Fuel Economy, Energy Efficiency, and Greenhouse Gases

Cass R. Sunstein

What Are We Worried About?

• Consumer savings? Money? Time? (“Internalities” vs. externalities.)

• Greenhouse gas emissions?• Other air pollutants?• Energy security?• Anything else?

Some Facts

• In recent years, many billions of dollars In consumer savings from fuel economy and energy efficiency rules

• They dwarf the benefits in terms of reductions in greenhouse gases etc. (expensive rules!)

• Negotiated process from DOE, with direct final rules (refrigerators, clothes washers, etc.)

• Close consultations with the auto companies (but not a formal negotiation)

Fuel Economy Rules: The Institutional Context

• California• Mass. v. EPA• Department of Transportation and EPA• Economic crisis• Presidential commitment• What to do?• Role of negotiation, role of analysis?

Today’s Major Topics

• Informing consumers• Fuel economy and alternatives–Externalities–Internalities

• Energy efficiency and appliances

Consumers: Informed Choices?

• Goal: Informed consumer choices about economic savings etc.

• Could rely on market!• A standard possibility: just don’t know facts• A behavioral possibility: present bias• A behavioral possibility: shrouded attributes• Recall: Fuel economy for cars; energy efficiency

for refrigerators, clothes washers, clothes driers, and much more

A Problem: The MPG Illusion

In English

• An increase from ten to twenty MPG produces more savings than an increase from twenty to forty MPG.

• An increase from ten to eleven MPG produces savings almost as high as an increase from thirty-four to fifty MPG

• Most people do not get this. Response?

Old Sticker

New Sticker?

New Sticker

Which Would You Choose?

• Letter grade simpler?• Numbers more neutral?• What kind of effect are you looking for?

Knowledge? • A nudge?• Means paternalism? Ends paternalism?

Externality reduction?

Actual New Sticker!

Evaluation of New Label

• What data? (Focus groups vs. experiments)• Too cluttered?• What should be emphasized?• Benefits and costs?• What about externalities? Will it have any

impact?

Three Sets of Externalities

• Standard pollution (eg, particulate matter)• Ghg emissions (scc?)• National security benefits/energy security

benefits?

Preferred Solution (if GHG is the problem)

Why Preferred?

• Perfectly responds to the problem, in principle• By creating the right incentives• If the incentive is too low, increase the tax (see

SCC)• Compare: cap-and-trade. Should have same

effect, under certain assumptions; tax gives you the right cap and cap gives you the right tax!

An Obstacle

Questions

• Will people pay attention to the tax?• When they buy vehicles?• When they drive cars?• If they do not pay enough attention when they

buy cars, what is the remedy? (Sticker?)• Also: Is this a regressive tax? (Poor people?)• Subversive question: Can you get more benefits

(consumer savings) through fuel economy rules?

Ideas

• Subsidize fuel-efficient vehicles (how much?)• Fuel economy rules?• On standard assumptions, fuel economy rules

are not a good way to address the externality. In fact they are pretty bad!

• Robert Crandall, 1992: “CAFE does nothing in the short run to reduce fuel consumption in old vehicles-the source of more than 90 percent of vehicle fuel consumption.”

Crandall, 1992

• By contrast to the uncertain effect of CAFE standards, a fuel tax has different effects on energy consumption. First, it increases the marginal cost of operating all vehicles, thereby reducing the miles driven of both new and old cars.

• Second, it induces consumers to purchase (and, therefore, manufacturers to offer) more fuel-efficient vehicles, as occurred in the late 1970s. Finally, it accelerates the retirement of older, fuel-inefficient vehicles on the road.

Crandall, 1992

• The effects of CAFE on fuel efficiency eventually spread to the entire stock of light-duty vehicles on the road, but only after a mean lag of nearly eight years. Even in the long run, CAFE does have a tendency to encourage driving, because all drivers face lower marginal costs of driving than under a gasoline tax with equivalent conservation effects.

• As a result. . . . CAFE must achieve much greater improvements in new-car fuel efficiency than does a gasoline tax to have equivalent effects on total fuel consumption.

Questions/Problems

• We should also worry about “rebound effect”• And about safety problems (smaller, more

dangerous cars)• Recall: Fuel economy standards apply to new

cars and may prolong the use of old, dirty vehicles

Looming Problems with Fuel Economy Rules

• Consumer welfare losses• Not only more expensive cars but also• More dangerous cars• Less well-performing cars• Less fun cars• Uglier cars

A Fuel-Efficient Car?

Questions

• Per dollar of expenditure, how much GHG reduction do we get?

• With a carbon tax?• With a fuel economy rule? (a lot less)• And how aggressive should any such rule be?• Cost-benefit test? Maximize net benefits?

A Puzzle

• If a carbon tax is politically off-limits, why are fuel economy rules so popular?

• Because people think “companies” pay for them? Note the (weird) survey data.

• Because people can avoid the costs?• Because people think (and maybe rightly) that

they are net winners?

The Problem of Internalities

• Some numbers from EPA• Cost is $153 billion; externality benefits are

$61 billion; private benefits are $475 billion• Basic lesson: Consumer savings DOMINATE the

analysis• Monetary savings and time savings• Question: Is this legitimate?

The Internalities Hypothesis

• People do not pay (enough?) attention to economic savings

• Not merely a reasonable discount rate• Effectively, a form of bounded rationality• So welfare gains from a mandate!• Responding to a “behavioral market failure,”

and not with a mere nudge

The Energy Paradox (a quotation from US Gov)

• [T]he problem is that consumers appear not to purchase products that are in their economic self-interest. There are strong theoretical reasons why this might be so:

• -- Consumers might be myopic and hence undervalue the long-term.

• -- Consumers might lack information or a full appreciation of information even when it is presented.

The Energy Paradox, continued

• -- Consumers might be especially averse to the short-term losses associated with the higher prices of energy-efficient products relative to the uncertain future fuel savings, even if the expected present value of those fuel savings exceeds the cost (the behavioral phenomenon of “loss aversion”).

• -- Even if consumers have relevant knowledge, the benefits of energy-efficient vehicles might not be sufficiently salient to them at the time of purchase, and the lack of salience might lead consumers to neglect an attribute that it would be in their economic interest to consider.

Is It True?

• Suppose we found that consumers were not at all responsive to changes in gas prices. Would that resolve the question?

• Suppose we found that consumers are highly responsive to changes in gas prices. Would that resolve the question?

Some Data

• It looks as if people are highly responsive to gas prices when they buy new cars. Surprised?

• They might show internalities• But the level does not seem to justify a

conclusion that people entirely ignore fuels costs

• What follows??

Energy Efficiency: Appliances

• A dilemma: negotiated agreement, but underlying analysis unclear. (Consumer welfare? Bad refrigerators?)

• A dilemma: negotiated agreement, but approach does not maximize net benefits.

• What should OIRA do?• A lot less data• A reasonable speculation?• What should government be doing??

Time Preferences• Newell and Siikamaki, 2015: “We find considerable heterogeneity

in individual discount rates. We also find that individual time preferences systematically influence willingness to invest in energy efficiency, as measured through product choices, required payback periods, and energy efficiency tax credit claims.”

• “Individual discount rate heterogeneity is in turn significantly related to characteristics of the individual and their household, including their financial situation. Individuals with less education, larger households, low income, and low credit scores had systematically higher discount rates, as did black, non-Hispanic respondents.”

• Implications??

Reasonable Conclusions

• Many analysts argue for some kind of environmental tax on gasoline

• A little complicated because we want people to be buying “the right cars,” and the tax might not get them there

• Argues for a subsidy too• Fuel economy standard MIGHT be a

reasonable second-best