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August 28, 2005

More-with-less Innovation: Prices make good things happen!

Are gasoline prices too high? No they are not. They are exactly what they should be in order to make good things happen.

We’re starting to hear the claim that gas prices are at an all-time high. Not so. Adjusted for inflation, gas prices in most places are still below what they were at their all-time-high in the early 1980s. See here.

We’re also starting to hear calls for a new national energy policy, including more regulations, taxes, and mandatory conservation, just as we did in the 70s and 80s. Not necessary. Prices will solve the problem now just as they helped to solve the problem then.

  • Do you want more energy conservation? Higher gasoline prices will give you that. When gasoline costs more, people will naturally use less of it. They will conserve, without Congress having to do a thing.

  • Do you hate SUV’s? No need to outlaw them. Higher gasoline prices will punish people who drive SUVs and reward those who own more efficient vehicles. This will cause fewer people to buy SUVs, sending a signal to auto manufacturers to change their production priorities.

  • Do you like hybrids? Higher gasoline prices will lead car makers to produce more of them, resulting in economies-of-scale and lower prices for hybrid customers.

  • Do you want more oil exploration? Higher prices will send a signal that such exploration could be profitable. This is what happened 30 years ago when every drop of oil in the world was supposed to be gone by now. The doomsayers were wrong then because prices made them wrong. Not only is all of the oil not gone, but we actually have more of it today than we had then. A temporary period of higher prices is what made that possible, by encouraging both conservation and exploration. Higher prices in the late 70s and early 80s are part of why we’ve had such low prices (adjusted for inflation) until recently.

  • Do you hate oil exploration and prefer alternative energy sources? Higher gasoline prices will give you that too. Alternative energy technologies have made little headway because they’ve been expensive compared to fossil fuels. But as fossil fuel prices rise alternative sources will gain a cost advantage, more resources will be invested in them spurring innovation, and the cost of alternatives will drop relative to fossil fuels. Prices are what will give us effective alternative energy sources, not coercive legislation.

  • Do you worry about our dependence on oil from the turbulent Middle East? Don’t worry. Much of this dependence is a myth. There is plenty of oil available from other places, and higher prices in the short term will make this energy increasingly accessible to us at a lower cost in the future.

    Prices make good things possible by providing incentives (signals!) for conservation, exploration, and innovation. Innovation is the most important part of this. Governments, politicians, and bureaucrats do not innovate. They merely legislate and dictate and freeze things in place. The voluntary sector is where innovation occurs, and where prices are used to determine what kind of innovation is needed.

    James K. Glassman makes a couple of important factual observations related to energy use and how innovation has enabled us to constantly do more-with-less


    “First, the U.S. has been making dramatically more efficient use of energy for the past 30 years. Each American uses roughly the same amount of energy he used in 1973, but the nation’s economic output has risen 74 percent in real terms.”

    “Second, the Rule of Bigness. The Bureau of Economic Analysis reports that in 1984, U.S. consumers spent about $95 billion on petroleum products; last year, we spent $203 billion. But in 1984, consumer income was $2.3 trillion; in 2004, it was $6.7 trillion. So, very simply, we’re spending twice as much on oil, but our incomes are three times greater. Also, with much higher incomes, we meet our basic needs more easily, so we have the cash to pay the higher oil prices.”

    The bottom line: Don’t worry. Be happy. Prices send signals that spur innovation, allowing us to do more-and-more with less-and-less. Prices make good things happen.

    You can read more cogent commentary about this issue here and here.

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