Venezuelan Gas Guzzlers

Since reading Catherine’s post last week (link here), I have been thinking a lot about Venezuela’s gasoline subsidies. Venezuela has the cheapest gasoline on the planet. At official exchange rates, gasoline costs only $.06 per gallon; at black market exchange rates gasoline is even cheaper. Venezuela’s gasoline is so cheap it makes Middle Eastern gasoline look expensive – Saudi Arabia ($.62), Kuwait ($.87), and even Iran ($1.25).

I wanted to understand this better, so I dug into the data. In the figure above, I plotted gasoline consumption per capita against gasoline prices in Latin America. These data come from the World Bank from a survey conducted in November 2010.  Prices include all relevant taxes.

Venezuela is a remarkable outlier. Ecuador and Bolivia also subsidize gasoline, but not to anywhere near the same extent. In fact, most countries in Latin America have substantial taxes on gasoline. Gasoline consumption per capita in Venezuela is 40% higher than any other country in Latin America, and more than three times the regional average.

Venezuela’s high level of gasoline consumption is especially striking given that, according to the World Bank, there are only 147 motor vehicles per 1000 people. Somewhat surprisingly, looking across Latin America there is essentially no correlation between the number of vehicles per capita and gasoline prices. Vehicle ownership seems to be almost entirely driven by income.

So what explains Venezuela’s high level of gasoline consumption? Venezuela has one of the least fuel-efficient vehicle fleets in the world. When oil prices spiked during the 1970s, Venezuelans imported large numbers of low-MPG cars, mostly from the United States, and many of these vehicles continue to be used today. Almost anywhere else in the world, these vehicles would have long ago been retired to scrapyards. But in Venezuela they are cheap to maintain, and very cheap to run thanks to billions of dollars per year in gasoline subsidies.

“We like our cars to be like tanks in this country, meaning they should be huge, comfortable, and preferably manufactured in the United States” – Miguel Delgado as quoted in NYT, December 12, 2010.

For more on Venezuela’s gasoline subsidies, see  here and here.

An Important, and Sometimes Overlooked, Energy Efficiency Tool

The developing world will account for a huge share of the growth in energy demand in the future. But, if the rising demand is met with energy-efficient technologies – everything from efficient appliances for first-time purchasers to efficient industrial processes – energy demand, and hence greenhouse gas emissions, will be lower than forecast.

So, are there steps that governments in the developing world, lending agencies like the IMF or World Bank, or US policymakers (e.g. through offset programs) can take to encourage energy efficiency in the developing world? And, are there lessons we can draw from US energy-efficiency programs? Unfortunately, given the huge energy subsidies in much of the developing world, the lessons from the US are limited.

A Broken Gas Pump in the US, but Venezuelans Get an Even Better Deal

In the US, many policymakers trumpet energy efficiency as one of the most cost-effective carbon-mitigation strategies. McKinsey has famously identified a number of situations where a consumer’s investment in energy efficiency seems to pay off given the savings it would generate at current energy prices. Since consumers appear to be leaving proverbial $20 bills on the sidewalk, some of the current programs to promote energy efficiency involve informing consumers—essentially waving the bills in their faces. For example, the EPA promotes Energy Star labels for efficient appliances and cities like New York and San Francisco now require large commercial building owners to disclose their energy usage.

Better information is unlikely to promote energy efficiency in many parts of the developing world, where current energy prices are seriously out of whack and cover very little of the private costs of energy production (i.e., the costs before accounting for environmental and other externalities).

A recent IMF report documents energy subsidies around the world, and they are staggering, amounting to almost 1 percent of worldwide GDP.

Consider that:

• Residents of Venezuela pay less than 10 cents per gallon of gasoline.
• Nearly 30 percent of the electricity generated in India is not paid for, most of it written off as a “nontechnical loss,” basically a euphemism for theft.
• Residential electricity rates in Mexico cover less than half the estimated costs.

One of the most fundamental tenets of economics holds that when prices are low, consumers will demand more of the good. Chris Knittel has noted this relationship in gasoline consumption across developed economies, where countries with high gasoline prices (driven by high gasoline taxes) consume far less per person than the countries with lower gasoline price. Presumably the usage (after adjusting for lower income levels) would be even higher at low, Venezuelan-style prices.

To help the citizens of the world make efficient choices about energy, it’s important to get the prices right. The IMF report concludes on an optimistic note with case studies of several countries that have reformed their subsidies. But, the recent riots in Indonesia over proposals to remove fuel subsidies highlight just how controversial this task is. In the battle against dangerous climate change, though, we need to pursue all possible tools.

Peak electricity pricing can save you money

Here in California, summer weather is quickly approaching and once again parts of the state are facing potential electricity shortages. This year the biggest concern is in Southern California due primarily to the continued outage at the San Onofre Nuclear Generation Station (SONGS).  If there are shortages, they are likely to occur on the hottest days of the year when air-conditioning demand is at its peak. Research by many economists (including Wolak, Ida/Ito/Tanaka, Jessoe/Rapson, and many others) has shown that a very effective way to cut peak demand is through “critical peak pricing” programs.

These programs go by different names at different utilities, including SmartRate,  SmartCents, Peak Day Pricing, and Summer Advantage Incentive.  They give you a discount on power most hours of most days, but charge a substantial premium for power on the highest demand days of the summer.  Many utilities now have such programs, though they are not always well advertised or promoted. In nearly all cases for residential customers, they are opt-in, so you have to search them out and figure out how to sign up. I wrote a paper[1] last year that reviewed effective and equitable approaches to implementing opt-in critical peak pricing and estimated the potential impacts on different types of residential customers in the service territories of PG&E and Southern California Edison.

If you are a PG&E customer in the Bay Area (or other milder climate where you don’t have A/C or don’t use it much), their SmartRate will almost surely save you money.  At my house in Orinda (east of Berkeley and somewhat warmer in the summer), we signed up for it last year.  We saved about $40 on electricity, about 13% over the 6 months of the program (May through October). We did avoid running laundry or the dishwasher between 2 PM and 7 PM during the 15 critical peak days that were called, but our adjustments were fairly minor.  If you live in the Bay Area and have not signed up, I urge you to at http://www.pge.com/smartrate.  You can’t really lose during the first year, because the PG&E program has “bill protection,” which guarantees that your electricity bill in your first year on the program will be no higher than it would have been under the standard rate.

PG&E’s program isn’t perfect:

–  I’d like to see them do “shadow billing”, showing on every bill (regardless of which tariff the customer is on) how much the customer paid under the tariff they are on and how much they would have paid if they had switched to an alternative tariff.

–  I would also like to see PG&E get more flexibility from the regulator (the California Public Utilities Commission) on how many critical peak days they can call each year.  A fixed (or maximum) number of calls each summer creates perverse incentives for the utility to call critical peaks on days that are not that hot, or to hold back on hot days in case they run into even hotter days later in the summer.

I discuss these and other issues at greater length in my paper on opt-in critical peak pricing.

Saving money is fine, but the real reason I want you to sign up is to get more direct experiences with critical peak pricing that can shape the way utilities and policymakers design such programs.

If you have already signed up for PG&E’s (or any other utility’s) critical peak pricing program, I welcome your comments about the program.  And if you haven’t signed up yet, particularly if you live in the Bay Area, it is time to start saving money and helping to reduce the stress on the grid during peak times.

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[1] The final version was published as “Effective and Equitable Adoption of Opt-In Residential Dynamic Electricity Pricing,” Review of Industrial Organization, March 2013, Volume 42, Issue 2, pp. 127-160.

Nest(ing)

Happy earth day everyone! I briefly contemplated a doom and gloom post about the state of the global climate and lack of regulation. But let’s focus on what does work, albeit at a much smaller scale, instead of what doesn’t work.

Team Auffhammer has invested a lot of money in energy efficiency measures in our home. We have new windows ($$$$), a new roof ($$$), German shutters ($$), more efficient appliances ($$) and LED lighting ($) throughout the house. I have been monitoring our energy consumption after each of these investments and could not detect a structural break in our consumption of electricity or natural gas.

Last September I was at the Apple store and saw they sold a “smart” thermostat called the “NEST”. I checked with a genius (they wear blue shirts) and she said that people liked them and they were easy to install and looked cool. I was sold. I went home. Ripped out our old thermostat and put in the new one. Shiny, cool looking and simple. I then did not program it and let it learn our patterns. The thermostat guesses when you are away (with a minimal number of type I and type II errors). Plus, you can control the thermostat from your phone, tablet or the web. So if you leave for vacation and forget to turn it off, you can do so from the beaches of Maui.

I did not think much was going to happen. Boy was I wrong. The picture below displays our electricity consumption for the past 12 months in green and the previous 12 months in red.

The blue dashed line displays the installation date of our thermostat. This is a highly unscientific difference in difference by picture estimate. By using the previous year’s consumption as my counterfactual this picture suggests that we have consumed 1055 fewer kWhs since last September, which is an average savings of 150 kWhs per month or a 22% decrease in consumption.  Wow!

How much did my new fancy thermostat save me? We actually use(d) a fair number of kWhs which cost $0.29, due to the increasing block rate pricing structure (the more you use the higher the price of the next block of kWh consumed). After spending way too much time with my bills, I figured out that I saved almost $210 since September. If my forecast is right I will have made my money back by the end of the next billing cycle.

Now, I would be an irresponsible social scientist by simply prescribing these fancy $249 thermostats for everyone. The NEST changed our behavior. It brought energy conservation to our attention and each member of the family interacts with this shiny gadget a few times a day. We frequently question whether we really need to turn on the AC or heat. Maybe more importantly this thing is fun to use and looks cool.

Now go outside and do something nice for mother earth. And again tomorrow. And the next day. And the day after……..

And no, this blog post was not sponsored by Nest.

“We’re for Import free trade, just not Export free trade”

• For much of the last 40 years US politicians have railed against the countries of OPEC for restricting exports of oil for their own economic gain. Just 7 years ago, more than a dozen Senators, from both parties, introduced a bill calling for prosecution of OPEC on antitrust grounds.

• Last summer, the media ran a blitz of stories about China impeding exports of rare earth metals in order to benefit its domestic industries that use rare earths. The US joined with Japan and the European Union to file a complaint against China’s rare earth export restrictions.

• Six years ago, the US was looking at rapid acceleration of liquefied natural gas imports to satisfy our growing demand for gas-fired generation and industrial natural gas uses.  American diplomats and business people were pushing to open up new sources of LNG imports from South America and the Middle East.

And yet….

with American natural gas production now taking off and prices declining, many domestic businesses and politicians are lobbying to abandon those same principles of free trade. In fact, some of the same companies that just a few years ago were clamoring for LNG import terminals in the US and more LNG trade worldwide are now leading the charge to limit US exports of our newfound natural gas abundance.

Exporting LNG benefits the US economy by selling gas where it can be put to its highest value use and capturing some of that value.  The price of natural gas in Japan – our resource-poor ally and friend — is more than 3 times higher than in the US, and that difference is much greater than the cost of shipping them LNG.  Locking the gas into the US directs it to uses that the advocates admit are only economic when gas is cheap, while the value of that gas is far higher in Japan and other countries that rely on international energy trade to fuel their economies.  When we create value by exporting natural gas, some of the value is captured as profits to domestic producers and some as wages, such as to the workers who build and operate the export facilities and tankers.  But it also boosts the demand for our natural gas, creating additional jobs in gas exploration and production.[1]

The new opponents of free trade in energy — now that we are becoming exporters – are being taken seriously enough that the Department of Energy felt compelled to solicit a study of the economic costs and benefits of exporting natural gas.  Not surprisingly, the study finds that allowing natural gas exports is good for the US economy.

But the narrow economics of exporting LNG is not the strongest argument against restricting natural gas exports.  The pure hypocrisy of such restrictions — after decades of the US arguing for free trade in resources – would undermine any claim that US policy is based on economic principles rather than pure self-interest (albeit misguided).  We are, in fact, still dependent on imports for nearly half the crude oil we use.  That is why the US continues to argue that Venezuela, Saudi Arabia and other oil-rich countries should export more crude and stop using their abundant supplies to maintain artificially low domestic gasoline and diesel prices.

Exporting LNG will benefit the American economy by creating economic value and capturing much of that value in the US.  But just as important, exporting LNG will show that the US energy policies are based on sound economic principles, not the hypocritical politics of cheap energy .

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[1] Not all economists think that the US will actually end up exporting much LNG, because the new shale gas technology will soon be applied in China and other locations, lowering world prices for LNG.  See the recent article by Frank Wolak.  But even if that view is right, the US has sacrificed its principles for a policy that has little practical effect.

Fuel Economy Standards and Used Cars

Last August the Obama administration announced new fuel economy standards. Cars and trucks sold in the United States must reach an average fuel economy of 41.7 miles per gallon by 2020, increasing to 54.5 miles per gallon by 2025. Supporters of the tightened standards argue that they will reduce oil consumption by billions of barrels.

These standards will make cars smaller, lighter, and more fuel-efficient. Will this limit the choices available for consumers? Yes and no. It is going to become more difficult to buy new trucks, SUVs, and minivans. However, because fuel economy standards affect new vehicles only, these larger, fuel-inefficient vehicles are going to continue to be a substantial part of the U.S. vehicle fleet for many years.

Mark Jacobsen (UCSD) and Arthur van Benthem (University of Pennsylvania) are looking closely at the market for used cars and trucks and finding that vehicle scrappage is extremely important. Their complete study will be available soon. In the meantime, they shared with me this figure which shows annual scrap rates by MPG quartile.

As you would expect, older vehicles are scrapped at much higher rates. But what is particularly interesting is the comparison across MPG quartiles. Among vehicles 9+ years old, the least efficient vehicles (Quartile 1) have the lowest scrappage rates, remaining in the vehicle stock long after the smaller, fuel-efficient vehicles (Quartile 4) have been sent to the scrapyard.

Jacobsen and van Benthem find that new fuel economy standards will exacerbate this pattern, leading fuel inefficient vehicles to remain in the vehicle stock even longer. The reason is that tightened fuel economy regulation leads to higher prices for large and fuel-inefficient new vehicles. More people will buy a used SUV or pickup truck instead of a new one. This means that prices of used vehicles increase, giving owners an incentive to postpone the decision to scrap their vehicles. In economics this is known as the Gruenspecht effect, named after a study by Howard Gruenspecht. The original study is available here.

Overall, Jacobsen and van Benthem find that increases in fuel consumption by fuel inefficient used cars will offset about 1/5th of the direct impact of updated fuel economy standards. This Gruenspecht effect is one of the reasons why 92% of economists would prefer a gasoline tax over fuel economy standards. (According to a new study available here, only 22% of non-economists feel the same way.) Whereas standards treat new and used cars differently, a gas tax does not. And a gas tax both encourages consumers to buy more fuel efficient vehicles and encourages them to drive them less.

Looking for warmer weather? Be careful what you wish for.

Here in Ann Arbor, Michigan, this past March has been anything but spring-like. Even by our standards, we’ve had more than our fair share of cold, wind, and snow. And now winter seems to be extending itself into April…after a tease of spring with a warm and sunny Easter Sunday, this Monday brought us a high of 39F with scattered snow flurries. To which I say boo.

So, yes, warmer winter weather would be nice. And as it so happens, warmer winters are something we should expect to happen with climate change, so that’s good news. The bad news is that (as economists like to say) there is no free lunch, so climate change will bring us hotter summers too. And as anyone who lived through last summer in Ann Arbor will attest, three months of scorching weather can be pretty unpleasant too.

But does the discomfort associated with a hotter summer actually outweigh the increase in comfort that will come with a warmer winter here in Ann Arbor? And what about the rest of the U.S., some parts of which currently experience very little winter cold (Florida), while others experience very little summer heat (North Dakota)? In a new paper (Climate Amenities, Climate Change, and American Quality of Life), David Albouy, Walter Graf, Hendrik Wolff, and I try to answer these questions by assessing U.S. households’ willingness to pay to avoid hot and cold weather.

How do we come up with an estimate of households’ willingness to pay for climate, in dollars? We take advantage of the fact that local climate is a factor that potentially affects households’ choice of where to live. Compare Berkeley to Ann Arbor, for example. I’ll conjecture that most people think that the climate in Berkeley is superior to that in Ann Arbor–Berkeley has lots of days with warm afternoons and cool, comfortable evenings, while in Ann Arbor such days tend to occur only in the spring and fall. So why don’t people move from Ann Arbor to Berkeley as soon as they have a chance? Well, it costs a lot more to live in Berkeley than it does in Ann Arbor. For the cost of a studio in Berkeley, you can get a pretty nice two bedroom apartment in downtown Ann Arbor. So there’s a tradeoff here–if you live in Berkeley you get beautiful weather, but you have to pay a pile of money in rent (or mortgage payments if you own) to get decent housing, leaving you with less money to spend on other things you want. Thus, the cost of living difference between Berkeley and Ann Arbor reveals something about their residents’ willingness to pay for a comfortable climate.

In the paper, we extend this idea across the U.S. to get at households’ willingness to pay to avoid hot and cold weather. There are, of course, a number of important details that are important to get right along the way–for instance, differences in wages across cities matter too, as do differences in other amenities such as coastlines, mountains, and population density. Our main result is that, on average, households’ willingness to pay to avoid an excessively hot day is greater than the willingness to pay to avoid an excessively cold day. This result comes from the fact that in hot places like the South, the cost of living is quite low relative to wages, indicating that households are willing to pay very little to endure the South’s hot, humid summers. The result also makes (at least to us) a lot of intuitive sense. On a cold day, you can protect yourself outside by layering up with coats, hats, and mittens. On a hot day though, there is unfortunately a limit to how many clothes you can take off (most jurisdictions won’t even legally let you get down to zero), so you’re uncomfortable outside no matter what you do. Sure, you can go inside to your air conditioning, but if you’d rather be outside in the afternoon, there’s a cost to doing so.

What does all this mean for the potential effect of climate change on comfort? If heat is worse than cold on the margin, then the extra discomfort from hotter summers will outweigh the benefits of warmer winters. When we use “business as usual” climate projections for 2100, we find that unless technology or preferences change, the annual net loss of comfort from climate change will be worth between one to three percent of U.S. income. Those numbers might seem big or small to you depending on your perspective, but for reference they’re in the same range as forecasted losses in GDP from damages to market goods such as agricultural products that come from the Nordhaus DICE model and the Stern report.

Perhaps even more interesting than the average welfare loss is the distribution of this welfare loss across the U.S., which we depict in the map above (losses expressed as a percent of 2100 income). As you might expect, the South gets hit fairly hard, since their summers are already hot and their winters are fairly mild–there’s not a lot of scope for climate change to give southern residents benefits in the winter. But most of the North fares quite poorly as well, even in places like North Dakota that currently have harsh winters but mild summers (though they do already experience some pretty hot days). What’s going on there? This is where it’s important to note that not everybody has the same preferences for climate. Some people aren’t bothered that much by cold weather, while others can’t stand it. It turns out that people sort themselves according to these preferences, so that North Dakota is largely populated by people who don’t mind the cold so much, while Florida gets populated by people who strongly dislike the idea of winter. So if you live in North Dakota, the fact that climate change will result in a warmer winter won’t be worth that much to you, but the fact that your relatively mild summer will turn into an extremely hot one will be worth a lot. The take-away message here is that if we want to forecast who will gain and who will lose from climate change, taking regional preferences into account can matter a lot, and it may be that southerners won’t be the only ones to suffer if the latest climate projections are realized.