Welcome to “Low-Energy Fridays,” our new series of short-and-sweet blog posts aimed at giving a layman’s explanation of D.C.’s highfalutin energy policy ideas. Every Friday we’ll take a complicated idea and cut through the nonsense to bring it to the 101 level. Some days it will be an explanation, others a commentary and occasionally calling foul on policy sleight-of-hand shenanigans. If you have a topic you want to read about, submit it here.

About Those Green Subsidies…

Some European Union (EU) leaders have taken issue with the Inflation Reduction Act’s (IRA) generous subsidies for U.S.-based clean energy, which they note produces an unfair advantage for U.S. industry. The EU’s answer, naturally, is more subsidy of their own. But both the United States and the EU are making mistakes here, since they are falling into a central planning bias that ignores the overall effects of subsidies and the pitfalls of continuous subsidy.

When the government spends money, a la through subsidies like tax credits, it must get that money from somewhere else (i.e. taxpayers). While politicians love to boast about the positive impacts from the money they spend, they gloss over the negative aspects of reducing their constituents’ wealth. In economics, this is called “opportunity costs,” which in this context refers to what individuals miss out on investing in or consuming when their money is allocated based on politicians’ preferences. This is always a drag on the economy, and is a fundamental reason why centrally planned economies are so much weaker than free market ones.

The IRA will certainly result in a shift in economic activity toward green activities—one can’t spend hundreds of billions of dollars and have nothing happen—but the overall economic effect of the policy is likely to be negative. What’s worse is the estimate that two thirds of the IRA’s clean electricity subsidies will go to firms that would have built clean energy even without the subsidy, acting as a wealth transfer from taxpayers to businesses without yielding any additional benefit, climate or otherwise.

For Europeans that may buy from those companies, this is essentially a gift from U.S. taxpayers. EU customers will see their costs reduced by subsidy at the expense of the U.S. taxpayer—but for some very strange reason the EU sees this and does not want to be outdone. Instead, Europe is seeking to do the same thing to the United States.

European leaders have noted, correctly, that the United States’ policies violate proper trade practices. Governments are not supposed to interfere by propping up their industries to give them an edge. This is a good rule to have because it incentivizes firms to compete by being productive rather than politically favored even in the international space. But instead of fighting these trade violations through other means, such as the World Trade Organization’s dispute systems or free trade agreements, the EU is seeking to do the same thing to the United States, which will simply result in Europeans having their wealth reduced so that European politicians can also bestow favor on corporations.

It’s easy to see why a tit-for-tat arms race of green subsidies is bad economic policy. Even worse is that the research shows that barriers to clean energy growth aren’t typically ones remedied by subsidies. But policymakers need to take note: higher taxes and more market intervention have real costs on people’s economic opportunity. A bit more prudence in spending would be in the best interest of constituents even if it’s easier for politicians to talk about the benefits of spending than it is to discuss the benefits of not spending.

Image credit: hrui

Subscribe to Low-Energy Fridays