Cost Control: The cost-effectiveness of a Clean Fuel Standard

Clean Fuel Standard; Carbon pricing; Complementary policies; Cost-effectiveness; Jürgen Sandesneben
Climate and Energy Sans catégorie

by Dale Beugin and Nic Rivers

The most significant greenhouse gas policy you’ve probably never heard of—the federal Clean Fuel Standard (CFS)—is being developed this winter and throughout 2018. The federal government is looking for substantial emissions reductions from the policy. But a key question is how much will those emissions reductions cost? Could other policies achieve the same outcomes more cost-effectively? New analysis from Nic Rivers and Randy Wigle sheds some light.

Wait, what’s a Clean Fuel Standard, again?

Although details are not yet available, the basics of the CFS are likely to follow the template laid out by British Columbia and California in their Low Carbon Fuel Standards. It will require that fuel suppliers reduce the greenhouse gas intensity of the fuels they sell by a given amount and by a given deadline. For example, the regulation could require that fuel suppliers cut the overall greenhouse gas intensity of their fuel mix by 10% by 2030.

The policy will likely include a tradable credit system, such that the target will be achieved in aggregate, rather than by individual fuel suppliers. That flexibility for individual firms will keep overall costs down. Fuel suppliers can meet the target by substituting renewable fuels, such as ethanol and biodiesel, for fossil-based fuels. But the policy might (depending on design details) also allow encourage investments in electric vehicles or hydrogen by creating credits for those actions, similar to British Columbia’s Low Carbon Fuel Standard.

Finally, the federal CFS will differ from the BC and California low carbon fuel standards in coverage. It will cover not just transportation fuels, but also fuels used by industry and in buildings. (Nevertheless, the analysis here focuses on the transportation sector, alone).

Benefits of a Clean Fuel Standard

What’s to like about a potential Clean Fuel Standard?

First, it will change the fuel mix, and as a result, likely reduce emissions. Fuel suppliers will be subject to clear regulatory requirements to use different fuels. Environment and Climate Change Canada expect the policy to deliver at least 30 Mt of GHG emissions reductions by 2030. That’s a significant chunk of the gap to our 2030 target.

Second, it might be politically palatable. Some analysts, including SFU’s Mark Jaccard, argue that that consumers favour this type of regulatory approach over a price-based approach to reducing emissions because the costs of the policy are implicit rather than explicit.

Costs of a Clean Fuel Standard

Still, even hidden costs should be considered carefully. This policy is likely to be considerably more expensive than a carbon price-based approach. Economic modelling from the Rivers and Wigle working paper estimates that achieving a 10% reduction in emissions using a low carbon fuel standard alone would cost around four times as much as achieving the same reduction using a carbon tax.

Figure 1: Average cost of emissions reductions from individual policies that reduce transport emissions by 9%

Two main factors drive higher costs.

First, a Clean Fuel Standard sends slightly mixed signals. By requiring more lower-carbon fuels, it essentially forces fuel suppliers to “cross-subsidize” lower carbon fuels from revenue from higher-carbon fuels. In other words, the policy increases the costs of higher-carbon fuels (e.g., gasoline) and lowers the costs of lower-carbon fuels (e.g., ethanol). But those lower-carbon fuels aren’t typically zero-carbon. As a result, the policy effectively subsidizes a portion of fuel use—exactly what we want to avoid in order to cut emissions.

Second, the policy doesn’t create the same incentives across of a full range of emissions-reducing activities. For example, it doesn’t provide much incentive for consumers to improve the fuel efficiency of their vehicle (or buy an electric vehicle), or to reduce travel demand.

Figure 2: Direct incentives to reduce transport GHG emissions generated by alternative policies

More than the sum of its parts?

Implementing a Clean Fuel Standard as part of a package of policy instruments might change how the costs stack up. Indeed the federal government is considering exactly that approach.  It has implemented regulations governing the greenhouse gas intensity of new vehicles, is implementing a carbon price (along with provinces), and plans to develop a strategy for increasing the roll out of electric vehicles.

Together, these other policies help to plug some of the emissions abatement gaps left by the Clean Fuel Standard, and—if carefully chosen— should help to reduce emissions at a relatively lower cost. Again, the new analysis provides some insight. Figure 3 below shows the incremental costs (vertical axis) of achieving different levels of emissions reductions (horizontal axis). As the figure illustrates, relying on a well-designed package of policies can achieve emissions reductions at much lower cost than a single regulation alone. Yet a package of policies — even one designed to keep costs as low as possible— is still more expensive than an equivalent carbon price, alone.

Figure 3: Costs of abatement for individual policies and a package of policies

Flexibility is key for low cost abatement

The logic is clear: policies that create similar incentives across all possible ways to reduce GHG emissions—whether improving the carbon intensities of fuel, switching to electric vehicles, using alternative modes of transit, or simply driving less—cost less than policies that focus on a single mode of emissions reductions. Carbon pricing automatically creates these incentives. A package of flexible regulations—including a Clean Fuel Standard— can do better than non-pricing policies alone, but only if both individual policies are well-designed and the package as a whole is coherent.

3 comments

  1. Ian Thomson

    Noting an error here: “Second, the policy doesn’t create the same incentives across of a full range of emissions-reducing activities. For example, it doesn’t provide much incentive for consumers to […] buy an electric vehicle…

    LCFS policies actually do reward electric mobility if they are designed well – in CA, an EV owner receives (as a requirement) a rebate from their utility for the value of credits sold into the LCFS by the utility. OR has the same approach, and ECCC will be assessing how to build this functionality into the Clean Fuel Standard. Modelling done for the Canadian CFS shows that a rebate could be worth $500/yr to an EV owner (ON was assumed as the location).

  2. Ian Thomson

    The core premise of this piece is also misses the acknowledged shortcoming of carbon pricing to get past the market failures in fuels’ distribution. In short, carbon pricing doesn’t work to address the 95% of fossil-based motive energy (liquid fuels).
    – in ON/QC cap & trade, refiners’ wholesale racks ‘levelize’ the pricing for prices of fuels – notwithstanding that the fuels have different carbon intensities, and that allowance were required on only some of the fuels.
    – in BC’s carbon tax, very low carbon biofuels are taxed at the same rate as gasoline and diesel
    In the latter case, the province acknowledges that this treatment is contrary to its carbon reduction objectives but that the administration of its fuels tax structure doesn’t work for the carbon tax. Arguably this is a policy failure more than it is a market failure.

    These are two examples of the ineffectiveness of carbon pricing on fuels.

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