Monday, October 05, 2009

Pricing Signals

There are really not enough of these in the world. Consider these situations:

1) Person who is on a phone plan does not have a direct cost feedback even if the bill goes up to alarming 6 figure sums.

2) A farmer gets their bill for water, but doesn't know how much their neighbours could have gained by buying it, nor if he could have gained more money selling it than keeping it.

3) Consumers cannot gauge how much petrol is costing them for the car air-conditioner or to get to the petrol station with the cheaper petrol.

4) Polluting coal burning power stations don't know how much local residents would be willing to pay to shut it down or modernise it. Nor how long they would be willing to put up with blackouts to achieve that.

5) Consumers considering whether to hang up their worn clothes or put them in the wash + dryer + ironing. What is the cost/benefit analysis.

At what resolution do pricing signals benefit cost/benefit analysis the most. Would a computer that could make calculations about every single activity throughout your day and have an indicator go off regarding your most inefficient activity be useful?

Would it tell me that (buying and) drinking a can of orange softdrink is the most inefficient because a) it costs a fair amount per calorie
b) They are empty calories that could actually reduce your life expectancy.
c) Sugars will stick to and damage your teeth leading to much higher dental bills.
d) contains preservative 211 which is dodgy at the best of times.
e) contains no caffeine so is ineffective at improving concentration.
f) actually dehydrates you to some extent.
g) is energy intensive to create, can, store and refrigerate, compared to alternatives such as coffee or water.

Suffice to say that any improved pricing signals about anything we care about is a net benefit to resource allocation. Whether it is the environmental cost of the ghg's associated with activity or the amount of money an STD call costs, if there is an efficient market to generate a price which reflects all known information and demand, resources WILL be allocated better. Thus money spent on strategic pre-fire season burn-offs in the outback of Australia may be way, way more efficient than investing the same amount in solar panels or planting trees. Being that people will spend the money anyway, pricing signals cut the wastage for everyone's benefit.

The main danger is not that we will be less efficient ignoring/underutilising cheap fossil fuels, but that we will completely ignore cost/benefit analysis and spend the money in a way which makes us feel good, or which buys our vote without even being in line with the goal central to what the money is being spent on. Thus European countries may use the money on pointless subsidies, Americans may give tax breaks on hand-picked industries. Thus, without even giving themselves a chance at meeting self-imposed targets, they are busy regulating in a way which will reduce their growth prospects.

11 comments:

shellshear said...

I wholeheartedly agree. It'd be good to have a centralised government website that lists the criteria that go into the signal, the regulatory body that allocates the value, and a list of companies (for products or services for which it is not mandatory) and their scores.

I also think it's important to get the scores out there, in much the same way as food labels. I think people would be interested, and it'd contribute a lot towards reducing cynicism if the whole process was as transparent as possible, with all the cost-benefit analysis viewable.

Also, I'd be very interested in seeing these cost-benefit analysis myself!

Chris Fellows said...

4) Polluting coal burning power stations don't know how much local residents would be willing to pay to shut it down or modernise it. Nor how long they would be willing to put up with blackouts to achieve that.

You can't really signal anything about 'potential transactions', only record transactions that have occurred. Residents are not going to respond comprehensively, thoughtfully, or honestly to a hypothetical 'how much are you willing to pay/put up with' question.

Chris Fellows said...

...the regulatory body that allocates the value...

Having centrally allocated values would eliminate most of the benefit of having a market. The goal should not be single regulatory authorities setting prices, but the maximum transparency on all transactions, so that price signals can easily be aggregated by search engines.

Jenny said...

I actually knew the cost benefits for aircon vs open windows vs closed windows and for fuel used to get cheaper fuel for my old car (also what fuel to buy for best efficiency under what driving conditions)...to be fair it took me a few years of monitoring fuel use under particular conditions to work it all out.
My new car is nearly a year old and I haven't even started designing my fuel efficiency experiments for it :(

My dad has discovered that his Mazda is actually more fuel efficient on the ethanol fuel (bizarre and unexpected) even before you look at the cheaper price.

Chris Fellows said...

My dad has discovered that his Mazda is actually more fuel efficient on the ethanol fuel (bizarre and unexpected) even before you look at the cheaper price.

Wow! That is bizarre and unexpected. I suppose as a mechanically-minded man he has made sure his fuel-air-mixing-thingy (note my tenuous grasp of technical terms) is working as well as it can? Incomplete combustion seems the only way to make that outcome thermodyamically sensible.

Marco said...

You can't really signal anything about 'potential transactions', only record transactions that have occurred. Residents are not going to respond comprehensively, thoughtfully, or honestly to a hypothetical 'how much are you willing to pay/put up with' question.

I shall concede the point. However, if there was a fluid market in various allocaions that could be considered a proxy for units of operation of a dirty energy utility over whatever alternatives exist (worse case being blackouts for interim periods) people could actually make that cost/benefit analysis on the proxy(ies).

At a simpler level, buying carbon credits when the market signals are working truthfully may be a workable proxy for cleaner energy demand of a similar vein.

Marco said...

centralised government website that lists the criteria that go into the signal, the regulatory body
At risk of overlapping what Chris said, the Government's role is to mandate transparency, fund infrastructure, set trading rules (and be a buyer of last resort in some cases). The market (demand/supply) is what generates truthful pricing signals. These are, by their nature, dynamic because reaction to the signal feeds back into demand or supply. Algorithms will capture the state of play at a point in time, and will tend to date as soon as a proportion of people can make the most out of any new information the algorithm obtains.

Marco said...

I would like to thank everyone who put their comments in! I can never tell what subject will bring them on, without, you know, specifically demanding them :).

Just one last point that actually got me started thinking down this whole line- In Australia, there is finally a distinct sense of the value of water through all consumers. Until there was a build up of water allocation trades ie. a decent market, water charges (and therefore the commercial/psychological values)are completely arbitrary. And until every possible consumer for water is metered, fair trade is very hard to achieve. All other countries are not even at the stage where every water user is metered. Also in the carbon trade, we are at least years away from being able to meter all sources connected to commercial activity.

Even in the SO2 allocation trade, Sulphur emmissions have moved disproportionately to where it isn't metered (High sulphur fuel for shipping)

Chris Fellows said...
This comment has been removed by the author.
Chris Fellows said...

One article on water this morning had me swearing at the radio again- this nonsense of arbitrary ineffective and silly 'share the pain' water restrictions on town water users. A small town nearby that has repeated been denied state funding to build a pipeline to a (sorta) nearby dam has just upgraded to the next stage of water restrictions, where watering gardens and washing of cars is allowed only with a bucket, between 6 and 8 pm. Of course cars function better when dirty anyway, and no one has any business planting wussy wet-climate plants that needs to be watered, but how much better it would be to manage water with sensible pricing signals!

Chris Fellows said...

I'm guessing you've given up waiting for me to update my blog, Marco?