It appears we’ve all survived another daylight savings event.  We’re all a little bit more tired, but we now get the advantage of having plenty of early evening sun.  While many of us do appreciate this, I plan to discuss the economic argument for why we use daylight savings – and what this means for a broad range of other issues that involve government.

Modern daylight savings time was a New Zealand invention, or at least that is what Wikipedia tells me.   The fellow came up with the idea given the advantages he felt he had from shift work, and the concept of enjoying another hour of sun after work seemed like a grand one.  This point was drilled home to me on Monday when a series of people, including my mother, told me that it was very nice having extra light at night on Sunday.

Furthermore, I have heard a multitude of other arguments for daylight savings including lower power consumption and fewer traffic fatalities (although the evidence on both of these is sketchy at best).

However, none of these provide an “economic argument” in my view.  An economic argument is not just a naïve description of how people feel in different situations – it asks about people’s behaviour and choice in a given situation.  An economist would ask, “if people really like the extra hour of sunlight, why didn’t they just starting getting up an hour earlier and going to bed an hour earlier?”

Co-ordination games:  How do we co-ordinate ourselves?

In this case the answer to the economists query is fairly straightforward.  While people would like to get up an hour earlier and go to bed an hour later, their work hours are unchanged, the bus timetable is the same, and the shops are open the same hours.  As a result, the benefit they receive from getting up an hour earlier is swamped by the fact that they will still be working at the same time (and so will not get an extra hour of sun at the end of the day) and other services will be unavailable that early in the morning.

As an individual, we rely greatly on our ability to co-ordinate our actions with other people.  As a result, if everyone else does not change the time on their clocks and does not shift their hours of work then no individual has the incentive to change their behaviour. 

This implies that, even if every single individual wanted to have an extra hour of daylight at the end of the day, no single individual has the incentive to change what they are doing – as a result we have a co-ordination failure.

The solution to such a failure is to somehow have everyone publically commit that they will move their clocks forward an hour at a point in time.  And this is where the government, as a representative of all the people in society, can help to co-ordinate what is going on.  By announcing and advertising daylight savings time, each individual in society now expects the clocks to go back an hour.  As a result, it is in each individual and households best interest to put their clocks forward an hour.  In this case, we end up in a situation where, if we all want the extra sunlight hour at the end of the day, we are all better off.

Other types of co-ordination

There are a number of circumstances where these types of co-ordination ‘games’ exist – and institutions (including government) often have a role in helping to guide expectations to help improve outcomes. 

One example of this sort of co-ordination is transportation timetables, with bus, train, and airline timetables being co-ordinated in such a way that someone could use all three services on a trip.  By co-ordinating their actions, the values of the bus, train, and airplane ride all increase – as they are complements to each other.  In this situation, private firms have the incentive to co-ordinate their actions to solve this co-ordination failure, indicating that we do not always need to call on government to help sort these things out.

The Productivity Commission is also thinking about similar sorts of social occurrences when they discuss ideas such as “hubs” and the benefits of “hi-tech industries” in much of their recent work.

There is another recent policy issue in the media that seemingly dwarfs co-ordinating bus routes and having hubs of boat building activity – global warming.

The recent IPCC report on global warming indicated that there is an increased certainty that it is man-made actions driving changes in the environment, and that on the current path there is an uncomfortable chance of a cataclysmic global warming event in the next 50 years.

Taking their authority as given, we might also view this as a co-ordination problem.  However, it is very different from the one we discussed above.

Global warming and co-ordination

In the prior examples, individuals and households had the incentive to co-ordinated their actions.  Problems occurred only when these actions were based on expectations that people would move towards an inferior outcome.

In the case of global warming however, it is costly for an individual country to reduce its carbon emissions – but the benefit of them doing so accrues to a larger global community.   As a result, this is a very different type of situation.  This isn’t a failure of expectations, for example if New Zealand noticed that all other countries were cutting back carbon emissions we would not have an incentive to do it ourselves – we would free-ride on the actions of other nations.

If many countries face the same incentives that New Zealand does, this is termed a “prisoner’s dilemma”.

In the global warming example, individual countries pay the full cost of cutting emissions but only receive part of the benefit – as a result, they do not have the incentive to cut emissions by the amount that the IPCC believes is required.  As a result, there is a ‘positive externality’ from cutting carbon emissions and we need a way to subsidise it.

The Kyoto Protocol attempted to do this, by charging countries for having carbon emissions beyond a certain benchmark level.  In this case, a nation lowers its liability by cutting emissions.  However, with no follow up scheme to the Kyoto Protocol and many large nations uninvolved, this attempt to help co-ordinate actions between nations has been an abject failure.

In the same way that we have a national government helping to co-ordinate action across a country when there is a problem, we likely need a global agency with the teeth to enforce actions on sovereign governments.  The Kyoto Protocol, and its non-existent follow up, did not have this ability – and as a result, it was unable to help us all co-ordinate our actions to deal with global warming.

Of course, just like with a national government, and with any large institution, we want the actions of these bodies to be restricted – so that they can help us co-ordinate, but not undermine individuals and households ability to make choices for themselves.  It is given this justifiable concern that nations are likely to hold back, and as a result any co-ordinated action to deal with global warming appears unlikely.

Conclusion

Here we have concentrated on examples where government, and other institutions, can help individual’s co-ordinate their actions – helping improve outcomes.

This is a great way to view, and understand, government policy.  However, we always need to keep in mind that individuals are co-ordinating themselves, by making choices given the incentives they face.  Prices, which are determined by the relative supply and demand of products, offer the main device for co-ordination in our society.

To understand the role of government, we need to think about how the use of prices, and co-ordination move generally, may fail – and in what ways government can sensibly recognise this and lend a hand.

The hard thing with global warming is that individual governments do not have an incentive to solve this problem, which was the original justification for the Kyoto Protocol.  With that failing there is a genuinely concerning policy issue here, which the global community does not appear to be able or willing to face.