Ragnar%20Arnason%20Comments%20on

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Ragnar ArnasonComments on

• Environmentally harmful subsidies
• - Developing a checklist -

OECD Workshop on Environmentally harmful
subsidies 7-8 November 2002
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Basic considerations

• There is a good (but not an unqualified) economic
  case for removing (or reducing) subsidies
• There is an even better economic case for
  removing economically harmful subsidies
• (if by harmful we mean deviation from
  the optimal harm)

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..but

• Not all subsidies are equally harmful
• There are lot of counterexamples
• (i.e. where subsidy is economically beneficial
  and its removal a mistake)

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q
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Therefore we need more information

• Basically, an empirical economic/environmental
  general equilibrium model
• But, this is not available (and not in sight)
• And environmental concerns are pressing
• Therefore we need some guidelines a checklist
  perhaps.
• But with almost no theory and little data this is
  very difficult!

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An illustration

• Following Jan Pieters, assume
• Government wants to reduce environmentally
  harmful subsidies by a given amount
• Which subsidies should it reduce and by how much?

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Two environmental goods y and x
Budget constraint
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But this is too simplistic

• Environmental goods cannot really be generated
  (or bought) at a constant rate.
• Subsidy reduction (may) produce environmental
  goods
• That production is the output of the economic and
  environmental GE-system
• If that production is well behaved (..not
  particularly likely), it will look like

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Production of environmental goods
Production possibility frontier
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A possible case
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Another possible case
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Yet another possible case
y
x
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Back to the checklist

• A checklist is supposed to reflect this
• Not the optimal solution
• But the ranking of of alternatives for allocating
  subsidy reductions.
• So, we can
• Do things in the right order
• Avoid drastic mistakes

Note The ranking depends on the situation! It
cannot be invariant (over space, time, extent of
subsidies, output, cultures etc)!
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Therefore, to compile the checklist, we need to
know

1. The transformation frontier
2. The social preference (utility) map
3. In a dynamic context

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The transformation frontier(How do subsidy
reductions translate into environmental benefits)

• For all environmental variables!
• Requires intricate economic knowledge (dynamic GE
  model)
• Requires intricate environmental knowledge (how
  does economic activity really affect the
  environment)

We dont have this knowledge!
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The social utility map

• Basically environmental valuation
• This is a function of environmental quality
• This is a function of the state of the economy
  (all economic variables)

We dont have this knowledge!
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We are like a man sent to the supermarket to buy
groceries

• He has a certain amount to spend
• But doesnt know the price of the goods
• (I.e. how much he gets for a given expenditure)
• He doesnt know the utility generated by the
  goods.

What can he do?
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The problem is one of choice under uncertainty

• Only if all outcomes are equally likely will it
  be optimal to do nothing.
• Assuming constant risk over choices, the best
  choice is to pick the most likely options.
• This is precisely what a good checklist is
  supposed to do
• It increases the likelihood of a good choice

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Jan Pieters checklist

• Not solidly founded in theory
• But impressively intuitive (and practical)
• Misses two important aspects
• Corresponding to every subsidy is a tax
• The environmental gains must be valued
• Apart from this I found myself in general
  agreement

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Flow chart behind the checklist
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End