Last week, UN Secretary-General Antonio Guterres urged a tax on the “grotesque greed” of oil and gas companies as low-income groups worldwide struggle with rising energy prices. The goodness of Guterres’ intentions is matched only by his ignorance of economic principles: implementing his proposal will lead to further immiseration of the masses.
When I heard about Guterres’ call to action, I immediately suspected he hadn’t studied economics. My beliefs were confirmed, as his Wikipedia article confirmed his engineering background. His proposal is also typical of the mistakes engineers often make when addressing problems involving human decisions rather than natural phenomena. They fail to consider how human actors will modify their behavior in response to a policy change because engineers are used to dealing with buildings, electrical cables, and other entities that do not consciously think.
A simple illustration is the Peltzman effect in economics, named after the celebrated economist Sam Peltzman. When presented with data that people who wear seatbelts are less likely to die in traffic accidents than those who do not, a knee-jerk engineering proposal is to mandate using seatbelts.
However, under certain circumstances, this leads to an attenuated – or even counterproductive – effect on accidents because people forced to wear seatbelts start driving more recklessly. When you increase the insulation on a copper cable or add support to a bridge, you don’t have to worry about the cable or bridge changing its behavior. Humans are far more challenging to manage.
High prices characterize the current energy crisis, but they are the symptom, not the cause. While many factors are at play, the fundamental problem is that the energy supply is failing to keep up with the demand, raising prices. If you were to artificially lower prices, such as via price controls, that wouldn’t solve the supply problem (in fact, it would worsen). Policymakers either need to make demand fall or make supply rise.
Prices were high before the Ukraine war, confirming its limited role in the present crisis. The primary cause was a collapse in energy prices in 2014-2016, which led to a sharp decline in energy investments. Since oil and gas fields’ output naturally decline over time, that means decreasing energy production.
Moreover, strong government rhetoric – supported by legislation – against fossil fuels has made investors even more reluctant to build energy production capacity. Unfortunately, as the Ukraine war has demonstrated, governments put the cart before the horse, failing to ensure enough alternative energy sources before tightening the noose around oil and gas.
Fortunately, markets exhibit some degree of autocorrection: when prices rise for a sustained period, making energy production more lucrative, energy companies restart investments, and capacity begins to expand again, though it will take some time to materialize. Saudi Arabia and the UAE are two countries that have recently announced major oil and gas investments that will bear fruit in the coming years, helping to decrease the incidence of future energy crises.
Guterres’ suggestion will undermine that process, eliminating energy companies’ incentive to restart their investments. Arbitrarily taxing energy companies will perpetuate the excess of demand over supply in the market, keeping energy prices high for much longer.
Notably, economists are not recommending that struggling families suck it up. On the contrary, anyone with a background in economics will recommend that low-income households be given financial support, funded through public debt or rising taxes on high-income households. Crucially, energy companies must not be targeted; otherwise, they will metaphorically lay down their tools, making the energy crunch much worse.
Though he didn’t explicitly say it, Guterres probably blames energy companies for global warming, as many people in the world do, contributing to his harsh words about the sector. These people think that taxes and restrictions on the activities of energy companies are effective tools for tackling climate change, but again, such proposals demonstrate a lack of economic knowledge.
Our environmental problems are fundamentally caused by demand: we like to consume, travel, heat, air condition, and so on, and energy companies are just responding to the incentives we are giving them. Unless the problem of massive energy demand is addressed, there will be no sustainable solution to global warming.
Guterres is a highly accomplished politician, and I am confident that he wants to help those suffering from the current bout of inflation. However, his proposals are misguided, and we have plenty of effective alternatives. As the Indian novelist Vikram Seth once remarked: “God save us from people who mean well.”