One of the first lessons taught in Economics 101 is the lesson of supply and demand. In the recent debate over energy policy, President Bush focused on encouraging oil exploration, or increasing supply, while his opponents talked of energy conservation, or decreasing demand. Which is the better way to deal with the situation?
The short answer is: working to increase supply, because government-mandated conservation efforts never work to alleviate shortages. In fact, they do the opposite. The long answer involvesyou guessed ita refresher course on how the law of supply and demand works.
Markets or Mandates?
That mandated conservation measures actually increase energy usage is counterintuitive, and requires one to think in economic terms. And thinking in economic terms means one must distinguish between voluntary, profit-seeking conservation and government-enforced conservation. Let's deal with the latter idea first.
Mandated energy conservation seems logical enough: Force every home, factory, or office park to be more energy efficient, and the amount of energy we all use decreases.
True, a person who buys a car that uses gasoline more efficiently will use less gas per each mile traveled. But an analysis that stops there is incomplete. Since each mile now costs less, he is likely to buy more of them. He can afford to drive more. The result may be no net energy savings, or even an energy loss.
Or consider a company that develops a way to use less electricity to produce that same car. Seeking a competitive edge in the marketplace, the company passes the savings it obtains by using less electricity along to its customers, in the form of lower prices. Customers see a bargain, and sales increase. The company makes more carsand its electricity use goes back up, or even increases.
Ironically, then, we find that increased energy efficiency usually leads to more energy consumption, not less. An industry that becomes more energy efficient becomes more productive, and more productive industriesand economiesuse more energy.
A historical example illustrates the point. The Watt steam engine of the 18th century was much more efficient in energy produced per unit of coal than its predecessor, the Newcomen steam engine. When the Watt engine first came into use, Britain's demand for coal declined. But the decrease was only temporary. Watt's device became such an engine for economic growth that it actually increased tenfold the demand for coal between 1830 and 1863. More efficiency led to more energy consumption.
The counterintuitive truth is that individual efforts to use less energy do not result in a net reduction of energy use across the economy. Each additional watt of energy costs more to produce than the last. So if enough individuals cut back on using say, air conditioners, the cost of producing the extra units of energy goes down. But when the cost of most products goes down, the amount of the product consumed goes up. This is known as the "rebound effect."
The Cost of Forced Conservation
Moral exhortation to voluntarily use less energy is harmless (though ultimately useless), but government-enforced measures can impose unnecessary costs on peopleeven deadly costs. For example, government-mandated automobile fuel efficiency standards are responsible for anywhere from 1,300 to 4,500 more highway deaths per year than would have occurred otherwise. It's simple physics combined with economics: The requirements result in more small cars being sold than would otherwise be the case, and small cars are not as safe as large cars when they collide with other objects, even smaller cars.
Forced conservation is also bad policy because it is regressive. If a government mandate increases a product price by $100, that extra expense hurts a lower-income family more than it does a higher-income one. Mandates have already raised the price of autos, and threaten the affordability of other products. Scholars at the Washington, D.C.-based Competitive Enterprise Institute estimate that the cost of washing machines will soon rise nearly $250, while the cost of central air conditioners will increase by $335, thanks to new government energy mandates.
What Good Is Conservation?
Even though energy conservation doesn't reduce overall energy consumption, it can still be useful. If it takes less energy to produce something, consumers enjoy more and cheaper products. Energy efficiency thus allows the poor to enjoy what was previously beyond their grasp, and economic growth provides more jobs for all. The key, though, is that energy conservation "works" only when it is driven by competitive markets, not mandates.
As the president and Congress debate energy policy, they would be wise to note that while conservation can have some benefits, reducing the total amount of energy we use isn't one of them.