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The big argument behind their thinking is the idea that reducing emissions from transport is expensive: investment is too high and it delivers small reductions. That’s what their models tell them. So these specialists advise us to look for other solutions, usually through some form of emissions trading. The funny thing is that almost every Commission impact assessment on, for example, vehicle efficiency regulations says exactly the opposite. CO2 or fuel economy standards reduce greenhouse gas (GHG) emissions at negative cost. They’re not expensive and will actually save money.
How to explain this contradiction? Let me try to explain:
It all depends on how you do it
There are several ways to reduce transport emissions. Let’s take the example of lower CO2 vehicles. A more fuel-efficient vehicle will usually be more expensive to buy. The question then becomes: how important do I find these future fuel savings? Typically the answer is that you don’t value future fuel savings very much. You would much prefer to use the money for something else right now. That’s where the discount rate comes in. If you use a model which assumes car buyers will only react to price signals and nothing else, you’ll need to push that person very hard – for example, through a higher carbon price – before he invests in, say a hybrid car. So this will look like a difficult and expensive way to reduce GHG. This and other barriers are reflected in a 17.5% discount rate. If you compare that to the cost of reductions in the ETS, you might easily conclude it’s much better to focus on GHG cuts in the ETS.
In a clear example of split incentives, manufacturers, which do not benefit directly from the savings, face very low incentives to develop these technologies. Now if you set fuel economy standards that oblige all carmakers to sell more fuel-efficient cars, that same person won’t face that choice. They will just have to buy the more fuel-efficient model. And because all carmakers have to sell cleaner cars, volumes will go up and carmakers will start offering their fuel-efficient models at more attractive prices, getting more fuel savings for less money. A model that looks at it from this perspective – with a discount rate of 3% – will find transport GHG reductions very cost-effective.
Costs are usually overestimated and cost-effectiveness improves over time
Many options to reduce emissions from transport require investments in new technologies. At the start, these technologies can be very expensive but over time the technology’s potential increases and costs decrease. That is already happening to battery costs. Growth in the scale of production, innovation and learning effects are usually underestimated and transport solutions end up looking more expensive than they really are. The fact that technology in transport requires time to fully develop and mature is only one more reason to invest in these projects as soon as possible. Early market deployment is key to achieving the emission reductions in the future.
Lower transport emissions are good for the economy
Reducing GHG in the transport sector means burning less oil. That has an immediate impact on the amount of money motorists spend on fuel. That money can then be spent on other things and boost the economy. Indeed, money spent on importing oil from Russia or the Middle East creates much less jobs or added value in the EU than money that is spent on technology or in shops. Less fuel burned is also good for the air quality of cities. A model that only looks at the abatement cost of transport GHG ignores all this.
You can’t have your cake and eat it too
The downside of greater fuel efficiency and lower fuel use is lower fuel tax revenues. It’s a bit like a government that wants to discourage smoking. It’s clearly a great idea but if you’re successful, ultimately tax revenues will go down. If you use a model that sees this as a monetary loss, that will make reducing transport emissions less attractive. Policymakers should continue to compare abatement options from the welfare perspective but should also interpret the results correctly. This just reflects a changing sector that requires alternative revenue sources to complement fuel taxation. Distance-based road charging seems the best alternative. Apart from replacing fuel tax revenues, it would also encourage transport efficiency, not just vehicle efficiency. Moreover, it also makes sense from a climate point of view. Indeed, the more successful the climate policy is, the lower demand for oil will become. This will depress prices and lead to cheap oil. If you want to avoid cheap oil hindering the use of cleaner solutions, road charging is the way forward.
Investments and policies that address transport emissions need to be in place today to deliver cost-effective emission cuts in the future. Reducing emissions from transport isn’t expensive. On the contrary, if you use the right instruments it’s not just cost-effective but economically beneficial.