Should We Pay People to Drive Their Electric Cars? – Energy Institute Blog

Should We Pay People to Drive Their Electric Cars? – Energy Institute Blog

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The EPA considers subsidizing electric fuel.

Over the last several years there has been a lot of excitement about the potential growth of the electric vehicle (EV) market. Much attention has been devoted to recent efforts to direct large amounts of public funds to subsidizing the purchase of EVs, and the installation of EV charging stations. In addition to the more widely publicized vehicle subsidies and infrastructure investments, there has been a more subtle incentive directed at the EV market, namely rewarding firms for selling the electricity that goes into EVs. 

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The main policy that has been subsidizing juice for EVs has been California’s Low Carbon Fuel Standard (LCFS). But now, there are several reports that the U.S. EPA will add electricity as a clean fuel eligible for credits under the Federal Renewable Fuel Standard (RFS) program. Historically, both programs have been more widely known for boosting sales of biofuels like ethanol and renewable diesel.  

Normally, subsidizing firms to sell a fuel would lower the price of that fuel for consumers, and maybe that will happen in this case. But, somewhat strangely, to date, these policies haven’t seemed to meaningfully lower the electricity prices paid by drivers. The reasons are complicated, and we explore them in this report. It is worth asking, as well, do we even want to make it cheaper for people to drive their EVs?

The general idea behind both the LCFS and the RFS programs is to require firms that market gasoline and diesel to blend increasing amounts of “clean” fuels into the products they sell. By mixing in ethanol or renewable diesel, the average carbon content of a gallon of fuel goes down. Because biofuels are still, usually, more expensive to produce than traditional petroleum fuels, these programs also tend to modestly raise the price at the pump for blended fuels while generating large amounts of revenue for biofuels producers. The price of biofuels goes down, but the price of the combination of petroleum and bio fuel goes up.

While petroleum companies periodically grumble about these costs, the concern of environmental economists has been that these approaches didn’t raise gasoline costs enough. After all, driving creates all sorts of external costs, including air pollution of course, but also traffic congestion and fatalities. Most drivers ignore these costs and the result is too much pollution, traffic, and deaths on the road.

Unlike the RFS, the LCFS has always allowed credits to be generated not just through blending biofuels into the traditional fuel stock, but also by selling “alternative’’ fuels like hydrogen or electricity. These alternatives stand apart in that they don’t directly displace liquid fuels in the same cars, but rather require entirely new types of cars to utilize those fuels.

Why would we want to subsidize the cost of driving electric vehicles? The main answer is to make EVs more attractive than gasoline powered vehicles. One would think that lower electricity prices would stimulate EV demand, but my work with Dave Rapson and Erich Muehleggar indicates that EV vehicle demand is much more sensitive to gasoline prices than to electricity prices.  

The operating assumption behind awarding clean fuel credits to electricity is that a mile driven by an EV displaces a mile driven by a gasoline powered car, thus reducing carbon emissions by a little bit. If the cost of “clean” fuel is more than plain gasoline, total driving should also go down. But unlike biofuel mandates, which still raise the cost of driving, subsidizing juice for EVs could make driving really cheap.

The math, and the implications of it, can look strange at times. Up until this year’s precipitous decline in LCFS credit prices, the value of the LCFS credits generated by selling a kWh to charge an EV in California was close to the retail price of power, and up to 3 to 4 times the actual cost of producing that power.   Boosting electricity values by adding on an RFS credit on top of the LCFS could very well return us to a situation where firms can make money by giving away electricity to drivers, or even paying drivers to take it.  The more EVs drive, the more money to be had through credits.  In 2019, when LCFS credit prices were in the $200 per ton of CO2 range, a firm could have easily made money by driving EVs around a track on auto pilot and recharging them with “clean’’ electricity that was more than paid for by LCFS credits.  

Another problem that the LCFS has struggled with is that it can be surprisingly difficult to measure the electricity that goes to cars, as opposed to say, air conditioning. It is not clear yet what the EPA plans to do.

Such an alice-in-wonderland result highlights the tenuous logic behind clean fuel subsidies: that paying people to use clean fuel will automatically reduce the use of dirty fuel, rather than just expand the combined use of fuels. Ultimately, we don’t want people to drive EVs more, we want people to burn less gasoline.  Subsidizing electricity for cars will probably have some effect on gasoline, but with some strange trips along the way.

Of course increasing the price of gasoline and diesel would both stimulate EVs and reduce the other externalities associated with driving. There has been a lot of dunking on environmental economists in the press and on Twitter over the last several months. The gist of this is that Democrats “finally got major climate legislation passed because they got smart and ignored the economists.” But passing legislation and actually reducing externalities are not the same thing.  The results of subsidizing driving, even if it’s in an electric car, may drive home this distinction. 

Keep up with Energy Institute blog posts, research, and events on Twitter @energyathaas.

Suggested citation: Bushnell, James. “Should We Pay People to Drive Their Electric Cars” Energy Institute Blog, UC Berkeley, October 10, 2022, https://energyathaas.wordpress.com/2022/10/10/should-we-pay-people-to-drive-their-electric-cars/

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