Economy / Energy / Politics / Regulation / U.S. Domestic Policy / Uncategorized

What IS economic justification? A government divided is a government failing.

Earlier on January 17, 2012, The Department of Energy (specifically the Office of Energy Efficiency and Renewable Energy) published the “Energy Conservation Program for Certain Industrial Equipment: Energy Conservation Standards and Test Procedures for Commercial Heating, Air- Conditioning, and Water-Heating Equipment”. This regulation mandates new industry standards for certain types of listed commercial and industrial equipment. These standards on certain heating, ventilating, air-conditioning, and water-heating equipment addressed in ASHRAE, the Department of Energy (DoE) mandates which energy appliances are used by commercial industries. The evaluation of these standards were not simply set in to place based on blind cost outweighing benefit analysis, but rather were based on three social benefits necessary for these mandates: 1) these provisions provide technological feasibility, 2) these provisions are economically justified, and 3) significant energy savings were seen in products. In conjunction with these provisions, the regulations had to be “germane” (as dictated by Executive Order 13563), meaning that the regulation had to relate to the applied public health and sustainability of this nation. Finally, the bill also must relate to the regulation of larger scaled industry, as for the legal authority of these provisions. Therefore, these total social benefits all must be justified to outweigh the cost, or otherwise a provision will be seen as null-and-void. After reviewing the organization of this method, it becomes questionable if the EPA’s H.R. 2454 does the same thing.

Provision one seems to make sense: If a provision has no technological feasibility, there would be severe problems in a government mandating certain energy efficiency standards; if 100% of industry cannot reach a standard since the technology is not appropriated, government mandating such a protocol is null and void. In conjunction to this, Provision three seems to also provide a sound logic: If a provision has significant energy savings, then a company should want to undergo it to improve long-term efficiency or an establishment. This being said, Provision three would only seem logical if the cost would outweigh the benefit by a significant amount in a given period of time. This is the logic for mandating provision three: “the additional cost to the consumer of purchasing a product complying with an energy conservation standard level will be less than three times the value of the energy (and, as applicable, water) savings during the first year that the consumer will receive as a result of the standard, as calculated under the applicable test procedure.”1 Therefore, these all seem logical justifications, assuming these benefits outweigh cost, especially when incorporating societal benefit.

Some would attack this as a government injustice, as it disrupts the free market system, and others would suggest simply the objective of economic injection in to the economy is to account for imperfect, missing, or incomplete markets. The function of government in the market is really not the debate to be explored here, as it relies firmly on the debate of Economists with PhD’s in theoretical macroeconomic policy. This being said, a debate should be addressed here – what is the economic justification and social benefit associate necessary for this government invention in to the free markets, assuming that there is a quantitative basis?

The DoE places a very real implication on what is justified. Here, the DoE model reduces government intervention to a tangible example: the magnitude of cost in one year of new equipment on the consumer will be outweighed by decrease in overall cost buy the same magnitude times three. For example, a $100 cost to consumer will result in a $300 reduction of cost to the consumer, showing a $200 net decrease. This seems to make sense as a direct incentive for an industry to make a correction; government intervention here seems to provide direct economic feasibility assessment the cause for major improvements in sustainability, efficiency, and public health all resulting from minor costs. This being said, what of other organizations? Let’s explore Green House Gas (GHG) analysis by the EPA:

“EPA estimates that the annual costs of achieving the climate benefits that would result from the American Clean Energy and Security Act (H.R. 2454), which is the basis of the bill coming to the House floor, would average $80 to $111 per household. CBO estimates that if the policies that will be in effect in 2020 under the legislation were already in place, the net annual economy-wide cost would be about $175 per household in 2010. These are the costs that remain after netting out the financial benefits that households would receive from provisions in the legislation.” 2

One finds a low net cost in the EPA analysis for the reduction of carbon emissions. True, this relates per-person in the US to mitigation measures to a national economy, but since the DoE report relates generally larger business to consumer implications, these reports offer similar analysis of how large scale policies relate to the individual consumer. Also, the overall net cost here does seem low, but what denotes this as economically justified, when the definition of economic justification deviates for the DoE report? Further analysis in to this report illustrates the oscillating system not causing the same return year-by-year, and therefore this net cost is assumed based on deviating averages. Here, an AVERAGE over twenty years is used to show this data, as opposed to an actual dictation of a cost-benefit analysis over one year that the DoE used in its economic justifiable analysis:

“The incidence of the gains and losses associated with the cap-and-trade program in H.R. 2454 would vary from year to year because the distribution of the allowance value would change over the life of the program [ …] This analysis focuses on the effect of the legislation in the year 2020, a point at which the cap would have been in effect for eight years (giving the economy time to adjust) and at which the allocation of allowances would be representative of the situation prior to the phase-down of free allowances. The incidence of gains and losses would be considerably different once the free allocation of allowances had mostly ended […]  the Congressional Budget Office (CBO) estimates that the net annual economy-wide cost of the cap-and-trade program in 2020 would be $22 billion—or about $175 per household.”3

This model, therefore, does not incorporate an overall economically justified model of 1:3 net cost: net benefit for a year. This model actually only shows ~1:1 cost: benefit, which does not show the same relevance to the EPA model. Further, when one analyzes this data, one finds severe economic disparity in this model:

“households in the lowest income quintile would see an average net benefit of about $40 in 2020, while households in the highest income quintile would see a net cost of $245. Added costs for households in the second lowest quintile would be about $40 that year; in the middle quintile, about $235; and in the fourth quintile, about $340. Overall net costs would average 0.2 percent of households’ after-tax income.”3

This begs the question: what is economically justified in the federal government? What actually denotes a policy justification which dictates a cost: benefit ratio? Yes, it’s understandable that the function of government injection in the DoE model is to fix imperfect markets, and cause incentive for economic efficiency. This seems like a good regulation, as overall benefits seem to outweigh the costs utilizing the new system. This being said, what is the economic justification of these emission regulations?

My question breaks down to a simple rhetorical interrogation to the EPA: This GHG policy would mean that the American people are paying more for a policy than the policy is actually worth. Why? I can understand the technological feasibility of this plan as well as the significant energy savings, but what is the economic justifiability for a plan like this? What is the public health implication and what is the overall social benefit that will outweigh the cost? Some plans make sense for public health mitigation measures. For instance, the removal of arsenic, mercury, or lead from water and air make sense, as by their removal, a cost incurred (removal of the chemical contaminant) results in a benefit of situation (no birth defects, reduced medical costs due to acute toxic contamination, reduction of physiological system distress due to chronic toxicity).  One could argue the public health or temperature change implications on food supply would result in an overall economically justified system when the social benefit is added in to a future system, yet as this is a future system, the public has no way of extrapolating a true cost-benefit over a 10-year system that is constantly oscillating, and disproportionally impacting a populace. Another question: what even are the cost and benefit of the health implications of this bill? Other EPA bills have offered a net cost-benefit including health implications to the bill, even assuming a gradual model. In terms of the overall justifiability of a bill, this makes sense, as with an offset of public health medical expenses could offset the purely economic justification and provide a net overall social benefit, but in H.R. 2454, when one searches for “health benefit” only one result shows up, which is a justification on why the bill was proposed, versus what actual health benefits these mitigation measures actually state.

I think the EPA probably has good reason to incorporate this bill in to law, yet it is not clear in terms of this analysis why. What the true societal benefit is unknown, when using a similar model from a similar agency. What needs to be done? Perhaps the EPA should adapt (as closely as possible, as a 100% simulation could not happen) a model similar to the DoE. Perhaps a cost-benefit analysis of the Social Benefit utilizing the tools DoE uses would cause for a more easily analyzed policy, and therefore attract a more fair analysis to the implications of this bill…or perhaps this is what EPA is avoiding with the model issues.

Works Cited:

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