Orin Kerr had a really good post yesterday on the Volokh Conspiracy about technology and law. Here's an excerpt:

In contrast, I argue, the latest technologies are constantly in flux, and the social meaning of different technologies and their regulation can vary considerably over the years (and with some technologies, over a matter of months). As a result, prospective legislative rules rather than slowly-developing judicial rules are likely to prove more effective at regulating privacy in new technologies. In fact, I argue, past judicial efforts to try to determine the social meaning of different technologies often have become outdated quite quickly.

You can also apply Orin's logic to antitrust litigation, because market interactions are also constantly in flux. Technological change also certainly plays into that dynamic; for example, by the time the US government had dragged IBM through years and years of antitrust prosecution in the early 1980s, IBM had lost the purported monopoly that they had created. You could also argue that some of that dynamic has happened in the Microsoft case as well.

MISCONCEPTIONS ON VENEZUELA AND OIL MARKETS: Okay, I'm breaking my self-imposed moratorium on Venezuela strike commentary to disabuse folks of some of the misconceptions that have been swirling around in the media commentary over the past few days, typified by Paul Krugman's superficial assessment of US oil policy in his 27 December column. Krugman focuses only on a sideswipe comment about the extent to which "nobody seems to have thought about the state of oil markets if there is simultaneous turmoil in the Persian Gulf and Venezuela," which I cannot refute as I have not been in attendance at administration meetings that may have addressed this issue. I can, however, illuminate some of the economics of world oil markets and the role of expectations in moving world prices.

1. Prices rose late and quickly because the strike has lasted longer than oil companies and traders expected. NYMEX light sweet crude prices only went above $30/barrel on 16 December, almost three weeks after the strike commenced, and only stayed above $32/barrel for four days (26-29 December). Why? Because when prices rise, buyers look for alternative suppliers, and alternative suppliers are happy to bring more oil to market (when they have capacity, which OPEC suppliers, Russia, Mexico, and West Africa all do right now) because they can get a pretty good price. So, not surprisingly, Venezuela's export decline from 3.1 million barrels/day to 200,000 barrels/day did not have a large effect on world markets until it persisted beyond expectations. Now, OPEC members are planning to increase their production to reduce the price to their $22-28/barrel target range (see also this Financial Times article, this Reuters story, and today's Oil Daily headlines for more on the same point).

2. Expectations of the duration and dislocation of the strike are also a function of the extent of crude supply inventories and of the dislocation of transportation. Although Venezuela's production has halted, PDVSA claimed that they have enough inventory to meet existing contracts. Once tanker movements were blocked and tankers were not being loaded for export any more, it became clearer that those inventories would not necessarily get to customers, and prices began to rise. Today, Bloomberg Energy News reports that even though some production is coming back online, foreign tankers are unwilling to dock and fill up with oil for export. Furthermore, our existing crude inventories, held by refiners in the US and in the strategic petroleum reserve, tend to dampen price increases. And this Venezuela thing didn't just come out of nowhere, so refiners and the US government have been amassing crude inventories. Throughout the fall US refiners built above-average inventories, according to a September report from the American Petroleum Institute, and Citgo is now requesting a release from the strategic petroleum reserve now that they have depleted their inventories and have not received their Venezuelan shipments. In a volatile and uncertain periods and markets, inventories serve as insurance.

3. It also matters how much trade occurs through long-term contracts versus the spot market. Long-term supply contracts are common in this industry, so the real economic impact of movements in spot market prices are actually quite small as long as the supplier can deliver on the contract. For example, about two weeks ago Citgo had to start buying crude on the spot market to meet their refining demand, because they had processed all of the crude in their inventory. That change in their market behavior itself contributed to the increase in spot market prices.

Note the similarity between this observation and the observed market behavior in the California electricity crisis -- spot markets are inherently more volatile, so market participants have incentives to enter long-term contracts to manage and mitigate their risk. A complex web of intertemporal oil instruments and markets exist to enable that to happen, but were outlawed in California electricity.

4. Seasonality matters a lot. Right now is the seasonal lull in crude oil consumption, aided by the current slow economy, so the demand side of the crude oil market is not as strong as it will be in, say, March, when refiners want to make sure they have enough oil to produce gasoline for the spring and summer driving seasons. So if the strike looks like it will continue into February, then the interactive dynamics discussed in points 1-3 above will take into account those expectations.

So Krugman's hyperbole seems unfounded; market participants are certainly paying attention (and I would bet that administration members are too) to the possible disruption of world oil markets. But instead of whining and carping, they are planning, to the best of their ability, to enable them to minimize the dislocation. That's why markets are some of the most powerful and effective social institutions we have, because they enable people to plan, prepare and act on their preferences, over risk, over gasoline, and over freedom.

I could go on, but that's enough for now. The core issues still remain -- why do poor Venezuelans believe Chavez's demagoguery? Where have all of the petrodollars flowing into the country gone? Certainly not into the pockets of the Venezuelan people, as would happen in a healthy, functioning democracy and economy. How do you get rid of a democratically elected "leader" who has abrogated his constitutional responsibilities?

Actually, in the 17th century Algernon Sidney wrote in Discourses Concerning Government that not only do citizens have a right to rebel against a repressive ruler (which was Locke's argument), but that citizens have a responsibility to rebel. Sidney's writings had a lot of influence on the American founders and their decision to rebel against their constitutional monarch. I'd be interested to know what the political theorists and constitutional scholars have to say about Sidney's relevance and the responsibility to unseat a democratically elected leader who has abrogated his responsibilities. You can pretty much tell where I stand on this, but it is well beyond my professional expertise.

Happy holidays to one and all. I'm off to my in-laws in Maryland.

RIP, JOE: Joe Strummer, lead singer of the Clash and one of the most formative musicians in my adolescence, has died of a heart attack at age 50.

FUEL CELL VEHICLES: In case you missed it a few weeks ago, Toyota and Honda have released pilot hydrogen fuel cell vehicles for the US market. As reported in this LA Times article from 3 December (registration required), both companies will participate in leasing and research programs with universities and local governments:

The automaker is leasing each vehicle for $10,000 a month for 30 months but is supplying most of the lease money through grants. As part of the program, four hydrogen fueling stations have been opened and two more are planned by summer to link drivers of fuel-cell cars in the northern and southern parts of the state, said James Press, chief operating officer for Torrance-based Toyota Motor Sales USA.

Honda is leasing five of its four-passenger FCX fuel-cell vehicles to Los Angeles for daily use in the city fleet and on Monday presented Mayor James K. Hahn with keys to the first one. The city will pay a nominal $500 a month for each vehicle, and Honda will provide fueling services.

Analysts said the two programs should go a long way toward generating performance data that can help industry, government and the public better understand and perfect fuel-cell technology.

Last week, Tom Redburn proclaimed this achievement in the New York Times (registration required) the recent event most likely to have the longest-term impact on the economy. This claim is not hyperbole, as dramatic shifts in the fueling and energy basis for economic activity have been at the core of every fundamental shift in economic activity (industrial revolution, anyone?). But it's not quick or immediate -- both Honda and Toyota caution that mass commercialization of hydrogen fuel cell vehicles is still more than a decade away.

According to a superb project done for my Environmental Economics class this fall, there are at least three different ways of producing hydrogen, but all still require expensive inputs like platinum and do not generate a lot of energy for the cost relative to existing internal combustion/fossil fuel technologies. Pilot programs with vehicles in day-to-day use should certainly generate some valuable information for researchers.

More later on the chicken-and-egg problem of demand for vehicles and the fueling infrastructure ...

FEDERAL PRIVATIZATION AND AIR TRAFFIC CONTROL: Traveling by air this holiday season? Then you are likely to encounter off-duty air traffic controllers leafleting about the proposed federal competitive sourcing initiative, under which federal agencies will be responsible for putting some of their functions and jobs up to competitive bid. Problem is, the ATC workers and the FAA have their facts wrong about how this initiative will affect ATC, as well as misunderstanding how outsourcing and privatization are likely to be applied to air traffic control. This commentary by Reason founder Bob Poole describes the flaws in their position and the typical ways that air traffic has been privatized in countries around the world. An excerpt:

In any case, outsourcing is not the form of privatization being used in other countries that have accomplished major ATC reform. Australia, Germany, New Zealand, South Africa and more than a dozen other countries have transformed their ATC agencies into government-owned ATC corporations. Instead of being embedded in transportation bureaucracies, these corporations are independent, paid directly by airlines to provide cost-effective ATC services. And they are regulated at arm's length by the government's air-safety regulator. These ATC corporations have modernized more quickly than the FAA and have come to resemble commercial enterprises.

Canada and the U.K. have gone one step further. They have created quasi-private ATC corporations—Nav Canada and NATS. The former is a non-profit, with a board composed of aviation stakeholders, including controllers. The latter is part-private, part-government. Since both depend heavily on North Atlantic traffic, both took serious hits from the big declines in that market after 9/11. To survive, year-old NATS is getting an additional capital injection from both government and private owners. By contrast, since Nav Canada had already built up financial reserves over its six-year history, it's come through the post-9/11 in pretty good shape.

These two dozen ATC corporations are what the leafleting controllers point to when they claim that "privatization has not worked in Great Britain, Canada, and Australia, and it won't work here." On the contrary, privatization via outsourcing of small control towers is working here. And quasi-privatization via creation of government-regulated ATC corporations has worked quite well overseas. It's too bad the FAA is so tongue-tied when it comes to explaining these things to air travelers.

Don't let them tell you otherwise.

BACK AND JET LAGGED: But what fun we had! Museums and sites and sights and food and wine and shopping ... on such a tromp that I did not have even a free waking moment to check my email. Now I wade back into the electricity policy ...

FATHER-DAUGHTER "ROADTRIP"! I am at the airport, where my dad and I are awaiting a flight to Paris. He's never been, and has wanted to go for a very long time, so I used his recent birthday-that-factors-into-the-prime-numbers 5,3,2 and 2 as an excuse for a trip! Updates as events warrant.

FERC Judge Finds for California Refunds, But Recognizes State’s Role in Creating Market Power

On Thursday 12 November, Federal Energy Regulatory Commission administrative law judge Bruce Birchman proposed refunds that electricity suppliers should offer in redress of allegedly excessive wholesale power prices in 2000 and 2001. This decision should resolve some of the regulatory uncertainty that has been plaguing the energy industry, but outstanding issues of the causes and exercise of market power, and ongoing threats from the California government of legal challenges to FERC’s finding, could prolong the high regulatory costs of putting California’s policy failure behind us.

Judge Birchman recommended refunds to the California Independent System Operator (CAISO) and the Power Exchange (PX) totaling $1.8 billion, well short of the $8.9 billion that the state of California is agitating to receive. In part, the state of California argues that it is owed these higher refunds because it believes the “mitigated market clearing price” (MMCP) that Judge Birchman used to come up with the $1.8 billion (which he got from the California ISO) does not reflect supplier exercise of market power. Thus California officials argue that the MMCP used was too high, leading to refund estimates that are too low. In addition, the state is arguing that the Department of Water Resources (DWR), which took over wholesale power purchases once the utilities became financially insolvent in January 2001, deserves refunds. Yesterday’s recommendation does not include either of these items, although Judge Birchman did leave the door open for revising his recommendations if the ongoing FERC investigation into the exercise of market power indicates that he should reduce the MMCP that he used in his analysis.

Two interesting issues arise in considering this finding of fact. First, wholesale electricity suppliers are still owed $3.0 billion for the power they sold into the California market during the period in question, so the refund will act as an offset and reduce CAISO and PX liabilities for payment to $1.2 billion. According to this Dow Jones Newswire story from 12 December, the top ten power suppliers into the ISO and PX are still owed $1.76 billion, are liable for refunds of $875 million, and will therefore receive approximately $890 million in payments from the CAISO and the PX if Judge Birchman’s recommendation stands.

In looking at the recommended refunds, I calculated each company’s refund as a percentage of the outstanding amount owed. When you rank each company according to how much of what they are owed may have to be refunded, the top four companies are Enron, Williams, BC Hydro, and Dynegy. These four companies face recommended refunds above the average refund share, which is 49.56 percent, which is consistent with evidence that these companies may have gone beyond simply taking advantage of a flawed set of market rules. Again, though, Judge Birchman’s finding of fact is not the final word on this, as other investigations and litigation continue.

Second, California officials continue to obfuscate the sources of the market power that was allegedly (I say “allegedly” in deference to the ongoing FERC investigation) behind the high prices charged. Put simply, why should the CAISO and the PX (and, if the state has its way, DWR) receive refunds for power suppliers finding and profiting from flawed rules that policymakers and these organizations implemented? Judge Birchman’s wording in the introduction and summary of the ruling is instructive:

“The Federal Energy Regulatory Commission (Commission or FERC) found in November 2000 that the electric market structure and market rules for wholesale sales of electric energy in California were seriously flawed and that these structures and rules, in conjunction with an imbalance of supply and demand, caused unjust and unreasonable rates. [emphasis added]” (para. 41)

The existence of and ability to exercise market power is at this point pretty uncontroversial. But the core of the disagreement between the state of California and FERC is that California officials will not acknowledge, even after all of this time, that their flawed rules were the proximate source of the market power. Judge Birchman’s statement, quoted above, acknowledges that culpability.

California’s policy failure and flawed rules created manipulation opportunities by creating market power for suppliers. As many observers (including myself) have said elsewhere, the state-mandated bifurcated PX/ISO structure gave suppliers market power on a silver platter, so is it fair to hold suppliers liable for exercising that market power when they allegedly did not engage in any behavior to create that market power? The distinction between exercising market power and creating market power is crucial, and this distinction is precisely what California officials are trying to obfuscate, because their rules primarily created the market power.

The flawed rules also created enough risk to stymie investment, reinforced by the existence of $250 wholesale price caps after 1999. In an environment of regulatory uncertainty, which California was during the late 1990s and continues to be to this day, power companies would need to expect a return on investment that incorporates a risk premium, and it took demand rising until close to supply capacity to generate the expected return on investment that would repay investors for building power plants to serve California. Add to that the artificially inelastic demand that results from the persistence of retail price caps, and yet again evidence indicates that government policy at least contributed to, or at worst created, the problem of the imbalance of supply and demand.

ACCESS TO WATER IN CALIFORNIA: Reason's Director of Natural Resource Policy, Michael DeAlessi, has been following the impending water crisis in California, and has written this commentary in the San Diego Union Tribune.

Background: water property rights in the West follow the "first in time, first in use" rights structure, which is very different from the riparian rights (your water rights adjoin your property line) typical in the East. Southern California's cities are at the end of that time-chain of property right settlement, which was not a big deal as long as there was enough Colorado River water to go around. But with population growth in Phoenix and other Southwest cities, they are starting to exercise their "first in time, first in use" water rights, which means that Southern California cities are facing potentially serious water shortages. A deal between farmers and cities for farmers to sell water recently fell through, as described in news articles here, here, and here.

According to this story, the parties may renew talks this coming weekend, in the hopes of reaching an agreement in the three weeks before the federal government enforces the decreased Colorado River water flow to California.

POST OFFICE PRIVATIZATION? Yet another panel to review the US Post Office, yet another promise to introduce some much-needed privatization. According to this CBS Marketwatch article,

In drawing up the new commission's marching orders, the Bush administration is demanding reform that stops short of total privatization. But it can't favor subsidies, either, said Peter Fisher, undersecretary of Treasury for domestic finance.

"We don't want [the] commission to come back and suggest that the existing business model should be left in place and the costs all rolled up on the taxpayer," he said. "We also don't want them to come back and say that all the existing costs should be rolled up on the rate payer."

He added, "Everything else is on the table."

We'll see. The competitive pressures brought to bear on the USPS by private delivery and electronic technology are finally eroding the value of the government-granted monopoly on the delivery of first-class mail. Perhaps looking at a country with a good success rate at privatizing government services, like the UK's proposal to phase out the residential monopoly by 2006, would be a good start.

OPEC'S MEETING TOMORROW: Just to illustrate how complex oil markets are, especially when you consider the strategic interaction of the OPEC members, look at what's going on right now, as summarized in Bloomberg Energy News article. There's so much cheating on quotas, to the tune of about 10% of OPEC's entire supply, that Saudi Arabia is trying to persuade the other OPEC members to raise quotas.

Huh? you may say. Here's the logic: create the opportunity for member countries to earn enough under the quota that they have a smaller incentive to cheat, and if you stipulate a formal quota higher than the existing one but lower than the current cheating, then you're more likely to get compliance. Saudi Arabia is arguing that continued cheating will send prices back to around $20/barrel next year, especially in light of increased production from non-OPEC members, as this Arab News article explains.

Rising oil prices are encouraging rival nations to invest in new fields, stealing OPEC market share. Non-OPEC countries next year should increase output by 1.3 million barrels a day, the International Energy Agency said today, 200,000 barrels more than expected last month.

This is why OPEC, and especially Saudi Arabia, is extremely nervous about increasing oil supplies in 2003. And they should be. Also, there's no guarantee that OPEC members would adhere to a higher quota, there's just a higher probability that they would comply.

What a great case study in the strategic interactions underlying cartel instability!

MY GOAL IS A STATE OF EUDEMONIA: I subscribe to the wonderful A Word A Day list operated by Anu Gang. It's a superb little treat for anyone who loves language and etymology. Monday's word was

eudemonia (yoo-di-MO-nee-uh) noun, also eudaemonia

1. A state of happiness and well-being.

2. In Aristotelian philosophy, happiness in a life of activity
governed by reason.

[From Greek eudaimonia (happiness), from eudaimon (having a good genius, happy), from eu- (good) + daimon (spirit, fate, fortune).]

I certainly have an Aristotelian streak in me, as do I think most folks who consider themselves classical liberals, and I can't think of a better description of why I find life so fulfilling.

In presenting the medal to Vernon Smith, the presenter said that the "elegant methods you have developed are invaluable components in the empirical toolbox" and mentioned that now, 40 years hence, experiments are routinely performed in specialized laboratories around the world to improve our economic insights.

Very cool.

So I've got the Nobel Ceremony on in the background while I grade papers (I'm dying to see Vernon Smith in full formal wear!). The presentations are themselves quite grand, but I am really enjoying the musical interludes. Right now it's Bach's first Brandenburg Concerto. Lovely. Now it's on to literature.

UPDATE: Now it's Bartok's Transylvanian Sketches and Hungarian Dances. Yum.

WATCH THE NOBEL CEREMONY LIVE ONLINE: Tuesday, 10 December, 10:30 AM eastern time, watch the Nobel ceremony live online.

It's from June, but this is a great Thomas Sowell article about price controls and all of their pernicious effects. Price controls rear their ugly heads in energy industries often, and as the California and the more recent Ontario experiences indicate, they are no help in the face of a supply shortage because they totally subvert the dynamic incentive to invest and to enter the market to alleviate the shortage. Grrr.

REASON MAGAZINE'S NEW BLOG: Check out our magazine's new weblog for great and incisive commentary!

ORIGINS OF "THE DISMAL SCIENCE": Eugene Volokh has a post today on this article by David Levy and Sandra Peart on the orgins of the phrase and its applications to economics. I've always (or at this point it just feels like always!) known that Thomas Carlyle was the origin of the phrase, but until I saw David Levy present this paper at a conference last year I did not realize what a fascinating story it was. Eugene summarizes it well and provides some links to Carlyle's original essay.

YAY FOR DANIEL YERGIN! He a thoughtful, clear thinker and a wonderful writer, as is apparent in this Washington Post commentary on whether or not our intentions in Iraq are entirely based on getting more oil. Yergin is very eloquently making a point that I think is key -- Iraq's oil industry needs capital investment, its development will be slow and therefore a long-run investment play, and given the nature and structure of the industry it will take place through a consortium of oil companies from a variety of countries. Here's an excerpt, but read the whole thing:

It is often assumed in the "it's all about oil" discussions that Iraq would turn over its current 2.8 million barrels per day of production capacity to international companies -- that this is the new "prize" up for grabs. But that's another shaky assumption. If the new Iraqi government brings in foreign companies, it will have to split revenue -- keeping perhaps 88 cents of every dollar of earnings for itself, but with 12 cents or so going to the companies. Why not keep the whole dollar for itself and simply buy what it needs in terms of technology and equipment for the existing fields?

What a post-Saddam government will need is capital -- lots of it -- for exploration and new production from its currently undeveloped fields. And that is where a new regime is likely to turn to international oil companies. But which ones?

It will have no shortage of suitors. Once things are clear, companies will be eager to get in line to sign contracts with a country that has 11 percent of the world's proven reserves. (Saudi Arabia, the highest, has 25 percent; the United States, just two.) But they will be very cautious when it comes to spending billions of dollars until they are pretty confident about security and stability -- and "stability" applies not only to the new regime but also to the contracts they sign.

Companies from several countries -- Russia, France, Italy and China, among others -- already hold contracts, but they are not operational because of U.N. sanctions still in place. Companies without contracts, including the American ones, will have to assess how much time and trouble they are willing to bear. For the oil companies, the big issue, wherever they operate in the world, is how to manage the range of risks -- from the geological to the political. In response, they often work together in consortia and partnerships. This approach hedges their bets, spreads their investments and diversifies their portfolios.

And that's likely to be the outcome for Iraq. The companies with existing contracts will likely team up with other companies -- American, European, Canadian, Australian, Japanese -- to form new partnerships. Such partnerships would meet the crucial need of a new Iraqi government, which would want to strengthen its position by dealing with a diversified political portfolio of companies representing many different nationalities.

THOUGHTS ON UNITED AIRLINES: Other than the link to my earlier commentary on airline bailouts, here are some more thoughts about United's bankruptcy. Ownership, and in the case of United it's employee stock ownership (ESOP), is something that we economists tout as an important tool in aligning the incentives of employees, management, and customers. However, ownership is neither necessary nor sufficient to ensure that alignment in the real world, unlike in the sterilized blackboard universe of graduate mechanism design classes. As a counterexample look at Southwest Airlines (of course): one of the most unionized airlines in the industry, without an ESOP ownership structure, and they continue to be profitable and have happy employees, management and customers.

Now let me put on my management consultant hat: if you implement that ownership through an ESOP but you don't think about the mission and the culture of the organization, and how each and every employee contributes to that mission, then you're going to get power struggles and sniping and conflict and, voila, a lack of incentive alignment among employees, management and customers. That's where Southwest's business model can inform the failures of United's business model: Southwest engages every single employee in the mission of getting customers where they want, cheaply and efficiently, and having fun in the process. United's employees have not been enrolled in the mission sufficiently to get incentive alignment and to keep customers happy.

I stopped flying United in July, swearing never to set foot on a United flight unless absolutely necessary, because they don't deliver on the mission of customer service coupled with safety that should be paramount in the industry.

This article by Robert Hall at the Hoover Institution (with thanks to John Irons for the link) does a very nice job of pointing out the difference between the old airline model and the new airline model. It's a complex comparison, involving bailouts, hub-and-spoke versus point-to-point route structures, and other issues, but he is making the important point: airline business models need to evolve.

WOMEN BLOGGERS: This New York Times article from Thanksgiving lists me as a woman blogger who writes about economics and energy deregulation. I appreciate that Lisa Guernsey, the author, also noted my link to Bonne Marie Burns' Chicknits weblog! Gee whiz. I hope Megan McArdle does show up on Ms. magazine's master list of women bloggers, although she thinks she might not, because her analyses are clear and thoughtful.

In all honesty, I don't think about gender a lot, I just do my things.

LIBERTY, SOCIALIZED HEALTH COSTS, AND SECONDHAND SMOKE: Sasha Volokh has a great post today on the speciousness of the fiscal responsibility arguments for the paternalistic banning of smoking in public places. His links to Kip Viscusi's risk assessment work are also very useful.

And while I'm at it, United Airlines' impending bankruptcy prompts me to post a link to this commentary on airline bailout proposals that I wrote in November 2001. An excerpt:

But at its core, the reason why we should not bail out either the airlines or the insurance industry is simple – we benefit from encouraging dynamic, entrepreneurial behavior in our business leaders. Bailouts circumvent that relationship and undermine the incentives of companies to manage their risks. Put another way, companies that survive such disasters are stronger and deliver better goods and services more efficiently and cost-effectively to their customers. Companies that do not survive fail because they cannot turn the lemons of disaster into lemonade. And they should fail.

FERC'S STANDARD MARKET DESIGN OP-ED: On Tuesday an op-ed I wrote about the value to getting over the California crisis and pursuing some standardized market rules ran in the Orange County Register; the text of it is here. While I do not support the approach FERC is following in its current proposal, as Brian Mannix and I argued in our analysis of the FERC Standard Market Design proposal, some standardization of market rules will reduce transaction costs and enable markets to arise that will be valuable.

Virginia Postrel's Economic Scene column in today's New York Times highlights some of the arguments in Joel Mokyr's new book, The Gifts of Athena. Virginia's treatment captures the book's focus on transmission and distribution of "useful knowledge" as the source of the dramatic shift toward increasing economic performance in the 19th century. It's a wonderful column. She's also got additional thoughts posted on her website.

SO THE OIL WORKERS WENT ALONG WITH IT: I didn't have an expectation one way or the other about whether or not the Venezuelan oil workers would go along with the general strike this week, but it's day two and they are largely on strike, according to this Bloomberg news article. I jumped the gun in April, declaring Chavez a goner, so I'm going to keep my mouth shut this time.

OIL, PATRIOTISM, AND TERRORISM: What a fascinating juxtaposition of articles on oil and politics today. In the National Review online, Doug Bandow writes about the political aspects of the US-Saudi relationship and the oil supply. Bandow points out some of the most important economic aspects of technological change, economic dynamism in the oil industry, and a chillier relationship with Saudi Arabia:

Further, some 300 billion barrels of unrecovered oil, ten times our proven reserves and more than known Saudi resources, lie in beds of shale under the United States. They are not counted, however, because they are not currently worth developing. But as prices rise and new techniques are developed, they may become economically recoverable. Moreover, energy companies are looking for new oil deposits around the world, including the Caspian Basin, Russia, South China Sea, and West Africa. Estimates of as-yet-undiscovered potential recoverable oil range from one trillion to six trillion barrels. At current consumption rates the Energy Information Administration estimates that we have enough oil for another 230 years and "unconventional" sources, such as shale, that could last 580 years. And even these figures are based on existing prices and technologies. Higher prices would stimulate exploration, as well as production of alternative fuels and conservation, reducing oil consumption.

In short, an unfriendly Saudi Arabia might hurt America's pocketbook; it would not threaten America's survival. (In contrast, control of the Gulf by a hegemonic rival — notably the Soviet Union — would pose a significantly different, and greater, security threat, but that prospect disappeared with the end of the Cold War.) Thus, it is worth risking Saudi displeasure in order to try to starve al Qaeda of funds.

In a similar but less economically focused vein, Robert Redford writes today in the Los Angeles Times (registration required) that the strongest show of patriotism would be to wean ourselves from fossil fuels. While Redford recommends more intrusive government regulation to bring that weaning about than I condone, he makes the point that the higher are the perceived costs of our use of fossil fuels, the more value we see in substituting alternatives for them. Bandow's argument points out how market processes enable us to learn and discover what we think the real costs are of buying Persian Gulf oil, and how technological change and human creativity create alternatives.

ELECTRICITY TRANSMISSION AND RATES OF TECHNOLOGICAL DIFFUSION: According to this article, American Superconductor has achieved an important milestone in producing transmission wires from high temperature superconductor material: "American Superconductor Corporation announced it has achieved reproducible results in electrical performance over 10-meter lengths of its second generation, coated conductor composite, high temperature superconductor (HTS) wires that are significantly ahead of the goals set by the U.S. Department of Energy (DOE)."

This is pretty cool, because HTS wires reduce resistance, and therefore line loss, that limits the economic feasibility of long-distance electricity transmission. Overcoming line loss currently (no pun intended) requires augmenting the current at specific distances along its path, which is costly, so reducing line loss would reduce transmission costs. The problem has been, though, that HTS need to be kept cool (don't let that word "high" fool you; it's high on the Kelvin scale!), which typically means having to sheath HTS wires in liquid nitrogen. Such sheathing is not cheap, and could also increase maintenance costs. So the economic tradeoff here is between the value from reducing line loss and the incremental cost of the HTS wires, including sheathing, maintenance, and higher cost of the wires. Particularly in areas of the country that have transmission system congestion (such as Path 15 going into the Bay Area in California), reducing line loss can have sufficient value to encourage investment in HTS wires to replace or supplement old wires.

As the linked article indicates, the next step in American Superconductor's effort is to scale it up -- take the small-scale reproducible results they have achieved and produce the HTS wires in large numbers. This step is crucial to HTS wires becoming more economically competitive with existing wires technology -- economies of scale in production that lowers average cost will help make HTS wires a more attractive investment option across a wider range of congestion conditions. This tradeoff also means that continued research into cheaper, impervious and low-maintenance sheathing technology will be important in making HTS wires economically competitive with the older wires technology that has line loss. And the old technologies have not been standing still; standard AC transmission wires have improved substantially over the past century, and can now transmit over longer distances with less line loss than even two decades ago.

An example from economic history closely parallels this pattern, and is very informative about technology diffusion. The double-acting steam engine became technologically and economically viable by the late 1780s, largely courtesy of James Watt's ingeneuity, his business partner Matthew Boulton's business acumen, and local blacksmith/engineer John Wilkinson's ability to build to Watt's designs and low tolerances to achieve strong pressure differentials. However, the steam engine did not immediately displace its competing, older technology, the water wheel; in fact the steam engine did not become dominant in powering British industrial manufacturing until the 1840s.

There are two primary reasons for this slow diffusion of a "clearly superior" technology. First, James Watt had a dread fear of explosions, so all of his engines were low-pressure. Watt was also vigorous in defending his patents on his "bundled suite" of steam engine inventions, so inventors who were coming up with novel, high-pressure steam engines that could get more power for a given amount of fuel could not commercialize their inventions until Watt's patents expired. These high-pressure engines, which increased the value of the steam engine relative to other technologies, really came onto the market starting in the late 1820s. Second, the water wheel continued to improve through the early 19th century, with shaped blades to capture as much energy as possible from the water, as well as other inventions (interesting note: this water wheel with curved blades, called the Poncelet water wheel, was the technological precursor of the water and steam turbines invented in the late 19th century and used to generate electricity today). Even if the steam engine was a "clearly superior" technology, it's the incremental or marginal value of the technology that will determine whether or not it gets adopted at a particular time. The marginal value of the superior technology increased slowly from the 1780s until its ultimate dominance in the 1840s.

That's a 60-year diffusion cycle, even for the most dramatic human invention since moveable type/the printing press. The punch line of this story for the HTS wires story is that diffusion is likely to be slower the more that traditional wires technologies continue to improve. Countless examples exist where older technologies hold on for longer than is expected, and this marginal value of the superior technology is the key factor in that pace of diffusion.

Okay, it's snowing here, and my Weather Pixie is still not wearing any gloves! At some point I'd like to program her to wear jaunty, hand-knitted gloves, scarf and hat when the temp goes below 40F. In my copious free time ...

MORE PRESS ON THE GIFTS OF ATHENA: In his most recent Economic Principals column, David Warsh recommends both Joel Mokyr's The Gifts of Athena and Nathan Rosenberg's Schumpeter and the Endogeneity of Technology as good reads on the economics and history of technological change. Warsh's comments on The Gifts of Athena (and its author) are insightful and to the point, and reinforce my previous musings on this book in this 30 October post.