Month: June 2015

When it comes to electrical power, much of sub-Saharan Africa is living in a different world. A report from the African Progress Panel, People, Power, Planet: Seizing Africa\’s Energy and Power Opportunities, provides a nice overview of the situation. The African Progress Panel is a group of 10 prominent individuals ranging from Kofi Annan to Bob Geldof. I presume that the actual report was mostly written by staff, including Caroline Kende-Robb, Kevin Watkins, and Maria Quattri.

The report offers some eye-catching facts about the lack of electrical power in sub-Saharan Africa. Here\’s a selection (footnotes omitted, along with references to figures and infographics):

Measured on a global scale, electricity consumption in Sub-Saharan Africa excluding South Africa is pitifully low, averaging around 162 kilowatt hours (kWh) per capita a year. … One-third of the region’s population lives in countries where annual electricity use averages less than 100 kWh each. The global average consumption figure is 2,800kWh, rising to 5,700kWh in the European Union and 12,200kWh in the United States. Electricity consumption for Spain exceeds that of the whole of Sub-Saharan Africa (excluding South Africa).

To put the figures in a different context, 595 million Africans live in countries where
electricity availability per person is sufficient to only light a single 100-watt light bulb
continuously for less than two months. It takes the average Tanzanian around eight years to consume as much electricity as an American uses in one month. When American households switch on to watch the Super Bowl, the annual finale of the football season, they consume 10 times the electricity used over the course of a year by the more than 1 million people living in Juba, capital city of South Sudan. Ethiopia, with a population of 94 million, consumes one-third of the electricity supplied to the 600,000 residents of Washington D.C. …

Sub-Saharan Africa is desperately short of electricity. Installed grid-based capacity is around 90 gigawatts (GW), which is less than the capacity in South Korea where the population is only 5 per cent that of Sub-Saharan Africa. Moreover, South Africa alone accounts for around half of power-generation capacity. With 12 per cent of the world’s population, the region accounts for 1.8 per cent of world capacity for generating electricity and the share is shrinking. 

Installed capacity figures understate Africa’s energy deficit. At any one time, as much as one-quarter of that capacity is not operational. In terms of real output, South Korea generates over three times as much electricity as Sub-Saharan Africa. … Around 30 countries in the region have grid-connected power systems smaller than 500 megawatts (MW), while another 13 have systems smaller than 100MW. For purposes of comparison, a single large-scale power plant in the United Kingdom generates 2,000MW. It is not just comparisons with the rich world that highlight the gap. Nigeria has almost twice as many people as Vietnam but generates less than one-quarter of the electricity that Vietnam generates. 

For those who prefer their striking facts in graphical form, here are a couple of examples. On average, 32% of the poulation in sub-Saharan Africa has access to electricity. As is the way with averages, in a number of countries the percentage is even less. For comparison, 60% of the popoulation in low-income Bangladesh have access to electricity.

Here\’s a figure showing the electricity generated on a per capita basis between sub-Saharan Africa and other regions of the world. The progress on power for Africa is slow, and the gap is worsening.

Finally, here\’s a figure showing how households in a number of countries in sub-Saharan Africa get their light. Kerosene lamps and candles play a major role. In Ethiopia, more households get light from moonlight/firelight than from a light bulb in a socket or lamp.

The costs of this lack of electricity are enormous and far-reaching. For industry, it means a combination of continual power outages and the need to invest in expensive stand-alone generators. The report notes that the Power Holding Company of Nigeria (PHCN) has been baptized with the nickname “Please Have Candles Nearby.”

\”Frequent power cuts result in losses estimated at 6 per cent of turnover for large firms and as much as 16 per cent for enterprises in the informal sector. Unreliable power supply has created a buoyant market in diesel-powered generators. Around 40 per cent of businesses in Tanzania and Ethiopia operate their own generators, rising to over 50 per cent in Kenya. In Nigeria, around four in every five SMEs [small and medium enterprises] install their own generators. On average, electricity provided through diesel-fuelled back-up generators costs four times as much as power from grid. Diesel fuel is a significant cost for enterprises across Africa, even in less energy-intensive sectors such as finance and banking. …  Lack of reliable and cost-effective electricity is among the top constraints to expansion in the manufacturing sector in nearly every Sub-Saharan country.\”

With a lack of electricity, low-income households gather firewood, which takes time, inflicts environmental damage, and when burned leads to a household air pollution problem.

Data from 30 countries showed that the average share of household spending directed to energy was 13 per cent. The poorest households typically spend a larger share of their income on energy than richer households. In Uganda, the poorest one-fifth allocated 16 per cent of their income to energy, three times the share of their richest
counterparts. Women and girls spend a lot of time collecting firewood and cooking with inefficient stoves. Factoring in the costs of this unpaid labour greatly inflates the economic costs that come with Africa’s energy deficits. Estimates by the World Bank put the losses for 2010 at US$38 billion or 3 per cent of GDP. …

Africa is on the front line of the HAP [household air pollution] epidemic. The World Health Organization estimates that 600,000 Africans die each year as a result of it. Almost half are children under 5 years old, with acute respiratory tract infection the primary cause of fatality. If governments in Africa and the wider international community are serious about their commitment to ending avoidable deaths of children, then clean cooking facilities must be seen as a much higher priority. Put differently, achieving universal access to clean cooking stoves, allied to wider measures, could save 300,000 young lives a year. Apart from saving lives, reducing the use of biomass by 50 per cent would save 60-190 million tonnes of CO2- equivalent emissions, as production and use of solid fuels for cooking consumes over 300 million tonnes of wood annually in Sub-Saharan Africa.

The problems of a lack of electricity are widespread. It affects health care, because vaccines can\’t be refrigerated and equipment can\’t be run. It affects schools and the ability to read and study at home when there\’s no reliable light. The report makes a strong and persuasive claim about teh overarching importance of electrical power across many dimensions:

[T]here is an abiding sense in which power generation is seen as a peripheral concern, in contrast to priorities in areas such as education, health, nutrition, water and sanitation. It is difficult to think of a more misplaced perception. Without universal access to energy services of adequate quality and quantity, countries cannot sustain dynamic growth, build more inclusive societies and accelerate progress towards eradicating poverty. Productive uses of energy are particularly important to economic growth and job creation. Energy services directly affect incomes, poverty and other dimensions of human development, including health and education. Expanded energy provision is associated with rising incomes, increased life expectancy and enhanced social well-being.

First, overall power generation needs to increase at least 10-fold by 2040 if Africa’s energy systems are to support the growth in agriculture, manufacturing and services needed to create jobs and raise living standards. Second, if governments are serious about the 2030 commitment of “energy for all”, they must adopt the strategies needed to extend provision through the grid and beyond the grid. …  There is no shortage of evidence to demonstrate what is possible. Brazil, China and Indonesia have achieved rapid electrification over short time periods. Vietnam went from levels of access below those now prevailing in Africa to universal provision in around 15 years. The country expanded electricity consumption fivefold between 2000 and 2013. Bangladesh has increased electricity consumption by a factor of four over the same period. …

Current spending on investment [in the electricity sector] is around US$8 billion a year, or some 0.49 per cent of GDP. Public financing accounts for around half of overall investment and Chinese investment, public–private partnerships and concessional development finance cover the rest. Covering the costs of investment in plant, transmission and distribution would require an additional US$35 billion annually. Adding the full costs of universal access would take another US$20 billion. The total investment gap of about US$55 billion a year represents around 3.35 per cent of GDP. This figure does not take into account spending on operations and maintenance.

Where is the money to come from? It seems clear that a hearty dose of private sector funds will be needed. Such funds can also bring the virtue of outside oversight and pressure on timelines and contracts. But private funds won\’t be forthcoming in sufficient quantity until it\’s clear that governments across Africa have the willingness, the capabilities, and the vision to support moving ahead with these large-scale investments. As one possible source for finance, and also for governments of Africa to show their commitment to expanded electricity production, the report points to the large subsidies often paid across Africa to power-sector utilities, as well as for fuel sources like gasoline. These subsidies disproportionately benefit those with high incomes. Just phasing out these subsidies could raise more than $20 billion per year that could be redirected to supporting generation and distribution of electricity for all.

Power-sector utilities constitute a major fiscal burden for many countries. In 2010, Sub-Saharan Africa’s energy utilities were operating with deficits estimated at 1.4 per cent of regional GDP, some US$11.7 billion. This represented five times the level of publicly financed investment in the energy sector. … In addition to financing loss-making utilities, many governments subsidize kerosene. According to the International Monetary Fund (IMF), the average subsidy applied to kerosene and other oil-based products amounted to 45 per cent of its market price in 2013, or US$10 billion.

The report acknowledges in a number of places the importance of moving ahead with environmentally-friendly and low-carbon sources of energy where possible, even discussing that Africa might over time be able to \”leapfrog\” to these alternatives. But the report is also fairly blunt in pointing out that when development finance agencies start imposing rules that limit finance for coal or natural gas, they are imposing a double standard:

It is striking that there has been little debate over whether limiting development finance for fossil fuels, including coal, in the name of cutting greenhouse gas emissions might hamper efforts to achieve universal access to energy for all. Viewed from a Sub-Saharan African perspective, it is difficult to avoid being struck by some marked double standards. Coal-fired generation occupies an important share in the energy mix of countries such as Germany, the United Kingdom and the United States, where it has a far greater share than in most countries of Sub-Saharan Africa. Yet the same countries are able to use their shareholder domination of the World Bank to limit support to Africa. One perverse side-effect is to leave African governments without the finance that might enable them to invest in more efficient coal-fired power plants with lower emissions. …

Donald Kaberuka, the President of the African Development Bank: “It is hypocritical for Western governments who have funded their industrialization using fossil fuels, providing their citizens with enough power, to say to African countries, ‘You cannot develop dams, you cannot develop coal, just rely on these very expensive renewables’… To every single African country, from South Africa to the north, the biggest impediment to economic growth is energy, and we don’t have this kind of luxury of making this kind of choice.”

What proportion of Americans work for large employers? And how is that share changing over time? Anthony Caruso of the US Census Bureau presents some of the data in \”Statistics of U.S. Businesses Employment and Payroll Summary: 2012,\” published in February 2015 (G12-SUSB).

The share of Americans working for large employers has been rising in recent years, and now more than half of Americans work for a \”large\” enterprise with more than 500 employees. In this table, \”very small\” means fewer than 20 employees, \”small\” means 20-99 employees, and \”medium\” means 100-299 employees. You can go to the website for this data source and look up data as far back as 1992, when the share of those working for a firm with more than 500 employees was 47%.

Caruso\’s report also offers a sectoral breakdown. The blue lines reaching left show how many workers are employed in a given industry by firms with less than 500 workers; the yellow lines reaching to the right show the number of those working for firms with more than 500 workers. Thus, when yellow lines are longer than blue lines, large employers are more important. The combined blue and yellow lines show how many workers are in a given industry.

I won\’t try here to explore various reason why large employers have become more prominent over time. Surely part of the reason is related to the fact that US business startups have been slowing down in recent decades, and a declining share of workers who are working for smaller and newer firms is of course the same as a rising share of workers at larger firms. But I will note one general advantage of larger firms: on average, they tend to pay better.

The data available in this report is just overall average pay per employee (that is, it\’s not a survey of the range of pay inside enterprises). But the tables show that in an enterprise with more than 500 employees, average pay per employee is $52,554; for a medium-sized enterprise with 100-499 employees, average pay per employee is $44,916; for a small-sized firm with 20-99 employees, average pay is $40,417; and for a very small firm of less than 20 employees, average pay per employee is $36,912.

There is extraordinary variation across US states and school districts in K-12 education spending per pupil. The US Census Bureau offers a slice of the evidence in its June 2015 report Public Education Finances: 2013. The report is basically a bunch of tables compiled from the 2013 Annual Survey of School System Finances, a comprehensive survey of the 15, 144 school districts across the United States. Here, I\’ve just lifted a couple of columns out of individual tables.

As a starting point, here is per student spending across US states and the District of Columbia. The US average is $10,700 per student. The top six on this list spend more than 50% per student above that level. The bottom 10 spend at least 20% less per student.

The second table looks at enrollment sizes and per pupil spending in the 50 largest school districts.

The US Census report is just tables of numbers. It doesn\’t offer any analysis of conclusions. Without trying to turn this into a far-ranging discussion of education reform issues, here are a few points that jump out at me from these tables.

1) Most K-12 education spending is salaries and benefits, whether for teachers or administrators and support personnel. (The report offers state-by-state breakdowns in these categories.) It\’s not a surprise that those working in K-12 education tend to get paid more in states with higher income levels, and thus, it\’s not a surprise that states with higher income levels often tend to have higher per pupil education spending. But even with this factor taken into account, northeastern locations seem to have higher per pupil spending. As you read down from the top of the list, you quickly find, New York, the District of Columbia, New Jersey, Connecticut, Vermont, Massachusetts, Rhode Island, Pennsylvania, Delaware, Maryland, and New Hampshire. To say this a little differently, what is thought of as a \”normal\” or \”usual\” level of per pupil education spending varies dramatically across US regions.

2) There are a couple of exceptions to this near-monopoly of northeastern locations near the top of per pupil spending list. Alaska really stands out. It ranks second in spending per student. A different table in the report shows that if one looks total K-12 education spending in proportion to per capita income in a given state, Alaska leads the way by a considerable margin. [In an earlier version of this post, I confused the postal abbreviations for Alaska (AK) and Arkansas (AR). My bad.] Wyoming is another non-northeastern state with high per pupil spending.

3) The sheer size of enrollments of the largest US school districts always shocks me. The New York City schools have nearly a million K-12 students; the Los Angeles schools have 655,000 students; and the Chicago schools have almost 400,000 students. Miami-Dade County has 354,000 students, and is next door to Broward County (including the Fort Lauderdale area) with another 260,000 students. Given the huge differences across enrollment levels even in the top 50 school districts, and obvious question is whether running an ultra-large school district has economies of scale or diseconomies of scale. That is, does large size offer a way to save money on a per student basis, perhaps by centralizing administration or taking advantage of district buying power? Or does large size cost money on a per student basis, because layers of administration in running a school district with several hundred thousand students become inefficient? I don\’t know of systematic evidence on this point, taking all the variables into account.

4) Looking at the New York City very high per pupil spending figures helps to explain why New York state ranks at the top of the per pupil spending per state. Indeed, given the very high level of per pupil spending in New York, it seems to me that arguments for more K-12 education spending in New York don\’t pass the laugh test. Sure, New York City\’s education system faces  big city problems. So do Chicago, LA, Miami, Houston, and others.

5) Baltimore has been much in the news lately. This list shows that five school districts in Maryland are in the top 42 nationally in number of students: Baltimore, Montgomery County, Prince Georges County, Baltimore County, and Anne Arundel County. All of them are well above average in per-student spending.

6) Glancing at these data with the variation across states and school districts should help to explain why it\’s hard to spot a clear-cut correlation between levels of per pupil education spending and educational outcomes like graduate rates and test scores.

Countries with higher per capita GDP tend to spend more on education, and in fact, average US per student spending on K-12 education is pretty much in line with what would be expected from the US level of per capita GDP.  But averages often don\’t tell the most interesting part of the story. As we say in my  part of the world, \”on average\” the Great Lakes never freeze.

This year was the 50th anniversary for Warren Buffett in running Berkshire Hathaway. Each year, he writes a letter to his shareholders, and this year\’s letter has the theme of looking back over the past 50 years and looking ahead to the next 50. Over the years, Buffett has the knack of saying things in these letters that are willing to admit past mistakes and often wryly humorous. (Here\’s a snippet from last year\’s letter, where Buffett of all people extols the virtues of index fund investing.) Here are a few snippets from Buffett\’s 50th anniversary letter that caught my eye.

Apparently, Buffett originally took over Berkshire in a fit of pique, because he felt that the earlier owners tried to chisel him out of one-eight of a point:

\”On May 6, 1964, Berkshire Hathaway, then run by a man named Seabury Stanton, sent a letter to its shareholders offering to buy 225,000 shares of its stock for $11.375 per share. I had expected the letter; I was surprised by the price.  Berkshire then had 1,583,680 shares outstanding. About 7% of these were owned by Buffett Partnership Ltd. (“BPL”), an investing entity that I managed and in which I had virtually all of my net worth. Shortly before the tender offer was mailed, Stanton had asked me at what price BPL would sell its holdings. I answered $11.50, and he said, “Fine, we have a deal.” Then came Berkshire’s letter, offering an eighth of a point less. I bristled at Stanton’s behavior and didn’t tender. That was a monumentally stupid decision. Berkshire was then a northern textile manufacturer mired in a terrible business. The industry in which it operated was heading south, both metaphorically and physically. And Berkshire, for a variety of reasons, was unable to change course. …

\”The price that Stanton offered was 50% above the cost of our original purchases. …  Instead, irritated by Stanton’s chiseling, I ignored his offer and began to aggressively buy more Berkshire shares. By April 1965, BPL owned 392,633 shares (out of 1,017,547 then outstanding) and at an early-May board meeting we formally took control of the company. Through Seabury’s and my childish behavior – after all, what was an eighth of a point to either of us? – he lost his job, and I found myself with more than 25% of BPL’s capital invested in a terrible business about which I knew very little. I became the dog who caught the car.

After struggling for some years, Buffett argues that his investment philosophy evolved between two different kinds of value investing, a change which he attributes to advice from his long-time associate Charlie Munger: \”Forget what you know about buying fair businesses at wonderful prices; instead, buy wonderful businesses at fair prices.\”

For many economists and finance professionals, Berkshire Hathaway is an anomaly and even an anachronism, because it looks a lot like an old-style conglomerate firm. Such firms have gone out of favor, with the argument that it\’s better for firms to focus on their \”core competence.\” In response, Buffett argues:

\”Conglomerates, it should be acknowledged, have a terrible reputation with investors. And they richly deserve it. Let me first explain why they are in the doghouse, and then I will go on to describe why the conglomerate form brings huge and enduring advantages to Berkshire. Since I entered the business world, conglomerates have enjoyed several periods of extreme popularity, the silliest of which occurred in the late 1960s. … The resulting firestorm of merger activity was fanned by an adoring press. Companies such as ITT, Litton Industries, Gulf & Western, and LTV were lionized, and their CEOs became celebrities. (These once-famous conglomerates are now long gone. As Yogi Berra said, “Every Napoleon meets his Watergate.”) …

\”At Berkshire, we can – without incurring taxes or much in the way of other costs – move huge sums from businesses that have limited opportunities for incremental investment to other sectors with greater promise. Moreover, we are free of historical biases created by lifelong association with a given industry and are not subject to pressures from colleagues having a vested interest in maintaining the status quo. That’s important: If horses had controlled investment decisions, there would have been no auto industry. Another major advantage we possess is the ability to buy pieces of wonderful businesses – a.k.a. common stocks. That’s not a course of action open to most managements. Over our history, this strategic alternative has proved to be very helpful; a broad range of options always sharpens decision-making. The businesses we are offered by the stock market every day – in small pieces, to be sure – are often far more attractive than the businesses we are concurrently being offered in their entirety. \”

With regard to the investing in Berkshire Hathaway, Buffett offers various warnings:

 \”If an investor’s entry point into Berkshire stock is unusually high – at a price, say, approaching double book value, which Berkshire shares have occasionally reached – it may well be many years before the investor can realize a profit. In other words, a sound investment can morph into a rash speculation if it is bought at an elevated price. Berkshire is not exempt from this truth. …  Since I know of no way to reliably predict market movements, I recommend that you purchase Berkshire shares only if you expect to hold them for at least five years. Those who seek short-term profits should look elsewhere. …

\”The bad news is that Berkshire’s long-term gains – measured by percentages, not by dollars – cannot be dramatic and will not come close to those achieved in the past 50 years. The numbers have become too big. I think Berkshire will outperform the average American company, but our advantage, if any, won’t be great. Eventually – probably between ten and twenty years from now – Berkshire’s earnings and capital resources will reach a level that will not allow management to intelligently reinvest all of the company’s earnings. At that time our directors will need to determine whether the best method to distribute the excess earnings is through dividends, share repurchases or both.

Back in 2011, I amused myself for a few months at this blog by posting examples about of international organizations that had come out against subsidizing biofuels like ethanol. For example, in a June 2011 post, \”Everyone Hates Biofuels,\” I pointed out a report in which 10 international agencies made an unambiguous proposal that high-income countries drop their subsidies for biofuels. I followed up with \”The Committee on World Food Security Hates Biofuels\” in August 2011 and \”More on Hating Biofuels: The National Research Council\” in October 2011.

The main arguments were the same: 1) subsidies for biofuels added to demand for corn and grain products in a way that pushed up food prices worldwide, with an especially harsh economic effect on the poorest people in the world who spend a large share of their incomes on food; and 2) the purported environmental gains from biofuels weren\’t happening, in part because after taking the environmental issues involved in plowing additional cropland into account, there was no overall reduction in carbon emissions.

Over the years, I have become accustomed to the sad reality that global policymakers do not kowtow to my will. But I cannot forbear from noting that biofuel subsidies remain a mistake in both economic and environmental terms. Here are a couple of recent examples.

Kimberly Ann Elliott has (optimistically) written  \”The Time to Reform US Biofuels Policy Is Now\” as a May 2015 \”Brief\” for the Center for Global Development. It draws upon her longer January 2015 CGD \”Policy Paper,\” called \”Biofuel Policies: Fuel versus Food, Forests, and Climate.\” I\’ll draw on both papers here.

Let\’s start with a big-picture overview of how government subsidies and mandates drove up biofuel use, and what happened with global food prices at about that time. As biofuel consumption rises, global food prices rise, too.

Of course, the correlation taken alone doesn\’t prove causation, but more detailed studies make the case. As one example, Brian Wright discusses \”Global Biofuels: Key to the Puzzle of Grain Market Behavior,\” in the Winter 2014 issue of the Journal of Economic Perspectives. (Full disclosure: I\’ve worked as Managing Editor of the JEP since the first issue back in 1987.) Wright discussed a basic model of supply and demand for grain markets with two tweaks: 1) he includes effects arising from substitution between corn, wheat, and rice; and 2) he takes into account the possibility of storing surplus crops from year to year into account. He writes:

\”The [grain] price jumps since 2005 are best explained by the new policies causing a sustained surge in demand for biofuels. The resulting reduction in available per capita supply of food and animal feed could not be accommodated by drawing on  available stocks, as they had in the past when there were temporary shortages created by yield shocks. Instead, the necessary adjustments included an expansion of global net acres planted to grains, especially in Latin America and the former Soviet Union, and by reduced per capita consumption of grains and products from animals fed on grains.  … The rises in food prices since 2004 have generated huge wealth transfers to global landholders, agricultural input suppliers, and biofuels producers. The losers have been net consumers of food, including large numbers of the world’s poorest peoples. The cause of this large global redistribution was no perfect storm. Far from being a natural catastrophe, it was the result of new policies to allow and require increased use of grain and oilseed for production of biofuels.\”

If the rise in global food prices had been accompanied by environmental gains, at least there would be some offsetting benefits. But the environmental benefits of biofuels have turned out to be much oversold. Elliot writes:

Estimates of GHG [greenhouse gas] emissions over the full life cycle of today’s food-based biofuels vary widely, depending on how and where the crops are grown and how they are processed. Even when biofuel production is efficient, however, the net effect on climate change can be negative if it leads to direct or indirect land use changes. Thus, if producers chop down tropical forests in Brazil, Argentina, or Indonesia to grow sugar, soybeans, or oil palm to make biofuels, then the GHG emissions associated with the resulting fuels could well be higher than those of gasoline or diesel. In addition, to make up for the food and feed crops going into fuel tanks, either people must eat less or farmers must produce more. Some increased production could come from using existing farmland more productively. But if farmers respond to higher prices by cultivating virgin lands or converting forests, then those indirect land use changes will create additional GHG emissions that further undermine the case for biofuels.\”

In a similar spirit, Wright notes: \”Environmentalists have grown skeptical of the claimed reductions in greenhouse gas emissions associated with biofuels; indeed, the net effects of biofuels on emissions are now more widely believed to be at best dubious, due to inevitable induced  land use changes …\”

Even as the economic costs of biofuels subsidies have risen and the environmental benefits have proved dubious, the practical aspects of implementation have become troublesome, too. Elliot writes:

In addition to not achieving Congress’s energy security or environmental goals, implementing the Renewable Fuel Standard (RFS) is becoming ever more complex. On the supply side, advanced biofuels that do not use food crops and are more climate friendly have not been developed as expected. Thus, refiners cannot blend fuel that does not exist. On the demand side, the bulk of the US automobile fleet cannot safely use gasoline with more ethanol. So the overall mandate target cannot be met. The assumptions undergirding US biofuel policy have not held.

For a sense of these issues, consider this figure from Elliot. The area to the left of the dashed line shows what has happened in the past, while the lines to the right show the mandate levels imposed by the government for renewable fuels. A couple of problems become clear.

There are legal mandates for using relatively large amounts of cellulosic biofuels in the future, even though little is being produced now. (\”Cellulosic\” biofuels are produced from plant material that is not a human food crop, including certain grasses as well as wood and the nonedible parts of plants.) Indeed, as Elliot points out, a farcical situation arose in which the Environmental Protection Agency fined oil companies $7 million a couple of years ago for not buying enough cellulosic-based biofuels to meet the mandate–at a time when it was not yet technologically possible to produce that quantity of cellulosic biofuels. Paying penalties for a standard with which it was impossible to comply understandably led to lawsuits.

Moreover, discussions of renewable fuel discuss the \”blend wall,\” which is the physical fact that ethanol is corrosive, and if most US cars use more than 10% ethanol, it will damage their engines. As shown in the figure, the \”blend wall\” is the amount of ethanol that could be used, given the amount of gasoline purchased, without breaking that 10% ceiling. However, the current mandate for ethanol is higher than the \”blend wall,\” and it\’s not clear how this can be accomplished.

Elliot concludes in this way:

In sum, American and European policies to promote first generation biofuels are failing to significantly contribute toward any objective other than providing additional subsidies to relatively well-off farmers in rich countries. The oil production boom in the United States is making biofuels practically irrelevant for US energy independence, albeit with troubling effects on greenhouse gas emissions. And poor consumers around the world are less secure as a result of higher and more volatile food prices. By pitting fuel against food, first generation biofuel policies are also creating incentives to convert forests to cropland, and that undermines the goal of reducing GHG emissions. Because of the relatively large, and growing, role that transportation plays in global greenhouse gas emissions, continued public investment in research and development on second and third generation biofuels is worthwhile. But current biofuel policies are doing little to promote advanced biofuels, and are helping little, if at all, with climate change mitigation in the meantime.

As a practical person with an office in Washington, DC, Elliot offers a number of reasonable suggestions for moderate change in the renewable fuel standards, but her suggestions are prefaced with \”[i]f elimination of the RFS [renewable fuel standard] is not possible.\” As an impractical person far outside the Washington beltway, I just emphasize that eliminating these rules would be the best policy. The primary government role in alternative fuels and biofuels should be to support financing of research and development. Perhaps someday cellulosic biofuels will become a practical reality. Other energy technologies like improved batteries or fuel cells or methanol also deserve research and development funding. But federal mandates to use certain quantities of biofuels–quantities that will either harm existing car engines or which in the case of cellulosic biofuels don\’t even exist–are a counterproductive policy tool.

Claudia Goldin is interviewed by Jessie Romero in the Fourth Quarter 2014 issue of EconFocus, published by the Federal Reserve Bank of Richmond. The whole interview is worth reading, but here are a few of her comments that caught my eye.

How the contraceptive pill altered perspectives of women on the labor market

\”One of the most important changes was the appearance of reliable, female-controlled birth control. The pill lowered the cost to women of making long-term career investments. Before reliable birth control, a woman faced a nontrivial probability of having her career derailed by an unplanned pregnancy — or she had to pay the penalty of abstinence. The lack of highly reliable birth control also meant a set of institutions developed around dating and sex to create commitment: Couples would \”go steady,\” then they would get \”pinned,\” then they would get engaged. If you\’re pinned or engaged when you\’re 19 or 20 years old, you\’re not going to wait until you\’re 28 to get married. So a lot of women got married within a year or two of graduating college. That meant women who pursued a career also paid a penalty in the marriage market. But the pill made it possible for women who were \”on the pill\” to delay marriage, and that, in turn, created a \”thicker\” marriage market for all women to marry later and further lowered the cost to women of investing in a career. …

\”That meant these young women could engage in different forms of investment in themselves; they attended college to prepare for a career, not to meet a suitable spouse. College women began to major in subjects that were more investment oriented, like business and biology, rather than consumption oriented, like literature and languages, and they greatly increased their attendance at professional and graduate schools.\”

The Last Chapter of the Grand Convergence

\”Women and men have converged in occupations, in labor force participation, in education, where they\’ve actually exceeded men — in a host of different aspects of life. One can think about each of these parts of the convergence as being figurative chapters in a metaphorical book. And this metaphorical book, called \”The Grand Convergence,\” has to have a last chapter. But what will be in the last chapter? … So I went looking for facts, and I found two big pieces of information suggesting that the last chapter, which is about gender equality in pay per unit of time worked, must have greater temporal flexibility without large penalties to those who work fewer hours or particular schedules. …

\”Across the wage distribution, the vast majority of the gender gap is occurring within occupations, not between occupations. There\’s considerable discussion about occupational segregation, but you could get rid of all occupational segregation and reduce the gender gap by only a small amount. …

\”So then the question is, why are there some occupations with large gender gaps and others with very narrow gaps? There are some occupations where people face a nonlinear function of wages with respect to hours worked; that is, people earn a disproportionate premium for working long and continuous hours. For example, someone with a law degree could work as a lawyer in a large firm, and that person would make a lot of money per unit of time. But if that person worked fewer than a certain number of hours per week, the pay rate would be cut quite a bit. Or someone could work fewer or more flexible hours as general counsel for a company and earn less per unit of time than the large-firm lawyer. Pharmacy is the opposite — earnings increase linearly with hours worked. There\’s no part-time penalty.\”

[I blogged about this line of Goldin\’s research back in January 2014.]

Women Working Longer

\”My current project is called \”Women Working Longer.\” I\’m working with a group of people who study aging, retirement, and health. We\’re interested in the fact that labor force participation rates for younger women peaked in the 1990s, but that participation for older women has increased enormously. Among college graduates today, about 60 percent of those aged 60-64 and 35 percent of those aged 65-69 are in the labor force. Even among those aged 70-74, about 20 percent are in the labor force.

\”This raises all sorts of interesting questions about why. Is it because these women were hit with divorce shocks? Do they want to retire but then they look at their savings and realize they can\’t retire? Or is it that the world of work has changed and they love what they\’re doing? There are a host of issues to study concerning family, occupations, education, health, financial resources, and retirement institutions.\”

It\’s fairly straightforward to list the events leading up to the Great Recession of 2007-2009, and to argue which events had greater or lesser importance. Perhaps not surprisingly, such arguments tend to mirror the political beliefs already held before the recession: that is, those who favored more regulation in 2000 or 2005 tend to believe that lack of regulation set the stage for the Great Recession, while those who think government actions and guarantees often work out badly tend to believe that earlier government actions were the main cause. But a step behind this kind of partisan infighting, economists are struggling to enunciate the deeper economic lessons of what went  wrong.
Bengt Holmstrom offers a notable contribution along these lines in \”Understanding the role of debt in the financial system,\” published as a Bank of International Settlements working paper (#479) in January 2015.

As a starting point, Holmstrom raises this question: \”How could Wall Street trade in securities that they knew so little about? Why did no one ask questions?\”

It\’s of course easy to point out that some folks in the financial industry have a profit motive to be obscure and opaque about risks involved. But that set of incentives has been true for a long time. A usual assumption is that other folks in the financial industry are drilling down into complicated financial deals. Thus, even though some folks are fooled some of the time, a combination of hard-headed investigation, legal and regulatory requirements for disclosure, and people who care about their reputation will tend to keep such behavior in check.

Notice that this explanation of how financial markets function relies on availability of information and on detailed arguments and analysis about that information. Holmstrom offers a much different answer. His argument is that healthy debt market function best, most of the time, with a high degree of opacity and a \”no questions asked\” mindset. In making this argument, Holmstrom draws a sharp contrast between the functioning of stock markets and \”money markets\”–which are markets for short-term borrowing and lending, where the loans are often backed by a high level of collateral. Holmstrom offers this table as a framework for discussion, contrasting the functions of stock markets and money markets, and arguing that intuition about stock market doesn\’t work well when applied to money markets.

For example, stock market most of the time are not a way for most firms to obtain funding. When one party buys or sells a share of stock, the firm doesn\’t get the money. Even when the original owners of a company sell stock in an initial public offering, a large part of the motivation is so that the owners can share the risk of financing the company in the future, rather than bear that risk themselves. Stock markets are famously sensitive to new information, with stock prices bouncing up and down based on news affecting the company and quarterly income reports. But debt markets are mostly not very sensitive to  specific information about a company, unless the company is actually likely to go broke. Most of the time, the reasonable working assumption is that short-term debt will be repaid. As long as the firm has posted collateral, there is little need to investigate further. Thus, stock markets are characterized by legions of analysts drawing up financial projections of future earnings and crunching the data under various scenarios. Debt markets have comparative modest investments. Stock market have many traders on exchanges; debt market operate with relatively few.

The last two characteristics in the table may be a bit counterintuitive, but they cut close to the heart of the issue. Even though stock markets tend to have more information and investigation, they are not usually very urgent. If you think a stock is a great buy today, most of the time the odds are it will still be a great buy in a few days or a week. But short-term borrowing is different, because it often involves rolling over past borrowing. If a bank or firm has been rolling over large amounts of short-term borrowing for months or years, and suddenly finds that it cannot do so, the shock to that organization is large–even conceivably fatal. The volumes traded in stock markets can bounce around, but the volumes trade in short-term debt markets are usually pretty stable, and a working definition of a financial crisis is when many actors in the economy suffer a sudden inability to borrow in the short-term markets.

With this dichotomy in mind, a set of fundamental economic tradeoffs that reach beyond the details of the 2007-2009 start to become clear. Most of the time, Holmstrom argues, short-term debt markets function so well precisely because they are somewhat opaque and insensitive to information. As he writes; \”The quiet, liquid state is hugely valuable.\”

A financial crisis arises when those in the financial sector begin to raise questions and to demand information about  short-run debt, and to start trying to separate worthy and unworthy borrowers. Holmstrom writes ( citations omitted):

Panics always involve debt. Panics happen when information-insensitive debt (or banks) turns into information-sensitive debt … A regime shift occurs from a state where no one feels the need to ask detailed questions, to a state where there is enough uncertainty that some of the investors begin to ask questions about the underlying collateral and others get concerned about the possibility. … These events are cataclysmic precisely because the liquidity of debt rested on over-collateralisation and trust rather than a precise evaluation of values. Investors are suddenly in the position of equity holders looking for information, but without a market for price discovery. Private information becomes relevant, shattering the shared understanding and beliefs on which liquidity rested …

Holmstrom points out that when a financial panic arises, the answer is often not more information, but instead persuading markets that they don\’t need additional information. For example, in the aftermath of the US recession, the policies that calmed the financial markets in 2009 didn\’t involve going to through all the collateralized debt obligation securities backed by subprime mortgages and trying to figure out how much each one was really worth, and which financial institutions had exposure to losses. Instead, it was to require that banks hold more capital and face \”stress tests\” to create confidence that they would be able to withstand future problems. As Holmstrom write, the idea was \”getting us back to the liquid, no-questions-asked state.\”

Or in the financial problems over the last few years involving the euro and the EU debt markets, a major turning point happened in July 2012 when Mario Draghi, president of the European Central Bank, said in a prominent speech: \”the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.\” As Holmstrom comments on this episode:

This is as opaque a statement as one can make. There were no specifics on how calm would be re-established, but the lack of specific information is, in the logic presented here, a key element in the effectiveness of the message. So was the  knowledge that Germany stood behind the message – an implicit guarantee that told the markets that there would be enough collateral, but not precisely how much. A detailed, transparent plan to get out of the crisis, including rescue funds, which were already there, might have invited differences in opinion instead of leading to a convergence in views. Explicit numbers can be put into spreadsheets and expertise and ingenuity can be applied to evaluate future scenarios. “Whatever it takes” cannot be put into a spread sheet and therefore promotes liquidity of the “symmetric ignorance” variety.

The policy implications of this view are still being thought through, but Holmstrom offers some preliminary thoughts. Higher capital requirements and more frequent regulatory \”stress tests\” are useful, because they offer a general reassurance that short-term debt markets are fundamentally sound. If and when a panic arises, the goal should be to recapitalize financial  institutions, again to offer reassurance that financial markets are fundamentally sound. There is a lot of room for discussion of the details of how these policies should be enacted. But it helps to enunciate the fundamental tradeoff of debt markets, as Holmstrom describes it: