Download We find that increase in energy efficiency in any sector of the

Supply constraints on rebound effects from increases in energy efficiency: the
disinvestment effect
Karen Turner, Department of Economics, University of Strathclyde, 44 141 548 3864, [email protected] (Lead Author)
Janine De Fence, Department of Economics, University of Strathclyde, 44 141 548 3858, [email protected]
Kim Swales, Department of Economics, University of Strathclyde, 44 141 548 3966, [email protected]
Overview
Rebound effects result from the impact of increased efficiency in the use of energy on effective energy prices (price of
energy per unit of production or consumption) and on actual energy prices (where there is domestic energy supply). Reductions
in effective and/or actual energy prices lead to positive substitution, output/competitiveness, composition and income effects
that act to offset the decreases in energy consumption that accompany pure efficiency effects. Such effects underlie the rebound
effect and they are general rather than partial equilibrium in nature, with their magnitude depending on the degree of price
responsiveness of direct and derived energy demands throughout the economy in question; that is, on the general equilibrium
price elasticity of demand for energy. From this perspective, previous rebound analyses have tended to focus almost exclusively
on the demand side response to changing energy prices. However, our analysis suggest that the supply-side response to
changing energy prices is also crucially important. In particular, we identify a ‘disinvestment effect’, which may occur in
domestic energy supply sectors if direct and derived demands for energy are not sufficiently elastic to prevent falling energy
prices leading to a decline in revenue, profitability and the return on capital in these sectors. This constrains the elasticity of
(local) supply of energy, putting upward pressure on the actual price of energy, which in turn constrains rebound effects.
The disinvestment effect (initially observed for the UK by Allan et al, 2007, and Turner, 2009) challenges the
argument put forward by Wei (2007) and Saunders (2008) that rebound effects will always be bigger in the long run than in the
short run. Wei and Saunders argue that because capital (and labour) are fixed in the short-run, the short-run rebound effect is
also constrained. Thereafter, investment will occur (in response to increased marginal productivity of all factors as efficiency
improves), allowing the space of production possibilities to expand as the economy adjusts to a long-run equilibrium, and
rebound effects to grow. However, a crucial feature of Wei’s and Saunders’s analyses is the assumption of an exogenous and
fixed capital rental rate. Our analysis demonstrates that the prediction of rebound effects that grow as the economy adjusts may
not hold where the capital rental rate is determined endogenously. This is because the return on capital in energy supply sectors
will fall if revenues decrease as a result of falling energy prices, leading to shedding rather than accumulation of capital stock in
these sectors.
This paper summarises empirical testing of the ‘disinvestment effect’ argument for increased energy efficiency in
Scottish and UK production sector by Turner (2008, 2009), in the Scottish Transport sector by Anson and Turner (2009) and
presents new results for increase energy efficiency in electricity supply in Scotland and the UK.
Methods
We employ single region/nation energy-economy-environment CGE models for our case studies of the Scottish and
UK economies (as two quite differently structured small open economies) to examine the impacts of a costless exogenous
increase in energy augmenting technological progress in one or more production sectors. We acknowledge that introducing
consideration of costs involved in introducing an energy efficiency improvement will affect the nature and size of rebound
effects (see Allan et al, 2007), as will the precise nature of its introduction. Such issues will be considered in future research in
the ongoing project of which this paper is an output. Here, in the first instance, the analysis is more analytical in nature and
simplified by focussing on an exogenous and costless increase in energy efficiency. This is an important step as it allows us to
consider the main basic drivers of and/or constraints on the rebound effect (i.e. the general equilibrium responses to reductions
in effective, and actual, energy prices) in isolation. For each simulation we carry out a systematic sensitivity analysis, where
relative price sensitivity is gradually introduced into the system, focusing specifically on elasticities of substitution in
production and trade parameters (which previous research has suggested to be key determinants of the general equilibrium
price elasticity of demand for energy), in order to determine conditions under which disinvestment effects become a likely
outcome. We begin by introducing the energy efficiency improvement to all production sectors of the UK and Scottish
economies respectively, then focus this in different energy use and energy supply sectors.
Results
We find that increase in energy efficiency in any sector of the Scottish or UK economiesg generally leads to rebound
effects in the use energy in all time periods, both in sector directly targeted with the efficiency improvement and at the
economy-wide level. However, our results also suggest that falling local energy prices resulting from energy efficiency
improvements may cause a contraction in capacity in the local energy supply sectors. This ‘disinvestment effect’ acts as a
constraint on the size of rebound effects. However, the magnitude of rebound effects and presence of the disinvestment effect in
the simulations conducted here are sensitive to particularly to the specification of key elasticities of substitution in the nested
production function in sectors targeted with the efficiency improvment. Due to the different structures of the two economies,
we find that, when all production sectors experience an increased in energy efficiency disinvestment effects are slower to wear
off as we increase price elasticities in the UK case. This is because Scotland trades heavily in energy in particular (it is a net
exporter of electricity to the rest of the UK) and we are starting with a base case case where demand is more responsive to
changes in price in the energy sectors themselves. However, in both economies, while strong backfire effects are observed in
some cases, we also observe negative rebound effects – i.e. decreases in energy consumption that are more than proportionate
to the increase in energy efficiency. This is not due to some type of ‘super-conservation’ effect (Saunders, 2008). Moreover,
while disinvestment plays a role over time, a crucial driver of short run negative rebound effects is negative multiplier effects in
the energy supply sectors (which also tend to be very energy-intensive production sectors). The importance of negative
multiplier effects in energy supply is emphasised when we focus energy efficiency improvements in the most energy-intensive
energy supply sector - electricity from generated from non-renewable sources – where we actually find that the biggest
disinvestment effects are observed in the targeted sector itself.
Conclusions
The main result is that in all cases, while there is positive pressure for rebound effects even where (direct and indirect)
demands for energy are very price inelastic, this may be partially or wholly offset by negative income, competitiveness and
disinvestment effects that also occur in response to falling energy prices. While the empirical analysis presented here is specific
to the case studies of Scotland and the UK, we believe that the observation and explanation of disinvestment effects that act to
dampen long run rebound effects provides a more generic insight. The disinvestment effect will have more general significance
in analysis of energy efficiency improvements in other economies where there is domestic supply of energy. It may also be
applicable at the global level where, despite OPEC’s command of marginal supply, downward demand pressures do exert
downward pressure on prices.
The results also show that the disinvestment effect is a necessary, but not sufficient, condition for rebound effects to be
bigger in the short run than in the long run (as short run rebound may also be dampened by negative competitiveness effects), a
result that runs counter to the theoretical predictions of Wei (2007) and Saunders (2008). One crucial difference between the
theoretical general equilibrium analysis presented by Wei (2007), which underlies the predictions of Saunders (2008) also, and
the empirical general equilibrium analysis presented here is whether the return on capital, or capital rental rate, is fixed (as in
Wei’s model) or endogenously determined (as in the Scottish and UK models employed here). Where the return on capital is
endogenous it will be negatively affected by falling profitability and lead to a contraction in capital stock in the affected
(energy supply) sectors, even through aggregate investment and productive capacity at the economy-wide level is likely to rise
in response to a positive supply shock such as an increase in efficiency in one of the factors of production.
References
Anson, S. and Turner, K. (2009) Rebound and disinvestment effects in oil consumption and supply resulting from an
increase in energy efficiency in the Scottish commercial transport sector Strathclyde Discussion Papers in Economics, No. 0901.
Allan, G.J., Hanley, N.D., McGregor, P.G., Swales, J.K. and Turner, K.R. (2007) The impact of increased efficiency
in the industrial use of energy: a computable general equilibrium analysis for the United Kingdom, Energy Economics, 29, pp.
779-798.
Saunders, H.D. (2008), “Fuel conserving (and using) production functions”, forthcoming in Energy Economics, 30,
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Turner, K. (2008), A computable general equilibrium analysis of the relative price sensitivity required to induce
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