Maximizing JamesHappy 1.0

In all my writings on well-being, I haven’t clearly articulated what I’m trying to maximize. For simplicity’s sake, I’ll call it JamesHappy 1.0.*

Painfully written in full, it’s the U.S.’s net present value of a combination of mean per-capita well-being and life expectancy, constrained by a minimum baseline that each person should have and with the possibility of separate categories for foreigners based on the aforementioned categories and the quality or well-being of flora and fauna (non-human).

As for an explanation of JamesHappy 1.0’s components, it starts with the most obvious aspect, psychological well-being. As Veenhoven notes explicitly, life expectancy is separate but also matters. Well-being today almost certainly should have more value than well-being in the future, requiring discounting. It must be calculated in mean per-capita terms, because median figures ignore movements among those either doing very well or poorly, and the easiest way to increase total rather than per-capita well-being would be to increase fertility. In the U.S., each person is has basic rights and is entitled to certain services even if the programs do not improve mean psychological well-being. Finally, it is possible (although very debatable) that the U.S. should try to improve the lives of foreigners and sustain or improve the environment to a certain degree even if it doesn’t improve any other aspects of JamesHappy 1.0.

*More professional-sounding names could include “Comprehensive Discounted Happy Life Years” based on Veenhoven’s word choice, although directly multiplying life satisfaction on a 0-10 scale and life expectancy is not necessarily the appropriate weighting. Some other ideas are “Consensus well-being” (even if there’s no consensus about this at this point) and “Maximized Ideal Society Figure” (which, I admit, could be misinterpreted as a socialite with an amazing – or rotund – body).

“Psychological Security” Finds its Unlikely Ally: Energy Security

Happiness and energy security seem like strange bedfellows. At the extremes it’s smiling vs. safety, gregariousness vs. geopolitics, tenderness vs. terrorism. Yet they share surprising similarities that can help happiness gain a foothold in energy policy discourse.

The current dominant paradigm when it comes to oil is energy security or its variants, oil security or energy/oil independence. America’s reliance on importing a volatile commodity raises a host of issues, including concerns about its effect on the economy, the ability to obtain supplies during crises, and how the oil wealth can empower foreign governments to pursue agendas hostile to the U.S.’s interests.

Besides the macroeconomic consequences, it’s clear that a traditional method of analyzing policy, maximizing GDP, was completely inadequate as the one central goal for energy policy. There’s willingness in the energy policy community to listen to more than energy economists because of the very diverse concerns.

Psychology and happiness can come into this mix. Papers combining energy and happiness have begun to appear, including the negative effects of commuting to work and living near airport noise. The core players in energy policy, economists and security experts, are not foreign to happiness studies either; economists have done much of the statistical work on happiness data sets, and some of these economists have looked at the negative effects of political corruption and terrorism central to discussions of energy.

Previous price shocks led to widely acknowledged psychological impacts, even if quantification seemed out of the question. The frustrations and anxiety of sitting in gas lines in the 1970s were clearly separate from the embargo’s GDP impact. Likewise the media frequently covered the anger that consumers felt during the 2008 price shock.

If happiness needs a nudge to enter a field that admittedly sounds too macho to have concerns about well-being, one could rename it “psychological security” to fit right in. Bastions of toughness are already adopting it, as the military is testing positive psychology en masse to improve the psychological readiness of its soldiers in a proactive attempt to ward off PTSD and depression. From a psychological level, looking at the immediate effects of a price shock in security terms, while tending toward being overly narrow, has strong merits, as it likely increases feelings of helplessness, vulnerability and fears of future terrorist attacks. Many who bought SUVs did so to secure themselves from the errors of other drivers – but in the face of high gasoline prices, they were completely insecure.

Finally, somewhat ironically, the fact that happiness – or “psychological security” – and energy security are fairly ill-defined concepts allows them to more freely overlap. As Michael Levi wrote recently, “We know a lot less about what energy security is than our confident rhetoric suggests.” With energy security a kind of grab-bag of good outcomes related to energy with only air pollution, climate change and energy poverty usually separate, psychology can fit right into the mix. Already behavioral economists and sociologists are trying to figure out how to encourage people to conserve energy and some ethnographic studies are looking into how vehicles that people purchase have symbolic meaning for their identity.

Issues traditionally considered central to energy security are really issues of well-being not explicitly stated, after all. The security consequences of not having energy supplies during times of war could have profound security and obviously well-being consequences if Americans are dying, fearing for their lives, or living in a state with a teetering government. And as previously mentioned, terrorism decreases well-being.

In a few decades, the question may not be whether happiness can fit into energy security, but how energy security fits in a more openly acknowledged well-being framework. Energy security as well as many of the other benefits currently cited as reasons to pursue various energy policies (encouraging sustainability, promoting economic growth) are just manifestations of an underlying concept of happiness.

Happiness in the News

Happiness is in the mainstream blog media with this post on Ezra Klein’s Washington Post blog. Increased discussion of happiness as a reasonable part of the policy process is excellent. Ezra has begun to refer to happiness and well-being with some frequency on his site. Just a couple of weeks ago, he cited an Urban Institute report about using measures of well-being - in a post about energy, no less!

As for the particular question today, it’s highly intriguing, and as he notes, somewhat paradoxical: having kids tends to make people less happy. The approach the authors of the studies mentioned take seems reasonable to find out in which types of countries people have less of a negative response. Developed countries with substantial safety nets (classified as conservative or social democratic in the studies) seem to result in parents having less of the child-rearing blues. Their well-being declines, but not as much as in other cultures, and it may increase in ever-satisfied Denmark. However, the parents in these countries don’t get all that much happier once kids leave the nest, whereas to do get happier in Mediterranean countries.

I don’t have a particular interest in figuring out social policy. The fact that parents on the whole get somewhat less happy with kids certainly does not lead to a policy of government going out of its way to discourage fertility – a demographically challenged country with a large relative elderly population puts its own strains on happiness. Policies will probably have the most impact tracking the impact on happiness of certain specific policies within countries, such as the push for increased paternity leave in Sweden. Actually declaring the “best” system of governance, whether it’s social democratic, “conservative” or whatever is not an appropriate conclusion from any of these narrowly focused surveys, and it likely is a hopeless question to answer anyway.

Oil Spill and Oil Shock Psychology: Both Powerful, Yet Apparently Vastly Different

Today I read the AP article “Oil Spill’s Psychological Toll Quietly Mounts.” It’s a powerful story of the emotional struggles people in the Gulf Coast are facing as they lose their jobs, look toward an uncertain future and feel helpless – a key component of depression.

Using the standard metric I often describe here, the Gallup-Healthways survey, I assume that well-being has plummeted in much of the Gulf Coast region, especially among those most directly affected such as the shrimpers. Yet a contradiction arises when looking at the national data, at least for May: it rose to its highest level ever, while gasoline prices very strongly affected well-being from January through August 2008 before Lehman fell. Still, the spill has become a dominant national news story for the past two weeks, even though it does not seem to impact people’s lives directly in much in the rest of the country.

I suspect that we are seeing that Americans value more than their own well-being, and much of the national outcry is rooted in empathy for the people of the Gulf Coast and, to some extent, concern over wildlife in the region. Those in the Gulf Coast live in one of the most economically depressed areas of the country and are still recovering from Hurricanes Katrina and Rita five years ago. They now face another disaster. It is hard not to feel some degree of sympathy for these people who have dealt with so much. Additionally, I believe some people feel strongly that the effect on wildlife in the region is an unacceptable tradeoff for energy production.

Because clear culprits can be identified, especially negligent BP, many Americans probably feel angry in addition to empathetic. Anger is a rare negative emotion that encourages confrontation, so it follows that Americans are very interested in how the government handles and punishes BP.

I do not want to rule out that some of the feelings are self-interested, but the initial Gallup-Healthways surveys do not suggest this is the case to a large degree. Some people may think the spill will lead to policies that will increase prices at the pump or hurt the broader economy. My boss thinks that because America has a vibrant summer beach culture, it concerns people to think that their beaches might be soiled with oil in the future. I can understand how this thinking could influence policy away from opening up new drilling areas near coastlines, but unless one’s beach is coated now with oil, I don’t know why this concern would reduce present well-being. It could be that Americans’ concern that Gulf residents can’t use their beaches increases the feelings of empathy, but I think this is secondary to the jobs and wildlife.

The strength of the emotions that Americans not directly impacted feel is likely a result of the relatively clear storyline of how the shrimpers are losing their jobs and the inability of people to appropriately gauge responses to the magnitude of the economic calamity. If many disparate factories are closing down in various parts of the country, it can be difficult to focus on a cause (China’s currency, cheap labor elsewhere, bad management, poor government policies?) and have deep emotions for a lot of widely separated groups no matter how many are affected. Certainly many fewer people (probably something like 100x fewer, 100,000 vs. 10 million) will become unemployed in the Gulf Coast as a result of the spill than became unemployed nationwide as a result of the financial and economic crisis. But using a variant of a quote misattributed to Stalin, “The unemployment of one man is a tragedy. Unemployment of a million is a statistic.”

Paying More for Fuel Efficiency: How do Consumers Feel the Extra Cost?

One way a vehicle manufacturer can increase the fuel economy of a new vehicle is to add more efficient technology such as hybridization. But this new technology comes at a cost. My question is whether this additional cost is equal to the loss in well-being for the consumer. In other words, if a more efficient vehicle costs $3,000 more than a comparable vehicle, does the consumer have a reduction in well-being equal to losing $3,000, not considering the lower fuel costs? Would $3,000 in discounted fuel savings offset the initial loss?

If consumers were purely income-maximizing fiends, then the answer would obviously be yes, not counting other possible issues such as a difference in resale value. However, consumers may not react this way. Some factors may make consumers happier than we’d expect, others suggest they would be less happy, and a bunch provide uncertain direction.

Heffner, Kurani and Turrentine (2007) found new hybrid owners thought of their vehicles as having symbolic meaning relating to their identity and individuality, thereby reducing, eliminating or even reversing any well-being loss associated with paying more initially. Just as some consumers would be willing to spend more for a Rolex watch or Gucci handbag without any expectation of future monetary compensation, others are willing to spend more for a Prius to show the world something about themselves, regardless of how much they will precisely save on fuel. This feeling may wane after an initial very excited group of consumers buy the vehicles, though, and the vehicles need to be clearly recognizable. A little sticker that says “hybrid” probably has minimal effect, and other changes such as continuously variable transmission are hidden to all but the most knowledgeable gearheads. Yet a popular and very recognizable high-mileage vehicle can help get the first vehicle on the market and help reduce future costs, in much the same way that expensive flat screen TVs and cellphones needed early adapters to become viable from the majority of consumers.

On the other hand, paying an extra $3,000 for a new vehicle is a loss, whereas any future lower fuel bills are gains – but according to Prospect Theory, gains and losses are not equal. Losses are twice as bad as equivalent gains, meaning that some consumers could feel worse than expected.

Then there are other factors that may influence consumers but have uncertain effects. For one, consumers may not know how much more they are spending additionally because it can be challenging to compare models. For instance, it is difficult to say without substantial research how much more a Prius is than a comparable vehicle because no non-hybrid Prius exists. Similarly, consumers may just have a very general opinion of whether they are getting a good deal and not think about the extra cost of the vehicle very systematically. Finally, the consumer surplus that individual buyers face in light of higher prices should shrink, but the economic notion of a consumer surplus may not correspond well to psychology. The difference between what someone is willing to pay for a vehicle and what they do pay – the definition of the consumer surplus – may not always equal well-being. Consumers often only have general notions of what they would want to pay, and the prices of other vehicles likely influence their conception of an appropriate price. I figure a fuel economy standard that pushes up all prices likely also increases the value of an acceptable or good price, thereby reducing the loss to consumer surplus, but I’m not sure.

An entirely different class of issues concern people not actually purchasing the vehicles. If more expensive fuel-efficient vehicles lead to fewer other kinds of vehicles, certain consumers who would otherwise want to purchase a new vehicle may grudgingly decide not to purchase anything new. Others may be mad they their choice is being impinged upon. Yet these onlookers are not necessarily biased against higher fuel economy; some others, often with a different political orientation, may be happy to see more efficient vehicles on the road even if they do not necessarily want to buy them. Also, depending on values in the used vehicle market, these consumers could get very good deals on more efficient used vehicles.

Are Happy Life Years Satisfying?: Fairly, but not Very (Long Post)

For all its merits, some combination of life satisfaction and happiness/affect is insufficient as a measure of well-being. It ignores life expectancy and gives no indication if the current level of well-being is sustainable in the future.

Ruut Veenhoven has tried to overcome the first deficiency with his “Happy Life Years” index that simply multiplies life satisfaction and life expectancy. It’s very straightforward and leads to a somewhat different ordering of countries. No longer is Denmark ranked first, whose residents eat a diet almost as atrocious as that in the U.S. and also are more willing to smoke, but that honor goes to Costa Rica, whose citizens are both very satisfied and live slightly longer.

Yet is this simple multiplying of satisfaction and life expectancy ethical? Is this the proper trade off? I want to know if the U.S. is considering a policy that could reduce (increase) happiness but increase (decrease) life expectancy, what is the appropriate tradeoff? (This would also affect the ordering of countries in future “happy life years” rankings, but I don’t really care which country wins the gold medal in the Olympics of Happiness. My goal is policy-focused, and I want to know how the U.S., using a variant of the U.S. Army slogan, can be the best it can be.)

I have only found one article critiquing Veenhoven’s index (subscription likely required) by Prof. Yew-Kwang Ng, who writes that life satisfaction should be rescaled to represent distance from the midpoint answer of five out of ten. In other words, the life satisfaction index would no longer be from 0 to 10, but instead run from -5 to +5. In contrast, there’s a significant literature critiquing and analyzing the implicit tradeoffs between income, life expectancy and education/literacy in the U.N.’s Human Development Index. Prof. Ng as well as another approach looking at the value of statistical life years (VSLYs) derived mostly from analysis of the income premium demanded to work in more dangerous jobs suggest that the happy life years approach puts about 2-4 times too much emphasis on life expectancy relative to life satisfaction. Yet given the substantial uncertainty in estimating changes in life expectancy and especially life satisfaction with a given policy, the simple happy life year approach is a decent start, even if it may not be perfect. Happy Life Years suggests an increase in life expectancy in the U.S. is good as long as it doesn’t reduce life satisfaction by more than 0.09 points – which I’ll call nine “happiness basis points” in honor of the economic use of the term – while Ng’s version is more restrictive at closer to three basis points.

The best way to start to think about the reasonableness of Happy Life Years is to look at the possible tradeoffs between life satisfaction and life expectancy. For instance, according to Veenhoven, the average person in the U.S. lives about 58 “happy life years,” a combination of a life satisfaction of 7.4/10 and a mean life expectancy of 77.9 years. With Veenhoven’s formula, the U.S. would be the same if it had satisfaction of 7.0 but a life expectancy on par with Japan of 82.4 years. Ng’s formula effectively puts much, much more weight on life satisfaction, so an equal reduction in life satisfaction would require nearly 250% more of a gain in life expectancy to an astronomical 93.5 years. The idea is that a change of a couple of tenths in terms of life satisfaction makes much more of a difference around a small number like two rather than a larger one like seven.

Another method is to try to think through more possible combinations of satisfaction and life expectancy, but it is very difficult to understand just what it means for a country to have different average life satisfaction. For instance, “happy life years” also implies the U.S. would have the same well-being with a life satisfaction of eight and life expectancy of 72.1 years, effectively a combination of the happiness of Switzerland with the life expectancy of Romania – or just to show how quickly health has improved, also the U.S. about 35 years ago. This tradeoff seems reasonable, or at least not awful, but it is difficult to say it is correct. I have great difficulty thinking through what it would mean for the citizens of the U.S. to rate themselves with a life satisfaction of seven compared with eight and so on.

Probably the only definitive problem with happy life years is its implication that low life satisfactions with extremely long lives is good; for instance, a life satisfaction of 5.0 with a life expectancy of over 115 years would equal the U.S.’s happy life years today. However, from a policy standpoint, such an issue at the extremes is meaningless today because there is no possibility of keeping people alive that long. Ng’s -5 to +5 scale appears to only be relevant within a narrow band of life satisfaction , but this is generally fine when trying to analyze policies in the context of the U.S. where dramatic long-term happiness or life satisfaction tradeoffs should be relatively rare.

While this method is illustrative, it does not resolve any ethical question about which is more appropriate. For this, I used existing work on the value of life years and the impact of income on life satisfaction and found a midpoint estimate in between the estimates with the HLY and Ng approaches.

Deaton (2008) and Stevenson and Wolfers (2008) show that using the Gallup World Poll’s Best Possible Life question, each doubling of per-capita GDP is equal to a gain of roughly 0.6 points on an 11-point scale. According to the IMF, the U.S. had a per-capita GDP of about $46,500 in 2009. Aldy and Viscusi (2007) note that there’s quite a bit of disagreement over the value of a statistical life year, but they provide an estimate of $300,000 for the U.S.

In order to make use of all these numbers, assume there is a policy that will increase life satisfaction by increasing income, but it will also decrease average life expectancy by one year. It is as if each person has lost $300,000 in lifetime per-capita GDP. According to standard economic theory, they could be compensated for this loss if they get this additional income while they are still alive. Disregarding discount rates for now, if they live 76.9 years, they would need to make $3,900 extra per year of their life to be compensated. This extra income can be translated into additional life satisfaction of almost exactly 0.05 points per year using the .

But this tradeoff leads to fewer happy life years. Actually, in order to keep the same happy life years, that extra income gain would have needed to add almost twice as much life satisfaction as it likely would. Like Ng’s analysis, the VSLY approach emphasizes changes in life satisfaction more.

This VSLY approach is quite uncertain, but with arguments that it both emphasizes life satisfaction and life expectancy too much, hopefully the issues cancel each other out. It may weight life satisfaction too much because the VSLY could easily be higher. Aldy and Viscusi (2007) find a range between $269,000 and $2.26 million, and their estimate of $300,000 is on the low end of this range, tending to weight an extra year as less valuable. Additionally, my example only looked at an income gain and a life expectancy loss, but the results should change if the situation is reversed. A loss of income should be twice as important as a gain, both due to loss aversion and the structure of the income-life satisfaction relationship. That same amount of income lost should decrease life satisfaction by twice the amount.

On the other hand, the VSLY approach may not give enough weight to life satisfaction. Chances are that absolute income changes do not account for all of the 0.6 points of life satisfaction gain per doubling of per-capita GDP. It ignores issues such as relative income, governance, employment, and air and water quality that if included would almost certainly weaken the income-life satisfaction link. If weaker, more income would be needed to increase life satisfaction by the same amount. Discounting also has an effect. Presumably a policy will change life satisfaction in the future, so the present value of the SLY is less than $300,000. The compensating increase in income begins sooner, but since less is needed, life satisfaction rises by a smaller amount throughout one’s lifetime.

All in all, the relatively mindless multiplying of life satisfaction and life expectancy seems reasonable, although there are hints that it does not emphasize happiness enough. This would be quite remarkable considering, after all, that an academic who has devoted his career to happiness developed it.

The Other Side of the Equation: Technology Costs

Improving well-being by using less gasoline is great – but how much will it cost? It seems easy to see how expensive the new technology will be, but it gets complicated because there are different ways to meet a more stringent fuel economy standard:

1. Add more efficient technology
2. Change instrumental but invisible aspects of the vehicle (i.e. make vehicles less powerful)
3. Change visible aspects of vehicles (i.e. make vehicles smaller)

The first method, adding more efficient but costly technology, is the baseline for reports trying to determine the costs of fuel economy standards. Yet is the additional cost of the vehicle is equal to the loss in well-being? In other words, if the cost of a vehicle is increased by $3,000 due to more efficient technology, is well-being reduced by the equivalent of $3,000?

The other options of changing the interior or exterior features may actually result in a lower cost to consumers for the same fuel economy improvement. It all depends on how much people value the power and size of their vehicles, and this can be compared to the cost of the additional technology. The presence of these other options to reach the fuel economy standard demonstrates that looking at more efficient technology only gives the maximum possible cost of the policy option.

From a policymaking standpoint, it is helpful to have a sense of how heavily automakers would lean toward new technology or less power/size. This would be based on their expected maximization of profits.  If they very overwhelmingly would do one or the other, then the analysis gets a lot simpler.

Assuming that at least some automakers would choose to cut the power or size of the vehicles, I need to ask a couple of related questions. How closely does the value that consumers seem to place on vehicles today reflect how much they actually care about them? How closely does the value that people place on these attributes in the showroom correspond to how much they actually value them when they use the vehicle – or do they demonstrate affective forecasting errors?

Why SWB: So What, Journey, Anchorman

So what? It’s a question that drives me toward surveys of subjective well-being (SWB). I know (or at least strongly assume) more income, employment, and social relationships are good, as are fewer air pollutants and less stress – but to what degree? Saying a policy will improve one or two of these contributing aspects to well-being is great – but how great?

Tradeoffs matter, so unless everything about a bill will obviously improve well-being – which seems unlikely in most cases, for else the bill probably already would’ve been passed – the pros and cons must be weighed against each other. All the contributing aspects to well-being need to be judged on a common metric, and often surveys of well-being are the only way to get there.

The question that goes off in my mind is “So what” – although it should be interpreted as “So what’s the impact to well-being?” “So what” could easily be interpreted as though I think it’s a real possibility aspects like income or employment don’t matter at all, which is not the case.

There are other ways to think about it as well, from the poetic to the comically banal.

Policy today without surveys of well-being is much like traveling for miles, getting closer to the destination, only to find that there’s a cliff near the very end with no bridge for the final leg of the journey. The models and techniques represent the journey today, but it’s only possible to reach the cliff: the gap between some contributing aspects to well-being like income or employment and actual well-being. The final bridge is needed to get to the destination, well-being, and the surveys of well-being provide that bridge.

Another way to think about this is to imagine Will Farrell in Anchorman saying “I’m kind of a big deal.” My response to this is, alright, how much of a big deal are you? Similarly, we assume aspects like income are a very big deal, but we would like to know just how big of a deal they actually are. Some issues, like some physical handicaps, may be like Ron Burgundy and overstate their case, actually not being as big of a deal as we’d think them to be.

Let’s Put Some Numbers on Those Externalties

I searched around for previous estimates of the costs and benefits of a fuel economy standard using traditional techniques. (I’m not delving into well-being surveys yet.)  I soon felt I was facing the same issues confronting those trying to estimate a CO2 externality: lots of uncertainty and a powerful impact of the choice of the discount rate.

Luckily, there are historical examples of costs associated with oil, unlike climate change, and discounting only matters over a 20-30 year horizon rather than mattering over a few centuries.  Still, I was surprised that the biggest difference likely is due to the discount rate applied: decreasing the NRC 12% discount rate to a social discount rate of 5% used in an extensive Resources for the Future (RFF) study causes the lifetime benefit of using less fuel to increase 34%.  In contrast, with the original 12% discount rate, assuming that a vehicle is driven for an extra year only increases lifetime fuel costs by 1.5%.  With a baseline of $2.50/gal gasoline, these increases are equivalent to increasing the gasoline price by 85 cents/gallon and 3.5 cents/gallon respectively.

The rest of the costs of oil use are and benefits tend to generally cancel out, although the midpoint line calculated implies that the fuel cost benefit line is too HIGH, as the existing taxes and per-mile externalities slightly overwhelm the myriad and quite obvious costs of oil use. All the benefits need to outweigh the costs by at least 47.4 cents/gallon, the average U.S. gasoline tax (federal, state and local).

Here are the benefits of reduced oil use, from the RFF study unless noted:

• Lower CO2 emissions: As noted above, there’s tremendous uncertainty.  The RFF report found a consensus of below $20/ metric ton of carbon but went with $50/metric ton; many people think of a price closer to $50/metric ton of CO2, some 3.7 times greater.  In per-gallon terms, these externalities are about 5, 12 and 45 cents/gallon respectively.
• Lower VOC emissions (from refineries): 2 cents/gallon
• Downward pressure on the price of oil: This is sometimes referred to as a monopsony premium.  As Leiby (2007) shows, it depends on the responses of the rest of the world and OPEC, but the midpoint estimate was $8.90/barrel in 2004$ (range: $2.91/bbl. and $18.40/bbl.) In 2007$, this is a midpoint of 23 cents/gallon with a range of 7.5 to 48 cents/gallon.
• Reduced trade deficit: This is somewhat unclear and would be a risk, but Stephen P.A. Brown and Hillard Huntington just came out this month with a new RFF study that measured transfers to foreign countries and the externality costs, and they only found a cost from an imported barrel or $0.11, or less than 1 cent/gallon
• Reduced risk and severity of oil shocks by widening the gap between demand and supply: Both Brown and Huntington (2010) and Leiby (2007) have estimates of economic damages from the probability of a shock in a given decade, and their median estimates find small benefits of less than $5/barrel (range: $1.03 to $14.10/bbl), which amounts to about 11 cents/gallon with a range between 2.5 and 34 cents/gallon.
• Reduced need for drivers to waste their time going to gasoline stations: Shockingly, this seemingly miniscule issue might be quite important. Assuming a 15 gallon tank, a vehicle getting 50 mpg will need to go to the pump about 100 fewer times over its lifetime than a 35.5 mpg vehicle.  If the value of leisure is $20/hour, and it takes about 15 minutes to travel to and from the gas station to pump, each trip is equivalent of $5 of time wasted.  Over the lifetime of the vehicle, this savings is about $300 when discounted.  On a per-gallon basis, this is about 33 cents/gallon. However, many would leave this out or agree to a lower estimate, possibly 10-15 cents/gallon.

Overall, these estimates provide quite a range: 17 cents/gallon for the low estimate, 60 cents/gallon for the mid-point and $1.63/gallon for the high estimates.

COSTS

But then there are costs of having a higher fuel economy standard stemming from driving more miles. People drive more miles because the cost of each mile is lower, and this is known as the “rebound effect.”

• Local congestion: 6.0 cents/mile
• Local tailpipe emissions: 1.1 cents/mile for cars and 1.5 cents/mile for all other vehicles
• External accident costs: 4.39 cents/mile

Without the effect, fuel consumption would drop by almost 1,600 gallons over the lifetime of the vehicle. Yet the rebound effect, assumed to be 6-10%, implies that 6-10% of the assumed savings won’t materialize due to more miles driven.  Over the lifetime of the vehicle, it will increase mileage by about 4,000-7,000 miles, and those per-mile externalities will increase costs about $275-$475 over the vehicle’s lifetime when discounted. In per-gallon terms (assuming the original mileage), this is 30 to 51 cents per gallon, with a midpoint of 41 cents.

TOTAL

With all this arithmetic, the lowest estimate is that fuel costs used in a cost-benefit analysis are too high by nearly 82 cents/gallon, while the high estimate is nearly perfectly the opposite, too low by 85 cents/gallon. The midpoint, while obviously uncertain, is closer to the lowest estimate and suggests the line is too high by about 28 cents/gallon. In the watercolor picture, the benefit line blurs in both directions, but in this analysis, slightly downward.

ANY OTHER UNCERTAINTIES

• Direct macroeconomic impacts: Most studies have tended to focus on jobs and/or assume that consumers will have more money to spend because of the policy, leading to economic growth. According to this paper by Bezdek and Wendling (2005) there was a study from the Union of Concerned Scientists from 2001 that showed increasing standards to 55 mpg by 2020 would increase GDP by about $5.5 billion/year. Considering about 15 million vehicles are usually purchased in the U.S. in a given year (2009’s 10 million or so was a huge aberration), this amounts to around $350 per vehicle, or a benefit of 35-40 cents/gallon. Given the source, that estimate should tend optimistic. Of course, it’s also possible to go to the Competitive Enterprise Institute to find a contradictory study that says total costs to society are very large, although the specific macroeconomic impact is not entirely clear.
• Fatalities: This is entirely unclear. However, one can extrapolate reasonable potential estimates given the statistical value of a human life at around $5 million.  With 15 million cars/year, this implies that every three additional deaths decreases lifetime benefits by $1 per vehicle (lovely, isn’t it?). 300 deaths would be $100, and to offset the optimistic macroeconomic picture, a little more than 1,000 additional deaths would be needed per year.
• Foreign policy benefits: This analysis does not consider how the U.S. should value changes in the lives of people living in other countries, the benefits to foreign policy, or the reduced need for military intervention in the Middle East. These values are entirely uncertain – probably positive, but actually distributions that likely lean positive, and could be extremely small. In a rigid cost-benefit framework, the lives of foreigners could really only be guessed with a contingent value survey, the benefits to foreign policy would likely be a probability of lower U.S. oil consumption leading to an international agreement benefitting the U.S., and the military intervention, as frequently noted, probably occurs step-wise rather than on a marginal basis per gallon reduced. 

YIKES – If you’ve read this entire obese and overwhelmingly number-driven post, I commend you. I’m doing this much more for myself than to get any particular point across.

Besides the Gasoline Cost Savings

What exactly are the factors that lead to this “watercolor policy” that blur the lines and cause them to bleed one way or another?  In this post I’ll only look at the benefit line that measures reduced fuel costs.

The first is the most obvious and very likely the most significant: the actual price of gasoline.  This could easily be different by a factor of two or three; an average price of gasoline of $1.50/gal in real terms from 2015 to 2030 would seem quite low, while an average of $4.50/gal over the same time would seem high, but they are both plausible.

There are also other accounting issues: the lifetime of the vehicle, the miles the vehicle will travel and the discount rate applied.  In general, going with the National Research Council estimates from 2002 (14 years, 15,600 miles/year declining at 4.5%/year and 12%) should be quite close to the actual figures, but all three figures are trending in the same way.  The trends would shift the line upward and suggest a higher standard.  Over time, vehicles tend to last longer and be driven more miles, pushing up lifetime fuel costs.  An appropriate discount rate of 12% also seems relatively high today considering the weak economy and low interest rates, so financing costs are lower (assuming one can get a loan) and there is less of an expectation of incredible returns investing in something else.  A lower discount rate increases the overall lifetime gasoline bill by increasing the importance of gasoline consumed toward the end of the vehicle’s life.  Also, if those who are less wealthy tend to buy used vehicles, the costs of fuel at the end of the vehicle’s life will matter more anyway.

Then there are a bunch of other factors that further push the benefit line upward.  Very few of these would be considered externalities in the traditional sense.  As fuel economy standards rise, the following benefits tend to grow:

• Lower CO2 emissions (the only actual normal externality)
• Downward pressure on the price of oil, which this will tend to reduce the trade deficit and may provide a small macroeconomic boost as people can spend more money elsewhere
• Reduced risk and severity of oil shocks by widening the gap between demand and supply*
• Reduced need for drivers to waste their time going to gasoline stations

Not everything is wonderful with a higher standard, however, and some issues will get worse, pushing the line back down:

• With a lower vehicle cost per mile, people will tend to drive more in what is known as the “rebound effect.” This increases per-mile externalities like traffic accidents, congestion, and local air emissions. (Local air emissions being emitted per-mile rather than per-gallon may seem strange, but this is how leading think tank Resources for the Future calculates it, arguing that air emissions are regulated per-mile.)

Other factors are uncertain and could increase or decrease well-being:

• The direct macroeconomic impacts could improve overall with more innovation to meet the standard and possibly the development of new exportable technology – or the economy could worsen by tending to reduce demand for vehicles, imposing that companies make design changes and investment with little payback and even reducing demand for gasoline stations
• There may be an increase in fatalities due to an increase in the disparity of vehicle size and weight between newer, smaller vehicles and older, larger ones – or a decline with fewer rollover-prone SUVs on the road
• It is often considered that reduced oil consumption would have foreign policy benefits for the United States and reduce the need for the government to be vigilant about oil – but it is also possible to imagine scenarios in which a lower oil price leads to more unrest in the Middle East

* I focus a lot of my attention on the damages from oil shocks. Briefly, there likely are macroeconomic benefits and somewhat unrelated psychological benefits.  There are, possibly, more supply-oriented “oil security” benefits. In some rare future world, it is possible that the United States would effectively face oil sanctions by many countries, leading to domestic oil prices that would be so high that the federal government caps the price, leading to 1970s-esque shortages.  Another possibly involves refined products; if the U.S. begins importing a lot of refined products and domestic refineries close, a shutdown of foreign refineries could effectively lead to a gasoline shortage.