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Economics 331b Finale on economics of energy regulation. We are heading into a major period of energy/climate-change regulations. Here are some of the major economic issues: Rebound effect Energy efficiency standards affect the energy-intensity of new capital goods
Finale on economics
of energy regulation
Price of vmt
Effect of efficiency improvement
Before mpg improvement
After mpg improvement
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.
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 be 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
The “oil premium” refers to the excess of the social marginal cost of oil consumption over the private marginal cost.
Analytically, this is
Basic argument. The point is that the US has market power in the world oil market. By levying tariffs, we can change the terms of trade (oil prices) in our favor.
Regulation and taxes are a substitute for the optimum tariff.
So optimal tariff is ad valorem:
τ = 1/ λ = inverse elasticity of supply of imports
Reference: D. R. Bohi and W. D. Montgomery, “Social Cost of Imported Oil and UU Import Policy,” Annual Review of Energy, 1982, 7, 37-60.
Notes: (1) This does not have to be a tariff. It is really a “shadow price” on oil imports. (2) Example of “Ramsey tax theory.”
Here is a more rigorous proof of the oil-import premium:
P, MC of oil
Import premium at free-market imports
Optimized oil imports
Somewhat more tenuous is the macroeconomic externality.
Idea is that there are impacts of changes in oil prices on macro economy because of inflexible wages and prices.
So have another linkage:
The second term was discussed in optimal tariff. The first term comes from macroeconomics (see next slide).
This, however, is very controversial and the estimates are not robust.
A standard macro/oil-price equation with “good” results.
We can also derive that monopsony/macro = ε[GDP/pQ]
Cited in Hillard G. Huntington, The Oil Security Problem, EMF OP 62,
τ = 1/ λ = inverse supply elasticity.
Complications: Formula actually is
Short-run production capacity
Some have argued that using “ecological” or environmental taxes has a double dividend:
In economics, the burden is measured as “deadweight loss” (DWL)
[Related issue in current context is whether the additional debt incurred by the stimulus package has such high DWL that the net economic effect is negative (Kevin Murphy).]
P, MC of oil
If add new taxes (regulation):
Additional revenues = D – B
Additional DWL = C + B
[When are you on the wrong side of the peak of the Laffer curve?]
S +T1+ T2
S + T1
2. A regulation is a tax with the revenues rebated to the polluter. If use regulations rather than taxes, you therefore lose the second half of the double dividend.
3. If standards are beyond Pigovian levels, then can incur serious DWL if do not attend to the revenue side of the issue.
4. Empirical estimates of MDWL of taxes: all over the place from $0.2 to $2 per dollar of revenue.