Implications of Behavioral Economics for the Costs and Benefits of Fuel Economy Standards

Purpose of Review: This review focuses on recent developments in the application of behavioral economics to the evaluation of energy efficiency and greenhouse gas regulations. Transportation is the largest source of CO2 emissions from energy use in the US economy and a major and growing source worldwide. Regulating the efficiency of motor vehicles has been a core component of energy policy in the USA, the EU, China, Japan, Canada, and many other nations. Recent findings concerning consumers’ actual decision-making about energy efficiency indicate that the premises of the rational economic model are not appropriate for evaluating energy-efficiency standards. Recent Findings: Progress in behavioral psychology and economics has shown that loss aversion, the principle that faced with a risky choice human beings tend to weigh potential losses about twice as heavily as gains, is strongly affected by framing. Simple, risky choices in which there is a status quo option generally provoke loss-averse responses. Recent analyses show that the choice to buy or not buy energy-efficiency technologies induces loss aversion and can result in systematic underinvestment in energy efficiency. Empirical investigation of consumers’ fuel economy decision-making contradicts the rational economic model and is consistent with loss aversion. However, recent economic evaluations of fuel economy and greenhouse gas regulations are explicitly or implicitly premised on rational economic behavior. Summary: Insights developed by behavioral psychologists and behavioral economists about the decision-making of real consumers provide a coherent explanation that fundamentally alters the way fuel economy regulations should be evaluated. If consumers are assumed to make decisions according to the rational economic model and markets are reasonably efficient, regulations cannot produce large private fuel savings. The behavioral economic model explains not only why such savings do exist but why consumers strongly support fuel economy regulations. The private savings from fuel economy regulations can be large relative to the social benefits of fuel economy and greenhouse gas regulations. © 2019, Springer Nature Switzerland AG.