Biased Thinking in the “Energy Efficiency Gap”

Blog | July 09, 2012 - 1:15 pm
By Steven Nadel , Executive Director

UPDATE: A revised and updated version of this blog entry can be found here. This ACEEE paper was written to comment on a January, 2012 paper that Allcott and Greenstone published in the Journal of Economic Perspectives. Allcott and Greenstone have since revised their paper to respond to some of our criticisms. The new version of Allcot and Greenstone’s paper can be found at: ACEEE has updated our paper to comment on this new version. Click here for the updated paper.

“Is There an Energy Efficiency Gap?” is the title of a recent article by Hunt Allcott and Michael Greenstone published in the Journal of Economic Perspectives. In the article, Allcott and Greenstone examine energy efficiency and specifically “whether there are investment inefficiencies that a policy would correct.” They conclude that “the available evidence from empirical analyses of weatherization, demand-side management programs, automobile and appliance markets, the “landlord–tenant” agency problem, and information elicitation suggests that while investment inefficiencies do appear in various settings, the actual magnitude of the Energy Efficiency Gap is small relative to the assessments from engineering analyses.”

ACEEE has just released a white paper examining their arguments. We find that while the authors have a few useful insights, in general they selectively mine available data to make their points, ignoring other important findings in the various articles they cite.

To provide just one example, Allcott and Greenstone argue that minimum energy efficiency standards are an expensive way to address energy use externalities. They cite an analysis by Alan J. Krupnick and co-authors that examines the Waxman-Markey cap-and-trade bill. Allcott and Greenstone state that this study finds that “[t]he cap-and-trade, or an equivalent carbon tax, abates carbon dioxide at a welfare cost of $12 per ton. If there are no investment inefficiencies, the energy efficiency standards [in Waxman-Markey] are five times more costly, or $60 per ton.” What they don’t say is that Krupnick looks at two different discount rates to evaluate standards—20% real (the values Allcott and Greenstone cite, labeled “no market failure” by Krupnick) and 5% real. At the 5% discount rate, Krupnick finds that appliance standards have a cost of only $7 per ton, substantially less than the cap-and-trade program. What makes this omission particularly misleading is that the efficiency standards are designed precisely to address investment inefficiencies. Hence the authors are citing a case (20% discount rate) that is of only academic interest while ignoring the policy-relevant case.

In much of the other research they cite, they emphasize results using high discount rates and do not even mention lower discount rate scenarios from the same articles. Likewise, they tell only part of the story when they say that landlords paying for investments and tenants paying for energy  do not cause a big barrier to efficiency investments, citing a study that insulation levels in multifamily rental homes in California are only slightly lower than single-family homes. What they don’t say is that California has a building code that requires all new homes to have high levels of insulation.

In the case of vehicle fuel efficiency, Allcott and Greenstone assert that existing and proposed CAFE standards appear to be overly stringent without reference to recent, dramatic advances in gasoline vehicle technologies. Nor do they mention that the standards now vary with vehicle size, which is relevant to concerns about consumer choice and potential loss of utility. They also ignore investment inefficiencies on the manufacturer end, though these help to explain why fuel economy standards are so useful.

Allcott and Greenstone do have some useful points to make. For example, they argue that consumers are heterogeneous and that policies should be tailored to address this. For example, they argue that appliance standards for heating and cooling equipment should be different in Chicago than in Los Angeles. We tend to agree—for example, we successfully advocated that the latest standards for furnaces and central air conditioners vary between the North and South. However, customizing policies also has costs, and a balance needs to be found between ease and cost of implementation and addressing heterogeneity.

Finally, Allcott and Greenstone argue that additional rigorous empirical work is needed—utilizing randomized controlled trials and quasi-experimental techniques. In fact, Allcott and Greenstone (together and separately) now have two such projects underway. We agree that further study would be useful. We can only hope that these studies are less biased than the Allcott and Greenstone paper examined in our new white paper.

Therese Langer contributed to this blog post.