Increasing fuel efficiency: standards vs prices
As I mentioned in a previous post, I’ll be talking to the Victorian Transport Economic Forum on decarbonizing transport on Wednesday, 10 February 2016 from 5pm at the Public Transport Victoria Corporate Centre, 750 Collins Street, Docklands. I thought I’d start with the policy issue implying the smallest change in existing transport patterns, increasing the fuel efficiency of petrol-engined vehicles. The primary choice here is between relying on a carbon price and imposing fuel efficiency standards. For those who want the shorter version, I think we need both but standards are probably going to be more important.
I’ll look first at the carbon price. We need some basic data: a barrel of oil is associated with something over 300 kg of CO2 emissions, while a litre of petrol generates about 2.3 kg of emissions. So, a carbon price of $US100/tonne would translate a bit over $US30/barrel or 23 cents/liter – about a dollar per US gallon (at current exchange rates for Australia, that’s around 35c/litre, maybe a bit more after accounting for retail markups, GST and so on). Those numbers can be halved for a price of $50/tonne.
Given the fluctuations we see regularly, it’s hard to imagine a carbon price of $50/tonne having much impact on patterns of supply and demand. but $50 looks to me to be at the upper end of realistic possibility (in particular, it’s enough to make new coal-fired electricity generation uneconomic almost everywhere).
A price of $100/tonne would be more serious: under current market conditions, the tax-inclusive price would be $60/tonne, twice as much as the price received by producers. That seems significant in terms of the long term impact on supply, since there are lots of producers with long-run costs in the range between $30 and $60. On the other hand, when we look at the demand effects of the increased price of petrol, the effect seems likely to be modest, falling mostly on cash-constrained low income households who would be forced to drive less.
The big problem, it seems to me, is that the decisions on the composition of the car fleet are made by new car buyers who are likely to be relatively insensitive to the cost of fuel. Fleet buyers presumably pay attention to anticipated fuel use over the expected time of ownership, commonly about three years, but probably don’t worry too much about the effects after that, which are reflected, if at all, in resale values. Private new car buyers seem likely to be more concerned with purchase prices than with operating costs, and (speculation alert!) to be more likely than motorists in general to favour performance over fuel economy.
So, it seems to me that fuel economy standards are probably the most effective way to go. The analysis undertaken by the Climate Change Authority (of which I’m a board member) shows that fuel efficiency standards would reduce the lifetime cost of buying and operating cars, the main cost being a reduction in subjective aspects of performance. For low-income buyers of second hand cars, that looks like a pretty good deal. If the trade-off is making life a bit harder for motor enthusiasts, that seems like a reasonable price to pay for this small step to saving the planet.
Political considerations mostly reinforce this conclusion. Taxing gasoline is impossible in the US, but Obama has managed to push through very ambitious fuel economy standards, the first of which are now taking effect. In Australia, the perceived need to protect domestically produced Falcons and Kingswoods prevented any action on fuel efficiency for a long time, but the Abbott. For good or ill, the Abbott-Hockey government solved that problem: in a couple of years all cars will be imported. While the motor trader lobby is still opposed to any action, it’s not as if they have anything substantial to fear – people will still buy their cars even if the choice is titled away from gas-guzzlers and towards more economical ways of getting from A to B.