Agenda

1. Agenda Monday: Rebound Wednesday: Behavioral energy Friday: Lint to lead review Next week: Monday: Begin geosciences Friday: Midterm

2. Where are we on energy? • We have gone over energy geology, economics, policy. • This is essentially the same as climate-change economics • Assume you need some level of energy services, S*, then you have production function: S* = F(K, E). • Once prices reflect social costs (including Pigovian taxes), then the equilibrium is efficient (see next slide) • So, which agents can foul things up? • Governments, firms (markets), consumers • What are the major problems? Failures of: • Institutions, information, decisions, preferences • We will take just one issue today. Problem of using regulation rather than prices to reduce energy consumption: … the rebound effect

3. Isoquant K S* = F(K, E) Energy 3

4. Policies on Oil (Energy) Use Background • In general, first-best policy for reducing oil (energy) use is taxes on oil (energy). • However, because of “tax-aversion,” governments often substitute regulations. • For example, regulations on minimum energy efficiency • A standard question is their efficiency relative to fuel taxes. One specific case is: Does the higher efficiency actually increases energy consumption? The Rebound Effect

5. In an efficient energy market K S* = F(K, E) Energy Emax 5

6. Rebound effect

7. Jevons paradox “The economy of labour effected by the introduction of new machinery throws labourers out of employment for the moment. But such is the increased demand for the cheapened products, that eventually the sphere of employment is greatly widened.” “The number of tons of coal used in any branch of industry is the product of the number of separate works, and the average number of tons consumed in each. Now, if the quantity of coal used in a blast-furnace be diminished in comparison with the yield, the profits of the trade will increase, new capital will be attracted, the price of pig-iron will fall, but the demand for it increase; and eventually the greater number of furnaces will more than make up for the diminished consumption of each.” Jevons, The Coal Question

8. Rebound effects: categories 1. Direct rebound effect: Increased fuel efficiency lowers the cost of consumption, and hence increases the consumption of that good because of the substitution effect. 2. Indirect rebound effect: Through the income effect, decreased cost of the good enables increased household consumption of other goods and services, increasing the consumption of the resource embodied in those goods and services. 3. Economy wide effects: New technology creates new production possibilities in and increases economic growth. For small industries, #1 will dominate. #2 will almost always be too small to offset small #1. #3 is unclear about the mechanism that the authors are talking about.

9. Direct rebound effect… Price of vmt Effect of efficiency improvement “Rebound effect” Before mpg improvement After mpg improvement G Gasoline consumption 9

10. … or maybe … Price of vmt Effect of efficiency improvement “Rebound effect” Before mpg improvement After mpg improvement G Gasoline consumption 10

11. But welfare improvement is unambiguous(assuming no externalities) Price of vmt Welfare improvement G Vmt 11

12. Economics of direct rebound effect Assume that regulation increases energy efficiency of a capital good from mpg0 to mpg1. The question is whether the lower cost of a vmt (vehicle-mile traveled) would offset the lower cost.

13. Energy goods v. energy services A key issue in measurement is the difference between energy goods or inputs and energy outputs or services. E.g., ounce of whale oil v. lumen; gallon of gasoline v. (vmt, comfort, safety, noise, …) Production function: Energy services = f(capital, labor, fuel, infrastructure,…) Basic point: There have been vast improvements in energy services per unit of primary energy over time (call it “efficiency”)

14. The price of fuel for lighting Roger Fouquet and Peter J.G. Pearson

15. The long-term price of light Roger Fouquet and Peter J.G. Pearson

16. Example of lighting 1800 - 2000: Did increased efficiency increase lighting use?

17. Example of lighting Suggests that Jevons effect does not hold. Inelastic demand.

18. Empirical estimates of rebound effect for autos Basic results from many demand studies:* Short-run gasoline price-elasticity on vmt = -0.10 (+0.06) Long-run gasoline price-elasticity on vmt = -0.29 (+0.29) Therefore, the rebound would offset 10 to 29 percent of mpg improvement. This can be applied to other areas as well. Reference: Phil Goodwin, Joyce Dargay And Mark Hanly, “Elasticities of Road Traffic and Fuel Consumption with Respect to Price and Income: A Review,” Transport Reviews, Vol. 24, No. 3, 275–292, May 2004, available at http://www2.cege.ucl.ac.uk/cts/tsu/papers/transprev243.pdf

19. Source: UK Energy Research Centre, The Rebound Effect

20. What is the lesson here? • Most regulations target K rather than E because of tax aversion. • Using “second-best” instruments can have paradoxical effects. • In extreme case, could actually increase energy use because of rebound effect. • Economists conclude that should use first-best instruments that target the externality rather than an indirect approach.