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Gresham’s Law of Green Energy

Gresham’s Law of Green Energy

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Published by thecynicaleconomist
High-cost subsidized renewable resources
destroy jobs and hurt consumers.
High-cost subsidized renewable resources
destroy jobs and hurt consumers.

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Published by: thecynicaleconomist on Feb 07, 2011
Copyright:Attribution Non-commercial


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Witr 2010–2011
hile the U. S. economy continues to struggle,politicians, green energy advocates, and energy regulators have adopted a “green jobs” mantra.They espouse the view that policies mandatingrenewable resources will provide not only environmental ben-ets, but economic salvation as well.The most recent example o this phenomenon is in Calior-nia where, last September, the Caliornia Air Resources Boardadopted a requirement that the state obtain one-third o itselectricity supplies rom renewable energy resources by the year2020. Caliornia governor Arnold Schwarzenegger noted approv-ingly in a press release, “There is a multi-trillion dollar globalmarket or clean energy, and I look orward to seeing even moreinvestment and job creation happen throughout our state withtoday’s commitment.”Schwarzenegger is the latest politician to all under the spello “green” jobs. Even New Jersey governor Chris Christie, whopromised to reverse decades o growth in the burden that state’sgovernment has heaped upon its citizens, signed the OshoreWind Development Act in August 2010. He praised the act, whichcalls or at least 1,100 megawatts o wind generation to be devel-oped o the New Jersey coast, saying it will “provide New Jersey with an opportunity to leverage our vast resources and innovativetechnologies to allow businesses to engage in new and emergingsectors o the energy industry.”Economists point out that there is no such thing as a reelunch, green or otherwise. Politicians, perhaps because theirlunch tabs are always paid by someone else, blithely ignore econo-mists and continue to promote a mythical “green” economy thatwill soon emerge. They carry on much like the Spanish conquis-tadors who searched or the Seven Cities o Cibola, convinced thebuildings really were made o gold. While ignoring economistsmay be considered a civic virtue, doing so does not invalidatebasic economic principles. Forcing consumers to buy high-costelectricity rom subsidized renewable energy producers will notand cannot improve overall economic well-being.Renewable energy might reduce air pollution (althoughno actual evidence o this exists). It will certainly create a ewconstruction jobs. And you can bet that government mandatesand subsidies or renewable energy will benet renewable energy developers. But when the entire economic ledger is tallied, the netimpact o renewable energy subsidies will be reduced economicgrowth and ewer jobs overall. In eect, “green” energy mandateslike those o Caliornia and New Jersey are a new version o “Gresham’s Law,” in which subsidized renewable resources willdrive out competitive generators, lead to higher electric prices,and reduce economic growth.One o the most egregious examples o the green energy al-lacy is the proposed Cape Wind project, which is to be built o the coast o Nantucket Island. Cape Wind, which is ardently supported by Massachusetts governor Deval Patrick and stateattorney general Martha Coakley, is expensive — more expensive,in act, than onshore wind resources, which themselves requiregovernment subsidies. Even Cape Wind’s proponents admit to
 Jonathan A. Lesser 
is ounder and president o Continental Economics Inc.
Gresham’s Law of Green Energy
Hgh-cost sbsdzed renewable resorcesdestro jobs and hrt consmers.
BY Jonathan a. lesseR
Continental Economics Inc.
Witr 2010–2011
    T    e    u    n     v    a    n     d    e    n     d    r    i    e    s    /    i    s    T    o    c    k    p    h    o    T    o
Witr 2010–2011
this. So, to sidestep the high-cost problem, Cape Wind’s advo-cates have cobbled together all manner o arguments to justiy itsdevelopment, most notably how it will spur a new oshore windindustry in Massachusetts.Several economic allacies underlie green energy and green jobs policies. For example, some renewable energy proponentsand green jobs advocates undamentally misrepresent wealth
as wealth
. Stealing money rom Peter and givingit to Paul may benet Paul, but it hardly creates wealth. More-over, a number o “green jobs” studies have touted renewablesdevelopment as a source o unbridled economic growth. Thesestudies all contain one striking omission: they ignore the adverseeconomic eects o the resulting higher electricity prices thathigh-cost renewable generation brings. They are cost-benetanalyses that ignore the “cost” part. No wonder the results areso encouraging.In this article, I begin by explaining the welare economics o subsidized green energy. For most economists, this is a standard,no-such-thing-as-a-ree-lunch analysis. However, it also high-lights the problems caused by one o the supposed benets thatrenewable energy proponents fog: that renewable energy willhelp “suppress” electricity prices, thereby creating huge benetsor consumers. I then examine the Cape Wind project, which Iconsider to be the current poster child or green energy’s excesses,and I discuss why the billions o additional dollars that Massa-chusetts ratepayers will be orced to pay or the electricity it gener-ates will not provide economic salvation but will simply hastenthe exodus o business, industry, and jobs rom the state.
How Renewable Energy SubsidiesReduce Economic Well-being
Ignoring, or the moment, the issue o green jobs creation,renewable energy studies oten talk about “price suppression”as being a benet o renewable resource development. Theconcept is straightorward: by increasing the supply o electric-ity, market prices decrease and consumers benet. This is un-damentally true, but while consumers obviously benet romlower prices in a competitive market, the “benets” o articialprice suppression are temporary and costly.For those whose amiliarity with electricity markets ends at thelight switch, beore there were competitive wholesale electric mar-kets, utilities built enough generating capacity to ensure that whenthe demand or electricity peaked (such as on a hot and humidsummer’s day), there was sucient generating capacity available.The construction costs o these resources were part o utilities’ ratebase, on which they earned a regulated rate o return.With deregulation and electric industry restructuring, regionalwholesale energy markets were created to replace the old vertically integrated utility industry. Not only were wholesale markets cre-ated or electric energy, but also markets or “installed capacity”— essentially payments to generating rms to recover the xedconstruction costs that were previously included in the rate baseand to provide sucient revenues or rms to construct addi-tional generating capacity or use during peak times, though thatcapacity would be uneconomical in a standard wholesale market.In overseeing wholesale energy markets, the Federal Energy Regu-latory Commission sought to ensure that these markets wouldprovide sucient revenues to generators, especially peaking gen-erators used only sparingly, to ensure they would be economically  viable and thus available on those hot summer days.Creating a market is always a challenge, and markets or“capacity” have proved no dierent. The rules governing thesemarkets are mind-numbingly complex, whether by accident ordesign. But one thing these markets did was provide explicit pay-ments to generators that had been paid only implicitly beore.Outraged at having to pay or something they mistakenly thought was ree, politicians in several states sought to take advan-tage o these markets and lower prices. As a result, a number o states introduced “price suppression” as an explicit policy goal inreaction to the creation o installed capacity markets, especially inNew England. In 2007, or example, Connecticut passed legislationthat required the state’s Energy Advisory Board to issue Requestsor Proposals that would reduce capacity market prices in the state.Similarly, in Massachusetts, Section 105(c) o the Green Commu-nities Act o July 2, 2008 was designed to orce renewable resourcegeneration into the New England capacity market.Essentially, these states have required that their local utili-ties build new generation (paid or by ratepayers) and bid theoutput into the energy market at a zero price. (There is a pricefoor or bidding into the capacity market.) Adding additional“ree” supply into a market obviously lowers, or suppresses, themarket-clearing price.In some ways, this is a good thing: i I can build a better, less-expensive mousetrap, mousetrap prices all and consumers(although not mice) are better o. The problem with the price“suppression” practiced by these states is that the resources thatwere built have been subsidized by ratepayers. As such, this typeo price suppression is really just another way to manipulate themarket in a way that makes it less ecient. Moreover, the pricesuppressive eect is only temporary, because it drives out actualcompetitors and reduces the likelihood o new competitors enter-ing the market. (Generators will not enter the market i they thinkregulators and politicians will simply drive them out at a later date. Also, investors, perceiving greater risk, will require larger expectedreturns.) Thus, rather than building a better mousetrap, theselawmakers are using subsidies to articially and temporarily reducethe price o mousetraps. And, in act, generators that compete inthese markets have ought back and
has taken notice.To understand the dierence between articial price suppres-sion and true increases in competitive supplies, examine Figure 1,which shows the demand or electricity and the eect o a renew-able generation subsidy. In the gure, the initial supply curveis given by the solid light red line S
. The market-clearing priceis P*, and the quantity o electricity sold is Q*. In this market,generators A and B sell all o their output, and C sells an amountQ* − QB. Generator D sells nothing.Next, we introduce a subsidized renewable generator, R, such

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