11/8/20: ESG Risks, Environment and Consumer Behavior

 

COVID19 ESG impacts: 

• Europe thinks it is getting 'greener'

• The rest of the world is getting decisively not:

What's up with this, people? Wasn't COVID19 pandemic supposed to usher a new 'climate change awareness' era? Or is it all about: "I am doing better things. Everyone else is doing bad things" survey bias thingy?..

17/11/2018: California Rooftop Solar Mandate: An example of bad groupthink?

In recent news, California legislators have done a gimmick-trick that has earned the state loud applause from the environmentally-minded consumers and activists: California Energy Commission (CEC) recently voted 5-0 to add a new provision to the state’s building code. This includes a requirement that from 2020, all new house and multi-family residences construction of three stories or fewer, along with all major renovations, must be built with rooftop solar panels. Given that the state currently builds ca 113,000 housing units a year, and rising, this should increase significantly already existent solar generation capacity from 15% of the housing stock, currently.

Solar being mandated on virtually all new houses? Sounds like a renewables nirvana, especially given the fact that the state has huge solar generation potential due to its climate. But, as commonly is the case, there is a catch. Or two... or many more... And this means that California's latest policy mandate may be a poor example to follow, and potentially, a bad policy mistake.

Here are the key reasons.

Rooftop solar is about as effective in reducing emissions as waving a broom into the smog. UC Berkeley’s Severin Borenstein argued this in his note to CEC Commissioner (http://faculty.haas.berkeley.edu/borenste/cecweisenmiller180509.pdf). Note: Borenstein also alleges that CEC has failed to involve experts in energy economics in its decision making process - something that is not a good policy formation practice.

UC Davis economics professor James Bushnell accused CEC of “regulatory groupthink.” (https://energyathaas.wordpress.com/2018/10/22/how-should-we-use-our-roofs/) and offered an alternative to roof solar that can generate far greater environmental benefits. There are, of course, other, more efficient ways for deriding emissions, including: mandating more urban density, raising home and cars efficiency standards, expanding the renewable energy mandate, improving grid efficiencies and transmission expansion, and so on. Once again, CEC did not allow for any independent assessment of the proposed plans economic and environmental impacts.

There is an opportunity cost involved in roof solar: California has a state-wide mandate to achieve 50% renewables generation by 2030. Putting more if this target onto roof solar is simply moving generation capacity from one source to the other. Because too top solar is roughly 4-6 times more expensive than industrially-produced renewables, the substitution involves a dramatic reduction in economics of scale. This will raise the overall cost to California of reaching its 2030 target.

Another opportunity cost, this time much more tangible and immediate than 2030 targets is the problem of California grid ability to swallow all the solar generation being put into place. California has to routinely dump excess solar energy supplies during peak generation times, because it is failing to find buyers outside the state. Worse, given the scale of each roof top generation unit, solar electricity from the roof tops cannot be controlled by the grid companies, because smart inverters needed to do this are too expensive for small scale generators.

There is an argument, however, that economics of scale will kick in from a different side: mandating such a huge increase in atomistic (house-level) installations can result in more innovation and lower costs of new technologies going forward. This means that while costs might be high up front, they can potentially be deflated faster over time than absent the mandate. The same argument might hold for improvements in storage.

Worse yet, solar from one roof panel household competes with solar from another roof panel household. All roof top panels generating at virtually the same time across the same time zone state will be simply bidding down the cost of solar during peak generation, not peak demand. Here is an exchange from two experts on this:

Last, but not least, California roof top solar requirements will add new cost, to the housing in a state that is already in the middle of an atrocious housing crisis. CEC own analysis, not tested by any peer review, implies that homeowners are likely to face additional costs of ca $8,000-12,000. Over the depreciation cycle for housing stock, this is likely to translate into $15,600-$23,400 in current dollars (inflation-adjusted, using 2% inflation rate) increase in the cost of housing per household, once property taxes on new build values are factored in. With average house price in California in excess of $420,000, this is equivalent to raising house prices 3.75-5.57 percent. Of course, CEC promises savings that, according the Commission analysis will be net of higher costs. Problem is, no one actually tested these claims, and we simply do not know how the costs of switching all this roof top solar into the grid are going to be distributed across the households.

Macro level view:

Then there is macro level analysis of the solar energy benefits and costs. And California does not come out pretty in this.

A new NBER paper, tiled "Heterogeneous Environmental and Grid Benefits from Rooftop Solar and the Costs of Inefficient Siting Decisions" by Steven E. Sexton, A. Justin Kirkpatrick, Robert Harris, Nicholas Z. Muller (NBER WP 25241, Nov. 2018: https://www.nber.org/papers/w25241.pdf) looked at "federal and state policies in the U.S." These policies "subsidize electricity generation from 1.4 million rooftop solar arrays because of pollution avoidance benefits and grid congestion relief. Yet because these benefits vary across the U.S. according to solar irradiance, technologies of electricity generators, and grid characteristics, the value of these benefits, and, consequently, the optimal subsidy, are largely unknown."

What does this mean? Across the U.S., "policy, therefore, is unlikely to have induced efficient solar investments." The authors provide "the first systematic, theoretically consistent, and empirically valid estimates of pollution damages avoidable by solar capacity in each U.S. zip code". The also link "these external benefits to subsidy levels in each U.S. state, and [estimate] the share of these benefits that spillover to other states." Finally, the authors measure "the energy value of capacity across the U.S. and the value of transmission congestion relief in California."

So what do they find? "Environmental benefits are shown to vary considerably across the U.S., and to largely spillover to neighboring states." Which is not a bad thing in itself, but it also means that some states pay for benefits accruing to other states. These transfers are not voluntary to the payers for solar - the households.

Furthermore, "subsidy levels are essentially uncorrelated with environmental benefits contributing to installed capacity that sacrifices approximately $1 billion per year in environmental benefits." Which, broadly-speaking means that subsidies for rooftop solar are not a great way to achieve environmental benefits.

"...California rooftop solar is shown to generate no congestion relief." Or, as noted above, there are severe grid-related costs involved in rooftop solar in California, the state that decided to mandate it.

Putting more detail on the NBER paper: "Total benefits of solar generation—inclusive of energy values — are estimated to be greatest in the Midwest and Mid-Atlantic. They are least in the West, and particularly the West Coast, where approximately two-thirds of systems are located." Why, given the fact that sunshine is more abundant in California than in the MidWest or Mid-Atlantic?

"These differences are primarily attributable to heterogeneity in marginal responding fossil generation." Oh, wait, that is right: the more solar you put in, the more back up generation you need. And that is before you account for the solar installation possible effects of increasing demand for electricity as the second order effect.

"In California, we find no evidence that rooftop solar capacity systematically relieves congestion. Approximately two-thirds of the 900,000 rooftop solar arrays is located upstream from transmission bottlenecks, contributing to congestion rather than relieving it. If capacity were efficiently allocated, congestion relief benefits in California would have been no more than $15 million in 2017—approximately 7% of total energy value."

Cycle back to that California rooftop solar mandate. Does it really make any environmental sense? Because economics-wise, it does not appear to offer much more than a hype and a pump scheme.

18/1/18: The Arctic: A New "Old Conflicts" Frontier

A must-read set of three in-depth articles/visualizations from Bloomberg, documenting evolution of key environmental issues relating to the Arctic over time.

The first part covers the issue of the ice cap: https://www.bloomberg.com/graphics/2017-arctic/. The second part details the scale of political and geopolitical issues: https://www.bloomberg.com/graphics/2017-arctic/the-political-arctic/. Finally, part 3 covers economics of the Arctic region https://www.bloomberg.com/graphics/2017-arctic/the-economic-arctic/.

A genuinely impressive material worth reading.

As an added resource, Reuters are running a dedicated page on the news and issues involving the Arctic https://www.reuters.com/places/arctic. 

6/6/17: Trump, Paris, Climate: The Problem is Bigger than COP21

U.S. withdrawal from Paris Climate Accord has been described by various policymakers, analysts and journalists around the world as a travesty, betrayal of the environment, and the surrender of the U.S. leadership (from undefinable 'global leadership' to historically incorrect 'environmental leadership'). In reality, it is none of the above, despite the fact that it does not bode well for the future of environmental policies worldwide and for the environment in general.

Paris Agreement: Taking an Unnecessary 'Exit' Route

The reasons for why the U.S. 'exit' from Paris deal is more rhetorical than tangible are numerous, but here are some major ones.

1) Paris COP21 Agreement was never ratified by the U.S. so, technically-speaking, the Trump Administration has managed to 'exit' what the U.S. has not 'entered' into in the first place. Let me explain, briefly: the Paris climate agreement (the Paris COP21 Agreement) was "adopted" via a Presidential executive order on September 2016. This raised a range of questions - at the time barely-covered by the media - as to the validity of such an order. Unlike normal executive orders, the Treaty adoption was committing the U.S. to an agreement with a four-year breaking clause period, thus de facto binding the one-over Presidential Administration to Obama Administration order. In contrast to the U.S., all other signatories to the agreement required ratification by their legislatures or via other constitutionally-stipulated procedures. The U.S. was unique, to-date, in not seeking domestic ratification. 

A constitutional position - that the Paris treaty should not be treated as an ordinary 'executive order' agreement was expressed by some legal scholars who view the Paris agreement as more than a simple executive agreement. Bodansky (2016) points to the fact that COP21 adoption via an executive order belongs to a category of commitments that "have a long, heretofore undiscovered [constitutional] pedigree." In other words, the actual act of 'adoption' of the Paris agreement by the U.S. can be legally shaky and it is shaky especially given that there is clearly not a chance that the COP21 can be ratified by the current Congress. 

As the result, Trump Administration did not claw back on U.S. international commitment, but it did renege on President Obama's international commitment. The U.S. is not equivalent to President Obama, unless we get comfortable with an idea of Presidents residing above the Constitution. Which, given the current White House resident, might be the case of 'watch what you wish for'.

2) President Trump has committed to withdrawing from the agreement some time in late 2020, and potentially, given the questionable constitutionality of the agreement validity in the first place, some time after that or never. The Paris Agreement allows withdrawal only following a four year delay period, after the agreement coming into power. If the U.S. adoption of the agreement requires approval by the Congress, the actual date of the treaty coming into power can be set as the date of such an approval. And the four year delay period will have to start from that date. I am not a legal scholar, so I am speculating on this, but it might just be the case that the U.S. might technically remain within Paris agreement past 2020 election and into the next Administration. 

3) Now, consider the gargantuan misrepresentation of the nature of the Paris agreement by the Trump Administration. The President made repeated statements that Paris agreement imposes severe burdens on the U.S. economy, with potential for costing some 2.7 million American jobs. In reality, the agreement is a non-binding and non-enforceable commitment. If the U.S. faced with severe damages to its economy from Paris commitments, instead of withdrawing from the accord, the Washington could simply reduce promised deliverables and let its emissions reduction targets lapse. There would have been no repercussions for the U.S., beyond bad PR (the same bad PR that is already forthcoming). In fact, one of the reasons that Nicaragua (one of only two non-signatories, alongside Syria) refused to join the agreement was that the SOP21 lacked meaningful enforcement and had no commitment obligations with respect to targets. 

In other words, Trump Administration 'exited' an accord that had, materially, no legally binding power to change anything. Which also flies in the face of the President claiming he can re-negotiate U.S. position in the Paris agreement. Why would you need to renegotiate that which can be changed unilaterally at will?

As the Paris Agreement is a non-binding and non-enforceable, calling the U.S. participation in it an example of U.S. 'leadership' is nonsense. Calling the U.S. withdrawal from it a 'tragedy' is a case of hysterical overreaction. And, equally, calling it 'draconian' in terms of its potential impact on the U.S. is pure demagoguery. 

Policies, not Non-binding Treaties, Matter

What really is of concern here is not the U.S. participation or non-participation in the Paris COP21 Agreement, but the Administration's policies on the environment, including matters relating to President Trump's desire to 'resurrect' the U.S. coal industry, and his push for more oil and gas production, as well as his attitudes to the EPA, the plans to open up commercial and mining / extraction development on protected Federal lands, etc, etc, etc. 

These policies are worth criticising and fretting about. COP21 is only tangentially material to them. 

In fact, President Trump's obsession with making 'coal great again' is worrying not only from environmental perspective, but also from economic development perspective, and it exemplifies the Administration's bizarre view of the U.S. economy. For a number of reasons, which I don't have room to discuss here at length, but are worth mentioning in passing. 

Much of the decline in coal's fortunes from 2012 on is accounted for by non-environmental policy factors. As the report shows, growth in energy supply from natural gas accounted for 49 percent of the total market share loss accruing to coal. Further 26 percent of coal's decline was down to a drop in overall demand, and 18 percent was accounted for by renewables. Only 3-5 percent of coal's market share decline was down to Obama Administration's environmental regulations.

Someone has told President Trump a porky: clawing back on Obama's environmental regulations would have saved, at most, only 2,900 coal miners jobs out of 58,000 lost during the 2012-2016 period. Though even that figure is highly questionable, as research linked above suggests that the true number of jobs saved would be closer to 1,700. 

Here's a chart from the above-linked study estimating jobs impact of the President Trump's policies favouring coal:

The U.S. leadership on the environment comes through with all its shoddy 'glory' in coal's fortunes history. High coal prices in the first decade of the century were driven by the demand for energy from China and, arguably, by sky high global price of oil. As Chinese demand fell, starting, in 2011, the U.S. environmental leadership turned out to have little to do with globally collapsing demand for coal and coal prices or with an ongoing substitution away from more CO2-intensive fossil fuels in the global energy production mix. Active Chinese shift away from coal to other sources of energy plus decline in the rate of growth on Chinese energy demand drove down global prices, accounting for almost half of the entire decline in the U.S. (and global) coal's fortunes.

In simple terms, coal hardly makes any sense as a target for either investment, or jobs creation, or economic value added creation. Not because the U.S. is leading the world on the environmental policies, but because China is shifting its energy mix toward cleaner alternatives. Worse, improving coal demand outlook makes even less sense for an Administration that actively promotes more gas production and exports. President Trump is missing the main point of changing global economy: no one wants coal anymore. Nor do many want more supplies of oil and gas, as clearly evidenced by collapse in worldwide prices of these sources of energy. 

Another point shows that the alleged U.S. leadership on environmental policies has been bogus at best, even during the 'environmentally conscious' Obama era. The very reason why the COP21 Agreement was left without an enforceable commitment mechanism and with a unilaterally adjustable targets is... the U.S. push for these features of the agreement. During the treaty negotiations, it was the U.S. that insisted on undermining the treaty strengths in order to increase the number of signatories. And although the U.S. was one of the countries that insisted on public monitoring of the Paris Agreement progress, such insistence was little more than rhetorical, given the fact that global research into CO2 emissions would have provided de facto public disclosure of countries' progress.

COP21: A Problem Was Always Bigger than the Solution

Confused, yet? You shouldn't be. The problem with the Paris agreement is the same as the problem with the U.S. 'leadership' on the environment and is identical to the broader problem of so-called global 'leadership' on the environment: there is no material will on behalf of core countries (including the U.S., but excluding Europe) to do anything serious about setting, achieving and enforcing robust and meaningful environmental targets. 

Paris agreement in and by itself is a fig leaf of decorum. Being a part of it or being outside of it are rhetorical positions, more designed to shore up symbolism of 'something being done', than actually doing what would be needed to address a wide-ranging case of environmental degradation and depletion of the natural capital. Note: environmental problems vastly exceed carbon emissions, alone, despite the fact that media and politicians are hell-bent on talking primarily about carbon.

Which brings us to another mystery, worth mentioning in passim, again due to space constraints. What constituency does President Trump serve in withdrawing from the agreement? Not getting drawn into speculating about the right- v left- wing opportunism, here are the simple facts: the Paris Agreement is more popular than the President himself. November 2016 survey by the Yale University showed broad-based support for the treaty and the U.S. participation in it. Some snapshots from the survey:

• 69% of registered voters said "the U.S. should participate in the international agreement to limit climate change (the Paris COP21 agreement), compared with only 13% who say the U.S. should not";

• 66% of registered voters "say the U.S. should reduce its greenhouse gas emissions, regardless of what other countries do", aka independent of the COP21; 

• "A majority of registered voters want President-elect Trump (62%) and Congress (63%) to do more to address global warming";

• "A majority of registered voters say corporations and industry should do more to address global warming (72% of all registered voters; 87% of Democrats, 66% of Independents, and 53% of Republicans)". Which means that, based on party affiliation, in each party, including the Republican party, majority of voters support greater action on global warming;

• When it comes to 'making coal great again', 70% of U.S. registered voters "support setting strict carbon dioxide emission limits on existing coal-fired power plants to reduce global warming and improve public health, even if the cost of electricity to consumers and companies would likely increase – a core component of the EPA’s Clean Power Plan. Democrats (85%), Independents (62%) and Republicans (52%) all support setting strict limits on these emissions". Again, we have majority support even amongst the Republicans;

• "A large majority of registered voters say the Federal government should prepare for the impacts of global warming, prioritizing impacts on public water supplies (76%), agriculture (75%), people’s health (74%), and the electricity system (71%)".

1. Carbon intensity of the global economy will continue to fall, irrespective of whether the U.S. presidential administration likes it or not. The reasons for this go beyond simple carbon accounting, and deeper into the issues of public health, quality of life and changing energy intensities of production. The transfer is happening not from the U.S. to foreign destinations, but from the U.S. carbon-intensive economy to the U.S. carbon-reducing economy. The same transfer is happening in other economies. Here's an OECD report on the trend and potential for such transfers. More partisan on the issue NDRC had this report on jobs generation in the alternative energy sector.

1. Reductions in carbon intensity of production are not a zero sum game, but rather create opportunities for innovation, increasing value added, deepening the customer base and improving efficiencies in production and investment. Environmental market worldwide is estimated at USD 1.4 trillion in just 'advanced energy' segment, of which the U.S. domestic market accounts for just 1/7th. Cleantech market size is USD 6.4 trillion, and so on. An example of the opportunity space open for business investment and development in the environmental services, energy and manufacturing sectors is so significant that days after President Trump's decision to exit COP21, the State of California signed a long-term agreement with China to engage in joint development of "climate-positive" technologies and emissions trading. Ironically, few years back, Chinese carbon permits system drove the global carbon markets off the cliff. Today, Beijing is trying to position itself as a positive player in rebooting these markets.

1. Environmental protection (and policies aimed at alleviating the adverse impact of global warming) is more than a market for new goods and services. From both economic and (more importantly) social perspectives, it is also about improving quality of air, quality of water (e.g. here and here), public health (for example, here) and food security (e.g. here and here). In the end, treating environment as part of our productive, long-term investable, tangible capital, is more about preventing future social suffering and unrest than about earning profits. But, even for those politicians solely concerned with jobs and financial or economic bottomline, the case for environmental protection-led economic development is very strong.

x

So the really puzzling matter for the Trump Administration and the U.S. political elites (namely the Republicans' dominated Congress) is: what on Earth are they doing in dismantling the environmental policies in a wholesale fashion? 

President Trump, and a range of his advisers, appear to believe that environmental policies are zero-sum game, transferring income, wealth and jobs from 'traditional' (carbon-intensive) sectors of the U.S. economy to foreign competitors. Which is simply false. For a number of reasons, again worth touching here:

Incidentally, China's commitments (or pledges) prior to the COP21 clearly show that its leadership sees all three of the above points as salient for the country future. Back in 2014, the Chinese government has promised to peak its emission by or before 2030, first time ever setting a deadline for peak emissions. It also promised to increase the renewables share in its energy mix to 20% by the same date. Doing this will require China to instal some 800-1000 gigawatts of carbon-free energy generation capacity, or more than its current coal capacity and close to the total current market size for electricity generation in the U.S. The Obama Administration claimed credit for 'bringing China' to agree on these environmental targets, but reality is quite different: Beijing is desperate to clean up its urban environment, claw back on severe pollution of its water sources and secure some sort of sustainable agriculture and food production. Of course, not is well on the Chinese front either. As a side note, those who are worried about China taking the leadership jersey from the U.S. on environment, should read this report: like the U.S., China is producing more rhetoric than action.

In short, the problem of addressing huge gaps between political rhetoric and the reality of our deteriorating global environment remains insurmountable to our political leaders. President Trump's extreme position on COP21 is just an outlier to the cluster of politicians worldwide who are strong on promises and media soundbites, yet unable and unwilling to develop a global policy framework that can deliver measurable, enforceable and transparent commitments on the environment. The problem of finding a solution to continued depletion of our natural capital around the world remains larger than COP21. With the U.S. 'leadership' in it, or without.

3/4/2014: Reforming Economics? Try Politics First...

This is an unedited version of my article for Village Magazine, February 2014


The Global Financial Crisis and the Great Recession are actively reshaping the public discourse about the ways in which we analyse social phenomena, and how our analysis is shaping public policies choices.

In many ways, these changes in our attitudes to social inquiry have been positive. For example, more critical re-appraisal of the rational expectations-based models in macroeconomics and finance have enriched the traditional policy analysts' toolkits and advanced our understanding of choices made by various economic agents and governments. Shift in econometric tools away from those based on restrictive assumptions concerning underlying probability distributions and toward new methods based on more direct integration of the actual data properties is also underway. The result is improved analytical abilities and more streamlined translation of data insights into policy famework. The launching of the public debates about how we teach economics in schools and universities and how economic parameters reflect social and cultural values (as evidenced by the ongoing debate at the OECD and other institutions about introducing measures of quality of life and social well-being into economic policy toolkits) are yet more examples of the longer-term positive change. Absent such discussions, the entire discipline of social sciences risks sliding into complacency and statism.

However, in many areas, changes in our approaches to social studies have been superficial at best, and occasionally regressive. And these changes are not limited to economics alone, spanning instead the entire range of social sciences and related disciplines.

For the sake of brevity, let me focus on some comparatives between economic analysis and one other field of social policies formation: environmental policy. The same arguments, however, hold in the case of other social policy disciplines.

Prior to the crisis, environmental sciences largely existed in the world of mathematical modeling, with core forecasts of emissions paths and their effects on the environment relying on virtually zero behavioural inputs. These technocratic models influenced both public opinion and policies. The proverbial representative agent responsible for production of emissions, was not a human being requiring age, gender, family, income and otherwise differentiated supplies of energy, goods and services. In a way, therefore, environmental policy was further removed from the realities of human and social behaviour than, say, finance, monetary or macro economics. Where economists are acutely aware of the above differences as drivers for demand, supply and valuations of various goods and services, environmental policy analysts are focused on purely aggregate targets at the expense of realism and social and economic awareness.

The same remains true today. Over recent years, the thrust of environmental policies has drifted away from local considerations of the impact of pollution on quality of life and economic environment considerations. As the result, environmental policies and programmes, such as for example wind energy development or localised incineration of waste, are becoming more orthogonal, if not outright antagonistic to the  interests of consumers. Rhetoric surrounding these environmental policies considerations is also becoming more detached from the demos. For example, Ireland's attempt to make a play at European wind energy generation markets, replete with massive wind farms and miles of pillions, is now pitting our imagined (or mathematically-derived) exports potential, fuelled by nothing more than massive subsidies and consumer rip-off pricing for electricity, against all those interested in preserving the countryside's natural amenities, cultural heritage and other economically and socially meaningful resources.

Whereby behaviourally-rich analysis is now moving into the mainstream in finance and is starting to show up within the macroeconomic models, it is still wanting in the environmental policies research. The result is distortion of public responses and reshaping of political landscape around the environmental movements.


In most basic terms, there are three core problems with the current state of social sciences and policies formation mechanisms. None of these problems are new to the post-crisis world or unique to economics. In fact, in many case economics as a discipline of inquiry is years ahead of other social sciences in dealing with these shortfalls.  In summary the core problems are: insufficient modeling tools, poor data, and politically captive analytics and decision-making.


The first problem is the lack of rigorous modelling tools capable of handling behavioural anomalies. Put differently, we know that people often make non-rational choices and we occasionally know how to represent these choices using mathematical models. But we are far from being able to incorporate these individual choice models into macro-level models of aggregate behaviour. For example, we know that individually people often frame their choices in the broader context of their own and collective past experiences, even when such framing can lead to undesirable or suboptimal outcomes. Yet we have few means of reflecting this reality in economic models, although we are getting better in capturing it empirically. We can model habitual and referenced behavior of individual agents and we can even extend these models to macroeconomic setting, but we have trouble incorporating this behavior into explicit policy analysis. We also face mathematical constraints on our ability to deal with the more advanced and more accurate models extensions.

The problem of insufficient tools is often compounded by the problem of over-reliance on technocratic analysis that marks our policy formation. Put simply, we live in the world dominated by policy-making targeting aggregate performance metrics (such as global emissions levels or nation-wide GDP growth rates). This implies that we often aim to create policies that are expected to deliver specific and homogeneous outcomes across a number of vastly heterogeneous geographies – physical, cultural, political, social and economic systems, nations and societies. The only feasible approach to such policymaking is via technocratic reliance on ‘hard’ targets, often with little immediate connection to everyday life, and prescriptive policy designs. The core pitfall of this approach is that when a harmonised policy fails, it fails across all heterogeneous locations and environments. There is nothing more erroneous from risk management perspective than attempting to introduce a harmonised response to such systemic failures. Yet this is exactly what the policymakers strived to achieve in the setting of the euro area crises. The more reliance we place on technical models-driven solutions being right all of the time in all of the locations, the more harmonised and coordinated our responses to shocks are, the higher is the probability that a policy failure will be systemic, rather than localised.

The only alternative to this fallacy of reliance on technical analysis and hard targets-based modeling is to permit local innovation and differentiation. This historically-validated approach of the past, however, is not en vogue in the world where global institutions and aspirations dominate local objectives and systems, and where pseudo-scientific fetishism for technical knowledge dominates social sciences and policy making.


Beyond technocratic fallacy of over-reliance on mathematical models and the shortage of some key tools looms an even larger problem.

Consider the most recent example of a systemic failure by the economics profession to predict the current financial crisis. Instead of tools shortfalls, this failure rests with the problem of analysis and policy capture by political and economic interest groups that firstly determine the agenda for policy analysis and research, then define parameters and scope of such research and, finally, set bounds for measuring, monitoring and actioning data on policy outcomes.

With the onset of the financial crisis, economists working outside regulatory offices, ministries and central banks have gotten a much greater access to data than ever before. Still, even with data in public domain, analytical resources come at a cost premium, as anyone attempting to compete with, say the Department of Finance, finds out very quickly. By the time it takes an independent analyst to compile and analyse data, the Department of Finance can deploy dozens of staff to flood the media and public domain with own reports and papers. The asymmetry of resources drives the asymmetry of power in analysis and this fuels the asymmetry in policymakers’ perception of data insights. For example, lone voices of dissent or single pieces of contrarian analysis are pushed aside by the sheer magnitude of consensus, often representing little more than one agency replicating the insights of the other agency.

We might be able to produce better insights into the workings and risks of the banking sector today than before the crisis, but this does not mean that the actions of regulators and Governments are going to be any better informed or better tailored.

Even when independent analysis and scrutiny are available, regulatory and policy responses largely ignore empirical insights. In a recent study, myself and a co-author looked at asset prices across the number of advanced economies prior to and after the crisis. Using a very simple econometric model, we showed that data prior to 2006 was providing clear and loud signals as to the emergence of a number of crisis-level risks. However, to derive this result we had to calibrate the model using a parameter that was set at ten times the levels assumed to be likely by the banking regulators. Thus, by regulations, by own governance and remuneration standards, our public servants simply were not required to do this analysis. As the result, regulators around the world sleepwalked the entire financial system into the latest crisis and found themselves utterly unprepared for the fallout.

This is not unique to our study conclusions. Back in 2005-2006, inside the Irish civil service there were several senior voices raising concerns over the direction of our economy. These were echoed by a number of research papers and analysts warnings coming from the ranks of independent and academic economists. They were ignored not because they lacked empirical basis, but because the policymakers were captive to consensus view aligned with their own political objectives.

Nobel prize winners, Robert Shiller (2013), and Edmund Phelps (2006) economists such as Nouriel Roubini, Roman Frydman and Michael D. Goldberg repeatedly warned about systemic problems in the US property and financial markets back in 2004-2007. The NYU Stern School of Business research centre did the same for the banking sector. Last, but not least, in academic economics, research into non-rational, non-representative agent models has been on-going since the start of the 1990s, largely unbeknown to the general public and politicians. In fact, since the mid-1990s, majority of the Nobel Memorial Prize awards in economics went to researchers who pushed aside the bounds of rational expectations and/or representative agent frameworks.

Still, the problem of policy capture by the often poorly informed adherents to specific schools of thought is  hardly unique to economics. Let's take two examples of policies that have seized public imagination and policymakers' attention, while sporting only tenuous empirical foundations.

One is wind and wave energy. Although it appears that there is a near-consensus in academic and policy circles that these two sources of energy offer preferred alternatives to traditional fuels, in reality, such consensus can and should be questioned. The latent energy stored in water and wind is huge. However, wind energy harvesting is also subject to own externalities. One key one is the transfer of cost of pollution abatement from the commons relating to energy production and use, to the commons relating to land and natural amenities use. This externality was already mentioned above and its discovery credit goes to economics, not to environmental sciences. Another one is the transfer of the cost of energy-related pollution to consumers. In the real world, different consumers access energy through different channels. Some channels offer energy users a subsidy over the other. Some channels come with a choice that a consumer can make to substitute between different service providers based on environmental and economic costs considerations, other channels do not. Again, credit for pointing this out goes to economists; environmentalists are all too often simply opt to ignore these realities in pursuit of aggregate emissions targets over and above the consideration of their feasibility or their effectiveness in the face of social, cultural, political and economic realities.

For example, state-owned public transport is commonly priced differently from the privately-owned public transport and both are priced distinctly from private transport. Unless use of energy is explicitly and uniformly priced across all modes of transport and unless all modes of transport are perfectly substitutable, some consumers of public transport will receive subsidies at the expense of others and majority will be subsidized relative to private transport users. Thus, a suburban family is likely to pay a higher price for pollution per mile travelled than an urban one. The fact that in many cases a suburban family might have been forced (by planning, zoning, pricing and other systems operating in a heavily distorted markets) to make a choice of living outside the areas with dense cover by transport alternatives does not enter into the determination of pollution-linked taxes and prices. Any decent economist can be expected to understand this much. Yet the simplified worldview that public transport subsidies and private transport taxes are always good persists among our policymakers and within environmental lobby.

Another example of the policy that is empirically shoddy, yet politically heavily supported is electrification of transport. Recent research shows that in the US, even if electrical vehicles made up over 40 percent of passenger vehicles in the, there would be little or no reduction in the emission of key air pollutants. Now, consider the case of Ireland, where ESB has been running multi-billion euro investment programme aimed at developing EVs networks since the early days of the financial crisis. Just as the value of private sector investment shot through the roof, Irish semi-state sector, encouraged by policymakers and subsidized by high prices on consumers, launched into a major investment programme based on questionable benefits to the economy and society at large. The Government of the day even announced back in April 2010 (with the country rapidly hurtling toward an IMF-led bailout) a EUR5,000 grant to EVs buyers. That Ireland’s electricity supply comes from environmentally damaging sources does not phase the environmental policy advocates.


The debates about the current state of economics and social sciences in general are a welcome departure from the pre-crisis status quo, where such discussions primarily took place in the marbled halls of academia and beyond the scrutiny of public attention. However, it is worth remembering that the core problems faced by social policies analysts today are the ages-old ones problems of insufficient modeling tools, poor data, and politically captive analytics and decision-making. We might be able – with time and effort – to fix the first one. Fixing the other two will require a paradigm shift in the ways we collect and publish data, and in the ways our political and public service elites approach policy formation. Two thirds of economics and social sciences problems are political, not scientific.