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The EV Revolution Will Be Heavily Subsidized

What is the Demand for EVs – really?

When I envision the future in the Age of Aquarius, it lacks sound. Panther-like EVs, powered by Zen-monastery-quiet solar PV, are zipping down highways made from recycled tires. The thunderous sound of the combustion engine will only exist in the memory of petrol-heads like myself. But in order to get there, people must want to and be able to buy these cool cars. When I teach my Evening/Weekend MBAs (shoutout to the Axe and Oski cohorts!), we discuss the demand for new and socially desirable technologies and how one “pushes” new gadgets into the markets. The answer to this, in many cases, is you subsidize new technologies. A subsidy (duh) makes the good cheaper to the consumer and (s)he is more likely to buy the EV.

In California, we’re super ambitious. We all eat kale. We also want to see 1.5 million Zero Emission Vehicles on California’s streets by 2025. And 5 million by 2030.  That’s 6 and 11 years out, respectively. So we’re going to throw some money at the problem. Our schools and roads are falling apart, so the question we should be asking is, how much is it going to take to get these cars on the road and is it the best use of public funds? There are some older reports out there that use the early EV subsidies to estimate consumers’ response to these programs, but to put it bluntly, these subsidies largely went to rich people buying Teslas. Until now, we knew relatively little about the response of people buying non ridiculously expensive cars.

Enter Dave Rapson and Erich Muehlegger of UC Davis and frequent visitors to the Energy Institute. During the busy holiday season they published a working paper that fills this important gap. They study the impacts of the Enhanced Fleet Modernization Program (“EFMP”), which is a California retire-and-replace subsidy program for EV purchases. The design of the EFMP program provides clean quasi-experimental variation in the availability of the subsidy to some buyers and not others. This is nerd speak for: “Woah. Cool statistics. Let me Scotch tape my broken glasses together and read on.” In short, this paper is causal, not casual.

Another cool part of the program is that eligibility is means-tested, which targets subsidies at low- and middle-income buyers. This has never been done before.

Due to a jealousy-inducing dataset– the universe of electric vehicle sales in California, which accounts for 40 percent of EV purchases in the United States and 10 percent of purchases worldwide– they are able to estimate two policy-relevant parameters: the rate of subsidy pass-through and the elasticity of demand for EVs among low- to middle-income buyers. The first thing tells us something about how much of the subsidy is captured by consumers (versus manufacturers). They show this to be at 80 to 100 percent, which is good. Their estimated demand elasticity – the second thing – is -3.9, implying that a subsidy that decreases the purchase price of an EV by 1 percent will increase demand for that EV by 3.9 percent! This seems like a big number – and it is. The same number for electricity is about -0.3 – an order of magnitude smaller.

So, where’s the Debbie Downer paragraph you ask? Let me oblige. Frankly, the number of EVs sold even in California is relatively small. One prior “study” puts the cost of subsidies out to 2025 at between $2.2-2.9 billion. Muehlegger and Rapson’s estimates suggest that getting 1.5 million EVs on California roads would require subsidies of $9-14 billion! The authors carefully describe the limitations and assumptions of their study, but reading the paper carefully shows that the subsidy number may actually be much bigger than they state.

So what are the options here? Should the California taxpayer foot the entire bill? Everybody loves a subsidy. Consumers like them! Manufacturers like them! Politicians like them (because consumers like them)! But the money has to come from somewhere. One avenue to protect California taxpayers is to hope for a continuation or expansion of the federal tax credit for EVs, but that is not likely in the current environment.

The smarter idea is a feebate. The idea is simple. If you buy some ridiculous SUV that is big enough to take your entire house in the glove compartment, and which gets terrible gas mileage, you pay a tax. A gas guzzler tax. And that tax should be significant. If you buy the Toyota Kumbaya (the obvious name for the successor to the Prius), you get a hefty subsidy, which is financed out of the revenue from the gas guzzlers. If you want a gas guzzler badly enough, you can have it. But you pay the full damage it does. It’s fair, efficient and economists don’t hate it. Which is probably why it’s not policy. Why do we not love it? It still misses the usage margin, which a carbon tax does not. So yes, I am going to conclude another blog post with the call for a national carbon tax. Maybe we should call that the Kumbaya Tax.

Suggested citation: Auffhammer, Maximilian. “The EV Revolution Will Be Heavily Subsidized.” Energy Institute Blog, UC Berkeley, January 28, 2019, https://energyathaas.wordpress.com/2019/01/28/the-ev-revolution-will-be-heavily-subsidized/

Maximilian Auffhammer View All

Maximilian Auffhammer is the George Pardee Professor of International Sustainable Development at the University of California Berkeley. His fields of expertise are environmental and energy economics, with a specific focus on the impacts and regulation of climate change and air pollution.

22 thoughts on “The EV Revolution Will Be Heavily Subsidized Leave a comment

    • More importantly, that EV owners with V2G are credited with the long-term value of storage technology, not the short-run wholesale market price that undervalues the real option value of a committed resource.

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