Some thoughts on industrial policy and green energy
Going to a green energy system could mean the creation of new kinds of products, new manufacturing processes and a new economy
There has been a growing feeling that something is wrong with the direction America is heading since the turn of the century. The idea that we live in a time of crisis has gained currency in recent times. America in Crisis is an analysis of the political and economic dynamics responsible for this feeling. I use a cyclical concept, not William Strauss and Neil Howe’s generational cycle referred to in the previous link, but Peter Turchin’s secular cycle, with corrections that address some of the issues raised in the cited review. I believe a major driver of society is cultural evolution and talk about it a lot. There is also quite of bit of political, economic and financial discussion as I believe these disciplines are also very important to understanding what is going on. I wrote up my analysis in a book with the same name as this substack. I cover some of the material in the book here, plus new insights as they occur to me. For easier comprehension it may help to read posts in sequential order so that when an older post is referenced there is some familiarity.
This post presents some of my opinions on how we might go about shifting from a civilization dependent on fossil-fuels to one based on green energy sources. I previously presented some of these ideas as examples of new leading sectors that along with a carbon tax could lead stronger economic growth. My objective in that post was to try to show that using government to encourage a shift to green energy is the same sort of thing as what governments did in the past to promote economic growth by encouraging the formation of new industries, or what I call formation of leading sectors. This governmental action is called industrial policy.
Noah Smith lists several examples of industrial policy
1. Government subsidies for specific industries
2. General government support for specific industries that go way beyond subsidies and may not even include subsidies at all
3. Unconventional policies like export subsidies that are meant to help new industries develop, but can be used by a wide array of industries that the government doesn’t choose in advance
4. Tariffs or other protectionist measures
5. Standard measures like R&D, infrastructure, and education that are already part of the developed-country toolkit, but which can be justified by the benefits they bring to certain industries
So when one reads that Edward III of England encouraged the growth of a textile industry in the mid-14th century we should think type 2 industrial policy. The account I read left it at that, but later one I read another historian who noted that Sir John Falstaff (yes he was a real dude) arranged to have Flemish textile manufacturers take advantage of the water power resources on his land to set up shop. In accounts about investigations following the1381 Peasants Revolt, some suspicion was cast on Flemish traders who happened to be in the areas in which unrest first appeared. They were accused of stirring up trouble because they had been in Florence (a hotbed of “socialistic” radicalism) and now were in England. These suspicions were dismissed because the traders had legitimate reasons for being where they were. In other words, despite being outsiders they got a fair hearing. From this I surmise that the “encouragement” provided to the textile industry included protection against discrimination against the Flemish “other” and opening up of aristocratic estates as cost-effective places to operate. The effectiveness of this industrial policy is shown by the nearly fifty-fold increase in textile exports relative to GDP over the next century.
And then there were the more explicit forms of type 5 industrial policy pursued by Prince Henry the Navigator of Portugal and Queen Isabella and King Ferdinand of Spain in the 15th century that played major roles the first three leading sectors depicted in this figure. This industrial policy was a major factor in the rise of Western Civilization as major world civilization rather than a curiosity on the ass-end of Eurasia.
The Western leaders who pursued these early examples of industrial policy were not seeking civilizational greatness, but rather, more parochial concerns. Edward wanted financing for his French war, Henry wanted to find Prester John, and a route to Asia desired by the Genoese merchants who served as Portugal’s bankers. Isabella accepted Columbus’s incorrect belief that the world was only 19000 miles around, making Japan only 3000 miles to the West of the Canary Islands. She felt it worthwhile to take a chance on Columbus’s scheme to find a much shorter route to the East than what the Portuguese were pursuing. Such a shorter route would bring Genoese enterprise and tax revenue to Spain rather than Portugal.
A subtle example of industrial policy often not seen as such was the creation of capitalism. Smith doesn’t even have a category for this because it is entirely cultural rather than economic. But economics is part of culture and follows the same rules of cultural evolution as everything else. With capitalism, a new class of businessman appeared, one who accumulates capital beyond anything from which they could materially benefit because it generated prestige for the businessman. The tax revenue generated through the accumulation process helped advance the monarch’s military aims. In exchange the monarch granted prestige to them, eventually creating a culture of capital accumulation for the sake of capital accumulation among the commercial classes. That is, it created capitalists. Once you have a capitalist commercial class the full range of industrial policy identified by Smith becomes possible. The thing economists study gained an existence separate from the state, the church, or tradition, but remained just another social construct.
So industrial policy has a long history and the objections to it are not whether it achieves state objectives, clearly it does or it would have been abandoned centuries ago. Rather, in a modern republic representing many diverse interest groups, the issue is who gains and who loses. Younger generations show a greater concern about global warming that do older generations, indicating that the political clout of interest groups in favor of reducing greenhouse gas emissions through pursuit of alternatives will only grow. I will assume that at some point political opinion will shift in favor of industrial policy to solve the climate problem and the “killer ap” for solving the problem will be unleashed.
This killer ap is a carbon tax, a type 4 industrial policy. Imagine a gradually rising carbon tax that starts at a trivial level, but over time rises to a point where even natural gas becomes cost prohibitive. This creates an expectation that businesses and consumers will need to adjust to a world where fossil-fuels are increasingly dear, making green electricity and non-fossil fuels increasingly attractive for business and household use for power, transportation, industrial processes, and HVAC. Already a migration from gasoline and diesel to battery-powered cars and light trucks is underway. This trend will mean an increasing demand for electricity that when combined with the need to move away fossil-fuel-derived electricity will mean strong demand for green electric power, much of which will have to come from solar energy.
Solar energy is only produced during daylight. The existence of large amounts of solar electricity coupled with its varying availability by time of day means that electricity can be thought of as two different commodities: daytime power and nighttime power, each with a different intrinsic value. Right now, electric power is seen as a single commodity because generation methods produce continuous power. But with the advent of really large amounts of solar capacity electricity will come in two forms. Daytime power is cheap and abundant because lots of solar electricity is available when the sun is shining, in addition to power from nuclear, wind, and hydropower. Nighttime power is expensive and less available. In the near term, natural gas plants would have to be used to bridge the gap between demand and the supply of green energy available at night. With rising carbon taxes, the cost of gas power will determine the price of nighttime power, which will rise with time luring entrepreneurs to develop cheaper sources for green nighttime power. Batteries are an already existing option, but other approaches are possible. This reality creates an opportunity for entrepreneurs to fill this demand.
Similarly, the amount of solar capacity will determine the amount of daytime power available and its price. Solar power producers will likely not produce all the power they can because doing so will drive down the price. The existence of large amounts of unused solar electricity creates an opportunity for entrepreneurs to find a profitable way to use this cheap resource. One obvious way is to charge batteries with cheap power during the day and release the power at night when it fetches a higher price. But there needs to be other outlets for excess daytime solar electricity or the large solar capacity we need will not be built in the first place. A possible alternate product is hydrogen, which at the minimum can serve as a replacement for natural gas in industrial process like steel and cement making. It might be used as substitute for natural gas in electric power plants, if such plants are still being used when carbon taxes have driven natural gas prices to a point where hydrogen is cheaper. Here is where a type 5 industrial policy can play a role.
Companies using solar electricity to produce hydrogen need an outlet for their product. If they need to package the product for delivery to end users, it will add so much cost to the operation that it might never get underway. So, to make this happen, the government could build a hydrogen pipeline to connect hydrogen producers with hydrogen users. Initially the amount of hydrogen business conducted would be small and the government would have to operate at a loss, buying pipeline hydrogen for more than they sell it for, a type 1 industrial policy. By doing so, hydrogen becomes a cheap green resource for entrepreneurs to find uses for. Hydrogen can be used as a fuel to provide energy and would already be used to provide heat for industrial processes. But it can also be used as a reducing agent in chemical syntheses.
For example, at present there is no carbon-free way to power aircraft. Batteries are unlikely ever to work because the amount of energy required to move a vehicle is proportional to the distance covered and the speed. Since trips by air can be ten times the average speed of automobiles and the length of trips more than ten times the range of an electric car on a single charge, a battery-powered plane will need a around a hundred times the battery storage needed for a car. This does not seem to be a solvable problem. On the other hand, green aviation fuel made from cheap hydrogen and a non-fossil carbon source like biomass would serve as a drop-in replacement for fossil carbon-derived aviation fuel. A problem with biomass is it contains many components that react with hydrogen at different rates and produce different products making the process more expensive. But with modern biotechnology it might be possible to engineer specialized types of biomass that produce a more uniform material for conversion to fuel that yields fewer byproducts. What would make development of such a technology possible is government industrial policy in the form of the carbon tax and the pipeline.
The things I am talking about are technically feasible, though a lot of industrial R&D would be needed, which will happen spontaneously in a world in which fossil fuels are becoming increasingly expensive and cheap hydrogen is readily available at your plant. Doing this requires investment in capital intensive industries and overcoming NIMBYism in order to build a pipeline and green energy infrastructure in general. It won’t happen unless the career success of a lot of corporate managers requires that it does, and then a way steamroll the NIMBYism will be found. Our current SP capitalism discourages investment in real capital since stock buybacks can achieve career success just as well as much investment in stuff like green fuels and chemicals. Overcoming NIMBYism would be much easier if the financial routes to success were blocked, as they were under SC capitalism.
If pro-SC economic policy is enacted or the limitations of SP capitalism can be otherwise overcome, the impetus for fuels, chemicals and products made from fossil-free carbon driven by the carbon tax will create new opportunities for green products. Bacterial fermentation was used to produce acetone and butyl alcohol at large scale in the years between the world wars (the Peoria plant alone had 35 million liters of fermentation capacity). Biological production of chemicals was displaced by lower cost petrochemical processes in the period around WW II. With the rising unsuitability of fossil fuels as a feedstock, biological production processes could come back. A century of progress in biological sciences, particularly genetic engineering, means the sort of processes biotech entrepreneurs develop will be far superior to what came before and the availability of a cheap reducing agent in the form of pipeline hydrogen may help.
This is just one example of the sort of direction technology can take under the impetus of industrial policy. People think of industrial policy as some sort of perturbation from the “normal” economy that we have now. This is wrong. The SP economy we have now is artificial, the result of industrial policy enacted by mostly Republican administrations that encouraged the development of low-capital intensity industries in the US that efficiently extract the national wealth and channel it into financial markets. This helped rebuild the class hierarchy that existed before the New Deal in support of conservative beliefs.
As I argued previously, the Reagan administration’s decision to cut taxes and run big deficits meant that the high NAIRU responsible for 1970’s inflation would continue. This would require that the Fed keep interest rates very high to keep unemployment above NAIRU in order to control inflation. Interest rates at their lowest were two percentage points higher than they are now. As SP culture took hold, money flows out of the economy and into financial markets neutralized the inflationary effect of fiscal deficits, allowing NAIRU to fall around 1990 and interest rates to decline without kickstarting inflation. Figure 1 below shows this. With the lower NAIRU unemployment rates in the 5% range were disinflationary whereas the same unemployment rate had been inflationary in the 1970’s and early 1980’s. Thus, President Clinton was able to see unemployment fall to levels not seen since the 1960’s and modest increases in wage levels without a return of 1970’s inflation.
Figure 1. NAIRU, short term interest rate, unemployment, and inflation 1990-2020
With lower interest rates, capital intensive businesses were no longer at a disadvantage. But by the mid 1990’s SP culture had taken hold and reinvestment of earnings had fallen in half since 1980, with the money going into dividends and stock buybacks instead. The trend towards earnings being directed towards finance and away from real investment, which was encouraged by cuts in income, capital gains and corporate top tax rates, made investment in the lower-capital tech industry more attractive.
The Republican policy of across-the-board tax cuts is industrial policy that favors “virtual” industries like tech and finance that employ a relatively small number of college-educated “symbolic analysts” over physical industries like manufacturing, transportation or construction that employ larger numbers of both working class and professional workers. Republican industrial policy has stripped America of the ability to produce enough arms to sustain a war with a peer competitor in a prolonged conflict. Tech billionaire and Republican presidential candidate Vivek Ramaswamy, as a beneficiary of Republican industrial policy, recognizes this and calls for ceding Ukraine to Russia and Taiwan to China.
Conservative objections to Biden’s industrial policy are not a critique of industrial policy per se, but an objection to policy that benefits the wrong kind of people, working people rather than the investor class, in accordance with the conservative principle that “people are unequal, and so should be treated unequally.”
Solar is not the answer to climate change, or at least not in isolation. Germany found that above 8% of total energy production, added infrastructural and energy storage costs increases the costs of solar per energy unit. Obviously, this figure varies wildly by geographical location. In 2022, California managed to derive 17% of its total energy mix from solar, but this probably represents a push past the position for optimum economic value per unit. We are in the same position in the UK. The general threshold for which the above statement about infrastructure and energy storage is generally more optimist than for solar, with the threshold resting at about 30% of all energy production.
We're at 40% and the government recently agreed to an increase in strike prices for the wind industry of 70%. That's economic suicide and a poor policy decision- the current wind mix for the UK is already causing problems related to the need for infrastructural strengthening to the grid and pumped hydro. In 2022, £215 million was spent switching off energy from offshore wind facilities.
I understand your concerns over the cost of nuclear. Part of the problem stems for a 1st generation versus nth generation conundrum, which bears a close examination at the detail level. With the first generation, hard costs are higher, and in-project design changes account for a significant amount of costs. But conversely, subsequent nth generation plants don't generally tend to be cheaper either. This stems from indirect or soft costs. A detailed breakdown showed that these costs primarily related to home office services, field job supervision, temporary construction facilities and payroll insurance and taxes. Overall, these inflating soft costs accounts for 72% of increased reactor construction costs from 1976 to 1987, a trend which continued until 2017. Safety regulations were another key concern, with costs for containment buildings rising by 118% during the same period- a key consideration that thorium is not the only approach which removed the need for containment at the level needed for past generation reactors. There are numerous systems, many of which could be implemented today.
https://energy.mit.edu/news/building-nuclear-power-plants/
All of those who have a background in both climate science and real world experience in engineering acknowledge the need for base load energy as part of the energy mix. The most optimistic estimate this figure to be around 40%, but this relies heavily on the assumption of extensive energy storage capacity like pumped hydro. A more rational figure is probably somewhere between 50% and 60%, although burning most household waste like the Swedes do, as a form of biomass, would probably bring this figure down a little. And these figures don't anticipate future need for electricity, through the requirement to decarbonise personal vehicles (or switch out to short-range rail).
Funnily enough, I recently looked at hydrogen, but for a different reason. I became increasingly concerned about EV uptake and pricing. In particular, although the costs for a 2 year old car of an identical model were the same for electric versus petrol/gas, the ticket prices from new were wildly divergent- with £6K loss for a petrol car, and a whopping £19K loss for an EV. I chose the VW Golf as my sample car. I saw a real barrier to adoption in this figure, and became increasingly convinced that Toyota were right in their assertion that hydrogen is a more feasible technology. It was the only reason for my assessment. EV materials were also salient, but not quite as much of a consideration.
I conferred with my energy expert. His view was that it wouldn't be possible to refine hydrogen for car use in America given energy prices, for less than $6.11 a gallon. I imagine you're advocating for a solar only approach. That's a problem. LCOE are deeply flawed. Subsidy is an issue, but not the only one. Almost all online sources don't include installation costs for solar in their quoted prices for costs of solar per unit. The most difficult news to digest is that those have gone furthest in switching to renewables have the highest energy costs. I know much of the investment was historical, but it's going to create a backlash amongst consumers and citizens, and to an extent already is- but at nowhere near the levels likely to be seen as many witness the rapid downturn of the German economy as a result of poor energy choices. If anything we in the UK are in a worse position. We eliminated all coal energy production- making Ukraine a single point of failure for our economy, but in all likelihood it will be blamed on Brexit, rather than a combination of natural gas and rising renewable costs.
Please note, most online search engines tend to try and hide the failures of the German energy system. I just spent nearly have a hour trying to wrestle Chat GPT 4 for details on German energy imports in 2023. I finally managed to get my answer by asking for negative exports. Contrary to American narratives Germany energy costs haven't risen because of LPG. Most LPG in Germany is consumed by residential heating. Most of their gas was switched out for coal, and in 2023 Germany nearly doubled its energy imports from its neighbours. The German economy contracted 0.3 in 2023. One of the reasons cited by the FT was rising energy costs.
Shit started going downhill in 80 with Reagan.