Behavioral Economics and Energy Efficiency Regulation
Behavioral economics points to consumer error to justify energy efficiency policies, making policy evaluation difficult and potentially validating large-scale market preemption. Providing information can help ensure consumers make decisions reflecting their preferences.
Energy efficiency—using less energy to provide an equivalent level of service—is part of the climate policy portfolio. Market failures might warrant encouraging energy efficiency, but an important justification comes from the realm of behavioral economics: that people erroneously underinvest in it. This creates difficulties for policy evaluation, which assumes that people’s choices, including energy efficiency investments, reflect actual preferences. The possibility of error leads to questioning whether consumers can be trusted to make “right” decisions in more complex areas and whether consumer mistakes should be perpetuated if correcting error would increase energy use. If error is convincingly present, the public could accept regulation as delegation of its choices to the government. A better remedy may be to provide consumers with sufficient information to correct alleged error; if they persist in such behavior, it should count in benefit–cost analysis.
This paper was prepared for the June 2016 issue of Network, a research review published by the Australian Competition and Consumer Commission.
Key findings
- A frequently invoked justification for policies to promote energy efficiency comes from the realm of behavioral economics: that people erroneously underinvest in energy efficiency, apart from mitigating climate externalities.
- Standard policy evaluation tools, particularly benefit–cost analysis, assume that people do not make mistakes. Should people’s mistakes be perpetuated if correcting error would increase energy use?
- If consumers persist in erroneous behavior after receiving sufficient information to correct alleged error, that behavior should count in benefit–cost analysis.
- This paper was prepared for the June, 2016 issue of Network, a research review published by the Australian Competition and Consumer Commission.
