Discussion Paper

Are Energy Efficiency Standards Justified?

Nov 23, 2010 | Ian W.H. Parry, David Evans, Wallace E. Oates

Abstract

This paper develops and parameterizes an overarching analytical framework to estimate thewelfare effects of energy efficiency standards applied to automobiles and electricity-using durables. Wealso compare standards with sectoral and economywide pricing policies. The model captures a wide rangeof externalities and preexisting energy policies, and it allows for possible “misperceptions”—marketfailures that cause underinvestment in energy efficiency.Automobile fuel economy standards are not part of the first-best policy to reduce gasoline: fueltaxes are always superior because they reduce the externalities related to vehicle miles traveled. For thepower sector, potential welfare gains from supplementing pricing instruments with efficiency standardsare small at best. If pricing instruments are not feasible, a large misperceptions failure is required tojustify efficiency standards, and even in this case the optimal reductions in fuel and electricity use arerelatively modest. Reducing economywide carbon dioxide emissions through regulatory packages(combining efficiency and emissions standards) involves much higher costs than pricing instruments.