Analytical Essay on Energy Efficiency Policy

The concept of energy efficiency first arose following the oil price shocks that resulted from decreased oil output in the wake of the Iranian Revolution in 1979 (Graefe 2013). The consequences of the nation’s growing dependence on foreign oil became evident as prices quadrupled and supply dwindled. President Jimmy Carter became a champion for energy conservation in response to the various energy crises that threatened national security in the 1970s. In his speech 'A Crisis of Confidence' Carter addresses the nation, 'Every act of energy conservation...is more than just common sense, I tell you it is an act of patriotism.' (Carter 1979). During the late '70s and 80’s the idea of energy conservation became widespread thanks to many propaganda campaigns promoting the save it mentality by urging consumers to “switch off.” (Fawkes 2016). The concept of conservation has since evolved into one of efficiency; observing life in the 21st century we can see modern-day efficiency through the widespread use of LED lighting, Energy Star appliances, and consumer efficiency programs. With energy efficiency continuing to expand, the question presents itself: is energy efficiency actually efficient?

Energy efficiency policy has historically been supported by both political parties as a relatively easy way to reduce emissions, i.e. the “low-hanging fruit.” (EESI 2016). While energy efficiency is widely praised by environmentalists, economists have found themselves in disagreement, with many claiming the savings promised by energy efficiency are oversold. The Jevons Paradox arises when the more efficient use of resources results in its overall increased use. Energy efficiency was first introduced as a paradoxical phenomenon by William Stanley Jevons in 1865. Jevons observed that energy-efficient steam engines accelerated the use of coal in Britain rather than conserving it (Costanza 2015). This effect happens through two different mechanisms: direct and indirect rebound effects. Direct rebound effects arise due to the decreased cost of consuming a good, for example, if your car has increased fuel efficiency you may decide to take more road trips with it. Indirect rebound effects result from the income effect from consuming goods at a lower cost, for example, your increased fuel savings allow you to spend money on a carbon-intensive flight (Garrett 2014). This paper intends to evaluate whether or not the Jevons Paradox holds with utility residential energy efficiency programs, and to analyze the impact of these programs on residential energy consumption across the U.S.

The goal of the study is to determine whether the direct rebound effect of energy efficiency policy on energy demand is significant. In order to address this question, I will conduct a difference-in-differences regression. Using publicly available data from the American Council for an Energy-Efficient Economy (ACEEE) I will analyze states that have utility energy efficiency standards as the treatment group and states lacking any energy efficiency regulation as the control. This will allow me to isolate and evaluate the impact of consumer energy efficiency programs. The theory is that given Jevons Paradox holds, the states with mandated energy efficiency programs have increased consumption in relation to states with the absence of policy. The U.S. Energy Information Administration (EIA) stores data on end-use energy consumption and energy prices by utility and state. These sources of data comprise the two main components of the study, however, are many additional variables that I will consider in my analysis including energy cost, energy supply, location, income, population size and demographics, and more before I can identify a causal relationship. If I find that the rebound effect from energy efficiency is significant, this would signal to policymakers that efficiency regulation is not the most effective way to reduce energy consumption. Instead, it would likely be more practical to tax consumers on their carbon emissions from direct energy use and utilize the tax revenue to support consumers impacted by the regressive nature of the policy.

This research comes at a pivotal moment as policymakers must decide the best course of action to combat climate change. As the impacts of resource depletion, pollution, and climate change are increasingly felt across the globe the case for immediate emission reductions from the nations with the highest per capita emissions grows stronger daily The International Energy Agency (IEA) 2018 presents energy efficiency as the key to emission reductions, however, if the paradox is proven true, we could be unintentionally digging our grave deeper. Further research on this topic will allow lawmakers to enact policy that permanently reduces emissions.

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This topic also raises a larger question of whether we must begin to look at our current economic framework in a new way. The critical component of energy efficiency is that it licenses growth. Efficiency signals that we can continue to grow our economy and reduce our consumption simultaneously, an assumption that is problematic for the natural world. The intention of this research is to provide a new perspective on whether energy efficiency is effective in a residential frame, or if a paradigm shift in the way we consume is a necessary-an uncomfortable reality for lawmakers.

Literature Review

The rebound effect of efficiency and consumption is a topic widely studied, however, the research has a large variety of specifications and results. There is a general consensus in the literature that a positive rebound effect results from the introduction of efficiency policies, however, the magnitude of that rebound as measured by several studies has a large variance. The majority of research does not find the existence of a backfire effect, meaning the increase in energy consumption does not exceed the target reduction i.e. a +100% rebound. Some economic analysis only estimates the direct rebound effect, as the indirect effects are difficult to quantify with empirical data. There appears to be a lack of recent empirical analysis utilizing U.S. data, therefore my research is intended to provide additional insight into the direct rebound effect within the U.S.

Wang, Han, and Lu (2016) developed an economic model to analyze the asymmetric demand responses of energy price changes to empirically evaluate the direct and indirect rebound effects on household energy consumption in Beijing, China. The model assumes that the efficiency elasticity of the energy price is zero, meaning the price is mainly affected by changes in demand, not changes in efficiency. Wang et al. define the direct rebound effect as the price elasticity of energy demand. The data evaluates several variables from 1989 through 2012 including per capita energy consumption, per capita disposable income, per capita habitable surface area, the average price of residential electricity, and the number of cooling-degree days in Beijing. One concern to note is that the sample size for these observations is 24. Although it is difficult to evaluate how many observations are sufficient for analysis, I hope to use thousands of records to reduce sample bias. The analysis found that the total long-term and short-term rebound effects are 46% to 56%, and 24% to 37% respectively. Long-term is defined as longer than one year. This is insightful to my research because it is intuitive that consumption patterns adjust over a period longer than 12 months, so it may be beneficial to look at the data in these two time periods to account for states who recently enacted energy efficiency policies.

Broberg, Berg, and Samakovlis (2015) studied the economy-wide rebound effect from energy efficiency improvements in the Swedish industry. The economic model establishes five scenarios that incorporate 27 sectors of the Swedish economy, energy efficiency is increased in the model by adding a five percent one-off step increase in efficiency. The results show that the economy-wide rebound effect ranges from 40% to 70%. Additionally, the rebound effect is higher when the labor supply is flexible. Limitations of this study are presented by the fact that it is based on economic modeling rather than on observed data. In reality, the five percent one-off step increase in efficiency is unlikely to occur across all sectors simultaneously, and the costs of the reduction will vary greatly across industries. Despite these limitations, the study provides some insight into the magnitude of the rebound effect at an industrial level. It is interesting comparing the magnitude of the rebound effect to the results from Wang et al, although the range in this study is significantly higher it could be said that the rebound impacts the industry more than residential consumers. In my research, I will focus on the residential rebound effect to gain further insight into individual consumption behavior.

Energy efficiency programs often implement complex pricing structures so that consumers are rewarded for conserving during periods of high demand. Ito (2014) analyzes how consumers are motivated by price by comparing whether they respond to marginal or average prices, using evidence from nonlinear electricity pricing from California. The study uses panel data from 1999-2007 for 3,752,000 households on the border of electric utility service areas. As a result, while the demographic and housing characteristics are balanced on both sides of the border, the treatment is random because homes are assigned an electric service provider based on their address, that is customers cannot choose their utility. The analysis found that customers responded to the average price rather than the marginal price of electricity, and that nonlinear tariffs may result in increased consumption. It discusses that these results are likely due to the fact that it is nearly impossible for consumers to measure cumulative consumption throughout a billing cycle, and are more likely to react based on average price. This research is interesting as it aims to understand how consumers are motivated to make consumption decisions. Utility-mandated energy efficiency programs often utilize nonlinear pricing structures to manage demand, however, this research suggests that this method may not effectively reduce consumption. Although this study examined consumers' reactions to changes in nonlinear price structures, it did not zero in on price changes directly resulting from energy efficiency programs, so my research will contribute additional insight into this field.