John Key’s Uncertainty Principle

Does John Key understand the uncertainty his wild statements have created for business? Is there any thinking or policy intent behind the statement that the ETS will be “put on hold” or was it just post-election rhetoric? The key thing is that the businesses most affected don’t know.

About a week after the election, reassured by pre-election statements that there would still be an ETS, though it might be different, a major forestry company was about 12 hours away from concluding a sale of forestry credits. They had achieved a price of NZ$30/tonne. The legislation passed last August provided that the ETS comes into effect for forestry on 1 January ’08, though not for energy till ’10 or transport till ’11. That is still the law.

From 1 January ’09 foresters can apply to have NZ units credited to their account in the registry, and can then sell them.

Then Key announced, part way through the coalition negotiations, that the ETS might be “repealed”. The buyer immediately shot through. Now we have Gerry Brownlee announcing that there will still be an ETS (despite setting up a committee to consider whether a carbon tax would be better) but business is gun-shy now and no-one is going to commit investment based on that.

The interesting question is, what does “put on hold” mean for forestry? If companies apply on 1 January to have units transferred to their account for carbon sequestered during 2008 by their post-1989 forests, as the law provides, will those units be forthcoming? That is dependent on whether MAF has completed the work needed to rollout the mapping tool that allows foresters to prove that their land is eligible. They were on track to have this done in time to meet the requirements of the law; have they been told not to proceed?

If so, under what authority? You can’t suspend the law just by announcing it. I was fully expecting an amendment bill to come to Parliament before Christmas, changing the date of coming into force for forestry. That hasn’t happened. Just as well, as that would also “put on hold” the deforestation penalties for those who clear and don’t replant, and lead to a frenzy of land conversion for dairying, with more damage to our emissions profile. That would be ironic, as Nick Smith grandstanded constantly in the last Parliament, attacking the Labour government for mismanaging the question of forestry credits and causing a landslide of dairy conversions in the year before the penalty came into force.

Of all people, a key player in the financial markets which rely on rumour and reading the tea leaves as they make their daily trades, should understand the damage loose talk can do to business confidence.

23 thoughts on “John Key’s Uncertainty Principle

  1. The only business people effected by uncertainty are those whose business plan is solely dependent on ETS transfers. Business activity that has a good business case regardless of ETS will be uneefected, because the activity was a good idea to begin with. The rest are just rent seekers whose activity would not be viable in any other circumstances.

    In that case I have no concerns about there loss. This would free up capital and capacity for more productive activity in other environmental activities.

    Smart business players would have been well aware along time ago the better model in these circumstances is to be a fast follower rather than a leader. For a leader that is reliant on government regulation for there business model, then there is always the risk that the regulation will be repealed. Incidentally generally regulation is only viable when the proponents of the regulation establish high entry costs so that they are able to capture the economic rents of there activity.

    Those businesses seeking to be leaders effected by the change in government where most likely to be actually after supernormal profits from monopoly rents from being first into the market and then blocking entry via regulation.

    Forestry is an example of a declining industry that has high entry costs and therefore has a form of monopoly power (capital, skills and process), which is seeking regulatory rents for workers and owners (both have incentives to co-operate in rent seeking, securing both income and profits). The cost to the wider public is a higher cost good or service, in effect a tax on the public, to preserve their lifestyle. No offensive to foresters, they are just doing what they are rationally incentivised to do.

    So no John’s comments are not damaging and in fact may do more to encourage businesses to think about what are good ideas to begin with rather than rely on regulatory rents or Ponzi schemes.

  2. What would…

    So are you saying there is no good business case for any business focused on earning money through reducing carbon emissions? 

  3. No – just that the ones that are at risk due to uncertainty will be bad business cases. Those that are not at risk will have fundamentally good businesses cases – becvause they are makeing something/providing a service for which there is consumer/public demand for regardless.

    Bit like US car manufacturing – if the car manufacturer is providing well priced cars that the public like (for example toyota/honda producing smaller cars with lower fuel consumption) then they won’t need to be bailed out. Honda and Toyota have significant manufacturing plants in the US. It is the inefficient enterprises that are in trouble. Those companies have been in trouble for years. US sugar protection is a similar story.

    So there will be good carbon reducing activity out there and I do wish them well (genuinely), but those that are dependent on regulation will be lower quality and for a higher cost then they need be.

    There is after all no such thing as a free lunch and we are better served supporting productivity green activity given scarce resources.

  4. I think Hayek would be disappointed.

    Frog did not say that any business was going to the wall. Frog was talking about the effects of uncertainty. I am sure Hayek would agree that regulatory uncertainty is the worst sort of regulation possible.

    Frog points out that the law has not actually changed. What is going on? Who knows?

    When it comes to deciding on land use this uncertainty is a huge disincentive to tree planting.

    This is the sort of authoritarian nonsense that Hayek would have railed against. Where laws are changed, effectively, on the whim of a political press release.

    And do not start with the “Labour were just as bad”. Labour were awful too. But so far this is a very bad start for National.

    Lastly: To invoke Hayek’s name with mumbo jumbo like The only business people effected by uncertainty are those whose business plan is solely dependent on ETS transfers. is insulting to his memory. I believe Hayek’s work, viewed from the 21st. century, is deeply flawed, he was a great philosopher and economist and deserves more respect.

    peace
    W

  5. The only business people effected by uncertainty are those whose business plan is solely dependent on ETS transfers

    And those whom have to take account of such transfers (eg those whom emit or whom may make alittle extra dosh from their investments) as they anticipate future revenues, and those whom buy or sell products from or to those that are affected (eg other industries or the consumer/worker) as those that are more dirrectly affected spend more willingly or save more of their revenue and thus the amount they invest varies, and those whom have any economic interactions at all with those whom are affected (eg all of us)

  6. Bliss – I don’t think Hayek is disappointed. The effects of uncertainty about one piece of legislation is about the impact on business decision making dependent on that legislation. I happily stepped you through a logical reasoning of which business will be effected by uncertainty and why there is no medium term loss (and potentially long term gains) if those types of business fail.

    I am happy to point out that tree planting in this instance is just another form of rent seeking if they are so reliant on ETS for their business model. If the ETS is the only reason they are profitable, then that would immediately suggest that inherently they do not have a long term viable business. An example if French farming, which is almost completely reliant on the EU cap. US farming is similarly dependent on regulatory rents (subsidies). Some farmers within europe and US would survive and maybe even thrive with removal of the rents. NZ farming managed to survive removal of SMP’s. Our dairy farming is significantly more successful. Forestry is going through a painful time, I acknowledge this and would suggest that it is more helpful to assist owners and communities effected on how to change or transition to another form of activity. Maybe the Greens could champion transitional support for workers to help them relocate to locations with alternative employment. That might be a better use of funds enabling productive business to tap into locked in labour (because people are generally reluctant to move locations).

    Laws can always be changed on whim – policy more so. It would nearly be possible under the NZ polticial process for policy to be annouced on monday, sent to the house as legislation on tuesday for 1st reading, bypassed through select committee so that second and 3rd reading is completed on thursday.

    In fact tax law is passed even quicker. So bliss potentially your a little misinformed if you think otherwise.

    How was Hayek’s worked floored? Seriously please rebut, Keynes tried for years and still failed. Hayek managed to accurately predict the failure of planned economies due to them lacking the basic price signal information to inform people of what opportunities exist for goods and services as well as innovation.

    I have no interest in a discussion of Labour were just as bad – I think you included this in your discussion as an argument disctration, so please try to stay on point to the debate.

  7. Sapient – yes, but only at the margin, not as fundamental of their business activity/daily life.

    Everyday you face a variety of different taxes and costs that could change, whether that is petrol going up, alchohol tax on your favourite red wine or coffee. In business you utilise enterprise risk management to assess future risks/costs and opportunities and then take steps to mitigate. People do this in their day to day in a simplified form (ie. worried about interest rates going up in a years time, so plan to fix mortgage at a good rate for the next five years).

    But in no way should a business or person have their whole activity dependent only one piece of regulatory rent/subsidy. Scarce resources should not be wasted.

  8. WWHS,
    I agree, though some of those people may certainly feel the burn as the costs of accounting for such potentially massive costs could put many out of work mearly through speculation.
    The thing is that carbon trading is not a case of subsidies, it is a case of regulation making cost internalisation compulsary; it acts to eliminate effective subsidies; carbon is a very real product that is oft externalised and should really be traded like any other market comodity. The existance of a business that profits from such trading is just as legitimate as a company which makes garmets or does your plumbing. It is the existance of companies which spew massive amounts of carbon without accounting for the costs that is illegitimate; it is them that exist, to their present level, only becasue of regulation.

  9. Sapient – happy to set aside the ETS vs Tax debate both have there merits in dealing with negative externalities, and each can be more effective as a policy tool in different environments, but they both are system of creating transfers.

    My reference is to reliance on those transfers for the continued viability of your business model. That reliance is an inherent weakness.

    Businesses that are able to internalise costs from the ETS or tax by changing energy behaviour but continue to produce a good or service (like supplying me coffee) will be fine. But a company set up on the basis of making dollars solely on the tax or ETS is always a rent seeker and that business model will not survive a change in its environment. In those circumstances releasing the locked up human and financial capital for other activities is a better use of scarce resources.

    So my point is about not rewarding bad business whether they are a polluter or rent seeker – they both are damaging. Lets do more to promote healthy business to carry on instead.

  10. WWHS,
    of course; diversification is almost always a good move be it in genetics, business, or stock portfolios :P

  11. Yet again the Nats are emulating Labour. In oppstion and during it’s first term Labour made vague murmurings that it would “do something” about Bradford’s reforms. That injected enough uncertainty to prevent market forces from working. I assume everybody here knows that the free market only delivers lower prices to the consumer if that is the most efficient way to attain the free markets actual objective of meeting the nations needs at the lowest cost. In this instance the market would best have met that objective by inexorably raising electricity prices to direct investment into the most cost-effective means of balancing supply and demand. Since cylinder wraps and replacing 75w and 100w incandescents with energy savers “generate” electricity more cheaply than even cheapest new power stations. The learning curve (or economies of scale)would then be expected to kick in and reduce the capital costs of these alternatives, which is precisely what has happened.

  12. How was Hayek’s worked floored?

    Hayek did not have the understanding of markets that we have now. He did not understand the importance and costs of information and how it flows (how could he, it was discovered after his time).

    Also he did not have any theories, that were realistic,of how economies develop. We understand now that fledging industries in developing countries need protection. (If the protection is maintained as they mature they end up like NZ farming in the early eighties).

    On development: competition that has winners and losers works inside a country’s (region’s) economy where the losers can dust themselves off and try again. Between countries the losers have famines. Not an ethical way to run the world economy.

    Hayek was a genius but wrong about a lot. He was right about a lot too.

    I am fairly sure that Hayek would understand marginal analysis. Emissions trading effects tree planting on the margin. Hayek would have understood that uncertainty about the marginal benefit of planting trees makes other investments more attractive. Only one commentator here is postulating that foresters *whole* business model is dependent on the ETS. And it ain’t a Green!

    It is true that in our system a Government, with the agreement of the majority of Parliament, can ram through legislation in a day, it is a bad thing to do. (Tax and duty legislation is a special case that is debated after it passes for obvious reasons). Competent managers of the economy run on a “no surprises” basis to avoid regulatory uncertainty.

    So far this government is looking like it is going to be even less competent than the last one. (Clearly we need a Green government). But it is early days and they may get better.

    peace
    W

  13. Bliss – I take it you are not a professional economist nor a policy analyst.

    Now to rebut – Hayek did understand markets and also understood asymmetric information. This is discussed in the Raod to Serfdom with support for the role of government in the flow of information. However part of that information flow is the need for price. Without price signals from the market, you are just guessing what people want. Guesses are more likely to be wrong than right, whereas teh market is more likely to be right than wrong. As a result a planned or protected economy is self defeating and will collapse in on itself. This happened to NZ in 1984 requiring significant reform. If we have a less protected economy it is more likely NZ could have implemented reforms over a longer period of time with less disruption.

    On development – I think you are seeing trade as a win/lose game that belongs to mercantilist thinking with its focus on absolute advantage. Trade is a win/win game because of comparative advantage and is one of the best ways to improve the environment and developing economies – I think you are on the losing side of this argument with even OXFAM supporting free trade. Trade also is more likely to assist the development non-elite groups in economies providing an alternative to rule by elites (whether monarchs, dictators, fascists or socialists). The diversity helps underpin social institutions enabling stable contracts and reduction of information assymmetry.

    I might suggest to you that you read the work of Tim Harford in either of his books, the undercover economist or the logic of life and/or visit his blog ww.timharford.com. This might provide you with an insight into economics and policy analysis helping you long term to better develop effective policy positions that will increase the economic well being of all New Zealanders. When I use economic it also includes the environment. economic development allows people to make better use of limited environmental resources.

    By illustration you should look at Nordhaus work on measuring growth. Nordhaus took a simple situation, providing light for a room. Nordhaus went and looked at the amount of energy required to light a room in babylonia times. A simple fire required several tonnes of wood requiring a massive use of labour and energy. By roman times a simple lamp using sesame oil lighted a room all day requiring considerably less energy. Candles were the next big gain, but to light a room for a day still required significant labour and utilised a large portion of wages. Today a simple led light uses a small portion of wages and could run for a whole year before and still be more efficient than using candles. As a result we have a better environment by using far less energy and producing less pollution.

    A recent example is the use of heat pumps – efficient, quiet, work at the flick of a switch and better yet no particle emittions (compared to a fire). So you have environment and health benefits – all bought to you by price signals.

    I am not in favour of your current thinking of a green government – suggest too much of a philosopher king approach to government (which is simply educated guesses, again likely to be wrong over the medium long term).

    I hope you utilise the information provided as it is sincerely provided to assist you in understanding the world and thereby being better armed to consider what is the underlying problem and then what is an effective policy response. Sometimes in policy the best response is not to interfere – but that is a difficult choice for people, we like to think we can do something to make people feel better – ask a parent whose child has just skinned there knee – we want to make it better, but savlon a bandage and time is what is needed, kisses make you emotionally feel better but do not magically solve the bloody knee.

    Regards WWHS

  14. WWHS

    The economics you quote above appears to stop in the 1970s.

    The role of information is *not* that which is carried in prices bid by economic agents but the information that agents use to make the bids. Better informed agents avoid bidding too high or bidding for goods that are not what they want. Because information has a cost, and perfect information is a platonic ideal, markets never function 100% efficiently (and nobody ever said they did in the real world) and in some cases they are grotesquely inefficient. The point is it takes more than freedom to make markets efficient.

    A technical point: Economic efficiency only means that a price is found at which the market clears. It has nothing directly with maximising result over effort. So economic efficiency is not always desirable. A famine does not imply economic inefficiency. It only would if there were food in a warehouse unsold.

    On development: I was careless with the win/loose comment, but the point holds. Free markets inside an economy function because people can leave and rejoin. Between economies leaving entails disaster for the country.

    More on development: A rhetorical question. Would East Timor’s economy’s development be helped by complete free trade and free capital movement? I am not going to argue the point. It is plain that East Timor needs to carefully manage its economic development to rebuild.

    On your points about lights, energy etcetera. I am a bit puzzled about what you are asking. In the Greens we are all in favour of advancing technology. Life can be so much better now than in the 19th. century because of, in part, advances in technology. But it is a two edge sword.

    Incidentally we Greens are very much in favour of trade. In the general case trade is of great benefit to all society. But it is not *always* of benefit. Trading NZ rimu logs for Canadiaan tar sand oil is bad for almost every body.

    Lastly do not slander Oxfam. They are in favour of *fair* trade, like we Greens, not (so called) free trade.

    peace
    W

  15. Hi Bliss – further response (and this is proving to be interesting).

    How does the economics I quote stop in the 1970’s – who or what are you referencing to. In addition the work of Smith, Riccardo, Posner, Becker Krugman, Schumpter, Nash, Arrow is still relevant today. Checked the most up to date version of micro and macro economics texts that I have (2007) and they all still seem to be in there.

    I agree efficiency is the point at which the market clears – that represents all the information that is available at a specific point in time. You appear to be having a case of hindsight and buyers regret without realising that at no point in time will you have perfect information and therefore have to make a decision based on what you have.

    A famine does imply inefficiency – it suggests that someone failed to provide price signals about the willingness to buy food and instead built warehouse but which had no food in them, creating queues.

    On development – if you look at developed vs developing economies there is an underlying story of markets and governance (by this I refer to property rights). East Timor has not had any good governance to establish the rule of law and settlement of disputes. When someones property can be arbitarily taken by authority people tend to bury money in the backyard rather than invest. East timor is still struggling to develop governance with at least one faction recently being willing to use force to replace the prime minister.

    A better example is to look at why England developed from a lower standard of living than existed in China in 1500 to a standard of living a hundred times higher by 1800’s. One was a open trader and the other closed up shop. You can then look at the difference liberalisation has had on lifting living standards and development for the chinese since 1970. (China v England is a good example as it removes any concerns that england only grew due to slavery/colonialism, these were also an issue for China). Further Evidence from the decline of Spain relative to England and Holland also refutes the colonialism arguement. Spain again was an authoritarian country with closed trade.

    Trade matters most because it provides an opportunity for merchants to develop new goods and services allowing them to counter the power of traditional elities. The glorious revolution of 1688 was funded by London merchants who developed a seperate income source (trade) from the agriarian nobility.

    Oh yeah and NZ has been essentially free since mid 80’s and I don’t see any indication of disaster as you claim. In fact people have a higher living standard and access to cheaper better goods and services. Would you return to the days of elites only being able to afford computers?

    A free market in conjunction with governance allows consumers to utilise the best of technology available in the world. Would you deny East Timorese access to medicine, the pill, computers, energy efficient cars, electricity, heating, agricultural production and harvesting? This seems a sure fire way of impoverishing a nation and increasing environmental harm – The point you seem interested in addressing but seem to be doing your best to sabotage. The work of Nordhaus is relevant because it shows the value of growth in improving the environment by how it encourages innovation and the disribution of new goods cheaply (e.g. heat pumps which are coming down in price).

    Interested in your response if any, but please let my know where you are sourcing your opinions from – this would help me understand any logical/empirical evidence contrary to my knowledge.

    Regards
    WWHS

  16. Free trade is Fair trade when implimented honestly, when implimented as the the USA and subsidaries have done it is neither free nor fair.

  17. Sapient – no disagreement with you.

    That said good economic evidence that unilateral free trade is also good for you. This is because you can take advantage of other stupidity to over produce a product cheaply enabling you to shift resources into higher value/alternative products. i.e. your neighbour is selling wharfdale speakers for $1 (whereas cost $500 to produce), you benefit from some serious good sound (don’t forget the cables) and can spend the $499 saved on other goods or services or even better invest!

    PS – I like what you write – Serious question – have you ever read the undercover economist?

    Respect
    WWHS

  18. WWHS,
    Nup, never read it, heard alot of good reviews though; i will put it on my “to read once i catch up on my study” list :P

  19. Sapient – cool. Enjoy getting through your study. I recall your doing psychology related work – if so you may have an interest in the developing field of behavioural economics. Its closely related to work in regulatory and micro economics. The undercover economist provides a good intro and link across these fields.

    Bliss enjoy the beer – I think we are going to fundametally disagree due to divergent world views. I’m well aware of the market for lemons and don’t plan to buy peaches anytime soon.

  20. A famine does imply inefficiency – it suggests that someone failed to provide price signals about the willingness to buy food and instead built warehouse but which had no food in them, creating queues.

    Not at all. This is not theoretical, it happened in Malawi (using my memory so the facts may be slightly off but not the principle). Malawi kept a years grain in storage at all times to protect their population from a bad harvest.

    But they hed debts from a previous regime that had to be repaid. (Companies go bankrupt and their debts are forgiven, not countries). The IMF said that they should: (a) sell the grain as it was surplus and debt had priority (b) allow their farmers to grow cash crops (cotton) to increase their wealth and import food. Economic efficiency. Then there was a drought. So the cotton harvest failed, they had no food they had grown and no food in storage. There was a famine, and price signals could not help. Economically inefficient planning would have avoided it.

    The comments on trade and development are very one sided.

    look at why England developed from a lower standard of living than existed in China in 1500 to a standard of living a hundred times higher by 1800’s. One was a open trader and the other closed up shop. You can then look at the difference liberalisation has had on lifting living standards and development for the chinese since 1970. (China v England is a good example as it removes any concerns that england only grew due to slavery/colonialism, these were also an issue for China).

    But look at England’s trading partners. The three cornered trade of slaves and sugar made the English very rich but devastated the African economies and the indigenous people of the Caribbean were wiped out completely (not sure when that particular genocide took place, the English did so many I loose track). Thus you have given me a perfect example of my main point about trade. That is that trade should benefit *both* sides, and there is *no* sane economic principle that says that trade always does.

    As for East Timor

    Would you deny East Timorese access to medicine, the pill, computers, energy efficient cars, electricity, heating, agricultural production and harvesting?

    Where have I said I would do that? Trade is of huge benefit to the people and economy of East Timor. Free movment of goods, capital and people over the borders of East Timor will strangle development. Do I have to argue for that? It is very obvious to anybody who knows any thing about development economics. (Most “free traders” do not want all restrictions on the movement of labour lifted, but “free trade” in goods and capital is logically flawed without “free trade” in labour too. I am sure Hayek and WWHS understand that.)

    Can WWHS come up with any examples of economies that developed from agricultural to industrial under a regime of “free trade”? I know of some, but they are the exception, not the rule. Neither the USA, China nor the UK had anything even vaguely approaching free trade moving through this transition.

    I am not anti “free markets” and “free trade” in some dogmatic manner. When markets work they are the simplest and best policy. All alternatives are difficult to arrange in policy terms, difficult not impossible. I favour a mixed economy.

    peace
    W

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