incorporated power generation that produced cheap electricity. There was a need for flood control, which is a legitimate function of government. Whether the dams could have been built as public private partnerships is, at this late date, an imponderable.

The issue of drinking water is interesting since many environmentalists object to privatization of drinking water supplies.

The Interstate system was built by government as a national defense measure, with defense clearly a government responsibility. Even if that rationale is suspect, private builders would have had to charge tolls in order to obtain a return on their investment. At the time, it was thought that the use of highways should be free, ergo, the term Freeway. Times have changed, and tolls are now collected by the government. When private companies have tried to build toll roads, people have objected, saying it was a function of government.

I don’t believe it was really a subsidy, but the U.S. postal service paid airlines to carry mail. The airlines, and mail carriers, were private entities that did benefit from their contracts with the postal service.

An interesting event that demonstrates how the free market system is constantly developing new products and services, often with the demise of existing companies, is what happened to the Pony Express, a glamorized, historic icon of American history.

The Pony Express lasted for only about one year, and was put out of business by the telegraph.

There are a number of statues idolizing the Pony Express scattered around the West, but I have seen none extolling a telegraph operator.

The tax code is replete with subsidies of all kinds. For example, there is the mortgage deduction that subsidizes home ownership.

While it’s not possible to argue about every subsidy, there should be agreement that government subsidies are inappropriate when they are used to compete with private investment, or produce products or services that are inherently uneconomic and for which there is no need.

Wind and solar, for which there is no need, are both inherently uneconomic.

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6 Comments leave one →
  1. February 14, 2012 10:49 am

    I don’t recall there was a Federal Train Ridership Mandate that required all citizens to take one train ride per year or face prison for one year. This would insure use of the trains built from land subsidies to cross to the Far West. Also, there were no Hospital Use Mandates, or similar requirements for all projects that received subsidies from the government in past times.

    As mentioned in the article, all these projects were needed and the people responded by using the projects that were given subidies because the government knew they would be used without requirements.

  2. February 14, 2012 10:54 am

    Great analogy re the use of mandates.
    Thanks.

  3. February 14, 2012 11:25 am

    Donn,

    There was a recent article entitled “Is There an Energy Efficiency Gap” by Hunt Allocaott and Michael Greenstone. Their economic analysis (approach) questions some of the costs and benefits associated with energy efficiency. Their method of evaluating costs and benefits seems to be an improvement of traditional evaluations. When it comes to policy options their findings ………..”Furthermore, it appears likely that there is a substantial heterogeneity in investment inefficiencies across the population. Thus, targeted policies have the potential to generate larger welfare gains than general subsidies or mandates.”(page 26)

    From the abstract-

    “This overview paper presents a simple model of investment in energy-using capital stock with two types of market failures: first, uninternalized externalities from energy consumption, and second, forces such as imperfect information that cause consumers and firms not to exploit privately-profitable energy efficiency investments. The model clarifies that only if the second type of market failure cannot be addressed directly through mechanisms such as information provision, energy efficiency subsidies and standards may be merited. We therefore review the empirical work on the magnitude of profitable unexploited energy efficiency investments, a literature which frequently does not meet modern standards for credibly estimating the net present value of energy cost savings and often leaves other benefits and costs unmeasured.”

    http://ei.haas.berkeley.edu/pdf/working_papers/WP228.pdf

    Thought you might be interested in this paper.

  4. February 14, 2012 11:54 am

    Well said. Imagine if government had subsidized the steam car at the expense of the private development of the internal combustion engine in the late 1890s. It would have been the logical call. After all steam was king at the time and there wasn’t even a distribution system for fuel for internal combustion engines. The result would have been a lot of money spent on a vehicle propulsion system that time has proven is not the most effecient at the expense of the internal combustion engine.

    The point is that government subsidies are based on what is known, not what will be. The the next revolution in energy will not be wind or solar but something that is developed through those who invest in the future, not those who subsidize the past.

    • February 14, 2012 12:05 pm

      The steam powered vehicle is an interesting analogy.
      Thanks,
      Donn

  5. February 14, 2012 11:58 am

    The referenced paper talks about conservation, which is worthwhile if not forced on people. For example, mandating that utilities can adjust thermostats to increase temperatures in the summer and vise versa in the winter, is forcing people to conform to something they may not want to do.
    The paper goes further by focusing on externalities.
    Attempting to incorporate externalities has been the dream of environmentalists for decades, because it allows groups to distort the financial cost of various forms of energy. It is being promoted by the UN at Rio+20 this summer.
    Externalities are theoretical costs that aren’t included in a financially based, cost structure. CO2 emissions are one such fabricated cost, as is damage to the landscape from mining. But, one wonders whether eye-sores created by wind turbines will be included as an externality cost?
    Externalities are a slippery slope that distorts energy production and usage.
    Re energy intensity, as discussed in the paper. It fails to mention that an improvement in this measurement over the past 50 years is, at least in part, due to manufacturing going off-shore.
    It also misses the point that consumers make buying decisions using a short time horizon. For example, buying an electric vehicle might, recover the added cost from lower gasoline purchases after eight years or so. But, the buyer probably won’t keep the vehicle for that long.
    The same is true for upgrading air conditioning units or NG furnaces. They save money after a dozen years or so, but the homeowner doesn’t know whether he will move before realizing the savings.

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