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Are the New CAFE Standards for Trucks Justified?

by Michael Levi
August 15, 2011

Megan McArdle and Mark Kleiman have been engaged in a little debate on their blogs over the merits of the new CAFE standards for medium and heavy duty vehicles that were announced last week. McArdle criticizes the standards by pointing out (correctly) that commercial trucking operations are pretty sophisticated and cost conscious, which means that unlike car consumers, they’re quite likely to already buy efficient vehicles when high fuel costs merits that. Kleiman replies in defense of the standards by asserting (also correctly) that there are externalities involved: even if no individual trucker benefits from increasing fuel efficiency, society can gain as a whole, since reducing aggregate oil consumption should cut the price of oil. McArdle responds in his comments with three basic claims. First, the rebound effect for heavy trucks should be large, i.e. truckers will drive more if they get more efficient trucks, which will deeply erode any claimed oil savings. Second, since truckers buy diesel rather than oil, the impact of higher fuel efficiency on oil prices will be limited. Third, there are other externalities arising from CAFE standards, some of which may be negative.

These three claims are reasonable but ultimately either wrong or inconsequential; understanding them can give us some insight into how CAFE standards work. Bottom line: The new CAFE standards should deliver net benefits to society.

The rebound claim is the easiest to dismiss. McArdle makes it this way: “Unlike in cars, it is the load, not the truck itself, that comprises much of the weight that the engine is moving, so making the truck lighter, or reducing its power, actually means more trucks pulling more loads.”

The implicit assumption here is that manufacturers will make their trucks lighter in order to meet the new standards, a reasonable reaction given that it’s the pattern we’ve clearly seen in the case of CAFE for cars. But the regulators anticipated this. The fuel economy standards for trucks are designed differently: they are expressed in terms of gallons per ton-mile, not the familiar gallons per mile that’s used for cars. A manufacturer that increases fuel efficiency by lightening the loads its trucks carry gets no credit toward compliance.*

On to the diesel claim, which is also straightforward to do away with. Refineries can alter their operations to change their product slate (within certain boundaries). Less diesel demand means that refineries can tilt their production toward other products, satisfying demand for those and for diesel simultaneously, all while consuming less oil.**

The concern about offsetting externalities is a more worrisome one, though since McArdle wrongly assumes that trucks will be downsized, she overstates the potential problem. But we don’t need to wave our hands to resolve this one: the EPA and NHSTA have provided gobs of analysis on the regulations’ expected impact.

Their conclusion? The regulations would deliver a net social benefit of $49 billion in present dollars. (This assumes a three percent discount rate for most costs and benefits and a five percent rate for climate impacts; the present value drops to $24 billion if a seven percent rate is used for most costs and benefits, and rises to $86 billion if a three percent rate is used for carbon too.) This figure is dominated by “energy security” savings ($20 billion), which basically means reduced oil prices and less exposure to price volatility, and by reduced local air pollution from particulates and ozone ($25 billion). Negative impacts, including accidents, noise, and congestion, are estimated at $8 billion each year.

One can argue with each of these numbers. (My gut says that the energy security figure, as the regulators define it, is probably on the high side, but I’m considerably more confident in the local air pollution numbers.) It would take a lot, though, to overturn the weight of the evidence, which points strongly toward real if not spectacular benefits from the new rules.

All that said, I don’t want to suggest that the new regulations are perfect. In particular, in one important way, they appear to implicitly discount the economic value of reducing U.S. oil consumption. More on that in a future post.

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* There’s also an interesting quirk worth noting here. McArdle and Kleiman both seem to agree that sophisticated truck operators are already capturing all economically attractive opportunities to improve efficiency. Assuming that requires one to conclude that the new CAFE standards will force them to take steps that are uneconomic, which is to say, they will force operators to take steps that increase the cost of delivering a ton-mile (the basic product that truckers provide). But that means ton-miles should go down, not up, i.e. there should be no rebound effect. A rebound effect exists only if one believes, as the U.S. government does, that there are efficiency opportunities that aren’t being captured. (The USG estimates a fifteen percent rebound.) One might try to claim that the marginal cost of delivering another ton-mile is decreased by the CAFE standards, and hence that a rebound effect should exist even if operators are already at optimum efficiency, but that wrongly assumes a static fleet size.

** Another way to see why this argument is wrong is to take is to its logical conclusion. Let’s say we believe that cutting diesel consumption has limited value because we’re not directly cutting consumption of oil. We should then also believe the same thing for gasoline, or for any other refinery product. (Indeed in reality we already do a lot to restrain gasoline consumption.) That would imply that a series of regulations cutting consumption of each refinery product would each have minimal impact. But the combined effect, of course, would be precisely the same as an across-the-board cut in consumption of oil. You can’t have it both ways.



Post a Comment 6 Comments

  • Posted by Megan McArdle

    I think we’re arguing about different things. My point is not that the regulations are justified (or not). Rather, the administration seems to be claiming that the regulations are going to produce large direct savings to the trucking firms for a very small investment from said firms–they’re claiming that the trucking firms themselves will be better off, on net. Or so I read it.

    I’m opposed to CAFE regulations, but mostly because I think they’re the least effective way possible to internalize the externality, not because I think it’s impossible that it produces social benefits. But the section of the article that I quoted did not concern social benefits. It concerned benefits to the truckers. If it is really true that by expending a few thousand dollars, truckers could reduce their single largest cost by 25%, and yet no one has done this, that is a pretty remarkable market failure–especially since many of the proposed fixes, like lower-resistance tires and aerodynamic fittings, are simple retrofits that could be done during routine maintenance.

    On a side note, I understand that refiners can change their diesel/gasoline/etc mix. But my understanding–correct me if I’m wrong–is that the overwhelming determinant of US oil consumption is demand for gasoline, because the historic path of our air quality regulations has discouraged diesel. [insert boilerplate argument here about why that is possibly an anachronism that should be rectified]. Which is why I suspect that changing <5% of demand in the US diesel market is unlikely to have much noticeable impact on the world price of oil.

    [ML: You're right that the administration claims that the trucking firms will be better off on net. I'm almost as skeptical as you are of that (though there are cases where regulations of this sort can be welfare-improving even for sophisticated firms, basically because management attention is a limited resource). That said, that isn't the bulk of the justification that the administration gives in its actual regulatory justification -- it's focused almost entirely on health impacts, carbon impacts, and exposure to international oil markets.

    Re CAFE being the least effective way to internalize the externality, I'd agree that they're less effective than a tax (which I've written in favor of), particularly for heavy vehicles, but since a tax probably ain't happening, one has to be realistic.

    Re refining mix: I don't think that's correct. There are world markets for refined products. If U.S. gasoline demand was the overwhelming determinant of U.S. oil demand, you'd find refiners dumping diesel on the market. Right now, U.S. diesel is averaging $3.897/gal, with gasoline at $3.674. Correct for the higher energy content of diesel and they're pretty much the same. In any case, two other things are more important. First, what you want to do is lower the world price of oil, so the relevant quantity is world demand. Europe is a mirror image of the US in diesel vs gasoline; if the US somehow ends up with a surplus of diesel, it can send that to Europe, reducing European oil demand and hence world prices. As it stands, the U.S. is basically long gasoline, since it produces so much ethanol. Second, in the "energy security calculation", the dominant term isn't the impact on world oil prices (which is probably tiny), but rather adjustment costs stemming from U.S. exposure to volatility. This is pretty murky territory, but it makes intuitive sense: in order to wave volatility away, you need to assume that firms can fully hedge their fuel prices for the life of their trucks, which simply isn't the case.]

  • Posted by Megan McArdle

    Good point re: diesel. However, I remain skeptical that this is going to noticeably impact either world oil price, or global oil consumption.

    On the rest, I understand the argument that the administration is making, but again, this is not an argument about CAFE standards, which I will leave for another day. It is an argument about whether the administration is making absurd claims about the benefits of its regulations, or trucking firms are run by innumerate morons who are too busy trying to figure out how to unwrap the bologna sandwich they brought for lunch to bother putting fuel-saving tires on their vehicles.

  • Posted by Brinda Thomas

    Re ML’s post-script 1 on the rebound effect: How does the decline in the marginal cost of delivering a ton-mile as a result of the CAFE standards assume a static fleet size?

    In theory, a rebound effect could occur in a competitive market if firms price ton-miles near marginal cost. The lower marginal cost per ton mile should increase demand for ton-miles, which could increase number of loads or fleet size in the long-run, which could offset some of the expected reductions in oil demand made through a simple engineering analysis (and yield benefits to truck owners in the form of more revenues). The relevant price for rebound effects in a competitive market is the marginal cost per ton-mile, rather than the average cost, including capital outlays.

    The trucking industry does appear to be competitive, since according to the American Trucking Association, there were 524,000 trucking companies on file with the U.S. DOT as of 2004, 96% operating 20 or fewer trucks and 87% operating 6 or fewer trucks.

    [ML: A trucking company presumably buys trucks so that it makes at least some threshold profit given their lifecycle costs. If you assume that firms are already operating efficiently, then CAFE standards must raise the lifecycle costs of truck ownership. That should lead to a decline in the number of trucks demanded (assuming, reasonably, that firms operate the trucks they own at maximum capacity). Ignoring that is the only way to conclude that the total number of ton-miles, as opposed to the number of ton-miles/truck, would increase due to greater fuel efficiency given the stated assumption.]

    Re McArdle’s point on the benefits of CAFE for truck owners: The highly fragmented nature of the industry can also explain why there may be economically attractive efficiency opportunities available to firms. For the small-business owner operating with limited capital and management resources, making an efficiency investment may not be the highest priority. In addition, even investments that have net benefits with a 3-5% discount rate, as the government assumes, may not pass the firm’s often MUCH higher hurdle rate in the absence of regulations, which are based on the return on investment for trucking operations, cost of capital, risk tolerance, and other non-monetary hidden costs, such as management time. Note that if the trucking industry estimates that some efficiency investments can be recouped within a year or two, that corresponds to rate of return of 50-100%; if firms weren’t making these investments, that means they have hurdle rates of greater than 100%!

  • Posted by Brinda Thomas

    Fair-point: I was looking at ton-miles from the demand-side perspective, i.e the demand for shipping services, which depends on the marginal cost per ton-mile. I am assuming that the technology investment that occurs with CAFE standards in the trucking industry will lead to first, an inward shift of the demand curve for shipping services, holding ton-miles constant, and then an outward shift in the demand curve for shipping services, taking income and substitution effects into account.

    There is a supply-side effect as well, which you’re describing, which theoretically could lead to disinvestment, or a “negative rebound,” i.e. saving more energy that otherwise expected (see work by Karen Turner et al.) In practice, the rebound effect from the CAFE standard would depend on which effect dominates, whether the supply-side disinvestment effects or the demand-side income & substitution effects. Anyway, I think the USG’s 15% rebound effect is reasonable given previous econometric studies of rebound effects in the personal transportation, although that sector may be a poor proxy for commercial shipping.

  • Posted by David B. Benson

    Around here there are many small, highly specialized trucking firms. Some do petroleum products, others hay & straw, or milk, or general supermarket supplies, or frozen pizza, or food deliveries for the greek houses and the dorm cafeterias, or other (unmarked) chemicals, or … Several are arms of heavy construction companies. These last, at least, don’t give a tinker’s **** about ton-mile efficiency and the managements are far to busy with what is important to them, proper construction management use of all resources.

    I rather suspect that the other specialized firms ae likely to have managements which, while able to do better than just unwrap sandwiches, are again so overwhelmed with a variety of day-to-day taks that there is little opportunity to review ton-mileage. Besides, high mileage truck tires aren’t available here; the nearest place might be about 100 km away, so it just doesn’t receive any attention. Maybe now it will.

    Of course the matter is different for long haul trucking firms. But there the nation would be better served if the railroads knew better how to compete for that business; to me it doesn’t seem the railroad companies do all that well. Too slow?

  • Posted by Hans Nicolaisen

    Most long haul freight should be carried by rail, and/or water. Arguing about whether we need new CAFE standards, or LNG, for heavy long haul trucks is wasting time and effort.

    I suppose it can be argued that perishables, such as vegetables and meat, need trucks to get to market before spoilage sets in. Solution? Grow more locally.

    Just in time? Better planning on the part of all concerned.

    How much does all this “high-speed transportation” by long distance trucking cost us in terms of fuel efficiency and money?

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