WP-026: Lucas W. Davis and Christopher R. Knittel, "Are Fuel Economy Standards Regressive?" (December 2016)
The Corporate Average Fuel Economy (CAFE) program was introduced in 1975 with the objective of reducing gasoline consumption. Under CAFE, automakers are required to meet a minimum sales-weighted average fuel economy for their vehicle fleets. Fuel economy standards impose costs, but who bears those costs?
CAFE standards create an implicit subsidy for fuel-efficient vehicles and an implicit tax for fuel-inefficient vehicles. Lucas Davis and Christopher Knittel create a model to determine which U.S. vehicles are most subsidized and most taxed, and then compare the pattern of ownership of these vehicles between high- and low-income households. When the analysis only looks at new vehicles, Davis and Knittel find that CAFE is mildly progressive. High-income households bear more of the cost as a fraction of income than low-income households. This mainly reflects that high-income households buy more new vehicles. When they expand the analysis to include used vehicles, however, fuel economy standards become mildly regressive.
The paper then compares this to a gasoline tax. Although gasoline taxes are often derided as “regressive”, the distributional impact of a gasoline tax strongly depends on what is done with the collected revenue. Using existing estimates from the literature, Davis and Knittel show that when revenues are returned uniformly, then a gasoline tax is actually more progressive than fuel economy standards. Thus gasoline taxes are not as “regressive” as commonly believed, nor are fuel economy standards as equitable as some policymakers believe. In the end, the paper concludes that it is difficult to argue for fuel economy standards on the basis of distributional concerns.
This distributional impact is one of the factors that must be considered when comparing standards to alternative policies for reducing carbon dioxide emissions. Economists have long complained that fuel economy standards are an inefficient way to reduce gasoline consumption and prefer a gasoline tax. In a survey of top economists, 90% said that they would prefer a gasoline tax over standards. Fuel economy standards don't achieve the efficient level of vehicle usage, nor do they create efficient incentives for owners to scrap older fuel-inefficient cars, nor do they efficiently distinguish between vehicle models with different average longevities. While there may be political reasons to prefer fuel economy standards, all economic arguments - efficiency and equity - point toward a gas tax.