Monday, January 14, 2008

Ethanol at What Price?

Ethanol has for some time been advertised as an alternative fuel that is crucial for the United States so that we can "end our dependence on foreign oil" (See an article here from Arnold Kling on this issue).

However, many pundits have said that ethanol is neither good for the environment nor efficient from an economic policy perspective (see the following from the Cato Institute).

Why then do we subsidize this particular form of fuel additive instead of a (possibly) better alternative?

I tried to stress three points to students:

  1. The subsidies (which can be very substantial!) are concentrated to a few individuals (Archer Daniels Midland comes to mind) and the costs are dispersed amongst millions of consumers and taxpayers. No one will march on Washington to save a few dollars but companies will use vast resources to obtain these subsidies.
  2. Voters tend to not realize the extent of such subsidies because acquiring the knowledge can consume vast amounts of time. This is what public choice scholars refer to as rational ignorance (see this article by Walter Williams on the subject).
  3. Firms will engage in rent-seeking given points #1 and #2. Rent-seeking is the expenditure of resources to try and obtain government favors at the expense of others.
Environmental initiatives seem, at first blush, to be immune from the vagaries of rent-seeking but alas, they are not. I urge everyone to read Jonathan Adler's Rent Seeking Behind the Green Curtain. It was an eye-opener for me and I have assigned the reading to numerous students. I've had some almost break down in tears during class discussion because they perceived that there was nothing that could be done about the issue, something which we will explore later on in the quarter.


Tim said...

This is a great topic for classroom discussion, and the idea of rent-seeking is one that many students (and adults) are not familiar with in economics.

They understand it in the political context (lobbying, etc.) but somehow don't always make the transfer.

At the risk of self-promoting, see my May 18, 2007 blog on this topic.

Steve said...

an interesting note on the promotion of ethanol. By promoting biofuels, it creates a dependence on fertiliser providers. And guess where most phosphate rock comes from for the US fertiliser industry?