Promotion or steering-based energy policy

Swiss energy and climate policy has obligated itself towards sustainable development goals including a reduction of carbon dioxide (CO2) emissions and electricity consumption. Designing politically feasible regulatory strategies to achieve these goals requires balancing economic efficiency and social equity concerns.

This study assessed the economic efficiency and distributional effects of alternative (market-based and command-and-control) regulatory strategies for Swiss energy and climate policy to lower CO2 emissions and electricity consumption.

To this end, a numerical framework that combines a computable general equilibrium model with micro-simulation analysis at the household level was developed. The advantage of this combination is its ability to analyse implications for economy-wide cost-effectiveness of policy reforms while providing at the same time a very detailed perspective on household incidence. The integrated modelling framework does not only feature a rich representation of household heterogeneity but accounts for important inter-sectoral linkages and price-dependent market feedbacks across the whole economy.

The analysis focussed on two alternative policy paradigms - referred to as "steering" and "promotion" in the Swiss policy context. The "steering" package represents a comprehensive market-based regulation based on CO2 and electricity taxes. The "promotion" package represents a narrowly focused regulation which limits where-flexibility either by the enhanced use of command-and-control (CaC) instruments (emissions standards for new cars and efficiency standards for electrical appliances) or the scaling down of market-based regulation to very specific subsidy programs (open competitive bidding and buildings programs).

It was found that more rigorous market-based regulation pays off at the economy-wide level: the "steering" package cuts down economic adjustment cost by a factor of more than five relative to the "promotion" package. The costs of the "promotion" policy are hidden to the extent that the costs for providing the budget for the subsidy programs are not observed by households. Consumer prices for energy are not much affected under "promotion" while they increase with "steering" policy. Furthermore, welfare costs under "steering" are reflected in reductions in real factor income which is largely unchanged under "promotion".

A large dispersion of household-level welfare impacts were found for both policies reflecting the heterogeneity of consumers in terms of preferences (expenditure patterns) and endowments (income sources). Similarly, focusing on mean impacts for specific socio-economic groups (e.g., income deciles) obscures substantial within-group variation of impacts that swamps the variation in mean impacts across groups. However, the distribution of household impacts is more dispersed under "steering". Hence, this analysis indicates substantial trade-offs between the efficiency and equity dimension of policy designs. About one third of households, however, gain under "steering" whereas nearly all households are worse off under "promotion". Households that gain under "steering" are those with relatively small expenditure shares on energy goods, high shares of income derived from (inflation-indexed) government transfers, and low overall income thus disproportionately benefitting from per-capita rebates. Mean welfare impacts across the socio-economic groups considered in this analysis (income deciles, house owners vs. renters, retired vs. working households, households living in urban, rural, and agglomeration areas) are identical under "promotion". The incidence under "steering" policy depends importantly on how the tax revenues are recycled. The incidence across income deciles is progressive (regressive) with per-capita (income-neutral) rebating. In terms of mean impacts under the "steering" policy, retired households experience small welfare gains, house owners are more negatively affected than renters, and rural households are relatively worse off compared to households living in urban and agglomeration areas.

Relevance for research

This study contributes to existing studies and the literature on the economic impact assessment of energy and climate policy regulation in the following three ways. First, while previous analyses have largely focused on market-based instruments (such as energy taxes or emissions pricing), this applied economic analysis contributes to comparing market- and non-market based policy instruments. Second, little emphasis has been put on investigating the fundamental theme of policy instrument choice and design from a perspective that considers distributional as well as efficiency aspects simultaneously. The integral assessment of both is, however, pivotal for real-world policy making. Third, while very few studies analyse single instruments or policies in isolation, the economic impacts of a mix of various instruments and their possible interactions were assessed.

Relevance for practice

In order to be effective, especially in the Swiss democracy, instruments must find acceptance throughout the political process. Therefore, not only aspects of overall efficiency of a policy are important for it to be successful but also aspects of equity, i.e., distributional impacts between different household types. To the best knowledge of the authors, a rigorous quantitative economic analysis of these effects had been missing. In addition, no such analysis had been carried out for the specific context of Switzerland.

ProSTEP – Promotion or Steering-based Energy Policy: Assessing Efficiency and Distributional Impacts