Speaker 1: Hello, and welcome to another episode of the Odd Lots podcast.
Speaker 1: I'm Joe Wisntal and I'm Tracy Alloway. Tracy, we've talked
Speaker 1: a lot, obviously about the big energy crunch in Europe
Speaker 1: this year, in Germany in particular, but we haven't really
Speaker 1: talked so much about, you know, what governments are trying
Speaker 1: to do to ameliorate some of the pain, the specific
Speaker 1: policy options, right, and you know, I think there seems
Speaker 1: to be an acceptance or widespread view that at least
Speaker 1: not everyone can be directly exposed to sort of the
Speaker 1: market rate of energy. It's just too much, it's too
Speaker 1: damaging to a lot of households, particularly lower income households.
Speaker 1: But even like some of the surges, and just like
Speaker 1: costs of heating for this year, I mean extraordinary increasing
Speaker 1: costs expected absolutely all the oh. I was talking to
Speaker 1: my mother recently and she's over in Austria and she says,
Speaker 1: because the weather has been warmer, she hasn't had to
Speaker 1: turn up the heat just yet. So the weather is
Speaker 1: bailing some people out so far, but that's not going
Speaker 1: to be the case all winter. And as you mentioned,
Speaker 1: for a lot of low income households, this is just
Speaker 1: an extraordinary burden to be buried. The weather really doesn't
Speaker 1: matter a lot. It's interesting, you know. Actually I think
Speaker 1: there's the Dutch spot rates briefly when negative last month,
Speaker 1: but it doesn't necessarily mean the crisis is over. It's
Speaker 1: just a function of like how much supply or how
Speaker 1: much storage capacity there is right now and some warmer weather.
Speaker 1: And you can have these situations, and you particularly get
Speaker 1: them with gas or other forms of energy that can't
Speaker 1: be stored indefinitely. One day you could have negative prices
Speaker 1: but still be facing a very big potential shortfall and
Speaker 1: higher costs for everyone exactly. And one of the policy
Speaker 1: options that is on the table and looks like it's
Speaker 1: currently making its way through various corners of the moment,
Speaker 1: it might even be decided by the time that we
Speaker 1: actually release this episode. We're recording this on November one.
Speaker 1: It is a price cap on gas, or in German
Speaker 1: a gas price bruns, which I believe translates to my
Speaker 1: German is terrible, especially for someone who's half Austrian. But
Speaker 1: I think it's like gas price breaks or gas price stopic.
Speaker 1: This is the great thing about German policy. Every time
Speaker 1: there's a new decision, you get a new word to
Speaker 1: play around with. It's also a new word that is
Speaker 1: kind of almost English sounding, and then something else, and
Speaker 1: so you can like sort of figure it out anyway,
Speaker 1: a little bit of a sidetrack. But yes, there is
Speaker 1: this proposal in Germany to subsidize a significant chunk of
Speaker 1: gas consumption for households and businesses. But obviously that raises
Speaker 1: all sorts of questions, and you know, in particular, if
Speaker 1: there's a fundamental shortage of the underlying commodity, if there's
Speaker 1: a fundamental scarcity of the molecules. You know, it's one
Speaker 1: thing to say, Okay, we're going to subsidize the price,
Speaker 1: but that does necessarily solve the problem of yes, but
Speaker 1: do we have adequate gas? Right, And of course, this
Speaker 1: was one of the big criticisms of the Biden administration's
Speaker 1: decision to release oil from these strategic petroleum reserve. It
Speaker 1: was that you are in effect subsidizing the price and
Speaker 1: you're not actually bringing down demand at a time when
Speaker 1: the commodity is more scarce. So this is an interesting
Speaker 1: alternative policy here. So the other aspect of this, which
Speaker 1: is really interesting is that economists as a class seem
Speaker 1: to really hate price controls when it comes to inflation,
Speaker 1: when it comes to high prices, you know, expand supply
Speaker 1: side capacity, you know, let the market do its thing.
Speaker 1: Let let high prices be the cure for high prices,
Speaker 1: or let the central bank try to reduce demand to
Speaker 1: bring things into balance. When the subject of price controls
Speaker 1: comes up, economists get like extremely the majority of them
Speaker 1: get extremely anxious. And yet there is this political reality
Speaker 1: that on some level, it appears governments in Europe and
Speaker 1: I guess in the US have some role to lay
Speaker 1: in ameliorating severe acute price shocks. People have strong opinions
Speaker 1: when it comes to price controls, but as you mentioned,
Speaker 1: there is a history of politicians actually using them even
Speaker 1: here in the US, which is something that came up
Speaker 1: very briefly on that previous episode with Josh Younger. All Right,
Speaker 1: so we're going to be diving more into a potential
Speaker 1: plan in Germany, specifically to deal with the high price
Speaker 1: of gas this winter, and we're gonna be speaking with someone, actually,
Speaker 1: we're going to be speaking to a past guest and
Speaker 1: someone who knows a lot about this topic and is
Speaker 1: directly involved in this. We're gonna be speaking to Isabella Vabor.
Speaker 1: She's a professor of economics at UMS, a fellow at
Speaker 1: the Burgruin Institute, and she has been a member of
Speaker 1: the Independent Commission for Natural Gas and Heating in Germany
Speaker 1: working on this proposal. So, Isabella, thank you so much
Speaker 1: for coming back on the podcast. Thanks so much for
Speaker 1: having me. You've written about I'm gonna just jump into
Speaker 1: this right away. I remember you wrote a column that
Speaker 1: I think I thought it was pretty inoffensive last year
Speaker 1: in The Guardian about well, maybe we should talk more
Speaker 1: about price controls as a solution to inflation, and like
Speaker 1: the economics, you know, the sort of like the very
Speaker 1: serious economist commentators, they just totally flipped out that's right.
Speaker 1: I guess that's not a question. And I don't know,
Speaker 1: I'm like jumping right into like when you know, I
Speaker 1: get really messy online, but I'm just I'm setting that up.
Speaker 1: I'm just getting it right out. There's an empathetic observation.
Speaker 1: Was an empathetic observation, Thank you very much. Empathy in
Speaker 1: this regard is much wack up. But why do I mean,
Speaker 1: what is it about price controls that causes people? Causes
Speaker 1: sort of like the mainstream economic commentary to really flip out,
Speaker 1: And why do you think, like fundamentally like people should
Speaker 1: be more open to them as a tool to address inflation.
Speaker 1: What are they all getting wrong? Yeah, maybe it's a
Speaker 1: good idea to kind of take a step back and
Speaker 1: try to summarize what I right to say in that
Speaker 1: back in December, Basically, the way I saw the inflation
Speaker 1: debate going was that there was a confrontation between team Transitory,
Speaker 1: who was kind of hoping for inflation to be gone
Speaker 1: sooner or later and therefore there was not much urgency
Speaker 1: to act, and kind of the team let's raise interest
Speaker 1: rates as fast as possible. And I was basically asking
Speaker 1: suggesting that there was a third possibility, which is, instead
Speaker 1: of like kind of risking to push down the whole
Speaker 1: economy by raising rates or sitting there invading and for
Speaker 1: hoping that inflation would go away, that there is a
Speaker 1: history of surgical interventions trying to kind of stabilize the
Speaker 1: prices that drive inflation in the first paid place. So
Speaker 1: I was trying to kind of invoke this history to
Speaker 1: bring back this this perspective of saying, well, if there
Speaker 1: are specific prices that are shooting up in extreme ways,
Speaker 1: maybe there's something that we can do about these specific
Speaker 1: prices without trying to recommend some sort of wartime full
Speaker 1: that at, a price control policy or any anything like it.
Speaker 1: Do your question why it triggers economists so much. I
Speaker 1: think it's basically the case that in most economic models,
Speaker 1: if your prices aren't moving freely anymore, your model no
Speaker 1: longer works. So in some sense, the free movement of
Speaker 1: prices is really at the core of most of economic
Speaker 1: modeling and thinking, and therefore it kind of is is
Speaker 1: is a total trigger point for economists who I used
Speaker 1: to that as the main mechanism of coordinating an economy.
Speaker 1: Many ways, economists think about the market as the movement
Speaker 1: of prices. If you think of the Machellian cross, then
Speaker 1: what matters there is the price adjustment, right, So the
Speaker 1: market in some sense is the price adjustment. You don't
Speaker 1: even know like how big the firms are on the
Speaker 1: Machellian cross, or how how small or how many and
Speaker 1: so on, but you do know how the price is moving.
Speaker 1: So can you talk to us a little bit more
Speaker 1: about specific situations where price controls might make some sense?
Speaker 1: Because you brought up the sort of wartime analogy, And
Speaker 1: I think when a lot of people hear price control
Speaker 1: maybe not a lot of people, but some people when
Speaker 1: they hear price controls will think back to, for instance,
Speaker 1: World War two and the price controls that were implemented
Speaker 1: there as part of America's wartime effort. And that was
Speaker 1: for a very specific situation. But how would that apply
Speaker 1: to our current economic environment or what is it that
Speaker 1: you're seeing in the current economic environment where these would
Speaker 1: make some sense. So the historical analogy that I used
Speaker 1: in this piece was in fact the transition from a
Speaker 1: war economy to a post war economy, which was a
Speaker 1: process that I had studied for my book How China
Speaker 1: Escapes Struck Therapy, because the analogy of a transition from
Speaker 1: a planned war economy to a market post war economy
Speaker 1: was very important in the China these context. Now in
Speaker 1: late one, as you might remember, the Council of Economic
Speaker 1: Advice is actually invoked the same transition as kind of
Speaker 1: the closest analogy for understanding the inflation that occurred in
Speaker 1: the context of the transition to a post shutdown economy.
Speaker 1: So what happens in such a moment of transition is
Speaker 1: that you have a very rapid structural shift where you
Speaker 1: want firms to very quickly change their production behavior, which
Speaker 1: creates short run scarcities and which creates a price shock.
Speaker 1: So in the context of the transition from a war
Speaker 1: to a post war economy, you can think of factories
Speaker 1: that first produce tanks and now as opposed to produce cars,
Speaker 1: and then there's an interim period in which basically this
Speaker 1: adjustment is happening, and if demand is sufficiently strong, then
Speaker 1: this kind of bottleneck resides in an increase in prices
Speaker 1: in ways in which these prices would not root up
Speaker 1: if you didn't have this in elasticity of supply. At
Speaker 1: the time, in the transition from a war to a
Speaker 1: postwar economy, America's most established and most famous, even some
Speaker 1: of the most conservative economies were arguing that would be
Speaker 1: useful to maintain selective price controls in the places where
Speaker 1: supply was very in elastic and demand relatively strong in
Speaker 1: order to prevent these prices from shooting up, which would
Speaker 1: then reset in a situation where all the purchasing power
Speaker 1: would be absorbed by these price hikes, which would then
Speaker 1: in the next round result in possibly a very sharp downturn.
Speaker 1: So you would have a short inflationary boom followed by
Speaker 1: a sharp deflationary downtown turn, which had in fact happened
Speaker 1: after the First World War. So therefore this kind of
Speaker 1: stood as a warning at this post war moment in
Speaker 1: actual history, the controls were pulled pretty much overnight, and
Speaker 1: there was a very sharp increase in inflation that coincided
Speaker 1: with a very sharp increase in profits, and then a
Speaker 1: short downturn which was however, by far not as bad
Speaker 1: as after the First World War. And there are different
Speaker 1: reasons that we can discuss. One of them might be
Speaker 1: the war in Korea. But so this is the argument
Speaker 1: that basically, if you have bottomnecks and you have prices
Speaker 1: shooting up because supply can simply not adjust in the
Speaker 1: in this immediate run to demand because of these physical
Speaker 1: challenges of of changing production structures, then a price civilization
Speaker 1: could be useful not only to prevent inflation, but also
Speaker 1: to prevent such sharp boom bust cycles. When you sort
Speaker 1: of kicked off this whole breujaha at the end of
Speaker 1: last year, you know, war was kind of an analogy
Speaker 1: or for thinking about historical patterns, And then not long afterwards,
Speaker 1: there's the start of an actual war in Europe, and
Speaker 1: we've seen, of course it's come down a bit, but
Speaker 1: we saw this massive price shock for energy over the
Speaker 1: summer in Europe and including in Germany. Before we get
Speaker 1: to your work on this commission, how would you just
Speaker 1: sort of summarize the challenge or the crisis in Germany,
Speaker 1: Like if someone was asking you what happened, why did
Speaker 1: gas prices surge so much? Or what are the current
Speaker 1: economic conditions of Europe, how do you sort of diagnose
Speaker 1: the problem? I mean, first of all, we have to
Speaker 1: see that already in late one gas prices in Europe
Speaker 1: were very high, right in Germany in particular, they were
Speaker 1: so high that, as a matter of fact, the policy
Speaker 1: proposal that I wrote with a colleagues sebas Anderlin came
Speaker 1: out still before the war because already that and we
Speaker 1: were estimating that given the enormous increase in wholesale gas prices,
Speaker 1: that would translate into around two percent increase in inflation
Speaker 1: if it was handed down into retail gas prices. So
Speaker 1: even before the war, there was a gas price crisis,
Speaker 1: if you want so, But of course it has become
Speaker 1: much much more severe now. To answer your question, I
Speaker 1: think that basically, gas is a good that is so
Speaker 1: essential that all consumers that happen to be heating with
Speaker 1: gas cannot do without gas. And at the same time,
Speaker 1: firms that have technologies that rely on gas have to
Speaker 1: some degree the possibility to do fewer switch, but that
Speaker 1: is relatively limited or at least not complete. So that again,
Speaker 1: also in the case of firms, you have a really
Speaker 1: great dependence on this specific source of energy. So if
Speaker 1: the price shoots up, you basically have a pretty inelastic
Speaker 1: demand response, not completely in elastic, but relatively inelastic up
Speaker 1: to a point. So this kind of creates a very
Speaker 1: dramatic situation where on the household side, as the representatives
Speaker 1: of landlords we're pointing out as a matter of fact,
Speaker 1: we have a situation where they are warning of like
Speaker 1: kind of nass private insolvency because people can simply not
Speaker 1: pay their gas bits if the government wasn't going to
Speaker 1: step in. And on the part of firms and industries,
Speaker 1: Germany is of course an economy that is hugely reliant
Speaker 1: on industrial production. For a rich country, it's around twenty
Speaker 1: three percent of of GDP that comes from from industry
Speaker 1: and manufacturing, so that is that is pretty big, like
Speaker 1: given given that it's a rich that is a rich economy,
Speaker 1: So this um the whole industrial part of the economy
Speaker 1: under enormous stress if there is both a looming danger
Speaker 1: of actual physical gas strategies and a price shock. So,
Speaker 1: since you mentioned corporate profit taking, which is a hot
Speaker 1: topic in many places around the world, you know in
Speaker 1: Europe and in the US as well, can you walk
Speaker 1: us through the practical differences between a price cap on
Speaker 1: something versus something like a windfall tax on profits, Like
Speaker 1: what are the different effects that those would have on
Speaker 1: the economy. Maybe, if I may, I would like to
Speaker 1: first briefly comment on why I think profits can go
Speaker 1: up in unusual ways in in in the kind of
Speaker 1: situations that we are talking about. So if there is
Speaker 1: a bottomneck that typically affects a whole sector or at
Speaker 1: least the whole line of production, which means that other
Speaker 1: competitors in the market, where that all other competitors have
Speaker 1: the same kind of issues and keeping their supply chain running.
Speaker 1: So if you are Honda and I'm Toyota, we both
Speaker 1: know that we have a computer chip shortage and that
Speaker 1: this means that we can only produce whatever at whatever
Speaker 1: level we can produce. So in this kind of situation,
Speaker 1: if I was to increase my prices, you could not
Speaker 1: easily take away my market share in the ways in
Speaker 1: which you could um in normal times. Right in normal times,
Speaker 1: if I was to increase my prices, then you would say, oh, wonderful. Um,
Speaker 1: now they are going to lose part of their market
Speaker 1: here because their stuff is getting more expensive. So let's
Speaker 1: expand our production. But that kind of easy expansion of
Speaker 1: production is not possible because of the bottom neck that
Speaker 1: affects all players in the market equally. So in that
Speaker 1: kind of situation, then both companies that are direct competitors
Speaker 1: can increase prices in base that would be very harmful
Speaker 1: to their position in the market in normal times. So
Speaker 1: this means that prices suddenly can be hiked in ways
Speaker 1: where they are no longer controlled by competition, in the
Speaker 1: ways in which we would expect them to be now.
Speaker 1: The difference between a price cap and a windfall profit taxes.
Speaker 1: I think that the price cap basically says that a
Speaker 1: firm can no longer charge a price that goes above
Speaker 1: a certain level or that represents an increase by X
Speaker 1: over a certain historical date. Whereas for the windfall profit,
Speaker 1: you would need to look at what are the profits
Speaker 1: that the firm actually made, and then you would want
Speaker 1: to kind of tax that back. Right, So, um, in
Speaker 1: the first case, you kind of don't let the windfall
Speaker 1: profit to emerge on the market, and in the second case,
Speaker 1: you would like first have the windfall profits happen and
Speaker 1: then you want to tax them away. And then you
Speaker 1: of course hope that firms, being aware of wind for
Speaker 1: profit taxes, would kind of anticipate it these been for
Speaker 1: profit taxes, and therefore would not hike prices quite in
Speaker 1: the way as they would without it in for profit
Speaker 1: tax But I'm actually thinking of these two policies as
Speaker 1: being complementary along the value chain. So I mean, clearly,
Speaker 1: we are not gonna impose price caps um in in
Speaker 1: very many areas of the economy, if simply because we
Speaker 1: don't even have the bureaucratic capacity to do that in
Speaker 1: a reasonable way. But in Europe, and as by now
Speaker 1: also fellow economists like Paul Brookman and Jose stick Let's
Speaker 1: have been arguing the energy crisis is so severe that
Speaker 1: various forms of price caps in the energy sector. Of
Speaker 1: course on the table now if you do some form
Speaker 1: of price cap, and we can talk about the details
Speaker 1: of the German case later. I suppose if you do
Speaker 1: some form of price cap on let's say gas, ideally
Speaker 1: you want that this reduction and cost for firms is
Speaker 1: somehow translated into a reduction or at least stabilization of
Speaker 1: the prices or the things that these firms are producing.
Speaker 1: Right So here then there could be a situation where
Speaker 1: an energy price cap could be complementary with e wind
Speaker 1: for profit tax in the sense that which wouldn't even
Speaker 1: really be a tax, because the price caps that we
Speaker 1: are talking about in Europe tend to be fiscal price
Speaker 1: caps in the sense that the government is actually paying
Speaker 1: to bring down the price. And you could add a
Speaker 1: conditionality of saying, if the firm that God subsidized price,
Speaker 1: that God like a subsidy that enabled it to have
Speaker 1: access to add at a lower price, should not in
Speaker 1: the next round really win for profits. If it does,
Speaker 1: it would have to pay back part of the subsidy
Speaker 1: or the whole subsidy that it received. So in that
Speaker 1: kind of scenario you would have actually complementarity between a
Speaker 1: price gap on energy as an extremely important input and
Speaker 1: a conditionality on for the access to that subsidized gas
Speaker 1: that would follow event fall tax kind of logic. So
Speaker 1: let's get to the German situation specifically. What don't you
Speaker 1: just tell us though, what was or what I guess
Speaker 1: it just wrapped up? What was the Independent Commission for
Speaker 1: Natural Gas and Heating? What was it tasked to do?
Speaker 1: Who tested? How did you? How did you become a
Speaker 1: member of this group? Why do you just sort of
Speaker 1: before we get even into the details too much, why
Speaker 1: don't you just sort of talk about your experience how
Speaker 1: it came about. So basically, I have been arguing that
Speaker 1: we have to think about a form of nonlinear pricing
Speaker 1: for natural gas since earlier this year. Um so I've
Speaker 1: been kind of in conversation with economists in Germany on
Speaker 1: this issue for a while, and the government had been
Speaker 1: trying out all sorts of policies in the last months,
Speaker 1: including transfers and so I mean like transfers of money
Speaker 1: and thereious other forms of policies in the current crisis.
Speaker 1: But eventually they realized that the gap, the pressure that
Speaker 1: comes from the gas price shock is so intense that
Speaker 1: they had to do something that directly tackled this price shock.
Speaker 1: So they set up a commission in late September that
Speaker 1: has been called upon by the Chances Office in the
Speaker 1: Ministry of Economic Affairs, and we received the mandate to
Speaker 1: develop a policy that would basically be this gas price break,
Speaker 1: which which is this funny German word that you already
Speaker 1: mentioned earlier, So basically literal German is sometimes I really
Speaker 1: do put the brakes on gas prices. Makes sense. There's
Speaker 1: also this strange fashion around using break for so many
Speaker 1: things like that that break and so on. But anyways,
Speaker 1: that's that's a different topic. So um, so they set
Speaker 1: up this commission there were six other economists, myself and
Speaker 1: various representatives from industry, from utility companies, unions, environmental groups
Speaker 1: like a charity organization and so on, to kind of
Speaker 1: be an independent commission to try to come up with
Speaker 1: a policy package that could kind of square the circle
Speaker 1: of having at the same time a crisis of actual
Speaker 1: physical gas shotage and a crisis of inflation and skyrocketing
Speaker 1: energy prices on top of what looks more and more
Speaker 1: like a recession. So one of the criticisms of the
Speaker 1: proposal has been that maybe this will keep even more
Speaker 1: pressure on utility suppliers who are already pretty strained. I
Speaker 1: think Uniper, for instance, I think it's on course to
Speaker 1: be nationalized by the end of the year. Or but
Speaker 1: would you say to that criticism, like what is the
Speaker 1: actual impact that price caps would have on energy suppliers
Speaker 1: or gas suppliers. Yeah, interesting questions. So we had four
Speaker 1: representatives of utility companies on the Commission and one of
Speaker 1: the elements of the policy package is actually to provide
Speaker 1: more liquidity to these companies. And the way that the
Speaker 1: gas price breaks an impossible word in English, um we
Speaker 1: work is that basically, the utility providers they get funds
Speaker 1: from the government which will allow them to give a
Speaker 1: rebate on gas. It's four households and firms, and it's
Speaker 1: it's a non linear pricing scheme with the savings bonus.
Speaker 1: And I'm happy to explain the technically details. Feel free
Speaker 1: to our Our listeners love technical details, so feel free
Speaker 1: to dive into that. Yeah. So, the the basic philosophy
Speaker 1: is to say, there's one part of gas demand that
Speaker 1: is pretty in elastic, and there's another part of gas
Speaker 1: ement that is considerably more elastic. So therefore there's a
Speaker 1: quota that everybody gets with a price that is lower
Speaker 1: than the market price, and that quota for the household
Speaker 1: sector and all the firms that kind of have a
Speaker 1: gas account like you and I, is such that this
Speaker 1: quota is based on eighty percent of your estimated use
Speaker 1: and for these you will pay twelve cents, and if
Speaker 1: you use more than these eight percent, then you will
Speaker 1: have to pay whatever your retail price is on your
Speaker 1: gas contract. Now, if you managed to use less than
Speaker 1: eighty percent, there's actually this additional feature of this policy,
Speaker 1: which is that you will still have your rebate. So
Speaker 1: this means that if you use less your the price
Speaker 1: will actually fall because your rebate may be larger proportional
Speaker 1: um to your usage. So this is to say that
Speaker 1: there's a savings bonus if you if you use less
Speaker 1: than So that's the policy on the kind of what
Speaker 1: we call the SLP customers, so those with like a
Speaker 1: non industrial gas account, and on the side of industry,
Speaker 1: it's kind of a similar scheme, but the price would
Speaker 1: be seventh cents because it's like taxes and so on
Speaker 1: are not accounted for on the industry side, and the
Speaker 1: quota would be seventy instead of eight. And then there
Speaker 1: has been like a lot of debate whether industry firms
Speaker 1: can or cannot trade the gas that they get at
Speaker 1: this discounted price in the market. And this has probably
Speaker 1: been one of the most hotly debated issues and still
Speaker 1: is one of the most hotly debated issues because from
Speaker 1: a pure like let's have price signals rain all the
Speaker 1: way through a perspective, I will be desirable to have
Speaker 1: firms trade gas in the market from the perspective of
Speaker 1: kind of price stability and also not encouraging firms to
Speaker 1: kind of switch from producing whatever they are producing too
Speaker 1: getting cheap gas and selling it on the market and
Speaker 1: kind of using this as their business model perspective, There's
Speaker 1: like trading of subsidized gas on the market is not
Speaker 1: a very desirable feature. The way that the Commission report
Speaker 1: stands as of now is that it actually does allow
Speaker 1: for industrial firms to sell the subsidized gas on the market.
Speaker 1: I'm I'm a bit skeptical about this as a kind
Speaker 1: of general rule, I can see a use for having
Speaker 1: a reverse auction or or a model where basically the
Speaker 1: state sets up a marketplace to buy back some part
Speaker 1: of this gas in a defined volume, but as a
Speaker 1: kind of a general policy see for all industrial firms
Speaker 1: in Germany to have this like basically a minimum margin
Speaker 1: that is defined by whatever a firm can make by
Speaker 1: selling the subsidized gas on the market. I think this
Speaker 1: sets somewhat problematic incentives because it seems likely that this
Speaker 1: will be um in particular attractive for firms that are
Speaker 1: at the beginning of the value chain and that are
Speaker 1: very gas intensive and have relatively low margins, which could
Speaker 1: then create all sorts of cascading effects like if let's say,
Speaker 1: producers of of of basic methods or basic chemical components
Speaker 1: decided to buy and sell gas instead, then this will
Speaker 1: of course create or not necessarily create, but make it
Speaker 1: shortage more severe, which could then have all sorts of
Speaker 1: ripple effects along the supply chain. So on my mind,
Speaker 1: it would be more desirable to have a policy that
Speaker 1: kind of spreads the burden of saving gas more really right,
Speaker 1: So in the theory, the fear of allowing sort of
Speaker 1: like almost like a cap and trade system, but for
Speaker 1: the gas. Subsidized gas is an industry that's low margin,
Speaker 1: rather than producing their price, rather than producing the goods
Speaker 1: that other players on the value chain might need, might
Speaker 1: just sell at a substantial markup there discounted gas. Can
Speaker 1: you just talk a little bit more? I mean, look,
Speaker 1: obviously the issue with something like dealing with high gas
Speaker 1: prices is yes, the price is high, but there's also
Speaker 1: you know, the whole issue is there's a scarcity of
Speaker 1: the commodity itself. Talk to a little bit more about
Speaker 1: the rationing effect of this plan, like how does it
Speaker 1: sort of create an incentive to perhaps curtail use or
Speaker 1: discourage use in less economic ways, and then talk a
Speaker 1: little bit more about the redistributive effects, because you know,
Speaker 1: in terms of subsidizing households, etcetera, it seems sort of
Speaker 1: clear that, Okay, you want to sort of make sure
Speaker 1: that somehow hold don't freeze, that the poorest households in
Speaker 1: particular can afford to keep the heat on over the winter.
Speaker 1: But at the same time, if you subsidize everyone, you
Speaker 1: still run into the same capacity shortfall. Yeah. Absolutely, First
Speaker 1: of all, there is still a strong savings incentive bid
Speaker 1: into this scheme. Right above, you have the extremely high
Speaker 1: market prices. Twelve cents is still almost twice as much
Speaker 1: as people would have been paying in twenty one, and
Speaker 1: price one we're already very high so to have cents
Speaker 1: should still have a lot of savings incentives. But on
Speaker 1: top of it, we have this savings bonus scheme which
Speaker 1: ensures that from a like price incentive perspective, there's still
Speaker 1: a lot of incentive to save gas. Then we have
Speaker 1: like kind of come up with a number of complementary
Speaker 1: measures like information campaigns, like advisory services and how households
Speaker 1: can actually save gas and so on. But there is
Speaker 1: a big question of distribution here because of course, I
Speaker 1: mean you use the word ration, So what we are
Speaker 1: doing here in sometimes it's rationing price capped gas, right,
Speaker 1: because everybody gets a quota of price capped gas, which
Speaker 1: is obviously desirable because it's cheaper. So it's not a
Speaker 1: physical ration, but it's a kind of a ration for
Speaker 1: an entitlement to price capped gas. Now, the rule that
Speaker 1: we are using is based on the consumption estimate that
Speaker 1: every household or firm would have based on their utility
Speaker 1: providers estimates. This, of course has the big difficulty from
Speaker 1: the perspective of what are the distribution outcomes of this policy.
Speaker 1: That if you used very little gas, you would get
Speaker 1: a small quota, and if you used a lot you
Speaker 1: would get a big quota, right, because obviously eight percent
Speaker 1: of a small estimate is much less than eighty percent
Speaker 1: of a big gess that and your estimate would be
Speaker 1: somehow based on your past consumption and what kind of
Speaker 1: house you're living in and so on. Now, this is
Speaker 1: an issue especially for the households that are using like
Speaker 1: huge amounts of energy, which can be very rich, households
Speaker 1: that have facilities like pools and so on. So one
Speaker 1: of the demands that the actually are debating right now
Speaker 1: is whether there could be kind of an upperbound to
Speaker 1: this eight percent rule, so that you get but not
Speaker 1: more than let's say twenty th kid what hours or
Speaker 1: or something like that. This then goes into the whole
Speaker 1: question of data availability on the part of utility providers,
Speaker 1: which I'm happy to go into detail if this is
Speaker 1: of interest. But basically, the situation is in Germany that
Speaker 1: a utility provider does not know whether behind any utility
Speaker 1: bill is like one huge villa or an apartment building
Speaker 1: with one fifty flats, or a business. So therefore, in
Speaker 1: order to have such an upper bound, we would need
Speaker 1: a better data base, which I think would be desirable
Speaker 1: in any case, because if we are talking about blooming
Speaker 1: gas shortages. It would be good to know whether there's
Speaker 1: one hundred households or five households behind any one gas account.
Speaker 1: But yeah, so there is this whole big question of
Speaker 1: what are the distributional implications. I think one way of
Speaker 1: chatifying what we are doing is to say this policy
Speaker 1: is taking off the like extreme spikes in gas prices,
Speaker 1: So it's not like trying to do social policy or
Speaker 1: transfers or whatever, but it's like taking off the spikes
Speaker 1: in the price of gas, which is the result of
Speaker 1: the war in Ukraine. So therefore it doesn't really make
Speaker 1: sense that whoever happens to have a gas account is
Speaker 1: the one who is paying for the cost of war,
Speaker 1: compared to someone who happens to have an oil heating
Speaker 1: system or or whatever else they might have. So this
Speaker 1: is I think, one way of kind of chastifying this approach,
Speaker 1: But of course there are still issues of distribution. We
Speaker 1: are also recommending for the kind of implicit subsidy that
Speaker 1: comes from having access to this price kept gas to
Speaker 1: be taxed, so that part of this distributional issue is
Speaker 1: kind of elevated by then the taxing whatever the rebate
Speaker 1: is in the next round. We have also set up
Speaker 1: kind of or we have recommended to set up a
Speaker 1: fund for households in need where they could get additional
Speaker 1: support with their heating bits. So one question I had
Speaker 1: is if you impose price controls, what what is the
Speaker 1: trigger or the necessary conditions for the price controls to
Speaker 1: revert or be taken off for gas price um gas
Speaker 1: pedals to come into effect. I don't know, like when
Speaker 1: you hit the gas on gas prices again. Yeah, maybe
Speaker 1: I should say that there is a controversy amongst the
Speaker 1: economists whether we should be calling this a price control
Speaker 1: a price cap, and kind of this whole language of
Speaker 1: gas price break is a way of circumventing that discussion
Speaker 1: because at the end of the day, that this policy
Speaker 1: is not a traditional price control. The utility providers are
Speaker 1: not being simply ordered to charge lower prices, but there
Speaker 1: asked to charge lower prices and are being paid in
Speaker 1: return rates. So it's kind of a fiscally funded price
Speaker 1: cap if this makes sense. And then there are all
Speaker 1: these other features that I've talked about. But back to
Speaker 1: your question. So, the way that we have set the
Speaker 1: prices in the gas price break is such that if
Speaker 1: you look at the average price that would emerge from
Speaker 1: this at twelve cents and twenty percent at an average
Speaker 1: of around twenty cents retail price, you get a price
Speaker 1: of around fourteen cents, which is the price that, based
Speaker 1: on the best gases that we had in the room,
Speaker 1: would be the kind of new normal once this gas
Speaker 1: crisis is no longer a severe as it is right now.
Speaker 1: So the idea is that we are not kind of
Speaker 1: stabilizing prices back to a pre crisis level, but we
Speaker 1: are stabilizing prices on a level that is consistent with
Speaker 1: what we expect the market prices to be in about
Speaker 1: two years time. This means that, at least in theory,
Speaker 1: if these guesses aren't completely off, which is of course
Speaker 1: totally possible, firms that would be taking decisions based on
Speaker 1: these prices that they have now should also be viable
Speaker 1: in the future because similar kind of market prices should
Speaker 1: emerge in the future. Households should not experience another price
Speaker 1: shock when the gas price break stops. Stepping on the
Speaker 1: brake on gas prices. We're laboring this analogy a bit
Speaker 1: too much. Aren't the break of the break? You know?
Speaker 1: I just want to I guess the devil's advocate for
Speaker 1: a second. But when we talk about price cabs, or
Speaker 1: we talk about our ceilings or breaks or windfall profit taxes,
Speaker 1: you know, for ten years, the energy business was not
Speaker 1: a particularly good business to be in, and a lot
Speaker 1: of firms did not have much pricing power. The stocks
Speaker 1: did not do too well, poor profits. There are a
Speaker 1: lot of gas companies that went out of business, or
Speaker 1: exploration companies and so forth. And then, of course in
Speaker 1: the middle of COVID and then in this period the
Speaker 1: fortunes turned around. But part of me wonder as well,
Speaker 1: it's like, okay, the shareholders of these companies suffered for
Speaker 1: you know, underperformed for years and years, and then finally
Speaker 1: there's a surge, and then the surge happens in prices.
Speaker 1: The windfall profit comes after like ten years or longer,
Speaker 1: and suddenly politicians say we're gonna tax it away. And
Speaker 1: so I kind of feel when I look at this,
Speaker 1: it's like, well, there's, yes, this year or maybe over
Speaker 1: the last two years, there's been these extraordinary profits, but
Speaker 1: it's not taking into account the entire long cycle, which
Speaker 1: saw many years of underperformance. Why shouldn't the shareholders are
Speaker 1: the investors in these industries be compensated for the sort
Speaker 1: of other part of the goal, so to speak. Why
Speaker 1: do they only get the profits clipped and not the
Speaker 1: downside clip? I mean, in the German case, there's none
Speaker 1: of that happening, right because all the I mean the
Speaker 1: price cap is financed by public money. So therefore, basically
Speaker 1: it wouldn't affect profits on the part of utility providers
Speaker 1: and name anyway. But of course we also don't have
Speaker 1: a lot of local sources of possive fuels, right, So
Speaker 1: therefore this whole debate that's happening in other countries of like,
Speaker 1: basically taxing the fossil fuel industry to then finance fiscal
Speaker 1: price caps is not really an option here. But to
Speaker 1: go back to your question, I kind of have a
Speaker 1: suspicion which I would be interested, in fact, to hear
Speaker 1: what you think about if this is a possibility. But um,
Speaker 1: let's let me put it differently. I mean, one way
Speaker 1: of thinking about the price hikes that we have seen
Speaker 1: in the fossil fuel industry is to say that a
Speaker 1: lot of oil production capacity went off the grid during
Speaker 1: the pandemic, where you kind of had, of course, this
Speaker 1: collapse in demand which allowed companies to downsize their production
Speaker 1: in ways in which they would not downsize their production
Speaker 1: if there wasn't such a gigantic demand shock right. And
Speaker 1: then after the pandemic, yes, some production has returned to
Speaker 1: the grid, but poss a few companies, based on their
Speaker 1: earning scores, have been quite explicit that they are taking
Speaker 1: a discipline approach to investment, and what they saw happening
Speaker 1: is basically that prices skyrocketed and costs were down because
Speaker 1: they had shut down the most costly production facilities. Obviously,
Speaker 1: if you have to choose which production line to shut down,
Speaker 1: you would shut down the one that is most costly
Speaker 1: and such at least profitable. Right. This then means that
Speaker 1: you have a situation where this constraint supply actually suddenly
Speaker 1: becomes extraordinarily profitable. And this is of course a problem
Speaker 1: because I mean, we would expect, based on echon one
Speaker 1: oh one, that if prices go up, supply would go up, right,
Speaker 1: But now we have a situation where actually prices go
Speaker 1: up and supply doesn't really go up by as much.
Speaker 1: Because firms see that prices go up, profits go up,
Speaker 1: and that's actually great because they are making record profits
Speaker 1: that are in some cases higher than they have ever
Speaker 1: been in the long history of these companies, right, So
Speaker 1: why would anyone choose to produce more to bring the
Speaker 1: prices down into earn less. So that is kind of
Speaker 1: the conundrum that we find ourselves, and I think, yeah,
Speaker 1: that definitely sounds like an accurate characterization of the existing conundrum.
Speaker 1: Isabelle of Favor, It's so fascinating to talk to you
Speaker 1: because it's so it's such a treat to talk to
Speaker 1: someone who's such a deep background in theory, but then
Speaker 1: also in the position of working on putting these things,
Speaker 1: making the policy. Yeah, and so hearing you talk about
Speaker 1: the sort of like practical realities of how do you
Speaker 1: ameliorate the pain while you know, having some rationing effect
Speaker 1: and so forth, really fascinating. Really appreciate you coming back
Speaker 1: on the show. Thanks so much for having me. This
Speaker 1: is a lot of fun. There's a lot of fun.
Speaker 1: I really appreciate you taking the time, and I'm looking
Speaker 1: forward to having this one coming out. Thanks Isabella. That
Speaker 1: was great, Tracy, I really liked that episode. I mean,
Speaker 1: I guess sort of for the reason we're just talking about,
Speaker 1: because it is rare for something that's like this sort
Speaker 1: of theoretical theoretical topic. Economists often, you know, they're often
Speaker 1: do theory and not too much practice, and then it's like, okay,
Speaker 1: let's put it into practice. Let's that's what we can do. Yeah.
Speaker 1: I was also kind of just thinking about how quickly
Speaker 1: things have changed between the time that Isabella published that
Speaker 1: op ed and now it seems like things that were
Speaker 1: one unthinkable are certainly being thought through and maybe even implemented.
Speaker 1: There's so many funny little details that she talked about.
Speaker 1: You know. The the idea of like making a market
Speaker 1: in the subsidized gas is very funny to me because
Speaker 1: you know, it's like a, right, here's the idea. We
Speaker 1: wanted to just sort of put this ceiling of some
Speaker 1: sort on gas. But of course, economists, you know, I
Speaker 1: think there's a certain type of economistry. His first thought
Speaker 1: is like, great, let's have an auction mechanism for the
Speaker 1: subsidized gas. It immediately goes back to the market mechanism
Speaker 1: for you know, somewhere somewhere is like proposing a Dutch auction. Yeah, exactly.
Speaker 1: It's immediately it's like, well, should should firms be forced
Speaker 1: to actually use the subsidized gas. What if they can
Speaker 1: sell up more profitably to another firm that needs more
Speaker 1: subsidized gas because their margins are higher. It's so funny,
Speaker 1: how like it always like sort of like well like
Speaker 1: seep into these debates. Yeah. The other thing I thought
Speaker 1: was interesting was just the discussion of historical price controls
Speaker 1: and also why you can see prices spike during a
Speaker 1: supply constrained environment. And I know, you know, intuitively it
Speaker 1: seems kind of obvious, but this idea that suddenly everyone
Speaker 1: has pricing power at the same time because of scarcity
Speaker 1: and the thing that they're producing. Like again, I guess
Speaker 1: it's obvious, but it kind of crystallizes that point for me. Yeah, absolutely,
Speaker 1: you know. And also look, and I was really interested
Speaker 1: to hear about how there's still has to be some
Speaker 1: rationing mechanism otherwise what are we doing here? Because the
Speaker 1: issue is there is a fundamental as you said, there's
Speaker 1: a fundamental scarcity of the the natural gas molecules themselves.
Speaker 1: So how do you get that balance where yes, you're
Speaker 1: humiliorating some of the pain, particularly for smaller households, etcetera,
Speaker 1: but also trying to sort of like recreate some sort
Speaker 1: of scarcity mechanism, and it was interesting even that she
Speaker 1: was talking about a utility level data, which is people
Speaker 1: get really anxious about that, and it's come up in
Speaker 1: some of our conversations with Jigger Shaw, for example, about well,
Speaker 1: what if we just had more data about use? But
Speaker 1: then people get really anxious about privacy, so they're just
Speaker 1: sort of all things kind of crazy when you think
Speaker 1: about it, that we're trying to solve these problems without
Speaker 1: necessarily having a lot of granular data or as much
Speaker 1: granular data as we could, right, because if we had
Speaker 1: the data, you think, Okay, well, yeah, like we're not.
Speaker 1: We're not going to give the subsidy to people with pools,
Speaker 1: right because pools aren't as essential. Heating a pool isn't
Speaker 1: as essential as cooking, or heating a pool isn't as
Speaker 1: essential as keeping a house warm. But you know, we
Speaker 1: don't have that data. Shall we leave it there? Let's
Speaker 1: leave it there. Okay. This has been another episode of
Speaker 1: the All Thoughts Podcast. I'm Tracy Alloway. You can follow
Speaker 1: me on Twitter at Tracy Alloway and I'm Joe Wisn't Though.
Speaker 1: You can follow me on Twitter at the Stalwart. Follow
Speaker 1: our guest Isabella Vabor. She's at Isabella M. Vabor. Follow
Speaker 1: our producers Dash Bennett at dashbot and Kermen Rodriguez at
Speaker 1: Carmen Arman, and follow all of our podcasts at Bloomberg
Speaker 1: under the handle at podcasts. And for more odd Lots content,
Speaker 1: check out Bloomberg dot com slash odd louds. Tracy and
Speaker 1: I keep a blog there where we talk a lot
Speaker 1: about these same issues. We post our transcripts, and once
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Speaker 1: Bloomberg dot com slash odd Lots. Thanks for listening