Friday, December 29, 2006

"Fair Trade Oil?"

I just finished reading The Prize by Daniel Yergin. Fascinating (but long!) history of the past 150 years or so, as told through the lens of the oil industry. It starts out talking just about the industry itself, which occasionally starts bumping up against events of the day, but shortly into the 20th century an interesting inversion takes place whereby the significant events (such as the world wars) can be described in terms of oil itself as oil takes on strategic national significance for many nations of the world. He's not trying to claim that the wars or economic policy were specifically about oil (as many people claim about the current Iraq war) or anything radical like that; rather, he describes how the need for reliable oil supplies shaped strategies and policies and international relations.

Anyhow, I didn't intend this post as a book report; however, it did get me thinking.

Many nations have been "blessed" with rich deposits of oil. But this is a decidedly mixed blessing. Most nations with oil reserves have used that oil to help provide income for the country (in most oil-exporting nations, oil is nationalized) - and for most of these nations that income is (or was) badly needed. However with startlingly few exceptions, most of these nations have also not progressed very far at all, because the wealth stays captured within the government and the well-connected; on the whole, many of these governments are quite repressive, and even the ones that aren't rarely reinvest this money wisely in a way that diversifies the economy, creates a vibrant middle class, increases education, decreases poverty, or otherwise makes life better and more secure for everyone in the country.

My personal opinion is that this results from the fact that the income is "free" - once the well is in the ground, you don't have to do incremental work to gain incremental income. And if the government is getting a stream of income that is reliable, there isn't much incentive to improve its efficiency or reduce corruption. And worse, if that stream of income is coming from oil importing countries rather than from its citizens, then it doesn't need to be terribly responsive to its own citizens, and in fact has a strong incentive to ignore them in their effort to satisfy the foreign customer. A classic economic game of getting what you reward - frankly, nobody should be surprised.

I look at the coffee industry. Economic realities have incentives aligned for some pretty nasty environmental and labor practices in the industry. As a result, over the past few years we've seen a pretty strong rise in "fair trade" coffee, whereby producers and retailers commit to sustainable agricultural processes and fair wages to farmers, and label the resulting product as such, and consumers "agree" to pay a little bit more for the resulting coffee. Heck, even Starbucks, the Wal-Mart of the coffee world (yeah, I'm just saying that; I like Starbucks just fine) has embraced the concept, which says to me that the concept must be economically viable.

So I ask myself this: if its possible to alter the basic economic equation in coffee to account and correct for the intangible social consequences, is it idealistic/naive to suggest that perhaps we find a way to do the same with oil? We could add a "fair trade" certification for oil that comes from countries who:
  • Have certifiably open/transparent government processes that are free of any meaningful degree of corruption
  • Respect human rights - for example, if they want to drill a well in your yard, they actually pay you for your property
  • Respect their environment
  • Plow petroleum profits back into proper investment in their citizenry
  • Work to diversify their economies in order that people outside of the oil industry can have opportunities, and so that the country is not so wholly dependent on oil.
Obviously, you can't very well go in and make Iran or Saudi Arabia or Nigeria adhere to guidelines such as these - particularly when their ruling classes are making so much money from oil sales. However, unlike coffee where the fair-trade rules increase the cost of the resulting product, in this case I don't believe that adhering to these guidelines needs to increase the cost of the oil at all. As such, you can turn the economics around: raise taxes on all oil by some amount, and then eliminate taxes for "fair trade" oil. You could even do this in a revenue-neutral way, making by making the total tax rise fluctuate based on the amount that gets reduced for the fair-trade exemption. That way, you're not hurting the economy or paying more in total for oil, but you are introducing price discrimination into the equation to favor behavior we approve of over that which we do not. Classic economics: if you want a different outcome, change the incentives equation.

Doing so would sure be a whole lot cheaper and easier than going to war over the point.

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