Who should pay for fixing externalities?
By Scott Sumner
Bloomberg has an interesting article on Amazon:
For a little while earlier this year, it seemed as though 87-year-old Rosie Thomas and her neighbors in the small town of Gainesville, Va., had beaten Amazon. Virginia’s largest utility, Dominion Energy Inc., had planned to run an aboveground power line straight through a Civil War battlefield—and Thomas’s property—to reach a nearby data center run by an Amazon.com Inc. subsidiary. After three years of petitions and protests in front of the gated data center, skirmishes punctuated by barking dogs and shooing police, Dominion agreed to bury that part of the line along a nearby highway, at an estimated cost of $172 million.
Within a month, however, the utility and state legislators had passed on the cost to Thomas and her fellow Virginians. The state’s House of Delegates approved Dominion’s proposal to raise the money needed for the Amazon line with an as-yet-unannounced monthly fee. “Lord, have mercy,” Thomas said when a neighbor gave her the news this spring in the gravel driveway of her one-story clapboard home, where she was watching the metal disk spin inside the electricity meter on the side of the house. She was already struggling to pay her monthly $170. Leaning forgotten against Thomas’s mailbox was an old protest sign that read “UNPLUG Amazon Extension Cord.”
Ronald Coase‘s research on externalities forced economists to think about concepts such as villains, victims, and fairness in an entirely new way. Thus imagine a pig farm that creates unpleasant odors for nearby suburban residents. Coase would argue that neither the farm nor the homeowners “caused” the problem, rather it was jointly caused by their interaction. There is no such thing as a “fair” solution, only an efficient solution. It doesn’t matter “who was there first”.
In the power line case, we don’t have enough information to know the efficient outcome. All we know is that the actual solution ended up costing $172 million. That solution was efficient if both of these hold true:
1. Amazon’s next best alternative cost more than $172 million.
2. The psychic damage to the public from an ugly power line in this location exceeded $172 million.
In this case, we don’t have enough information to know if either is true.
Coase would say that we should assign property rights in such a way that we are more likely to get an efficient solution. But that’s not easy to do.
If there were only a handful of Virginians adversely impacted by the power line, they could probably negotiate an efficient solution with Amazon. But it’s difficult to ascertain the value of open skies when there are lots of people involved. And Amazon has no incentive to reveal the cost of its next best option (such as moving the building elsewhere) if it thinks someone else will pay for the buried power line.
Just thinking out loud, what about the following solution:
1. Ratepayers vote on whether they’d be willing to pay an extra $172 million in utility bills, if the line ends up being buried.
2. Amazon is told they must also pay the full cost of burying the line.
In that case, you only end up building the line if both conditions are met, value to ratepayers and no good alternative for Amazon. But now you’ve collected $344 million—which is more than what’s needed. What to do with the money? If you give it back to ratepayers, you remove their stake in the decision. I suppose you could give it away in foreign aid, but it’s unlikely that Virginians would agree to that option.
Another option is to try to figure out which value is easier to estimate, the value of clear skies to ratepayers or the cost to Amazon of an alternative solution. If the cost of an alternative to Amazon is obviously greater than $172 million, then bury the line and have ratepayers pick up the cost (assuming ratepayers decide to vote for this option.) If it’s easier to figure out the value of clear skies to ratepayers, and if that value exceeds $172 million, then have Amazon pick up the cost if they decide to stay in this location.
I’m probably missing something here—are there any other solutions? (And don’t say, “Virginians need to stop obsessing over the Civil War.”)
When should externalities lead to government intervention? Generally when one side of the issue is so widely dispersed that they need a single agent to negotiate on their behalf.