January 2004 Archives

So I was catching up on my reading this AM over breakfast, and saw the header on Robert Prather's post titled "beneficial complexity". Very cool, I thought, sounds right up my alley. And then to find that the post was a link to me! Jiminy, that's pretty exciting, thanks! I love the phrase beneficial complexity; it succinctly captures the myriad benefits attending market processes.

Now, to provide further enticement in this notion of possible competition in electricity transmission, think about this: the means of competing with a monopoly network grid are diverse. Building a parallel network is NOT, repeat NOT, the only option. Electricity illustrates this beautifully, because distributed generation technology that makes small-scale, local generation more feasible and economical for more consumers, also makes the grid contestable because it provides consumers with alternatives to using the monopoly network.

I've actually written some about this. The most extensive formulation of the argument is in this Reason Public Policy Institute study entitled "Movin' Juice: Making Electricity Transmission More Competitive".

Examples abound in telephony and computing too. I think the punchline is this: don't make policy decisions based on static notions of what constitutes a natural monopoly. Technology changes those categories, and changes what types of economic activities fit into those categories, and because our regulatory environment is not sufficiently flexible and adaptive to be robust to the dynamic effects of technological change, we're all worse off.

Slowly, but surely, things are looking up for competitive wholesale electric generators. Today Constellation Energy announced an 83 percent increase in profits in Q4 2003. Much of this performance was driven by its wholesale electricity division, Constellation NewEnergy:

The merchant energy business, or wholesale electricity marketing, posted earnings per share of 52 cents, more than double the year-earlier profit. The unit, Constellation NewEnergy, sells electricity and services in 15 states and two Canadian provinces.

Even the 800-pound regulated gorillas who want to keep things the way they are have had better performance. Southern Company has seen its demand increase due to increased industrial production:

After mixed signals for much of last year, Southern finally felt the telltale signs of the recovery in the fourth quarter: a spurt in demand for electricity from its big industrial customers who needed power to crank up their factories and plants.

And since Southern is in the business model of "sell more power, make more profit" against which I ranted yesterday, this is good news for them.

Check out Michele Boldrin's and David Levine's joint work on intellectual property if you are interested in such issues. For example, this abstract of their paper titled "The Case Against Intellectual Property", puts it clearly:

Argues that the downstream licensing agreements implicit in current intellectual property law are anti-competitive and that there should be a presumption for intellectual goods as with other goods that competition is likely to outperform monopoly.

I'll be interested to see how they handle the age-old argument of the tradeoff between the incentive to innovate and be creative, and the deadweight loss of monopoly rents that accompany such property rights. I vacillate between "patents are a government-granted monopoly" and "patents internalize optimal innovation incentives, but are fussy and fidgety and fall prey to the knowledge problem", which means I'm not high on them by any extent.

Interesting ...

Many thanks to Randy Barnett and David Bernstein for their recommendations of the Claremont Review of Books. I enjoy reading book reviews, but the NYT, NYRB, and London RB have all driven me sufficiently crazy with emotional, non-analytical, bad postmodern (as opposed to Hayekian postmodern!) reviews that I just don't bother any more.

While we're on the subject of energy innovation, please check out Randall Parker's Futurepundit post on the potential for fuel cell vehicles to heat homes. I've discussed this potential with several industry folks, and it is truly exciting. Consider being able to drive up to your house and plug in your car in order to power your house.

OK, now the wet blanket part: our regulatory structure is a major impediment to the implementation of such cool options. Utilities view any request for customers to leave the grid, called bypass, as a reduction in their load and therefore a direct reduction in their profit. The nasty little incentive problem of cost-based rate-of-return regulation is that utilities have developed a "sell more power, make more profit" mentality over the past 85 years. In that mentality, keeping us as captive consumers is their business model, because the converse is "sell less power, make less profit".

The challenge: get thought leaders in utilities to recognize that the difference in consumer preferences and demand elasticity over the day, week, and season creates opportunities for utilities to make more profit selling less power. Then we will be captive no longer, bypass will not be so vigorously refused, and we can apply the innovations in distributed energy technologies, using fewer resources along the way.

A new discovery may make room temperature superconductors possible:

A long-sought new form of matter has been created for the first time. The matter, called a fermionic condensate, consists of atoms that are ordinarily forbidden to exist in the same quantum state but have been tricked into it by linking into pairs.

It occupies the middle ground between loosely linked particles that form superconductors and tightly bound ones in Bose-Einstein condensates, another exotic form of matter produced fleetingly since 1995. The creation of the new condensate is considered the crucial first step toward producing superconductors that work at room temperatures.

Superconductors have a lot of promise for delivering and managing electric power with fewer losses than standard copper wire. The current (no pun intended) challenge is the liquid nitrogen sheath required to keep the superconductor wires and transformers sufficiently cold. This discovery could make that sheath unnecessary.

As Deborah Jin, one of the researchers who made the discovery, said in this CNN interview,

"If you had a superconductor you could transmit electricity with no losses," Jin said. "Right now something like 10 percent of all electricity we produce in the United States is lost. It heats up wires. It doesn't do anybody any good." ...

"Our atoms are more strongly attracted to one another than in normal superconductors," she said.

The hybrid Toyota Prius has been named the 2004 North America Car of the Year.

"If you want to understand the future of automotive design and production, then you have to understand the Toyota Prius," Motor Trend said.

Please, do check out the funny comment on haggis hunting (isn't haggis a small animal that lives in the heather?) from my dear friend Adam Bruce, from the haggis post immediately below.

A good chuckle to start the day!

Many people argue that electricity transmission is a natural monopoly, defined as having a subadditive cost structure (roughly speaking, decreasing long-run average costs over the relevant range of demand). Based on that belief, competitive entry is not allowed. Historically this has arisen because of the vertical integration of the industry, which is itself a consequence of the technical difficulties of unbundling the energy flow from the wires during the formative years of regulation in the early 20th century.

But with economic and technological change, particularly in electricity generation, the prospect for competitive transmission became brighter. Then in the late 1990s a lot of policy changes at FERC tried to implement nondiscriminatory transmission access for non-owners, and opened the possibility of transmission owners organizing their assets into private, for-profit, standalone transmission companies (known as transcos in the biz).

Transcos have had a rough time of it these past two years, with all of the sturm und drang over regional transmission organizations and FERC's proposed standard market design. Plus, utility accounting rules work against reorganizing and vertically dis-integrating the transmission part of the value chain; both depreciation rules and capital gains taxes on these large, and massively depreciated, assets make the economics of selling your transmission assets to a transco very problematic.

So I was pleased to hear at least a little ray of sunshine from Pat Wood, FERC Chairman, who said that he sees a future for Translink, a proposed transco that dissolved in the face of these many obstacles. I hope he's right, because competing transmission is an important way to generate efficient investment incentives in a world that does not look like 1907 any more, the year on which our electric utility regulation is imprinted.

I think more people will explore the transco model now that it looks like the FERC standard market design will not go ahead as planned. The discussion about competing wires, other forms of competition for grid networks such as distributed generation, and the crucial issue of end-use customers being able to bypass the grid access of the government-granted monopoly is a healthy one, and long overdue.

Wine: Gustave Lorentz Gewurztraminer Reserve 2001 ($12.99 at our local wine store)

Front taste: sweet, full of orange flower, but not cloying. Thick mouth feel from the residual sugar. Initially some chalky mineral, but that dissipated over the course of drinking the whole bottle. Very robust fruit, peaches and pears especially.

Mid taste: syrupy, but in a good way. Floral sweetness that continued the fore taste, with honey overtones. Nice sense of peaches.

After taste: clean acidity that made the wine feel surprisingly dry. Taste of peaches and pears transitioning from the mid taste to the after taste.

As is his wont, Tyler Cowen has a very thought-provoking post on the economics of haute couture. I have wondered recreationally about this myself, given that I am an avowed shoe (boot, really) fiend and love the visual, tactile, and psycholgical aspects of dress.

The one-off couture for the runway creates the buzz, but only if you can get a critical mass of Beautiful People to attend your shows. I think this typically happens by said Beautiful People, or friends of Beautiful People, having experience with your prêt-à-porter line. In that sense I think the buzz of fashion has some of the increasing returns characteristics we associate with networks: the experience creates the demand that creates the buzz that creates the experience that creates the demand ...

There's also a repeated game/reputation element to it. Look at the long-established Beautiful People/Designer relationships, like Michelle Pfeiffer and Giorgio Armani. MP has a fantastic sense of what flatters her (and a bone struture that means a paper bag would flatter her), GA's stock in trade is providing precisely that elegant, minimalist, tailored look with fabrics that look and feel gorgeous. Beautiful People and Designers who find these mutually beneficial relationships benefit greatly. Clearly, this aspect of it is closely related to the brand image creation that Tyler mentioned.

But that gets us to what I think is the most challenging and provocative thing that Tyler said in this post:

So much of economic activity is about buying dreams, and we don't yet have to analytical tools to analyze this kind of problem.

Uff-dah, what a big thought.

Makes me wonder if a neuroeconomics study of fashion would tell us anything: does shopping at the Gap for white t-shirts stimulate a different part of the brain from shopping at Hermes? Or more generally, what part of the brain does shopping, or looking, or trying on different types of clothing, stimulate? You could ask the same thing of cars.

I think the consumer preferences underlying shopping and fashion are hugely complicated, and hard to disentangle. One reason for that is very similar to what I discussed with my students today about contingent valuation studies to determine the value of environmental amenities: our preferences are constructed, and are highly contextual; they aren't just written in a book or tattooed on the back of the neck. In many cases we don't even know what our preferences are over something until we are confronted with it. And then once we are confronted with it, we do the "compared to what" opportunity cost calculation, and choose whether or not we want to buy it. We may not be able to articulate all of the aspects of the choice, either.

Just like the desire to preserve charismatic megafauna, fashion also has a very visceral, emotional component to consumer preferences, something that reaches into the core of our souls and taps into the human desire to do things with our resources that represent something about our individual beings.

Unlike fashion, though, environmental amenities are non-market goods; markets do not typically exist as mechanisms to enable us to determine how we value them, and whether others value them more or less than we do.

Yeah, what Alex Singleton said:

Where there is only 'voice', we are told that we have to wait our turn. We are told to take into account the requirements of other consumers. We are told to be grateful for what we have.

'Exit' is much better than 'voice'. This is because market forces work. Public sector altruism doesn't. As Adam Smith said: "Public services are never better performed than when their reward comes in consequence of their being performed, and is proportional to the diligence employed in performing them."

I have been a consumer of Adam Smith Institute materials for many a year, and do not link to their blog as often as I should, for I frequently find their commentary interesting, insightful, and incisive, to be alliterative about it.

OK, I was tickled by this because sometimes my husband calls me this, although I claim that I dislike politics sufficiently to disqualify me from being a wonkette. I also like the logo, perhaps because I have chin-length hair, wear funky lunettes when possible, and live in knee-length black boots, and have a cat who supervises my work. Anyway, got the link to it from Glenn, but what really tickled me was this post on "Moby vs. Drudge". The gem of it, especially for you Brit lit and history fans such as myself:

But, really, who would win a Moby vs. Drudge smackdown? Not since Oscar Wilde and Lytton Strachey pelted each other with buttered scones over who would get to dress up as Salome has the world seen such a testosterone-free feud.

Even now I can't type for laughing. Boy, do I wish I wrote more like that. Absolutely priceless.

OK, this is interesting: Chicago may soon be home to the first haggis factory in the US:

"There are lots of Scots living in the States, and Scottish food is becoming increasingly popular, so I think the market is definitely big enough to make haggis a success in the U.S.," Ken Stahly, owner of Stahly Quality Foods told the Evening Telegraph and Post in Scotland. "Chicago is an ideal base, because its geographical location is an ideal gateway to the U.S. and Canadian marketplace."

Not to mention our extensive set of folkways that involve eating various and sundry pieces of meat and offal ground into bit and stuffed into organs, yum. Actually, I love bratwurst, don't get me wrong, but ... even on Burns Day and even in Scotland I can't bring myself to eat haggis. I'll stick with Lagavulin, thank you very much.

Interestingly, the company says that they will market a vegetarian haggis in the US market (!).

There are some disturbing implications of the Supreme Court ruling today regarding EPA enforcement of the Clean Air Act:

The 5-4 decision, a victory for environmentalists, found the EPA did not go too far when it overruled a decision by Alaska regulators, who wanted to let the operators of a zinc and lead mine use cheaper anti-pollution technology for power generation.

In short, the deal is this: the mine built a new electric generator and the Alaska state government authorized them to install emission reduction technology that reduced emissions by 30 percent. The US EPA did not agree with that authorization, and ordered the mine to install technology to reduce emissions from the new generator by 90 percent. The mine found this order prohibitively costly, and Alaska found this to be a violation of state's rights. A federal court disagreed with Alaska, saying that the EPA has the final jurisdiction over enforcement of the Clean Air Act, and the Supreme Court agreed.

This decision flies in the face of the knowledge problem, the issue at the heart of this very website. Local regulators are going to be in a better position to know the costs, benefits, and tradeoffs in the specific local conditions (although even a local regulator will never, never, be able to capture or replicate the information of individual economic actors). The counterargument to this is that the EPA may do a better job of aggregating preferences across multiple jurisdictions (I am skeptical about their ability or incentive to do this impartially), but in the case of an isolated mine in Alaska, the issue of transboundary pollution is specious as a justification for federal regulation. Another counterargument may be that the local regulators are captured by the local regulated firms. Possible.

I have other concerns about this ruling, but will leave them for later.

In case you didn't notice (but I know those of you in the Northeast did), last week was some of the coldest winter weather in the Northeast since 1875. Not surprisingly, such a cold wave puts a strain on heating energy supplies, including natural gas. This Catallarchy post by Doug Allen, and its attached comments, address the market response: natural gas prices rose, and those prices will be passed through to at least some extent to retail customers. In responding to someone whose understanding of economics seems tinged by politics, Doug makes a very important point:

Why arificially keep heating costs low? Why encourage some people to blast the heat at 75 degrees and walk around their house in t-shirts, gobbling up what little supply there was already? By raising natural gas costs, people will learn to conserve and do more with less. For example, cut the thermostat down a few degrees, make sure closet and attic doors are shut, throw another blanket on the bed, etc. High prices force consumer conservation, leaving a little more "heat" for everyone.

Indeed.

Some other important facts and interpretations on this topic, most of which come from insights of industry experts I met with today at a Center for the Advancement of Energy Markets meeting:

-Natural gas markets are healthy, robust, and liquid, and have been for quite a while since deregulation in the 1980s. That means that buyers and sellers use forward contracts, financial hedges, and other instruments to manage price risk.

-One feature of healthy competitive markets is the optimization of inventories in storage. If there is a cold spell of unanticipated depth and/or duration, then the binding constraint is not supply, it's storage. The natural gas price volatility seen in the markets in the past week reflects the unexpected demand relative to the hedges in place and relative to inventories.

-Price spikes last week did not persist, because both wholesale and retail natural gas consumers (certainly large consumers, even if not residential consumers) responded by cutting demands for natural gas that were of lower priority than heating. Electricity plants that are dual-fired found it economical to switch from natural gas to oil, for example. But it looks like all of the demand reduction was voluntary, and led to suppliers who have interruptible pipeline contracts choosing not to import natural gas, thus making the pipeline capacity constraint not bind.

Conveniently enough, the Federal Energy Regulatory Commission recently released a study of New England's natural gas transportation and storage infrastructure.

Winter is the peak natural gas use period in New England. From December through February, much of the region’s pipeline system is fully loaded. While this situation is not unique to this region, it reduces the opportunity for New England to access natural gas from underground storage in New York and Pennsylvania. The absence of underground storage in New England, in combination with the inability to access storage in New York and Pennsylvania, makes New England dependent on its limited above ground storage, pipeline imports, and liquefied natural gas (LNG) to meet peak winter demands.

But the robustness and liquidity of markets, as well as the combination of supply response and active demand response to prices, mean that enough natural gas was available to satisfy the high heating demands on it last week. The prices at which these demands were satisfied may look high to those looking for a political angle, but simply put the fact is this: given unexpected conditions and the hedges in place to smooth out price effects from expected conditions, these high prices are the most competitive prices that can be had in this situation.

It may be little comfort to Doug's "Jane" that if these high natural gas prices persist, then those who can make money off of delivering natural gas to New England consumers will make investments that enable them to do so, both in increasing supply and in increasing delivery and transportation infrastructure. Those investments will increase supply relative to demand (ceteris paribus, of course), and thus reduce prices. Thus, as Doug notes, high prices induce conservation on the demand side, but they also serve the very important role of inducing investment on the supply side.

Many thanks to Craig Newmark at Newmark's Door for linking to this LA Times story about one woman's quest for the perfect teapot. I, too, share this quest. The perfect teapot is

-clear, so you can monitor the steeping of the leaves
-dripless, with a spout that pours cleanly
-accompanied by an easy-to-clean infuser
-adaptable, to larger or smaller portions, and to the occasions on which one must be a heathen and use (gasp!) teabags

I concur with the author that the perfect teapot on these dimensions is the Bodum Assam pot, made of tempered glass and accompanied by a plastic infuser and, most importantly, a plunger lid. The plunger is crucial, because if you let the water stay in contact with the leaves too long (say, more than 3-4 minutes for most teas), then the bitter tannins come to the fore in the taste and make the tea unpalatable.

Plus the Bodum Assam pot is awfully cute!

As a welcome to fellow Chicagoan Ian Cook, I offer this link to his interesting and informative post on Borda count voting at Truck and Barter. I also recommend Steve Verdon's post that got Ian thinking about this.

Borda presents us with an interesting dilemma when considering collective choice mechanisms: it has the problems that Ian and Steve discussed, but it does a better job than other mechanisms at communicating intensity of preference.

Anyway, thanks for the thought-provoking post, and welcome!

I know many of you have read Virginia Postrel's article on Hayek in the Boston Globe, because as Virginia reports, it's one of the most accessed articles from that day's paper.

But if you have not yet read it, please do so. It reflects the ever-broadening view of the relevance of Hayek's work in a range of social sciences:

Indeed, Hayek is increasingly recognized as one of the 20th century's most profound and important theorists, one whose work included political theory, philosophy of science, even cognitive psychology. Citing the "proof of time," Encyclopedia Britannica recently commissioned Caldwell to replace its formulaic 250-word Hayek profile with a nuanced discussion more than 10 times as long. Harvard has added him to the syllabus of Social Studies 10, its rigorous introductory social theory course.

Wind power is good, right? Not if you're a bird flying over the Altamont Pass in California. Now a group has filed a lawsuit over the birds killed by windmills in Altamont Pass.

This'll be interesting ...

Five years ago, Pennsylvania was one of the policy leaders in pursuing electricity restructuring. My assessment of the Pennsylvania approach has been that although it has some flaws (such as regulated retail price caps that phase out over 10, count 'em, 10, years), that they struck a good balance in their transition to more market-based policy approaches.

This article from yesterday's Philadelphia Enquirer reaches a similar conclusion. The reduction in retail rates has been a boon to customers, and even though they are capped, they are capped at a level that still attracted supplier entry, to a certain extent. In fact, this precise point is listed as an area of restructuring that needs more work:

Alternative power suppliers have found it tough to make money here, because they can't offer a better price than the utilities' capped rates. The price caps are artificially saving consumers' money, but are simultaneously deterring competition.

And the growth of choices, including green power, is a great thing.

But I am frustrated at the fact that the state's consumer advocate has such a narrow-minded view of demand response and market-based retail pricing. Oh, we have a lot of work to do ...

The October 2003 issue of Reason's Privatization Watch was a special electricity issue, featuring articles on demand response, the August blackout, and how technological change affects regulation. In particular, I'd like to draw your attention to two feature articles.

The first, by Vernon Smith, Stephen Rassenti, and Bart Wilson of the Interdisciplinary Center for Economic Science at George Mason University, analyzes demand response and market-based retail pricing of electricity as a crucial feature that must be integrated into restructuring in order for restructuring to succeed at delivering value to customers and energy companies alike. Using price to prioritize use, particularly during peak periods, reduces costs:

The fluctuation of consumption levels increases generation, transmission, and distribution costs. The capacity of all electrical facilities and their investment cost depends on peak, not average, consumption.

The second, by Ahmad Faruqui and Stephen George of Charles River Associates, describes the demand response initiatives being considered in California, under the auspices of the California Public Utility Commission and the California Energy Commission. They explore the range of initiatives and discuss some issues that the state will have to consider as they move toward the goal of meeting 5 percent of peak demand with dynamic pricing by 2007.

Busy day today, opera tix tonight (Samson & Delilah), traveling Thurs and Fri, so things may be a bit quiet around here for the next couple of days.

I'm taking a page from Professor Bainbridge's book and will start including wine reviews on this site. Let's start with the trendy phenom that, at least here in the middle of the country, is "Three-buck Chuck". Charles Shaw has recently released a 2001 Shiraz, and it's got all of the features you want in a value-for-money New World shiraz: fruit (particularly black cherry and black raspberry), roundness in the mouth, full taste throughout. If you let it aerate in your glass for about 5 minutes, the tannic bite that you'll get from any young wine dissipates, and the fruit comes out. While it is not as well-rounded or as nuanced a wine as the Cimicky Trump's Shiraz 2001 that we had Friday night, it had the unmistakeable characteristics of the varietal. Speaking of which, the Cimicky Shiraz and Grenache-Shiraz are very good choices for when you are willing to spend $15.

Although the flavor is a little thin, it is an outstanding $3 bottle of wine. I think it's the best of the $3-buck Chuck varietals, even better than their excellent Sauvignon Blanc.

The Heartland Institute, a policy think tank located in Chicago that focuses on issues of state and local policy, has started publishing a new telecom newsletter called IT Update. It's got columns from a lot of knowledgeable telecom policy folks, including Alfred Kahn, Solveig Singleton, Sonia Arrison, and Clyde Wayne Crews.

The January issue has an article of mine that relates to the policy brouhaha in Illinois over the price that SBC is allowed to charge to CLECs for use of their facilities.

The fault lies in the misguided notion that regulators can measure or determine the costs of operating telephone networks. At best, they can get an approximate estimate of these dynamic and ever-changing costs. At worst, they will succumb to political pressures and set the rates too low. Our traditional cost-based regulatory approach is doomed to failure from the outset, because it is based on the false assumption that a political body can or would find the objective “true cost” of providing telephone service. ...

Instead of demonizing SBC or its competitors, we should ask why the FCC and the ICC have the presumption to claim they can amass all of the cost knowledge, actual or hypothetical, needed to make this bizarre regulation work.

This article on students writing skills and blogging's role in developing them, which features our own Kevin Brancato, makes some nice points about the skill development inherent in such an endeavor. For instance, I never thought about how the desire to connect to a network and the presence of public fact-checking can reduce plagiarism.

Personally, I find that having to make concise, relevant arguments for a wide-ranging audience is very good practice. I've actually never written like an academic economist, for better or worse, but I certainly find that writing for this outlet has sharpened my skills.

Here's an interesting article about the expansion of hybrid vehicles at the Detroit Auto Show. The article has a couple of nice comments about issues that I think are important, namely the unpredictable pace of technological change and the role that consumer preferences play in shaping the decisions of the manufacturers.

Past auto shows have featured varying promises and predictions about greener vehicles. In 1998, for example, some automakers forecast that they would be ready to produce hybrids by 2001 and fuel cell vehicles by 2004. Now, hybrids are just making headway and widespread availability for fuel cell vehicles is probably a decade from now.

"There clearly is a desire to improve fuel economy," said Mike Wall, an analyst for the forecasting firm CSM Worldwide. "The trick is consumers still want the high horsepower vehicles, the large vehicles."

Still, though, environmental groups insist that consumers will be better off if we are forced to purchase vehicles that do not have the characteristics that we value:

"Overall, they're not doing a good job," said Brendan Bell, an expert with the Sierra Club's global warming and energy program. "They're creating a few vehicles. But at the same time under current fuel efficiency standards, when they build an efficient vehicle they can build another gas guzzler. That is really taking us backward."

Also related are this post of mine from March 2003 on CAFE standards, and this Economic Scene column by Virginia Postrel on CAFE standards from December 2001.

One of the main themes of my work is that the value of customer retail choice in electricity is not just an increased likelihood of lower prices. Choice is good because it enables customers to go out and look for, and purchase, differentiated products. But, but, but, ... the nattering nabob says, electricity is a homogeneous product. No it's not, because of the wide variety and individuality of the uses to which we put it, across different uses, at different times of day, in different seasons. It is also heterogeneous in the fuels and technologies we use to generate it. The electrons are homogeneous, but the output, the outcome that they deliver to each consumer, is not.

So I think that we advocates for retail choice have done ourselves a big disservice over the past decade by selling "deregulation" as a way to lower retail rates. The logic is simple: if electricity is a homogeneous good, then deregulating (wholesale, as it has happened in the US) electricity markets will induce entry and investment in generation where it's needed, retirement of old plants where they are not needed, and the resulting increase in efficiency from generating power where it's cheap and selling it where it's less cheap will lead to a reduction in retail rates, QED.

But that's only part of the story, the cost part. By focusing solely on prices to the exclusion of other changes that choice brings and that customers may value, we are arguing for choice with one hand tied behind our back. That's the hand of consumer utility, preferences, and value. What if customers want a service option for which they would actually pay a higher rate, but it would give them more satisfaction? Such is the case with green power, where you can pay more per kilowatthour to have your power generated entirely (or in shares, at lower prices, for those who can't afford full assuaging of their consciences) by renewable sources.

I'm sufficiently radical that I consider consumer choice, as the philosophers would have it, an a priori good, because it is one manifestation of individual liberty. But for the consequentialists among you, consumer choice also generates superior outcomes when some potential competition exists. It doesn't have to be a large number of competitors; what's more important is the free entry and exit.

All of this is lead-in to an interesting little story I saw earlier this week from the UK. The headline reads "A fifth of UK energy buyers base their decisions on more than just price", and the punchline is that when electricity customers switch providers, non-price considerations are very important in that decision:

In the electricity market, 21% of customers who switched chose their new supplier partly for non-price reasons, while in the gas sector the figure was 22%. Following price, the most common reason for choosing a supplier was its reputation for good overall customer service. This rebuts the traditional belief that all corporate energy buyers are penny-pinching scrooges who make purchasing decisions exclusively on a price basis. Some are influenced by word of mouth and do respond to the positive images a supplier projects.

Also significant in the decision-making process is the clarity and accuracy of a prospective supplier's bills. This is understandable given that bill accuracy and bill clarity feature in the most important elements of customer service to both electricity and gas customers alike (in addition to tender response, contract negotiations, response to queries and account manger reliability). Another non-price reason for a particular supplier choice was its financial stability.

Customer service, billing clarity, and metering transparency and service.

Toyota/Lexus unveiled their hybrid engine SUVs at the Detroit Auto Show; Toyota will make a hybrid Highlander and a hybrid pickup, while Lexus will make a hybrid RX400. From the Toyota press release:

Like the popular four-cylinder Prius gas-electric hybrid, the 3.3-liter V6-equipped Highlander Hybrid will be powered by a new version of Toyota's Hybrid Synergy Drive powertrain. The system was specifically developed to meet the load-carrying requirements of a mid-size SUV.

The system features a larger-capacity battery that will deliver nearly double the power of the battery in the Prius. An all-new high-speed electric motor will operate at twice the speed and deliver more than twice the power as the motor in the Prius. With combined peak-system power projected at approximately 270 horsepower, the new system will improve upon the V6 Highlander's already impressive less-than-eight-second zero-to-60 acceleration.

Very cool!

According to this ITV article, the rumor that Rowan Atkinson is going to be in Harry Potter and the Goblet of Fire is true, and that he's going to play Voldemort! Voldemort? Voldemort! That's some goofy casting. I am having serious difficulty imagining Rowan Atkinson in a sinister and non-funny role, notwithstanding the fact that he's a brilliant comic actor.

Virginia's recent New York Times column includes an interview with my friend and mentor Joel Mokyr, who recently edited the Oxford Encyclopedia of Economic History, which was published last fall. It's a masterful work, with over 900 entries (complete with references) on a vast array of topics. For example, I wrote three entries for the encyclopedia: the history of energy regulation, contract enforcement through history, and Adam Smith.

Virginia's column highlights the themes that emerge from taking such an extensive look at economic history:

Some consistent themes emerge from the many and varied entries. One is the importance of technological innovation in raising living standards.

Despite all the differences across time and space, Professor Mokyr says: "There are certain unifying themes that you see everywhere. People have to make a living. People would rather have more than to have less. On the whole, they don't behave stupidly. They do as well as they can under the circumstances. The variation is in the circumstances, in the richness and diversity of human economic institutions that have emerged over time."

This witty little article from the Clarion-Ledger in Mississippi recounts how the author and her sister, as an antidote to five ceaseless days of college football, curled up on the sofa and watched all six hours of Pride and Prejudice.

Instead of nachos and chili, we had mimosas and brunch. In lieu of recliners and remotes, we had a comfy sofa and shared a lap blanket. Rather than yell the team on, we kept quiet enough to catch their charming English accents, thinly veiled put-downs, deft verbal sparring and elliptical flirtations. We didn't want to miss a single raised eyebrow or brooding stare.

Very funny. And hitting just a wee bit to close to home ...

I should add, both for those unfamiliar and for full disclosure, that John Perry Barlow founded the Electronic Frontier Foundation, of which my husband and I are members.

In cleaning house today I've updated the blogroll to reflect changes in my reading patterns, and I encourage you to visit folks such as Rand Simberg/Transterrestrial Musings, CrumbTrail, and Professor Bainbridge, if you don't already.

And I am thrilled, just absolutely thrilled, to be able to add John Perry Barlow to my list. I have devoured his writings over the past decade, and much of it gives me hope and enlarges my already substantial optimism about humans, technology, and creativity. It also aids my confidence in being a renegade to the extent that I am. Please wander over and give him a big welcome.

And thanks to Glenn Reynolds for the pointer. Hey Glenn, now that I've linked ya twice today, can you please update your link to me on your roll? Thanks, buddy!

Lots of interesting commentary on the recent 30th birthday of the Endangered Species Act. Let's start with Juan non-Volokh at the Volokh Conspiracy, with a post chock-full of good links to follow with more information on how miserably the ESA has failed to meet its objectives. One of the most important observations from Juan's post is:

McCloskey’s second faulty premise is more serious – and far more widespread. Implicit in his argument – and much of the environmental policy debate – is the notion that the only way to be "pro-environment" is to support expansive federal regulation, and the Republican commitment to environmental protection can only be shown by embracing the federal environmental regulatory apparatus. This is silly.

Indeed. In fact, there are a lot of us out here who devote our personal and professional lives to showing the many, diverse ways that being pro-environment and pro-market are exceedingly compatible, and that being pro-environment does not necessitate drinking the federal regulatory kool-aid on the subject.

Juan also links to Karl Hess' study on the black-footed ferret, which is a thorough and well-research analysis with lots of useful references. Hess' study suggests that the near demise of the BFF was the consequence of federal land use policy, implying that the ESA's saving of the BFF was a rectification of a problem of the government's own creation.

Much of the other discussion out there has gone into detail on the DDT topic, and the extent to which DDT is or is not harmful to humans and other animals. See, for example, this Crumb Trail post and this Insults Unpunished post. Links included therein are helpful and informative.

Reason has another article on the ESA by Ronald Bailey, colorfully titled "Shoot, Shovel, and Shut Up". Convenient, as that is the precise phrase I used in introducing this idea to my students yesterday.

For an in-depth policy analysis of the ESA, see this PERC policy study by Rick Stroup. He concludes

In summary, any reform of the Endangered Species Act should have as its goal making endangered species the friend, not the enemy, of landowners. This can be largely accomplished by ending the Fish and Wildlife Service's power to control land without compensation.

Several results will stem from such a change. Landowners will no longer fear finding endangered species on their property and will become much more cooperative. The Fish and Wildlife Service will go "on budget." Its goals will be weighed against other desirable goals, and it will have an incentive to husband its resources, try out creative approaches, and establish priorities.

I also cannot recommend highly enough the work of my friend and former colleague Michael DeAlessi on this subject. Michael had a Washington Times oped on the subject last week (which was reprinted in the Rocky Mountain News):

For starters, the ESA has done precious little to help endangered animals. Since the act's passage, seven American species have gone extinct. Meanwhile, while over 1,260 species have been listed as "endangered" or "threatened," only 10 North American species have "recovered," often due to efforts unrelated to the ESA.

Based on the assumption that species are threatened as "a consequence of economic growth and development," the ESA gives the authority to limit activities on both public and private land. This misguided notion - that conservation and commerce are incompatible - has dominated the application of ESA since it was passed in 1973.

He then goes on to mention the whole Tellico dam snail darter episode, which Glenn Reynolds also mentioned in his post on the subject. But the most interesting ideas contained in Michael's oped come from his August 2003 Reason/Pacific Research Institute study of Earth Sanctuaries, Ltd., a private organization in Australia whose core business is conservation of endangered native species. ESL is publicly traded, and although they face substantial challenges because of the difficulty of valuing their asset portfolio of species, they are succeeding.

By selling shares and offering shareholder-only discounts and weekends at their sanctuaries,ESL encourages investors who simply want to fund effective species conservation. ESL also created the Earth Sanctuaries Foundation,a non-profit organization separate but complementary to ESL. ...

ESL,on the other hand,proved that turning species and other environmental amenities into tangible assets is a sound path to stewardship.The results cannot be denied and for legislators and policymakers,the lessons are clear.Private conservation works and should be the keystone of policy for protecting endangered species in Australia,America,Africa,and around the world.

I strongly encourage reading Michael's study, which is fascinating and indicates how effective private conservation approaches can be at preserving species, in contrast to the failed control-and-manage approach embodied in the Endangered Species Act.

A third post that intrigued me was Bill Cholenski's post at Catallarchy on the PBS history reality shows. Bill's list of the free-market/Austrian/Hayekian principles that people would learn from these experiences is good:

1) They allow one to observe the subtle changes in the way a person thinks and acts when placed in a different environment. (Maybe that's the same thing).

Forced to grow their own food, and live in relatively harsh conditions, with scarce resources, a family in Frontierhouse needed to prioritize, and decide how to spend their time, labor, and resources. Since there were several families, they were able to trade with each other (and a simple trading store 10 miles away) for resources, products and services. Importantly, they then had to live with the consequences of their actions. While no-one starved, choosing poorly, or making mistakes, meant the difference between a plentiful and varied diet, or a monotonously deficient one.

I'd put it differently: faced with scarcity and a constrained set of tools with which to address that scarcity, these people get the benefits of experiential learning about trade, creativity, entrepreneurship, technological change, and reciprocity in a repeated-interaction community. And I think Bill hits the nail on the head about how there's no one there to bail them out of the consequences of their choices.

One other post that caught my attention is Kevin Brancato's observations on gasoline price controls in Iraq:

I found out that not only is the price ceiling set really low, there is a state monopoly on retail gasoline stations.

Kevin's lesson in basic economics is important: an artificially low price for a scarce good, and monopoly control over its supply chain, is a recipe for shortages. Furthermore, as Kevin says, the black market is not causing the shortages, but may indeed be helping to alleviate them by serving those willing to pay black market prices.

But what's really interesting in Kevin's story is the fact that the gasoline scarcity is not the binding problem (although price differentials have been causing some outflow of gas to Turkey, where the price is above the regulated price in Iraq + the transport costs and risk premium to get it there). The binding constraint is the infrastructure -- the lack of pumps and gas stations. These stations are run by the Iraqi government. And as Kevin suggests,

[O]pen more pumps! Or better yet, permit competitors to open pumps, negotiate their own deals with foreign suppliers, and create their own supply chains.

Why might the Iraqi government not wish to do that? Are there some current and/or expected future rents that the government might earn from monopoly ownership and operation of gas stations? Are there corruption and side payment issues? I suspect there are, although it's only a suspicion.

Yet another thing that should be privatized and open to entry in Iraq: gas stations!

While we're on the subject of Iraqi petroleum, Vernon Smith's WSJ commentary on the "Iraqi People's Fund" came out while I was on my self-imposed (and, for once, enforced! with the help of my husband) hiatus, so I missed my chance to encourage you all to read it. In my stead, Alex Tabarrok at Marginal Revolution gave a great summary and set of excerpts to showcase the main argument, that

This action would launch the new Iraqi state as one based on individual human rights, and the rule of law, and anoint it with rock-hard credibility by giving every citizen a stake in that new regime of political and economic freedom. The objective is to undermine any citizen sense of disenfranchisement in the country's wealth, economic and political future, and to galvanize citizen support for a democratic regime. Now is the time to act, before post-war business-as-usual creates de facto foreign and domestic spoils-of-war property right claims, leaving out a citizenry brutalized enough by a totalitarian regime, and in sore need of empowerment in their own future.

At around the same time, I found this Reuven Brenner article from the Asia Times, advocating a similar approach to achieving civil society in Iraq:

A possible solution is to first offer each Iraqi citizen an immediate stake, by committing to distribute a fraction of oil revenues, an equal sum to every Iraqi man, woman and child, with the remaining funds being managed by a properly structured trust fund. This idea roughly follows the very successful Alaskan model. Once this is done, powers can be delegated to lower, tribal levels. This sequencing gives a greater chance for rebuilding Iraq and the Middle East on sounder foundations. By looking at a sequence of historical events, we'll see why.

Oil money sustains both dictatorships and much outdated institutions and character traits. This is why the crucial first step in achieving stability in the Middle East is to disperse the funds among people living within the now recognized borders, rather than let it flow through the hands of unaccountable and corrupt rulers and governments. Unless the people within the present Iraq borders are given such tangible stake in the future, "democracy" and "constitutions" will become nothing but empty promises and worthless pieces of paper, with the vast majority of people mired in poverty and ignorance.

Brenner's piece has a lot of good historical discussion in it, material that resonates with me right now because I'm reading David Fromkin's A Peace To End All Peace, about World War I and the construction of the modern Middle East. It's an extremely good book, very well written and full of information and analysis that enables the reader to think about the interwoven personal and geopolitical relationships involved. I just finished reading a section where Fromkin talks about political movements based on theories of nationalism in the late 19th century, so when Brenner says things like "ambitions based on nationalist principles are in conflict", it really fits with my reading of Fromkin. I recommend both works.

Carnival of the Capitalists, hosted this week at A Special Kind of Stupid, highlights a lot of the interesting posts during my absence. Of particular interest to me is Steve Verdon's post on highway congestion pricing, an idea that has been way, way too long in coming. Steve spends a lot of the post delving into some specific problems he has with the way Mark Kleiman puts his argument, and I'd like to take issue with some of Steve's issue-taking, just to (hopefully) clarify the matter.

First, the claim that highways are, as Mark put it, "the classic example of the commons problem", where a good is rivalrous but where access to it is not governed or excluded. This is correct, and I think Steve's taking issue by saying "either a good is rival or it's not" is only partly true. Rivalrousness of a good is a matter of degree; a purely nonrival good is, for example, broadcast communications, and a purely rival good is, for example, an article of food or clothing. But there are a host of goods on the continuum between those two endpoints, so saying "either a good is rival or it's not" is not entirely correct, and misses a lot of the interesting goods over which we have lots of policy wrangles, including highways. Steve is right to say that you're still consuming the good even when congested, but the important point is that you are paying for it through your time, and not through some mechanism that does a better job of prioritizing the use of scarce resources, such as prices.

But this conversation between Steve and Mark creates an opportunity to highlight something that is often overlooked in the policy consideration of highways. They are open access by choice, not by any technological or cost feature. Certainly not in this era of infrared toll-collection devices, which make the "the transaction costs of toll collection outweigh the congestion reduction benefits" argument completely specious.

For highways as for many goods, we choose to govern them as a commons to some degree (in the case of highways, usually as open access, with the resulting overuse and necessity of pricing their use through time instead of through prices). This decision is at least in part a function of the costs and benefits of defining and enforcing the property right, defining and enforcing the exclusion. Technology has reduced these definition and enforcement costs. But the existence of incumbent interests (hey! We've never had to pay for the roads before! I'm not gonna do it now!) and the political obstacles to implementing a toll that would be high enough to remove the congestion make it difficult to achieve the benefits of defining and enforcing the right to make highways an excludable good.

Of course, if congestion gets bad enough and people get fed up enough, then perhaps attitudes will change.

On the policy front, my former colleague Bob Poole heads up the Transportation Program at Reason Public Policy Institute, and has been a pioneer in innovative approaches to surface transportation and highway congestion. One of Bob's great ideas is HOT lanes, high occupancy toll lanes. The idea is this: if you are a high occupancy vehicle, you can use the HOT lane without charge. If you are a single driver, but are in a total rush to pick the kids up from soccer or some such thing that makes the value of your time at that moment extremely high, then you pay a toll to use the HOT lane. This system reduces congestion in the regular lanes, gets you to where you need to be on time, and generates revenue to support the business end of the system. Bob's done a recent study of HOT lanes and the pilot implementations of them, summarized here. See also this oped in the Atlanta Journal-Constitution by Benita Dodd of the Georgia Public Policy Institute, where she notes that

Happily, when time is money, many Americans reconsider the perception that HOT lanes are "Lexus lanes" to benefit only the rich. That's when they see the advantages of what Poole calls "congestion insurance."

"Whether you're a single mother with a child in day care facing late fees and you would love to pay $5 in order to avoid a $12 late fee; the electrician needing to get in one more appointment for the day; . . . when you're going to the airport, might miss your plane, or have a very important meeting to get to -- you don't have that choice."

These examples of thinking creatively about how to use pricing to prioritize the use of highways illustrate the variety of approaches that can improve congestion and the daily lives of commuters without building more highways.

It's bone-numbingly cold here in Chicago today; at last report the temp was still in the single digits and the wind chill was hovering around -10F. And the reason I came back from the ASSA meetings in San Diego was ... ?

At least we finally have some snow, and may have a fresh layer for pulling out the x-c skis this weekend.

On a couple of nights of our vacation in Maui, a large cruise boat would be anchored several hundred yards out from Lahaina harbor. Not being familiar with how cruise boats operate, given that neither my husband nor I has ever been on a cruise, we amused ourselves with speculation on several of the operating features of these large vessels. In particular, we wondered about what is obviously one of the most attractive features of such cruises – visiting various ports of call along the cruise route. Being entirely unacquainted with cruises, we were intrigued by the variety of ways that the cruise company could arrange the transaction of getting their passengers to and from shore. Do they carry purpose-made boats with them? Do they contract with a local boat company, or the local harbor, for shuttle services? Or is there some other way of doing it that we had not considered?

This question gets directly to the heart of one of the core theoretical questions in new institutional economics – the relationship between asset specificity, the boundary of the firm, and vertical integration/contracting out make-or-buy questions. The degree to which firms need specific assets to perform their specific functions, and the extent to which those assets have unique capabilities, interacts with transaction costs of engaging in market transactions to shape the boundary of the firm. There are lots of examples of industries in which asset specificity contributes to firm and industry structure, with examples like petroleum refining and chemical distillation. The issue of asset specificity raises a host of questions, such as

-Can the asset perform any other functions, or is it a single-purpose asset? Clearly the example of petroleum refining is one in which it’s pretty much single-purpose. If it is a more flexible asset, it may be less costly to redeploy the asset in some other production process, either by the owner or another firm, and is thus less specific to the production process in question. Furthermore, if the asset can be used simultaneously to perform different functions, then the cost of capital that must be incurred to procure the asset begins to look like more of a bargain.

-Can other firms use the asset as-is, for this or other purposes? In other words, how firm-specific is the asset in question? The canonical example of this question is still controversial for a host of minute reasons, but let’s just take it at face value here. For example, if a body shop has a machine special-built to stamp out nameplates for particular automobiles, as did, say, Fisher Body for Chevrolet, the dies with the Chevrolet nameplates are specific to the firm in question. If those dies are built in to the stamping machine, or are very expensive to replace, then the machine is more specific to the particular firm, and more costly to redeploy in production at another firm. If that is the case, the hypothesis goes, then you are more likely to see industries in which firms have more specific assets be either more vertically integrated or more likely to arrange their upstream transactions through long-term contracts. Either of these arrangements is more likely to generate the longer stream of expected revenue to induce the upstream firm to incur the capital cost associated with the specific asset investment.

Now, what does this set of questions have to do with cruise ships and shuttling passengers in and out of various ports of call? Suppose you are calling in five different ports on your cruise around the Hawaiian Islands. The first thing as a cruise operator that you might ask is, how costly is it to arrange with local operators to contract with one in each port for shuttle service? And what happens if three cruise ships all happen to show up in Lahaina at the same time, exceeding the capacity of the shuttle operator? This transaction would require coordination and planning to occur through the market. Thus transaction costs might make contracting out (i.e., buying in the service) a less attractive option. Furthermore, a forward-looking cruise operator might think that small ports of call would have only one potential shuttle operator, which would enable them to charge the cruise operator a high (i.e., monopoly) price for their shuttle service, even if they engaged in a long-term contract. So in looking at the make-or-buy decision, these two factors seem to suggest that buying in the service might not be the most attractive option, compared to making the capital investment that would enable the operator to shuttle passengers to and from shore independently.

OK, now we have to think about the investment decision facing the cruise operator so that we can see whether or not the "buy" decision is as bad as I’ve laid it out above. What kind of craft do you need to shuttle passengers to and from shore? Does it have to be purpose-built, thereby adding to the weight and cargo that you carry (which itself has an opportunity cost)? Or can you use vessels that you already are going to have on board, and which thus have no opportunity cost? In this case, the answer is yes – you can use your lifeboats! Gotta have ‘em for safety and insurance purposes, so the marginal cost of operating them to shuttle people to shore is only the crew time and fuel cost, and since you have to have them anyway, the opportunity cost is zero.

What’s interesting about this solution is that it’s not a firm-specific or purpose-specific asset, except for it being a vessel capable of taking a certain number of people across water for a certain distance. So, if you will, the vertical integration of the cruise operator into the shore shuttle transaction seems not to result from the degree of asset specificity, but rather from the transaction costs associated with contracting for independent shuttle services.

And as an added bonus, the ship’s crew and the passengers going ashore get familiar with the safety procedures and ingress and egress of the lifeboats. This is a great side benefit since there have been several lifeboat launch problems during emergencies over the history of ocean liners.

Many thanks to our knowledgeable and friendly server at Pacific’O, a wonderful restaurant in downtown Lahaina on the beach, for enlightening us on the use of lifeboats for shuttling passengers while he also provided superb service, food, and wine. If you look at the menus that they have on their website, we recommend the Hapa Hapa Tempura, which had the most fantastic taste and texture.

We've been to see Girl With A Pearl Earring and LOTR: Return of the King. I greatly enjoyed GWAPE, as I knew I would. The most remarkable things about it (except for the scene with Vermeer standing in a doorway looking exceedingly yummy in a blue velvet waistcoat) were the pacing and the luminosity of the visuals. It looked exactly like a movie based on a book based on a Vermeer painting should look -- subtle color variations, intense shades, minute details of mundane, pedestrian activities. It was beautiful. I think that seeing it without having read the book would diminish some of its power, although both of us were disappointed that a couple of scenes from the book were cut from the movie. But all in all, a wonderful movie.

As was, of course, Return of the King. I love big epics, and when accompanied by great direction, great acting, and very cool CGI rendering, well ... I barely noticed the passing of three hours.

Happy new year to one and all. I've been letting the batteries recharge, doing little else on the computer for the past two weeks save check my email and hunt down screen captures from Harry Potter and the Prisoner of Azkaban. Have spent the past couple of days very happily visiting with friends at various new year's parties, and am off tomorrow to the annual meeting of the Allied Social Science Association in San Diego.

I wish everyone a happy, safe and prosperous 2004.