Milton Friedman’s Energy Insights

Today we celebrate the 107^th anniversary of the birth of economist Milton Friedman (1912–2006). Primarily known for his work on monetary economics, Friedman was a keen observer of energy economics and public policy whose insight remains valid today.

Early on, Friedman understood how major energy regulation was sponsored by an industry segment. “Few U.S. industries sing the praises of free enterprise more loudly than the oil industry,” he stated in 1967. “Yet few industries rely so heavily on special government favors.”

Friedman was referring to oil-demand proration in the major oil states (excepting California), as well as federal oil-import limits, two complementary programs that governed from the 1930s through the 1960s. It was this political bias that contributed to the backlash against oil and natural gas in the 1970s that still haunts the industry today.

The Troubled 1970s

Friedman’s harsh reaction to President Richard Nixon’s price freeze of August 1971 is particularly important for the energy debate. It was Nixon’s surprise intervention, not the Arab oil embargo, which created the oil shortages and a decade of spiraling interventionism.

“I regret exceedingly that he decided to impose a ninety-day freeze on prices and wages,” Friedman wrote at the time. “That is one of those ‘very plausible schemes … with very pleasing commencements, [that] have often shameful and lamentable conclusions.’”

Indeed, what began as a temporary program was extended several times and codified in legislation for the oil industry in 1973. The result was predictable. In Free to Choose (1979: p. 14), Milton and Rose Friedman explained how the dreaded gasoline lines were not the result of foreign manipulation but domestic regulation:

The long gasoline lines that suddenly emerged in 1974 after the OPEC oil embargo … and again in the spring and summer of 1979 after the revolution in Iran, [came after] a sharp disturbance in the supply of crude oil from abroad. But that did not lead to gasoline lines in Germany or Japan, which are wholly dependent on imported oil. It led to long gasoline lines in the United States, … for one reason and one reason only: because legislation, administered by a government agency, did not permit the price system to function.

The solution was simple (p. 219):

There is one simple way to end the energy crisis and gasoline shortages tomorrow—and we mean tomorrow and not six months from now, nor six years from now. Eliminate all controls on the prices of crude oil and other petroleum products.

That “tomorrow” came in 1981 to end the energy crisis. Better yet, the negative effects of oil price and allocation controls were so pronounced that neither political party has advocated such intervention ever since.

Fallacy of Mineral Depletion

Friedman explained how a surplus of regulation caused a shortage of oil and gas. He did not buy the running-out-of-resources argument, elegantly dressed as Harold Hotelling’s fixity/depletion model, as did so many economists–even those at the hitherto resource-optimistic Resources for the Future.

In his 1978 essay, “The Energy Crisis: A Humane Solution,” Friedman wrote that oil, gas, and coal are “producible … at more or less constant or indeed declining cost because of the improvements in the technology of drilling and exploring and so on.” This affirmed Julian Simon’s concept of the “ultimate resource,” human ingenuity. (Friedman, in fact, felt that Simon’s empirical work on human improvement should have won a Nobel Prize in economics.)

Friedman also rejected the notion that minerals were so different as to create an “energy” or “natural resources” economics. “I do not believe there is a natural resource economics, he wrote to this author. “I believe there is good economics and bad economics.”

Global Warming

Near the end of his long career, Friedman weighed in on the global warming debate with a blurb for Thomas Gale Moore’s book for the Cato Institute, Climate of Fear: Why We Shouldn’t Worry About Global Warming (1999). Friedman opined:

This encyclopedic and even-handed survey of the evidence of global warming is a welcome corrective to the raging hysteria about the alleged dangers of global warming. Moore demonstrates conclusively that global warming is more likely to benefit than to harm the general public.

Global greening from the CO₂ fertilization effect is settled science, quite unlike high climate-sensitivity estimates generated by climate models that speculate about real-world feedback effects. Modest warming (global lukewarming), in fact, is positive in economic terms.

“Infant” Industries

Protectionism has long been a rallying cry for government intervention to advantage certain firms and industries over competitors—all at the expense of consumers. “The infant industry argument is a smokescreen,” noted the Friedmans in Free to Choose (pp. 5–6). “The so-called infants never grow up.”

Think about wind power in reference to the federal Renewable Energy Production Tax Credit (PTC), first established in 1992. Now 27 years old, the PTC has been extended 11 times: 1999, 2002, 2004, 2005, 2006, 2008, 2009, 2013, 2014, 2015, and 2018. (The wind industry today is lobbying for a 12th extension.) What Friedman called “the tyranny of the status quo” also applies to the ethanol mandate, which was enacted in 2005 and stubbornly remains although its original rationale, reducing oil imports, is no longer of pressing concern.

Conclusion

Today, cronyism marks the nuclear, wind, solar, ethanol, electric vehicle, and carbon-capture industries. Climate policies such as a carbon tax ignore the benefits side of the cost/benefit equation. Thankfully, however, price controls and depletionist thinking have all but disappeared, confirming Milton Friedman’s wisdom from many decades ago.

Milton Friedman’s timeless energy insights should be appreciated today—and not forgotten.

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