The cost-effectiveness of carbon abatement in the transport sector Dr Jillian Anable The Centre for Transport Policy, The Robert Gordon University and The UK Energy Research Centre (UKERC) [email protected] February 2008 This research was commissioned and paid for by Campaign for Better Transport, Carplus, CTC, Friends of the Earth, Living Streets, Railfuture and Sustrans. For more information, please contact Campaign for Better Transport: 12-18 Hoxton Street, London N1 6NG, 020 7613 0743, [email protected], www.bettertransport.org.uk. 2 CONTENTS Page Executive Summary 4 1.0 Introduction 11 2.0 The cost of carbon reduction from transport – background analysis 11 2.1 Why the emphasis on cost-effectiveness? 11 2.2 Government assessments of cost of abatement from transport 12 2.3 Why is it claimed to be more expensive to reduce carbon from 14 transport? 3.0 Approaches to evaluating the costs of alternative policy options 19 3.1 Cost Benefit Analysis 20 3.2 Cost-effectiveness 20 3.3 The social cost of carbon 21 4.0 The state of the evidence 24 4.1 The emphasis in evaluation and transport policy has been on 25 technical solutions 4.2 The UK Government’s own analysis shows technology options to 26 be expensive 4.3 Estimates of the cost of transport technology in the future are 31 uncertain 4.4 The urgency of the problem and the timing of emissions reductions 33 have been downplayed 4.5 The evidence on cost-effectiveness of fiscal instruments has been 34 downplayed 4.6 The evidence on cost-effectiveness on behavioural measures has 34 been downplayed 4.7 Carbon pricing and emissions trading cannot be relied upon to 43 reach our climate goals 4.8 Packages of policies need to be evaluated 45 4.9 The assumption that travel demand will automatically increase 46 leads to higher cost assessments 4.10 Carbon reduction is not the only goal 47 4.11 Cost-effectiveness is a difficult measure to use as an instrument of 49 comparison across timescales, policies and studies 4.12 Some transport policy instruments have not been systematically 51 evaluated in terms of carbon abatement and cost-effectiveness 5.0 Discussion and conclusions 54 6.0 References 60 3 EXECUTIVE SUMMARY The abatement of greenhouse gas emissions in order to avert the most serious consequences of climate change will not be cheap. However, neither will adaptation to the effects of a changing and volatile global climate. Sir Nicholas Stern reviewed precisely this issue and concluded that, by incurring costs now to avoid serious and more expensive future consequences, money spent on mitigation could be a wise investment. However, for this to make the best economic sense, the costs of abatement should not exceed the value of the damage of that carbon over its lifetime - the social cost of carbon (SCC). The effect of this debate has been to shine an intense spotlight on the costs of carbon reduction. In recent years, many global and UK based studies have compared sectors of the economy and individual policy instruments according to their potential to save carbon and the costs this would incur. The conclusions to these analyses are remarkably consistent: carbon abatement will be more expensively achieved in transport than other sectors such as residential, industry or energy supply. This paper examines the background and robustness of this assertion. The discussion can be distilled into three crucial issues which, depending on how they are handled in any analysis, together dictate whether or not transport measures will be deemed a more or less cost-effective route to carbon reduction. In short, these are the assumptions about future costs and level of travel demand, the methods applied to compare policies for cost-effectiveness and the evidence base used in relation to different types and combinations of policy instrument. Assumptions In summary, there are four principal assumptions which repeatedly underpin the assertion that carbon abatement is more expensive in the transport sector. Firstly, conclusions about the high cost of carbon abatement in the transport sector appear to emanate from models which essentially assume a business as usual baseline for travel demand growth. This, in turn, is based on a highly static view of the economy and consumer demand which is still almost entirely oil dependent and predicated on a continuation of the link between transport activity and economic growth. 4 The expectation that transport is expected to be one of the fastest growing end users of energy into the future emanates from a partial examination of the literature. This partial picture leads to a conclusion that travel behaviour change is too difficult and any evidence suggesting otherwise is not robust. It also emanates from a failure to consider an alternative future where oil is not as cheap and plentiful as it is today. This may have a variety of implications for the analysis such as the effect of overestimating economic growth and/ or stability (and hence travel demand), downplaying the risks of relying on conventional technologies and overlooking the role of innovation towards alternative fuels and lifestyles. Yet, most importantly, the costs of achieving carbon reductions are self evidently higher if travel demand is assumed inevitable than if an alternative, less pessimistic trajectory is adopted. This is because the higher the travel demand assumed, the greater and costlier the task of reducing its impacts. Instead, cost-effectiveness needs to be assessed against a responsive and dynamic trajectory of traffic growth into the future. Secondly, whilst the emphasis in research and policy is placed on technical solutions to carbon reduction from transport, analysis reveals these solutions to be more expensive than behavioural interventions. The costs of vehicle manufacture and the production of alternative fuels are thought to be expensive in the longer term. Indeed, the UK Government’s own analysis of the technical transport solutions included in its Climate Change Programme (the Renewable Transport Fuel Obligation and the EU Voluntary Agreements between motor manufacturers regarding fuel efficiency improvements), shows them to be more expensive than other measures such as smarter choices, fuel duty, sustainable distribution and the reduction of motorways speed limits. It has to be noted, however, that estimates of the cost to manufacturers in meeting new targets imposed by the EU on new car vehicle efficiency vary by a factor of 10. Moreover, historical evidence suggests that manufacturers’ forecasts of the costs of complying with regulation very often turn out to have been overly pessimistic. Also, cost assumptions are inflated by the negative macro-economic effects that get factored into the calculations. This includes any detrimental effect to the vehicle manufacturing and fuels sectors given the contribution they make to the UK’s economic growth and employment objectives. On the other hand, the notion that innovation in the alternative energy sectors can also be valuable to the economy is often not considered. In addition, policies which successfully improve vehicle efficiency (or indeed reduce travel demand) may involve a reduction in public revenues (from fuel tax forgone) making some instruments more costly in welfare 5 terms. In addition, the estimates of technology costs often fail to consider the cost- effectiveness under varying policy contexts, some of which may provide a better framework for demand creation and innovation. Thirdly, transport solutions often come out as more expensive because of the effect of ‘comfort taking’ or ‘rebound’. This is where some of the cost or time benefits introduced by, say, more efficient engines, make it more affordable for car owners either to drive more or to trade up in vehicle specification (e.g. larger engine sizes or more in- car accessories). This not only counteracts the carbon reductions which would otherwise have taken place, but also generates other disbenefits such as increased air pollution, congestion or road accidents due to higher traffic levels. The clear implication is that the carbon reductions delivered through improved vehicle technology will be smaller in scale and higher in cost in the absence of other complementary ‘locking-in’ measures. Fourthly, any reduction in travel demand or indeed alteration of car purchasing habits is often assumed to have a high welfare penalty to consumers. Travel demand is assumed to generate utility for individuals which, in the aggregate, may outweigh the cost to society of the externalities caused by this activity. For example, many economists argue that bigger cars generate more welfare as consumers are willing to spend more on a bigger car than a smaller car. Yet, this conclusion is also based on a static view of the economy. In other words, whilst it may appear to be difficult to reduce demand now (although this paper also presents evidence to refute this assumption), a change in policy context may also change the cost-effectiveness of different actions. For instance, rising oil prices or supply volatility may increase the desire and utility for less car dependent lifestyles. It is also questionable the extent to which the welfare costs of as yet unfulfilled demand should be factored in to any analysis. Methods As with most problems, there are many potential solutions to climate change. Which is selected will be at least in part dependent on how the problem is evaluated. Current policy emphasis based on neo-classical economic theory suggests we may want to know what we are willing to pay to save a tonne of carbon. To do this, we compare the costs of reducing the emissions with the social cost of carbon (how much the damage is ‘worth’) in order to decide whether we think this is worthwhile. This leads to a discussion about the ability to assess impacts, the value of future impacts to today’s society and the different conclusions generated by considering these issues under assumptions of more or less 6 successful policy delivery in the future. This is because the SCC will be lower at any given time with climate change policies in place (thus less damage assumed) than under business as usual. Whilst cost-effectiveness analysis may be an appropriate means of identifying the cheapest way of achieving a particular goal such as carbon reduction, it has inherent limitations with regard to the assessment of transport policies where the policy objectives are not necessarily only to reduce carbon emissions. The essential feature of transport policy must not be lost in any assessment of the cost of carbon abatement: namely that traffic levels may be legitimately reduced for reasons other than carbon reduction such as congestion relief; improved accessibility; reduced local environmental damage; better fitness and health; productive use of scarce land and resources etc. The focus on a static picture of cost-effectiveness also disadvantages many transport policies which become more cost-effective when looked at in combination with other measures (e.g. the locking-in of efficiency gains from road pricing) and when the timescale of the impacts are taken into consideration (e.g. quick wins from speed enforcement or travel planning). Evidence Analysis has been applied to a narrow set of transport policies without due account of the emerging evidence on the potential for demand reduction in this sector. This paper presents evidence relating to smarter choices, mode shift to non- motorised modes and from air to rail in the UK, together with economy wide assessments which highlight the potential for small scale infrastructure improvements. Combined with evidence on the potential for changes in car purchasing behaviour to achieve significant emissions reductions, this all points to the need to take seriously those strategies which change travel behaviour to increase transport system efficiency. Many studies that have compared mobility and air quality strategies have concluded that demand management strategies are among the most cost-effective in that they can reduce a trip, mile of travel or tonne of carbon for a relatively modest amount of money. Demand-side strategies may not be the primary solution to these problems. Nevertheless, they are an essential part of the solution in order to increase the likelihood of net carbon reductions being delivered from technical applications and in order to 7 insulate against possible economic discontinuities due to supply side constraints and climate change. Of course, it is not only the transport sector which is sensitive to these issues relating to assumptions, methodology and evidence. Nevertheless, it may be the case that these variables are more critical for transport solutions than for other sectors. For instance, downplaying the importance of timescale and cumulative emissions may lead to a disregard of cheaper, demand side solutions; assumptions about oil availability may grossly underestimate the impact on this most oil dependent sector of a reliance on distant technical solutions; emphasis on cost-effectiveness may forget the fact that most transport solutions are implemented for other reasons than carbon reduction; preoccupation with public acceptance may lead to a disproportionate weight attached to assumptions about welfare costs. Recommendations for further research There are a variety of important gaps in the evidence base. These relate to policies which have not been systematically assessed for their implications on carbon emissions and costs of abatement such as road building; the potential for carbon reduction from road user charging, public transport and land use planning; the potential for cost-effective carbon reductions from freight; the cost of instruments to reduce emissions from aviation and shipping; the potential for carbon budgeting at the local level and the integration of assessments of adaptation into evaluations. Most importantly, there is a dearth of evidence on the potential for packages of policies which can lock-in the benefits of technical efficiency gains or increased road capacity. Policy recommendations There are three main policy recommendations which flow directly from an examination of the evidence: 1. The Government should adopt a more dynamic approach to the shadow price of carbon. In the wake of Stern and Eddington’s recommendations that the carbon price is important and that ‘the prices must be right’, the Government is placing much emphasis on policy approaches which internalise the cost of carbon. Yet, Stern was clear that the purpose of pricing is to deliver on policy goals – i.e. the goal determines the price. Instead, it could be argued that the Government is letting the price determine the goal by 8 relying on internalising the cost of carbon to reach carbon reduction targets and by relying on the shadow price of carbon (SPC) as a framework for policy appraisal. Instead, many believe that the approach to the priorities for carbon abatement policy needs to be more dynamic by starting with the stabilisation goal and then adopting a price of per tonne of carbon related to the cost of achieving this (using a marginal abatement cost curve). The current Government approach – to base the carbon price purely on the damages of climate change consistent with a given target – could lead to perverse consequences as the more ambitious the carbon reduction target, the lower the social cost of carbon needed to help achieve it. This could result in weaker policies, the delaying of abatement and fluctuations in the carbon price. The Government have agreed that there is ‘merit in considering a move towards a marginal abatement cost based approach to calculating the SPC’ and this paper strongly recommends a review of the Government’s approach in line with this. 2. Cost-effective carbon reduction from transport requires a market transformation approach to affect demand reduction and innovation. Carbon price can only be regarded as one prerequisite to cost-effective carbon reduction, it is by no means a panacea. The unpriced nature of the emissions that cause climate change are only one market failure that characterise the problem. Others include innovation failures and failures that inhibit behaviour change. On innovation, the issue is not just how much do low carbon technologies cost, but how to direct the continuing investments that will be necessary towards low carbon transport technologies in ways that will stimulate innovation and reduce these costs. On behaviour, the evidence on the potential for travel reductions to be made relatively cheaply and with co-benefits such as safety and accessibility has been downplayed. This includes the potential for fiscal policies to achieve significant, cost-effective and sustained carbon reductions. The evidence suggests that most individuals have some room to alter their behaviour in ways that may reduce car use through altered mode choice or trip lengths, by better coordination of their daily activities, or, in the longer term, by adjusting their choice of work or housing location. In other words, individual travel behaviour change can manifest itself in a variety of ways. The literature shows that these changes are already being encouraged through mechanisms such as smarter choices and investment in non-motorised modes and that the there is great potential for further demand reductions. Instead, the emphasis on technological solutions from transport 9 disregards the need for near-term action to reduce emissions in line with the need to stabilise atmospheric concentrations to avoid runaway climate change. Thus specific policy instruments will be necessary alongside carbon pricing to change behaviour, whilst supporting the development of a market through regulations and technological developments, which themselves will be subject to an assessment of their relative carbon benefits and value for money. 3. The rebound effect is not inevitable – policies can be targeted to reduce its effect. The rebound phenomena clearly shows the shortcomings of the current focus on vehicle technology - as most CO -emissions come from increased mileage. To obtain the 2 full potential savings from increased vehicle efficiency would require complementary measures to restrain demand increases in which case the costs of achieving the reduction would fall. Given the strength of the rebound effect in the transport sector, accepting it as inevitable rather than something to be concertedly mitigated by policy using fiscal (e.g. fuel duty) and regulatory instruments (e.g. mandatory minimum vehicle standards), will lead to spurious conclusions that carbon abatement in transport is more expensive. Evaluations of cost effectiveness need to be explicit about the increased costs due to the rebound effect and to consider the optimum combination of policy instruments. Transport policy then needs to be designed to explicitly mitigate the rebound effect. Put alongside the gaps in the evidence base identified, these final conclusions highlight the difficulty in making any definitive conclusions about where the most cost optimum carbon reductions can be made. Nevertheless, the newly created Climate Change Committee is set to identify the potential carbon abatement from the ‘tradeable’ and non tradeable sectors. Transport, apart from aviation, is non tradeable and requires robust evidence base and analysis in order to develop carbon budgets that deliver what is needed. On this basis, it would appear irresponsible to dismiss the large body of evidence which exists to suggest that travel behaviour change - in all its guises from car purchasing, to location choice, driver style and mode shift – offers a serious foundation for non-marginal, relatively inexpensive carbon reductions from both passenger and freight transport. The precise figures on costs and impacts are less important than the consensus that is emerging about the scope for demand side policies to deliver. 10