WP-036: Sébastien Houde, "The Incidence of Coarse Certification: Evidence from the ENERGY STAR Program" (June 2018)
The ENERGY STAR certification program was established in 1992 by the U.S. EPA to help identify the most energy-efficient products in the marketplace. The main feature of the program is a label akin of a brand logo that the most energy-efficient products can prominently display. The label does not provide technical information about energy costs, but instead provides a coarse signal that aims to increase the salience and awareness of energy efficiency. From this standpoint, ENERGY STAR program has largely succeeded. The label has become one of the most well-known logo among U.S. households.
The coarse nature of the ENERGY STAR label can, however, lead to unintended consequences. When a share of consumers has a high willingness to pay for certified products, firms may have little incentive to offer products that exceed the certification requirement. To measure the net effect of the program on energy savings and welfare, we must determine how firms and consumers would respond in the absence of such certification.
The goal of the paper is to simulate a market, in this study the U.S. refrigerator market, with and without the ES certification, taking into account the strategic behavior of the firms and consumer heterogeneity. In this paper, Houde develops an econometric model estimated with rich micro-data for this purpose.
In settings where market failures prevent energy costs from being completely passed through to home prices, building codes can serve as a cost-effective tool for improving residential energy efficiency.
In the main policy simulation, the paper shows that in the absence of the ENERGY STAR certification firms would differentiate their products in the energy dimension by offering a larger share of products that just meet the federal minimum energy efficiency standard, and a small share of products that largely exceed the certification requirement that was then in effect. This result suggests that the assumption that manufacturers would only offer products that meet the federal minimum standard if there were no ENERGY STAR program is incorrect. In fact, in this particular context, the increase at the higher end of the energy efficiency spectrum is large enough that the overall provision of energy efficiency increases in a market not subject to ENERGY STAR. This is a surprising, but intuitive result. The main driver is the existence of a large-enough share of consumers that would respond to energy costs information even in the absence of certification. Therefore, firms find it optimal to offer products with higher efficiency levels that largely exceed the certification requirement.
Consumers are also better off without certification and this holds across income groups and regions subject to low and high electricity prices. High-income households living in regions with high electricity prices gain the most without certification because they highly value products that exceed the certification requirement. Firms tend to benefit from the certification, but the effect on profits is small and heterogeneous.
Overall, the policy analysis offers a cautionary tale on how certification, and more generally, nudges and information-based policies should be used, especially when it comes to address environmental externalities. Historically, ENERGY STAR has been managed like a marketing program where a strong branding effect has been sought, and deemed a successful metric. Consumers' high willingness to pay for the ENERGY STAR label may favor the adoption of certified products, but to quantify the true energy savings and welfare effects we must also understand how the market will respond in the absence of such certification.