Chapter 3

Policy

Contents

Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

The Nation’s Ability To Displace Oil Imports. . . . . . . . . . . . . . . . . . . .

Rationale for a Direct Federal Role. . . . . . . . . . . . . . . . . . . . . . . . . . . .

Distinguishing Features of Increasing Automobile Fuel Efficiency andSynthetic Fuels Production . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Factors Affecting the Rate of Automobile Fuel-Efficiency IncreasesAutomobile Fuel Efficiency-Policy Background. . . . . . . . . . . . . . . .Factors Affecting the Rate of Synthetic Fuels Production . . . . . . . . .Synthetic Fuels production–Poiicy Background . . . . . . . . . . . . . . . .

Policy Options. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .EconomyWide Taxation–Oil and Transportation Fuels . . . . . . . . . .Economywide Taxation—Special Provisions . . . . . . . . . . . . . . . . . . .Research and Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .Trade Protection . . . . . . . . . . . . . . . . . + . . ? . . . . . . . . . . . . . . . . . . . .Sector-Specific Demand Stimuli-Purchase Pricing Mechanisms . . .Sector-Specific Supply Stimuli-Subsidies and Guarantees.. . . . . . .Regulations on Output . . . . . . . . . . . . . .Other Effects . . . . . . . . . . . . . . . . . . . . . .

Conclusions . . . . . . . . . . . . . . . . . . . . . . . . .

Appendix 3A.–Policy Options To Reduce

Appendix3B. –Additional CRS References

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Stationary Oil Use . . . . . .

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TABLES

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Table No. Page

7. Distinguishing Features oflncreasing Automobile Fuel Efficiencyand Synfuels Production . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39

8. Potential Average New-Car Fuel Efficiencyin 1995 . . . . . . . . . . . . . . . . . . . . . 56

Chapter 3

Policy

INTRODUCTIONSuccess of any efforts to reduce oil imports will

depend on many complex, unpredictable factors,including world oil prices, the success of tech-nological developments, consumer behavior,general economic conditions, and–significantly–Government policies and programs.

Government policy is vitally important, be-cause energy inevitably affects, whether direct-ly or indirectly, all production and consumptiondecisions in an industrial society. How quicklyand to what level the Nation displaces oil importshave direct implications for who benefits from,and who pays the costs of, energy independence.Such distributional questions arise regardless ofpolicy choices. Thus, the policy choices made byCongress transcend a simple choice between in-tervention and nonintervention.

detailed discussion of policy options related tofuel switching and conservation in stationary usesof petroleum, and to biomass, the reader is re-ferred to other OTA publications.1) The chapteraddresses the circumstances which might justifydirect Government intervention to displace oilimports. The well-established auto industry andthe newly developing synfuels industry are thendescribed; and those economywide and sector-specific characteristics which shape, direct, andpace each industry’s ability to displace oil importsare identified. A brief, recent history of Govern-ment policy towards each industry is also pro-vided. Finally, the major policy options availableto Congress are discussed and evaluated basedon the characteristics of the industries.

This chapter describes the policy issues and op-tions for increasing automobile fuel efficiency andaccelerating synthetic fuels development. (For a

‘Energy From Biological Processes, OTA-E- 124, July 1980; Resi-dential Energy Conservation, OTA-E-92, July 1979; Dispersed Elec-tric Energy Generation Systems, OTA, forthcoming; Energy Efficiencyof Buildings in Cities, OTA-E-168, March 1982.

THE NATION’S ABILITY TO DISPLACE OIL IMPORTS

The three principal means for displacing oilimports-increased automobile fuel efficiency,synfuels production, and fuel switching and con-servation in stationary uses—can all make impor-tant contributions to the Nation’s energy future.Legislation has recently been enacted in all threeareas to reduce conventional oil use, includingthe Energy Policy and Conservation Act of 1975,the Energy Security Act of 1980, the Fuel Use Act,and various taxes and credits to encourage capitalinvestment for energy conservation in industriesand buildings. z Some progress in displacing im-ports can be expected as a result of these Govern-ment programs working in concert with marketforces.

OTA’S technical analysis, presented in this re-port, concludes that if Congress wishes to elimi-

2For details of recent legislation, see for example congressionalQuarterly, Inc., Energy Po/icy, 2d cd., March 1981.

nate net oil imports, significant accomplishmentin all three areas may in fact be necessary toachieve this goal by 2000 if domestic productionfalls from 10 million to 7 million barrels per day(MMB/D) or less by 2000, as OTA expects.3 Ingeneral, if there are no additional policies andprograms, if technology developments are onlypartially successful, and if strong market forcesfor import displacement do not materialize, theUnited States can expect to import 4 to 5 MMB/Dor more by 2000 (see issue on “How Quickly CanOil Imports Be Reduced?” in ch. 4).

In the near future, Congress will face a numberof decisions about whether to increase efforts todisplace oil imports, and if so, at what speed im-ports should be displaced, Major decisions will

3 World Petroleum Availability: 1980-2000—A TechnicalMemorandum, OTA-TM-E-5 (Washington, D. C.: U.S. Congress,Office of Technology Assessment, October 1980).

35

36 “ Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

concern the two major programs enacted byCongress: the setting of fuel efficiency (CorporateAverage Fuel Economy (CAFE)) standards beyondthe 1985 mandate for new cars sold in the UnitedStates, and the provision of large subsidies to pro-mote rapid development of the synfuels industry.Such decisions will shape the future of both theauto and synfuels industries. Whether new policyinitiatives are feasible, practical, and appropriatecannot be determined until Congress specifies thedesired level and rate of import displacement. IS

the goal to “eliminate” or to “reduce” imports?*IS this oil import displacement goal so vital to na-tional interests that an emergency effort is re-quired, regardless of any accompanying disrup-tions and dislocations?

Given the uncertainties, risks, and unpredicta-bility associated with both the automobile fuel-efficiency and synfuels options, it is difficult todetermine how far and in what direction presentpolicies and market forces will take the Nation.OTA has not attempted to predict the detailedoutcomes of alternative policy futures, but ratherto demonstrate that the ability to displace oil de-pends on complex, interrelated factors, and todemonstrate that the Government’s policychoices—whether to implement additional poli-cies or to “do nothing” —will make a differencein the ability to achieve oil displacement goals.Policies are also identified that could be effec-tive if future Government action is necessary.**

OTA’S low estimate is that the average fleet fuelefficiency for new cars could reach at least 40 toso miles per gallon (mpg) by the early to mid-1990’s and 45 to 60 mpg by 2000,*** based on

*“Elimination of oil imports” herein is assumed to mean the re-duction of net oil imports to a level of about O to 1 MMB/D by 2000.At this level, the “security premium” for oil—the difference betweenthe market price and full economic cost to the Nation of oil im-ports-would approach zero. This level of supplies could be pro-cured primarily from the United Kingdom, Canada, and Mexico;and foreign producers generally would be forced to compete formarkets. Because of the “security premium, ” policy decisions aboutthe value of displacing imports should not be based solely on theinternational price of oil.

**An examination of Government policy related to the use ofpetroleum in the stationary sector is beyond the scope of this report.A summary of the major policy options for the stationary sector,however, is found in app. 3A to this chapter.

***Earlier trends showing relatively strong demand for fuel econ-omy have encouraged some domestic manufacturers to predictnew-car fuel economy averages of over 30 mpg by 1985 (the 1985CAFE standard requires a fleet average of 27,5 mpg), while individualvehicles already on the market exceed 45 mpg.

relatively pessimistic expectations about howquickly improved automotive technology is de-ployed and purchased. Fleet fuel consumptionfor passenger cars would be about 2.1 MMB/Din 2000, for a cumulative savings of over 1 billionbarrels of oil between 1985 and 2000 (assumingthat the same proportion of large, medium, andsmall cars are sold in 2000 as are expected to besold in 1985). The “high estimate” assumes thattechnology development is both successful andrapidly introduced into volume production. Aver-age mpg ratings would be 55 to 65 mpg by 1995and 60 to 80 mpg by 2000; and fleet fuel con-sumption for passenger cars could be as little as1.3 MMB/D in 2000 for a cumulative savings ofover 4 billion barrels (relative to a 30-mpg fleetand assuming a rapid shift to small cars).

However, the actual level of fuel consumptionwill depend on market demand for fuel-efficientcars and/or additional Government policies de-signed to facilitate either the manufacture or pur-chase of these cars. Although the low estimatesare believed to be achievable in the absence ofadditional Government policies, they would becontingent on consumer expectations that thereal price of gasoline will continue to increase.The high estimates are unlikely to be achievedin the absence of supporting Government policiesunless a strong and continuing consumer demandfor fuel efficiency is coupled with favorable tech-nological progress.

OTA’S estimates for a low- and a high-develop-ment scenario for synthetic fuels production de-pend principally on the price of conventional oiland the ease and rate with which synfuels proc-esses are proven. A rapid buildup of the industrycould begin as early as the late 1980’s or as lateas the mid-l990’s, resulting in technically plausi-ble production levels of fossil-synthetic transpor-tation fuels of 0,3 to 0.7 MM B/D by 1990, 0.7 to1.9 MMB/D by 1995, and 1 to 5 MMB/D by2000. * In the absence of additional Governmentpolicies, the lower estimates are probably attain-able but are contingent on a Government-sup-ported commercialization program that reducesthe high technical and associated financial risksto private investors of first generation plants.

Without a successful commercialization pro-gram, even the low estimates are probably unat-

*These estimates exclude contributions from biomass.

Ch. 3—Pol icy ● 3 7

tainable. If there is a commercialization program,synfuels production theoretically could reach thehigh estimates without additional Governmentprograms if: 1 ) early commercial-scale demonstra-tion units are built and work successfully, and2) synfuels production becomes unambiguouslyprofitable. The maximum displacement of oil im-ports, however, would occur only if synfuels pro-duction concentrates on transportation fuels. itis OTA’S judgment that, even with a commercial-ization program, the high estimates are likely tobe delayed by as much as a decade unless poli-cies tantamount to energy “war mobilization” areenacted.

Fuel switching and conservation of oil in sta-tionary uses will also be extremely important fordisplacing oil imports and would complementboth fuel-efficiency and synfuels efforts. Althoughmuch of the potential for displacement couldprobably be achieved by market forces by 2000(under the high oil price scenario of the EnergyInformation Administration (EIA)),4 additional pol-icies to encourage fuel switching and conserva-tion will likely be required to accelerate the

4Department of Energy, Energy Information Adminstration, An-nual Report to Congress, vol. II 1, May 1982.

changes or completely eliminate stationary fueloil use. The level of displacement that can be ob-tained depends not only on future oil prices, buton financing, regulation, and technical factors.Efficiency increases in the various nonautomobiletransportation uses could also be significant.

Displacing oil imports is a necessary but nota sufficient condition for achieving nationalenergy security. Such security translates into anessential self-reliance, availability, affordability,and sustainability of energy resources. Alternativeenergy sources may present their own set of sup-ply and/or distribution problems. Furthermore,the relationship between the level of imports andthe level of insecurity is not proportional in anobvious way. Even if the Nation could eliminateall of its oil imports, U.S. energy security couldstill be seriously affected if interruptions in worldoil supplies threatened international commit-ments with allies, imbalances in the world mone-tary system, and pressures on foreign exchangemarkets. Thus, efforts to displace the Nation’smost insecure oil resources—its imports-shouldnot divert attention away from ensuring the resil-ience of the alternatives chosen and thus the sta-bility of both domestic and international energysystems.

RATIONALE FOR A DIRECT FEDERAL ROLEThe basic rationale for direct Federal involve-

ment in a market economy is that—in limited butimportant areas— market prices and costs usedto evaluate returns on private investments do notreflect the fuII value and cost of the investmentsto society as a whole. National security and envi-ronmental protection are classic examples of val-ues and costs that are not reflected in profit andloss statements. Private calculation of profits alsocauses market mechanisms to be most respon-sive to short-term economic forces as opposedto long-term social and economic goals.

The three principal reasons for such market“failures” are that: 1 ) some of the social benefitsare public and not private goods, 2) some of thecosts are not paid by the private sector, and3) costs and benefits are not fully known. All three

situations arise in the context of displacing oil im-ports in general and of both increasing automo-bile fuel efficiency and producing synfuels in par-ticular. The inability of the conventional market-place to ensure the effective and rapid displace-ment of oil imports has major implications for theFederal role, depending on the goals chosen andthe resources made available.

National security is a public good that has tradi-tionally received Government support. Nationalenergy security, promoted by the displacementof oil imports, is an important component of over-all security. Direct Government involvementwouId thus be justified if market forces alonewere not believed capable of achieving the quan-tity and rate of oil displacement required by na-tional security goals. The value to the Nation of

38 . Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

accelerating automobile fuel efficiency increasesand synfuels production would be in addition toany private returns to investment.

Both increased automotive fuel efficiency andsynfuels production give rise to side effects andtradeoffs; those who benefit from the investmentsare not necessarily the ones who bear the fullcosts. Side effects can fall on different sectors ofthe economy, regions, or consumer groups de-pending on the investments chosen. In the caseof increased automobile fuel efficiency, the ra-tionale for Government policy is that the activitiesstimulated by market forces alone do not provide,for example, adequate safety and employmentsafeguards. There are other possible tradeoffs,on the one hand, between improving the com-petitive position of the U.S. auto industry byencouraging investments in increased auto fuelefficiency, and, on the other hand, possible de-clines in auto-related employment levels (becauseof increased automation, contraction of the do-mestic industry), increased consumer costs, and

decreased safety. With respect to synfuels, Gov-ernment intervention could be similarly war-ranted if market decisions do not reflect environ-mental, health, safety, and other social concerns.

Both increased automobile fuel efficiency andsynfuels production are characterized by finan-cial risks and uncertainties. If market forces alonedetermine outputs, investments associated withthese alternatives might be delayed or canceled.In such cases, the Government could chooseeither to assume some of the risk or to help re-duce components of uncertainty. The auto indus-try’s uncertainty focuses on unpredictable con-sumer demand for fuel-efficient cars, the longIeadtimes for investments, and, to a lesser degree,on the rate of technological development. Syn-fuels production is subject to significant techno-logical uncertainties and, in turn, financial risks.Both the auto and synfuels industries are also af-fected by uncertain and as yet undetermined fu-ture Government policies.

DISTINGUISHING FEATURES OF INCREASING AUTOMOBILE FUELEFFICIENCY AND SYNTHETIC FUELS PRODUCTION

The major forces that will shape, direct, andpace increases in automobile fuel efficiency andsynfuels production are summarized in table 7.Identifying these forces may indicate both thepotential opportunities for and limitations ofGovernment policies in achieving a desired leveland rate of import displacement, and the appro-priateness, practicality, and desirability of specificpolicies or combinations of policies.

Although increased automobile fuel efficiencyand synfuels production share several attributes,essential differences between them suggest thatthere is no single role for Government policiesand programs. These two options should beviewed as complementary measures for reduc-ing oil imports. Each option has different implica-tions for the rate of oil import displacement andwill give rise to different types of economic andnoneconomic impacts on the Nation. In addition,within the uncertainty about investment costs(per barrel per day oil equivalent (B/DOE) pro-

duced or saved), neither increased automobilefuel efficiency nor synfuels production appearsto have an overall unambiguous enconomic ad-vantage over the other. For this reason, the non-monetary and often nonquantifiable differencesbetween these options will be the principalmeans for distinguishing between them for pol-icymaking purposes.

The factors that determine the rate of fuelswitching and conservation in stationary applica-tions will share some common elements withautomobile fuel efficiency increases and synfuelsproduction. The success of fuel switching will de-pend critically on the efficiency of stationaryenergy uses, the technologies for producingnatural gas from unconventional sources, the sup-ply and future price of conventional natural gas,and the ability of the utility industry to solve itscurrent financial problems. in the absence ofmandated conservation or performance stand-ards, conservation measures will depend primar-

Ch. 3—Poicy Ž 39

Table 7.—Distinguishing Features of Increasing Automobile Fuel Efficiency and Synfuels Production

Increasing automobile fuel efficiency Synfuels production1. Both near- and long-term restructuring of an existing

industry2. Dominated by a few large, mature companies

3. Automobiles as consumer durables; differentiable;deferrable

4. New technology involved, but can proceed incremen-tally; associated risks are an ongoing feature ofindustry

5. Industry must produce competitive products eachyear, including fuel-efficient cars

6. Precariousness of industry’s current financial posi-tion; need to ease readjustment of an industry indistress

7. Large demand uncertainty

8. Dispersion of industrial activities, domestically and,increasingly, internationally; some concentration ofactivities in the North-Central region of the UnitedStates

9. Capital intensity and associated risks10. Declining profit margins in domestic industry11. Significance of international competition (i.e., auto im-

ports); importance of domestic market to financialviability

12. Large amounts of capital continually required forredesign, retooling, etc.; final costs for improved fuelefficiency uncertain; calculation of capital costs forfuel economy dependent on methods for costallocation

13. Can make significant contributions to reducing U.S.oil imports; contributions have a long Ieadtime butcan have significance incrementally

14. Caters to a saturated market; focus on productreplacement rather than growth markets

15. Consumer costs are investment to reduce future fuelpurchases

16. Reduces consumption of fuel17. Fuel savings in automobiles limited to about 3.5

MMB/D with about 1.5 MMB/D savings coming fromachieving a 30-mpg fleet

18. Principal health impact may be increased auto deathsdue to smaller cars

1. Growth and promotion of a new industry

2. Likely to be dominated by a few large, maturecompanies

3. Synfuels as uniform, consumable commodities

4. Large technical risks; possibilities for “whiteelephants, ” major risk occurs with first commercial-scale demonstration plants

5.

6.

7.

8.

9.10.11.

12.

13.

14.

15.

16.17.

18.

Sponsoring industry is involved in a breadth of activi-ties that provides alternative investment and businessopportunities, of which synfuels is oneSoundness of sponsoring industry’s current financialposition; need to facilitate growth

No unusual demand risk except insofar as synfuelsdiffer from conventional fuelsDispersion of activities among coal regions; currentoil shale activity concentrated in a small area of theWest

Capital intensity and associated risksPotential for profit still highly uncertainLong-term export potential; importance of interna-tional competition (i.e., oil imports) in terms ofestablishing the marginal priceLarge amounts of capital required primarily in the ini-tial construction phase; final costs for synfuels pro-duction uncertain

Can make significant contributions to reducing U.S.oil imports; contributions have a long Ieadtime andwill not be significant until commercializationCaters to a slowly growing or possibly decliningmarketNo investment needed by consumer; consumer paysincrementally for each increment of consumptionSubstitutes one fuel for anotherFuel-replacement potential ultimately limited by de-mand for synfuels, environmental impacts of synfuelsplants, and coal and oil shale reservesEnvironmental and health impacts from: large-scalemining of coal and oil shale; possible escape of toxicsubstances from synfuels reactors (major risks aredirect worker exposures, contamination of groundwater); visibility degradation; development pressureson fragile, arid ecosystems

SOURCE: Office of Technology Assessment.

ily on investor behavior. Although there are few investments. Both fuel switching and conserva-technical constraints, there are technical uncer- tion are difficult to put into practice because thetainties about the conservation potential of build- measures are varied, site-specific, and in someings and the success of particular conservation cases costly.

98-2 B 1 3 - 82 - 4 : QL, 3

40 ● /ncreased Automobile Fue/ Efficiency and Synthetic Fuels: Alternatives for Reducing oil Imports

Factors Affecting the Rate ofAutomobile Fuel= Efficiency Increases

In order to be internationally competitive, thedomestic automobile industry is currently under-going major structural adjustments. 5 This readjust-ment is the consequence of two interrelatedforces. First, the domestic industry is undergoinga long-term restructuring that is being experi-enced by auto manufacturers worldwide. Re-source pressures and a trend towards small, fuel-efficient, and standardized “world cars” have re-sulted in a period of corporate consolidation, withfirms being more closely tied by joint design and/or production ventures, and a geographic disper-sion of product assembly. Secondly, U.S. automanufacturers are uniquely faced with a seriesof short-term problems that arise because theyhave historically served a market that demandedlarge, relatively fuel-inefficient cars. U.S. manu-facturers have been the principal producers (andpromoters) of large cars and have historicallyearned their greatest profit margins on these cars.

The strains placed on the domestic industry,as it redesigns its products and retools its facilitiesfor fuel efficiency in the near and midterm,6 arethe forces that could most appropriately be tar-geted and eased by Government policies. In addi-tion, because of the size and dispersion of theU.S. auto industry throughout the national econ-omy, maintaining the health of the industry andminimizing the side effects on both upstream ac-tivities (e.g., dealers, suppliers), and downstreamactivities (e.g., consumers) are of potentially greatGovernment concern.

Some aspects of the domestic industry’s short-term readjustment problems are caused by econ-omywide factors such as rising energy prices, tightcredit, and high interest rates. These factors haveaffected both manufacturers—by making capitalscarce and expensive—and consumers, who(with approximately two-thirds of all purchaseshistorically being on credit) are deferring pur-chases.

The market changes associated with high gaso-line prices and the threat of gasoline shortagesexperienced in the 1970’s have shown that con-sumer demand is the most powerful influence onthe rate and manner of fuel-efficiency increases.However, the prices consumers will pay, and thetradeoffs consumers will accept in vehicle attrib-utes—of which fuel efficiency is only one—arehighly uncertain and ambiguous. For example,in the mid-1 970’s, and again in 1980-81, the pro-portion of relatively small cars purchased to largecars purchased decreased. * Furthermore, con-sumers did not consistently buy the most fuel-efficient car in a given size class. The ability ofthe industry to sell cars is made additionally diffi-cult because there has been a steady slowing inthe total demand for automobiles due to stagnantper capita disposable income and a general agingof the population, implying that the industry ismainly serving a domestic replacement ratherthan growth market. And at the same time, im-ports have captured an increasing share of thedomestic market.

The need to make large investments under con-ditions of uncertain demand for fuel efficiencyand slowing overall demand for automobiles, ag-gravated by economywide stresses, is the mostsignificant contributor to the financially precari-ous position now facing the domestic auto indus-try. Losses to U.S. auto manufacturers exceeded$4 billion in 1980. As sales have decreased, prof-its have declined, and the industry’s longstandingability to reinvest with internally generated fundshas decreased. Because the industry is capital-in-tensive, any underutilization of capacity also im-plies large costs. Large amounts of outside capi-tal will be required to retool for increasing fueleconomy. If companies are forced to cut backon their capital investment programs in the nearterm (as some are doing), they will not only fore-stall fuel-efficiency improvements but may alsobecome increasingly vulnerable to foreign com-petition. 7

In adjusting to this, U.S. manufacturers face aseries of complex decisions. Domestic manufac-

s~ee ~lso us. /nduStrja/ Competitiveness-A Comparison ofstee(Electronics, and Automobiks, OTA-ISC-135 (Washington, D. C.: U.S.Congress, Office of Technology Assessment, July 1981).

K3ee General Accounting Office, “Producing More Fuel-EfficientAutomobiles: A Costly Proposition,” CED-82-14, Jan. 19, 1982.

*These data include both domestically produced and importedcars.

7U. S. Industrial Competitiveness, op. cit.

Ch. 3—Policy ● 4 1

turers’ weak competitive position is primarily dueto high production costs relative to foreign pro-ducers and consumers’ perceptions of value indomestic v. imported cars, that are difficult toquantify. If a strong demand for fuel efficiencydevelops, rapidly increasing the fuel efficiency ofdomestic automobiles could help to sell them.Demand for fuel efficiency, however, is usuallyaccompanied by a shift in demand to smallercars, the market area where U.S. manufacturershave been least competitive with imports. Thisshift would therefore also require that domesticmanufacturers devote some of their investmentsto changes unrelated or only partially related tofuel efficiency. Corporate strategy, the way com-plex investment decisions are handled, overalldemand for new cars, and the demand for fuelefficiency vis-a-vis other attributes of automobileswill all interact in a complex way to affect the ac-tual rate at which fuel efficiency increases.

Technological uncertainties will also figure indetermining fuel efficiencies actually achieved.These uncertainties relate to the behavior of vari-ous elements of the vehicle system, the way inwhich these elements are integrated and possi-ble performance tradeoffs among elements, andthe cost of specific manufacturing techniques.The rate of product and process development,and particularly the success of the developmentefforts (by no means assured) will influence theextent of fuel-efficiency increases. Basic researchcould lead to additional fuel economy gains byproviding a better understanding of some of thecomplex processes related to fuel consumption(e.g., nonsteady-state combustion).

The single most important factor limiting thedevelopment of electric vehicles (EVS) is batterytechnology. Even if EVS were to become practi-cal, however, they would not have the potentialto displace significant amounts of imported oil,primarily because they would be substitutes forthe most fuel-efficient gasoline or diesel-poweredcars. The Government could justify acceleratingthe development and introduction of EVS if the

goal is to reduce automobile pollution in theinner cities or to promote a transportation modethat does not use petroleum. EVS are petroleumindependent except insofar as electricity is gen-erated from oil.

Automobile Fuel Efficiency—Policy Background

The industry has been regulated by Govern-ment policies and programs primarily since the1960’s. Worker and public health and safety as-pects are regulated by the Environmental Protec-tion Agency (EPA) and the Occupational Safetyand Health Administration; product safety andemissions by the National Highway Traffic Safe-ty Administration (N HTSA) and EPA. Auto salesare affected by all policies that influence consum-er demand. In the aftermath of the 1973-74 oilembargo, the Government became actively inter-ested in promoting automobile fuel efficiency,and legislation was subsequently enacted to re-duce U.S. dependence on oil imports.

Policy for increasing automobile fuel efficien-cy is embodied principally in two programs. * Theprincipal policy instrument for increasing fuel effi-ciency was established by the 1975 Energy Policyand Conservation Act (EPCA) and specifies CAFE(i.e., fleet) standards for new cars and light trucksbetween the model years 1978 and 1985. Provi-sions of the CAFE program have generally triedto recognize the financial difficulties of the autoindustry. CAFE standards mandate that new-carfuel efficiency will double, incrementally, be-tween the early 1970’s and the mid-1980’s.(American-made cars had averaged about 14 mpgover the period 1965-75; the 1985 CAFE stand-ards require fleet averages of 27.5 mpg and areto remain in force after 1985.**) Subsequent pro-visions in the Fuel Efficiency Act of 1980 easedthe compliance requirements of the CAFE pro-gram, but the basic efficiency standards remainin force. Possible alteration of the standards setby the program for post-1 985 could be a majorpolicy issue coming before Congress.

a The sources ancJ magnitude of these cost advantages are not wellunderstood. Understanding the nature of any cost advantages en-joyed by competitors will be critical for determining how, when,and if U.S. manufacturers can get their cost structure into line, SeeU.S. Industrial Competitiveness, op. cit., pp. 96-99.

*A third program was enactment of the 55-mph speed limit.**The Energy Policy and Conservation Act provided guidelines

for the Department of Transportation to set standards for the early1980’s; Congress set standards for 1978 and 1985.

42 . /ncreased Automobjile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing oil Imports

The second major program, part of the 1978National Energy Act, establishes excise taxes forpurchases of automobiles with low fuel-economyratings beginning in the model year 1980. Cur-rent “gas-guzzler” taxes range from $200 for carsrated at 14 to 15 mpg in model year 1980 up to$3,850 for specialty cars rated under 12.5 mpgbeginning in model year 1986. Such taxes raisedonly $1.7 million in fiscal 1980.9

OTA’S analysis indicates large uncertainties inboth economic and noneconomic costs of fuel-economy increases. OTA has also identified un-certainties in demand for fuel-efficient cars ascritical to increasing fuel efficiency. These uncer-tainties, together with the desire of domestic man-ufacturers to serve a wide variety of consumertastes with a limited level of capital investment,are mainly responsible for the industry’s reluc-tance to accelerate the development and intro-duction of fuel-efficiency increases. Until fuel ef-ficiency is a–or perhaps the–major selling pointfor new car buyers, this reluctance, under-standably, is likely to continue.

Factors Affecting the Rate ofSynthetic Fuels Production

Unlike increasing automobile fuel efficiency,which may entail restructuring a major existingU.S. industry, production of synthetic fuels in-volves the emergence of a major new industry. *The costs and therefore the profitability of pro-ducing synfuels are influenced by major uncer-tainties that both characterize the economy asa whole and are specific to the synfuels industry.At the economywide level, factors such as theprice of oil, the cost of capital, inflation in generaland hyperinflation in the construction industries,

‘Congress rejected 60 proposals to tax purchases of inefficientnew cars and 19 proposals to raise gasoline taxes between 1973and 1977. In 1977, President Carter proposed a stringent “gasguzzler” tax keyed to CAFE standards which included a rebate pro-gram for purchases of especially efficient cars (which Congress de-cided would violate the General Agreement on Tariffs and Trade—orGAIT). When the current excise taxes were enacted, critics arguedthat they would save only 10,000 bbl/d of imported oil, while theCarter proposal, with higher taxes applied to more vehicles, wasestimated to be able to save 170,000 bbl/d (New York Times, Dec.10, 1978).

*The liquid and gaseous fuel industry may also undergo a restruc-turing, however. Synfuels development will tie up capital in consid-erably larger blocks and for longer periods than historically experi-enced by the industry. A concentration of ownership is also likely.

and the availability of appropriate labor and mate-rials will determine the financial risks that mustbe assumed by investors. Like the auto industry,the synfuels industry is capital-intensive. A mod-erately sized (50,000 B/DOE) fossil synfuels plantcould require an investment of $2 billion to $5billion; the industry’s growth and ability to attractcapital will thus be highly sensitive to the invest-ment climate.

The major constraint on the development ofa synfuels industry is the technical uncertaintyassociated with synfuels processes. There is essen-tially no domestic commercial experience withsynfuels processes, and processes and designconcepts have not yet been adequately demon-strated at a commercial scale. It is thus con-ceivable that design errors and unexpected oper-ational problems could delay construction orcause a completed facility to be inefficient, evena “white elephant” operating at only a fractionof its capacity or at greatly higher cost than antic-ipated. As with any capital-intensive industry,there are high costs associated with the underutili-zation of capacity.

Synfuels production will bean attractive invest-ment if investors view the technical risks as beinglow (i.e., commercial-scale demonstration unitsare successful) and they expect oil prices to risesharply in the future, or if they want to securean early market share in case synfuels do becomecompetitive with the oil market. Unless oil pricesrise more rapidly than synfuel construction costs,however, synfuels plants may not be economical-ly attractive even after the processes are provenand the technical risk is small.

Synthetic Fuels Production—Policy Background

Congress created the National Synfuels Produc-tion Program (NSPP) under the Energy SecurityAct of 1980 (ESA) to promote the rapid develop-ment of a major synfuels production capability.Specific goals are set for 500,000 B/DOE by 1987and 2 MMB/DOE by 1992.10

0IOsynthetic substitutes for petroleum and natural gas are the focusof the NSPP; other programs support development of synthetic fuelsfrom biomass. Biomass subsidy options have been reviewed in de-tail in the Ot%ce of Technology Assessment’s Energy From Bio/ogica/Processes. For the NSPP definition of synfuels see Public Law 96294,sec. 112 (17) (A).

Ch. 3—Policy ● 4 3

In the first of three phases, the Department ofEnergy (DOE) was authorized to offer financialincentives for the production of alternative or syn-thetic fuels. The original authorizing legislation(Public Law 96-1 26) made about $2.2 billion avail-able, mainly for purchase commitments or priceguarantees pursuant to the provisions of the Fed-eral Nonnuclear Research and Development Actof 1974; total funds were subsequently increasedto approximately $5.5 billion. ’ 11

ESA created the Synthetic Fuels Corp. (SFC) inthe second phase as a quasi-investment bank, toprovide incentives to promote private ownershipand operation of synfuels projects. SFC is backedby funds deposited in a special Energy SecurityReserve in the U.S. Treasury and to be used forfinancial assistance in the form of: 1 ) price guar-antees, purchase agreements, and loan guaran-tees; 2) direct loans; and 3) support to joint ven-tures. ” The governing board of SFC can decide

11This figure does not include an additional $1.27 billion that hasbeen made available for biomass energy, including alcohol fuelsand energy from municipal waste. For further details on this legisla-tion, see Public Law 96-294, Public Law 96-304, and the CRS issuebrief (No. MB70245) “Synthetic Fuels Corporation, Policy and Tech-nology,” by Paul Rothberg.

During the interim program, DOE awarded, in a first “round,”$200 million of these funds, half each for feasibility studies and forcooperative agreements. Of the first $200 million, approximatelytwo-fifths, or $80 million were for biomass projects, while the re-mainder went to synfuels activities. DOE has in past years also pro-vided support for a variety of research and demonstration activitiesto support synfuels development.

DOE originally planned a second “round” of awards for feasibilitystudies and cooperative agreements, but at the request of theReagan administration the $300 million authorized for these awardswas rescinded as an economy measure.

*ln its guidelines to investors, SFC indicates that it strongly favorsprice guarantees, purchase agreements, and loan guarantees, whichemphasize “contingent liabilities. ” The cost to the Governmentof such aid varies with the success of the assisted projects; it is min-imized when projects produce synfuels that can be priced competi-tively with other fuels. To prevent overconcentrating funds, SFCcan give no project or person more than 15 percent of its authorizedfunds, which is about $3 billion during its early years (1981-84).In the case of loan guarantees, SFC cannot assume a financial liabilityfor more than 75 percent of the initial estimated cost of the proj-ect, requiring the assisted company or companies to risk a sizableamount of their own funds. Although there are broad guidelines,the terms of each award will be negotiated separately with projectsponsors.

None of the contingent liability incentives available to SFC canexceed the amounts held for SFC in the U.S. Treasury; that is, SFCcannot “leverage” its funds by guaranteeing loans in excess of itsactual reserves. In the period since the passage of the synfuels legis-lation, estimates of the cost of commercial-scale synfuels plants havecontinued to increase; therefore, unless investors are willing tonegotiate guarantees for smaller percentages of project costs thanallowed by legislation, the amount of synfuels produced by the sub-sidy program may be much smaller than originally anticipated.

which DOE projects it will take over once theboard becomes fully operational. Total fundsauthorized for SFC are approximately $17 billionthrough June 30, 1984.12

The third phase of the NSPP is to begin in mid-1984, at which time Congress may appropriatean additional $68 billion on the basis of a com-prehensive synfuels development strategy to besubmitted by the SFC board. SFC is scheduledto lose the authority to make awards in 1992 andto be terminated in 1997. Some revision of NSPPdates, goals, and/or financing may have to bemade if the production of synfuels falls short ofthe original NSPP goals—as is expected. In OTA’Sjudgment, Congress is unlikely to have sufficientinformation by 1984 about the technical aspectsof synfuels processes to be able to make long-term synfuels decisions.

SFC has received continued political support,and the administration is committed to ensuringthe development of a commercial synfuels indus-try, as announced in its A Plan for EconomicRecovery (February 1981 ). In addition DOE hascommitted about 50 percent of its approximate-ly $5.5 billion, and provisional commitments havebeen made to two projects. *

Reflecting a recent major policy change how-ever, Government support is now to emphasizelong-range, high-risk research and development(R&D) activities that are unlikely to receive privatesponsorship. This shift is likely to have differenteffects on the two main types of synfuels projects:1) projects designed to test and demonstrate aker-native design concepts, learn more about the de-tails of the processes involved, and gain operatingexperience (demonstration plants); and 2) proj-ects designed to demonstrate commercial-scaleprocess units (CSPUs).

Demonstration plants are generally smallerthan commercial-scale plants and are not in-tended to earn a profit. Under the new policies,DOE programs to support demonstration plants

ISynthetic Fuels corp,, “Assisting the Development of SyntheticFuels,” p. 1. The $17-bilIion figure is an approximation. SFC isauthorized to spend up to $2o billion, but the money obligatedin the interim program is to be subtracted from the larger figure.

*These are a loan guarantee of up to $1.5 billion to the GreatPlains Coal Gasification plant in North Dakota and an as yet un-negotiated assistance agreement with the Union Oil Co, oil shaleproject (product purchase guarantee).

. .

44 . Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

are being terminated, but these projects presum-ably can apply to SFC for support.

If CSPUs can be made to operate properly, sev-eral such units might be built and operated inparallel in a commercial synfuels plant. Becausethe process unit is intended to be part of a com-mercial synfuels plant, support for CSPU demon-strations continues to be available through SFC,under the new administration policies.

Termination of DOE support may lead to can-cellation of several demonstration plants, sincethey must now compete against more developedtechnologies for SFC support. * This would resultin a poorer understanding of various synfuelsprocesses and a narrower range of technologyoptions available to potential investors. It couldalso reduce the prospects for commercializingplants capable of producing fuels from a varietyof coals found in different regions of the coun-

*Apparently as a result of reduced Government interest in directlypromoting synfuels, three projects previously supported by DOEhave been canceled (SRC 11 and two high-Btu gasification projects,the Illinois Coal Gasification Project and the CONOCO Project inNoble County, Ohio). Four additional demonstration projects arecontinuing with reduced levels of DOE support and their futuresare in doubt: H-Coal, EDS, Memphis Medium-Btu, and SRC 1. Atleast one upcoming project, not yet at the demonstration stage,has also been canceled in light of recent developments (a Iow-BtuCombustion Engineering project).

try.13 Finally, processes with the greatest immedi-ate (i.e., not necessarily long-term) commercialpromise are likely to be favored by SFC in orderto meet production targets. *

Although every commercial-scale process willhave gone through a demonstration plant stage,the design of the CSPU will also be based on nu-merous other sources of relevant information.Terminating demonstration plant projects will re-duce this pool of information, thereby increas-ing the risks that CSPUS will not function properlyand reducing the design options for correctingmalfunctions. Development of promising longerterm synfuels processes may also be delayed oroverlooked entirely. For these reasons, it is OTA’Sjudgment that DOE’s termination of support fordemonstration plants is likely to reduce the rateat which a synfuels industry is built.

1 JSee paul Roth berg, ‘‘Coal Gasification and Liquefaction, ” CRS

issue brief No. IB77105, Aug. 12, 1981.*Legislation calls for SFC to consider a wide range of alternative

synfuels technologies in order to broaden industry’s experience withthe technical and economic characteristics of many processes. Thisrequirement may conflict with the mandate to meet productiontargets—targets that already appear unrealistic.

POLICY OPTIONSThis section evaluates the major policy options

available for displacing oil imports generally andspecifically for stimulating auto fuel-efficiency in-creases and synthetic fuels production. The evalu-ation is based on the industry characteristics sofar discussed and on the technical analysis whichappears later in this report. In particular, the im-pacts of several policy options that have recent-ly received congressional attention are estimated.Note, however, that policies are not discussedin the context of emergency oil shortfalls.

The policy choices available to Congress dif-fer along several key dimensions: 1) the rate anddegree of oil import displacement; 2) the degreeand specificity of Government intervention andbudgetary effects; 3) the types, magnitude, anddistribution of benefits and costs; 4) implicationsfor the long-term, sustainable, and competitivehealth of the affected industries; 5) the relation-ship of the choices to other Government pro-grams; and 6) the feasibility of future actions. Theselection of policy instruments and resulting

Ch. 3—Policy 45

tradeoffs will reflect the priority ascribed to eachdimension. Policies can generally be designed ei-ther as incentives or penalties, incentives moreclosely approximating the conventional market-place. Policies can be directed at either economy-wide or sector-specific measures.

Economywide Level.–’’Economywide” policychoices are concerned with overall economicand business conditions—as measured by suchindicators as inflation, unemployment, and inter-est rates—that determine the financial health, in-vestment climate, and productive capabilities ofU.S. industries. Fiscal and monetary policies arethe primary instruments in this category; othermeasures could promote innovation, regulatoryreform, technology development, and human re-sources development. Such Government policiesgenerally seek either to remove or to reduce im-pediments to a strong and stable economy, aswell as to raise business and consumer confi-dence in the face of changing economic condi-tions. The advantage of such policies is that theycan be directed at many industries, although theywill have different impacts on the various affectedindustries. They are most commonly preferred asa complement to market forces, because theirscope enables them to enlist the broadest baseof support, and they are best equipped for inte-grating a wide range of economic and social ob-jectives. General economic policy, however, hasonly limited ability to promote the displacementof oil imports and to stimulate specific actions,and may indirectly distort capital flows amongoil displacement alternatives.

Automobile fuel efficiency and synfuels pro-duction (as well as fuel switching and conserva-tion in stationary applications) are influenced bysuch economywide factors as high interest rates,tight credit, increasing resource costs, andchanges in real disposable income. As for theauto industry, general economic conditions in-fluence the ability of consumers to buy cars andthe ability of manufacturers and suppliers to in-vest in needed changes. General economic policycould help to stimulate demand for automobilesby lowering the costs of consumer credit and bymaking credit available. Strong demand for newcars, together with stimuli that reduce the effec-

tive costs of capital and retooling can, in turn,stimulate the supply of fuel-efficient automobiles.

Economywide measures, however, would notinduce consumers to buy domestically manufac-tured vehicles rather than imports; and they couldhave a mixed effect on local automobile produc-tion and employment. Economywide measuresmay facilitate investments by foreign firms in U.S.facilities, but they also assist investments by localproducers in labor-saving equipment and invest-ments by domestic manufacturers in low-costproduction facilities abroad. These investmentsmay ensure the financial health of individual,American-owned firms, but attendant reductionsin domestic employment may aggravate regionaleconomic problems.

Deployment of synfuels production capacitywill also be sensitive to general economic condi-tions: interest rates not only influence the availa-bility of capital for building plants; the capitalcosts also help determine whether products canbe priced competitively. Once established, how-ever, the synfuels industry is expected to be rela-tively insensitive to general economic conditionsto the extent that synfuels are indistinguishablefrom conventional fuels and are competitivelypriced, and the plants do not require frequentretooling. Based on the analysis provided in thisreport, it is OTA’S judgment that favorable econ-omywide conditions, by themselves, are still un-likely to provide sufficient incentive for privatefirms and investors to accelerate the commerciali-zation of a synfuels industry because of the largetechnical risks associated with as yet commercial-ly unproven synfuels processes.

Sector-Specific Level .–Policies can be aimedat specific industries to stimulate industrial com-petitiveness, ease the adjustment of firms to neweconomic conditions (rapid growth, short-termdistress, or long-term decline), or to promote theachievement of national or regional objectives(e.g., national security, regional development).To formulate policies at this level, analyses of indi-vidual sectors and linkages among sectors areessential. The major disadvantages of such poli-cies are that they do not always address the un-derlying causes of market distortions and theydiscriminate against other industries which are

46 INreased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

not similarly assisted. in terms of the auto indus-try, sector-specific policies would be most effec-tive if they addressed the market risk, which isa major factor determining the rate of fuel-economy improvements. The major constraint onrapid deployment of a synthetic fuels industry istechnical uncertainty with respect to unprovenprocesses and, currently, the cost of conventionaloil products.

Economywide Taxation—Oil andTransportation Fuels

General taxation measures are one vehicle forstimulating capital investment across the econ-omy. Economywide taxation measures that spe-cifically relate to displacing oil imports are taxeson oil imports, on oil in general, and on transpor-tation fuels (e.g., gasoline and diesel fuel) in par-ticular. To the extent that the Nation’s energy“problem” is defined as dependence on insecureforeign sources, an oil or transportation fuel taxwould promote security by reducing oil demand.However, an oil or gasoline tax could be counter-productive to the degree that the energy “prob-lem” is defined as a lack of relatively low-cost,high-quality fuels. Consumers may oppose an oilimport tax, even though its impact would beminor compared with that of large OPEC priceincreases, as was the case when an oil import taxof $0.33/bbl was in effect briefly during the Fordadminstration. Its impact, if any, was minor incomparison with that of OPEC’s hikes.

Oil taxes can be imposed either on oil generallyor on oil imports in particular. The advantagesof an oil tax arise because of three features. First,the tax would make all uses of oil more expen-sive without prejudging which kinds of adjust-ments would be most desirable. A general tax onoil would thus reduce consumption and, in turn,imports. Second, the tax could be designed toisolate consumer oil prices from reductions in in-ternational oil prices. For example, if OPEC pricesremain steady through 1984 and if inflation con-tinues at current rates, the real price of oil coulddecline by as much as 20 to 30 percent duringthis period. While perhaps beneficial to con-sumers in the short term, declining real prices forpetroleum products would probably lead to in-

creased petroleum demand. Consistent price sig-nals would also provide assurance both to theauto industry that demand for fuel-efficient carswould be at least sustained if not increased, andto synfuels developers that they would receiveat least a constant real price for their products.Finally, tax revenues could be used, for exam-ple, to support import displacement investments,or to offset some of the potential adverse effectsof the tax (e. g., to fund income support pro-grams).

Taxing only crude oil, however, and not itsproducts could reduce the international compet-itiveness of industries heavily dependent on oil—such as refineries and petrochemical companies. *Furthermore, because oil taxes do not differen-tiate among industries that use oil, they are noteffective means of altering the competitive posi-tion of either automobile fuel economy or syn-fuels production relative to any other method fordisplacing imports (if such alteration is desired).Such taxes could also contribute to inflation gen-erally and would be paid for disproportionatelyby consumers with low incomes. Compensatoryprograms and payments could deal with suchside effects, but at additional implementation andadministrative expense.

Taxes targeted at only oil imports could discrim-inate against companies, and regions of the coun-try, that are heavily dependent on imported oil.It is more likely, however, that import taxeswould cause the general price of oil to increaseto a level close to the price of taxed imports. AnygeneraI price increase, in turn, would create addi-tional revenues for domestic petroleum produc-

*lt is possible that refining activities would relocate overseas unlessadditional import restrictions were also imposed. With respect tosynfuels production, refiners might be able to cut profit marginsand continue to process and sell oil at prices below synfuels pricesin order to maintain refining volumes (which are already rather low).Because many old refineries do not have capital charges, refiningcosts would be dominated by the variable costs of about 15 to20¢/GALproduct plus the oil acquisition costs. Consequently, taxesmay have to raise the cost of imported oil to within about $6/bblof synfuel product (150gal of gasoline equivalent) to ensure thatthe refiners cannot economically use oil imports as copetitors forsynfuels. This would directly harm some companies ened in oilrefining, but this may be a necessary tradeoff to ensure that syn-fuels actually displace imported oil, rather than act to reduce domes-tic petroleum product prices and thereby discourage a reductionin domestic oil consumption.

Ch. 3—Policy ● 4 7

ers. The total revenues generated by an importtax would thus be only partially received by theGovernment. Compared with a general oil tax,an import tax is thus likely to result in a smallerfraction of revenues being available to the Gov-ernment for additional import displacementmeasures or to offset any adverse impacts ofhigher oil prices. The windfall profits tax capturessome additional revenue, but is more complexto administer than a general tax on all oil.

Another disadvantage of an import tax, fre-quently discussed, is the possibility that oil export-ing nations might see the acceptance of addedcost by U.S. users as an indication that their crudeprices could be further increased without reprisalor economic hardship. This objection probablyis not valid, however, during times of crude oilsurplus in the producing nations.

With respect to transportation fuel consump-tion, a tax either on oil or on transportation fuelsreduces demand for all uses of transportation fuel,including automobile travel, as well as increas-ing the relative demand for fuel efficiency. Itcould reduce new-car sales, however, and couldalso reduce the profitability of truck transports,agriculture, airlines, tourism, and other fuel-dependent industries. Taxes on only gasolinewould avoid some of these problems, but theycould encourage the purchase of diesel-fueledautomobiles.

Gasoline taxes in this country have increasedonly slightly during the past two decades.l A TheFederal tax has been $0.04/gal since 1960, whilethe average State tax has increased from $0.065to $0.08/gal. A gasoline tax that increased theprice of gasoline by, say $0.05/gal (i.e., a 3-per-cent increase over a $1.50 price) would raiseabout $5 billion per year at current consumptionrates, as would a $1 .00/bbl crude oil tax. I n orderto offset inflation since 1960, the current gasolinetax would have to increase by about $0,1 5/gal.Taxes on gasoline are significantly lower in theUnited States than abroad. *

~4See Hans H. Landsberg, Energy Po/;cy Tasks for the 1980s, RFF

reprint 174 (Washington, D. C.: Resources for the Future, 1980).*Taxes on gasoline (per gallon) in 1979 were, as examples, $1.59

in France, $0.88 in the United Kingdom, $1.14 in West Germany,and $1.58 in Italy.

The ultimate effect an oil, gasoline, or dieselfuel tax would have in displacing oil imports de-pends on at least three factors. First, the effective-ness of the tax in the long run depends on theactual purchase and use of fuel-efficient vehicles.Estimates of the responsiveness of demand (its“elasticity”) to changes in gasoline, auto, andother prices vary widely from study to study, butthey suggest that a tax on crude oil or transpor-tation fuels would have to be relatively large tomotivate consumers to trade in their relatively in-efficient cars for more efficient ones. ’ 5 Note,however, that tax provisions per se would not dif-ferentiate between domestic and foreign manu-facturers except insofar as one produces morefuel-efficient vehicles.

Secondly, tax impacts will depend on final oilor fuel prices. The entire tax amount need notbe passed onto consumers if producers are ableto maximize profits by lowering the price of gas-oline, absorbing part of the tax, and increasingsales. As long as demand for oil is slack relativeto supply, at least part of the tax will be absorbedby producers.

Finally, the effect of taxes will depend on thedegree to which driving is reduced. While OTA’Sanalysis of oil savings attributable to fuel economyimprovement assumes a steady increase in vehi-cle miles traveled (VMT) (but a drop in VMT percapita), lower total VMT induced by high gasolineprices would increase actual oil savings. * How-ever, this could also reduce car sales.

While gasoline stations and refineries would beaffected by reduced demand, industry analystsalready expect that the number of service stationsand refineries will decline in the 1980’s. Remain-

IsDemand response is difficult to quantify because there is onlylimited past experience with periods of gasoline price increases(“preenergy crisis” conditions appear to be of limited value for pre-dicting “postcrisis” consumer behavior); crude oil and transporta-tion fuel prices affect consumers in dynamic, multiple ways to alterreal income and demands; and it is difficult to understand demandresponse when vehicles have many different attributes, of whichfuel efficiency is only one. (See Motor Vehic/e Demand Mode/s:Assessment of the State of the Art and Directions for Future Re-search, prepared by Charles River Associates, Inc., for the U.S.Department of Transportation, April 1980.)

*For example, OTA estimates that about half of the 0.5 MMB/Dreduction in gasoline consumed by autos in 1978-80 was due toreduced driving, while about half was due to increased efficiencyof vehicles in use.

48 . Icreased Automobileel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

ing stations and refineries should be financiallystronger and better able to adapt to gasoline priceincreases. Any reduction in highway trust fundrevenues could presumably be balanced by pro-ceeds from the gasoline tax or other taxes.

Economywide Taxation—Special Provisions

Special taxation provisions are often applied atthe economywide level to promote investment(e.g., by encouraging capital formation and re-structuring cashflow positions). Examples of suchprovisions are investment tax credits, deprecia-tion allowances, R&D tax credits, and capitalgains. As with other taxes, special taxation provi-sions could have differential impacts on industriesand distort private returns to capital. Both theauto and synfuels industries (as well as the elec-tric utility industry), being capital-intensive, couldbenefit from special taxing provisions. The scopefor additional special taxing provisions, however,is believed to be limited because of the many ex-isting provisions,

Although a firm would generally have to beprofitable to take advantage of special taxationprovisions, tax credit sales rules have been ex-panded and liberalized to give unprofitable firmsthe chance to sell their investment tax credits anddepreciation rights. The auto industry has alreadytaken advantage of liberalized rules for selling taxcredits.lb This type of sale can help to strengthenthe financial position of the auto industry, al-though it does not directly encourage increasedfuel economy.

It is speculative to analyze how special taxingprovisions would stimulate investment in syn-fuels. Special taxing provisions have historicallybeen applied at the sector-specific level for do-mestic oil producers in the form of special depre-ciation allowances, and currently for expensingdrilling costs and for foreign tax credits.

lcFOr example, FOrd Motor Co., with losses in excess of $700 mil-lion in 1981, sold its tax credits on 1981 equipment purchases forsomewhere between $100 million and $200 million to IBM (kVash-ington ~05t, Nov. 1 1 , 1 9 8 1 ) .

Research and Development

Government policies and programs could stim-ulate technical R&D at either the economywideor sector-specific levels to help displace oil im-ports. The primary rationale for Government sup-port of R&D is that there are social benefits fromR&D which surpass private gains, in large part be-cause of high front-end learning costs. in addi-tion, the Government tends to support researchthat is too risky for private funding, and whichdoes not, for a variety of reasons, attract privateinvestment in the short term. A major advantageof Government support for R&D is that programscan assist the economy, and specific industries,without direct intervention. However, the typesof basic research that Government has tradition-ally supported often have benefits only in the longterm, so a nearer term oil import savings impliesGovernment involvement in shorter term R&Dareas. Applied R&D also offers the opportunityfor the Government to acquire equity in projectsor royalties from the results of the R&D.

EconomyWide R&D support could be designedto stimulate opportunities for displacing oil im-ports generally and for both increasing automo-bile fuel efficiency and accelerating synfuels pro-duction. Such measures could, as examples,sponsor basic research, promote the climate fortechnical innovation (e.g., increasing the rewardsto innovators through patent laws and/or specialtax incentives), or establish mechanisms for as-sembling and disseminating technical informa-tion. Such nonspecific support, however, is un-likely to have much impact on resolving the spe-cific technological uncertainties that impede bothauto fuel-efficiency increases and synfuels devel-opment.

Although the Government has supported sec-tor-specific R&D in the past, policies have seldomsupported product development with direct com-mercial application except in agriculture andnuclear power. Research to increase automobilefuel economy and to develop synfuels, as wellas other technologies for displacing oil imports,would have direct commercial application.

C h . 3 — P o l i c y 9

There has not yet been any substantial Govern-ment support for R&D to assist the automobileindustry. Several R&D and technology demon-stration programs have been Government-spon-sored, and a joint industry-Government-universityR&D program (the Cooperative Automotive Re-search Program) was attempted unsuccessfully in1979-80.17 Some of the basic research areas thatcould result in substantial long-term fuel-econ-omy payoffs include:

1.

2.3.4.5.

6.

the engine (e.g., advanced alcohol-fueledengines, nonsteady-state combustion, micro-processor controlled fuel injection, high-tem-perature materials);vehicle structure (e.g., crashworthiness);aerodynamics;friction, lubrication, and wear;innovative production technologies for light-weight materials; andexhaust emissions.

The Government might also continue to providesome support for the advanced development ofelectric and/or hybrid vehicles, alternativeengines, and alternative automobile fuels.

The technical uncertainties associated with syn-fuels development are substantial. It is OTA’sjudgment that, even in the presence of favorableeconomywide conditions, investors would nothave sufficient incentive to accelerate synfuelsdevelopment because of the magnitude of thetechnical risks associated with process technol-ogies. For example, one of the major componentsof technical uncertainty is concerned with theflow and abrasive properties of soIid/liquid proc-ess streams. Gaining a basic understanding of theproperties of these streams so that equipment willfunction properly is both a theoretical and an em-pirical engineering challenge. At present, engi-neers must proceed to full-scale commercialplants without adequate analytical descriptionsof how well designs will work. OTA believes theremay be considerable benefit in continuing theoriginal concept of a demonstration program toprovide technical information. The results of both

‘The Justice Department also recently agreed to ease restrictionswhich had barred the four major manufacturers from working to-gether on development, as well as sale and installation, of pollu-tion control devices. See The Washington Post, Nov. 10, 1981.

basic and applied research could lead to impor-tant near- and long-term advances in synfuelstechnology, as well as in other technologies con-cerned with solids handling.le

Trade Protection

Trade protection–tariffs and duties, quotas, lo-cal content requirements—has economywide im-plications but has traditionally been used to tem-porarily insulate specific industries and productsfrom foreign competition. The case for importprotection for the domestic auto industry is basedon the claim that the industry requires only tem-porary protection in order to increase sales andthus to improve its revenue position, to generatecapital for reinvestment, and to position itself formanufacturing fuel-efficient cars. On the otherhand, it is argued that temporary trade protec-tion would neither ameliorate the shot-t-termcompetitive problems of the industry nor pro-mote long-term restructuring for fuel economy.It is seen as inefficient and indirect adjustmentassistance that can lead to higher consumer pricesdue to reduced competition, to higher produc-tion costs for those industries that must compete,unsubsidized, against autos for resources, and toless innovation in general. Trade protection couldalso lead to retaliation on the part of trading part-ners, and some measures are restricted by theGeneral Agreement on Tariffs and Trade(GAIT).19

Import quotas are generally considered less ef-ficient than tariffs in reducing imports and stim-uIating domestic industries. This inefficiencyarises because quotas directly distort both pro-duction and consumption (whereas tariffs changerelative prices), and quotas can be bypassed withproduct differentiation. Duties have not generallyfigured in the policy debate, * but U.S. auto man-ufacturers have been granted temporary tradeprotection in the form of a 3-year Japanese auto-mobile quota agreement. The ultimate effects of

}Bsee also “Repo~ to the American Physical Society by the Study

Group on Research Planning for Coal Utilization and Synthetic FuelProduction,” Rev. Mod Phys, 53, 4 (pt. 2), October 1981.

19’’ General Agreement on Tariffs and Trade, ” 55 U. N.T.5. 194,T.1.A.S. No. 1700 (1947).

*Duties on car imports into the United States are 6 percent; thiscompares with 14 percent into Canada, and 11 percent into France,Italy, Germany, and the United Kingdom.

50 Ž Increased Automobile fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

these quotas on the domestic industry are un-known, but thus far the impacts of import re-straints appear to be small due to low new-carsales. However, if new-car sales recover, theprices of all small cars could increase to the ex-tent that shortages are artificially induced by thetrade restrictions.

Local content provisions are another form oftrade protection that has been discussed in thecontext of the domestic automobile industry(H.R. 51 33). These measures would not displaceoil imports directly but could help to protectdomestic automobile manufacturing jobs. Suchprovisions are generally viewed as being econom-ically inefficient, although they could serve othersocial/equity objectives.

Trade protection is not likely to address any ofthe major issues on which the future of the syn-fuels industry depends. Trade concerns mayeventually arise if large quantities of materials andequipment are imported to construct synfuelsplants or if the United States is in a position toexport synfuels products or production experi-ence.

Trade protection could be used to limit oil im-ports directly. Such a quota, however, could leadto domestic shortages and price increases in theabsence of replacements. The Carter administra-tion placed a quota on oil imports (and exploredalternatives for allocations within the UnitedStates should demand exceed the quota), but itwas set at a level which did not influence imports.import quotas were also in effect from 19591971.20

Sector-Specific Demand Stimuli—Purchase Pricing Mechanisms

to

Demand for increased automobile fuel econ-omy is an extremely important factor influenc-ing the rate of increases in new-car fuel efficien-cy. Autos are large, long-term, and deferrableinvestments for consumers. Furthermore, thedecision to buy a particular car depends on manyattributes, of which fuel economy is only one.Imported oil will not be displaced by the man-

‘“’’Energy Policy,” 2d cd., Congressional Quarterly, Inc., Wash-ington, D. C., March 1981, p. 30.

ufacture of more fuel-efficient cars unless thesecars are actually bought. Demand uncertainty canbe reduced, and the demand for fuel-efficient carscan be stimulated, by raising the costs to con-sumers of buying and operating inefficient carsand/or by lowering the costs of owning relative-ly efficient ones. The risks to manufacturers ofproducing fuel-efficient cars could thus be re-duced. Car ownership costs can be altered by tax-ing gasoline, as discussed, or by taxing/subsidiz-ing automobiles directly.

Synfuels per se should not be directly influ-enced by consumer behavior except insofar asweak demand for liquid fuels limits the profitabil-ity of synfuels production. Some synfuels, how-ever, may not fully conform to end-use fuel speci-fications without more extensive processing orend-use equipment modifications. The extent ofthis potential demand problem cannot be deter-mined in the absence of end-use testing, but islikely to be minor except for alternative fuels suchas methanol.

Purchase Taxes and Subsidies

Automobile purchase taxes or price subsidiescan directly change the costs of owning cars ofdiffering fuel efficiencies. Purchase pricing mech-anisms can be linked either implicitly or explicitlyto fuel-efficiency performance criteria. Currenttaxes are now only loosely related to CAFE stand-ards. The extent to which additional measureswould discourage the purchase of inefficient cars,or encourage the purchase of efficient cars, de-pends on many factors, including the level of theeffective tax (or subsidy), the range of vehiclesaffected, the extent that auto manufacturers’ pric-ing policies counteract the effect of the taxes (orsubsidies), and the responsiveness of consumerbehavior to changes in car prices. * There is also

*The difficulty in quantifying elasticities (i.e., the percentagechange in demand for a l-percent change in price) is discussedin “Economywide Taxation—Oil Imports and Gasoline. ” The inter-national Trade Commission analysis of the Carter gas-guzzler taxproposal implied an elasticity of demand for subcompacts of –0.79(i.e., sales of subcompacts increase less than proportionately withdecreases in their prices) and an elasticity of demand for full-sizecars of – 1.12 (i.e., sales of full-size cars decrease more than propor-tionately with increases in their prices). Assuming that these figuresare accurate, to reduce full-size car sales by 50 percent, for exam-ple, their prices should be raised by about 45 percent, or at least$3,500.

Ch. 3—Policy ● 5 1

some risk that price subsidies targeting only do-mestic vehicles could violate the GATT provisionswhich prohibit most-favored-nation trading part-ners from taking actions that discriminate againstimports from one another.

Low-interest loans for consumers could stim-ulate the purchase of all new cars, which aregenerally more efficient than the average car onthe road. By tying the interest rates to the newcar’s fuel efficiency, sales of the more fuel-efficient new cars could be stimulated.

Gas-guzzler taxes, as another type of pricingmechanism, would reduce the demand for rel-atively fuel-inefficient cars. However, becausesuch taxes do not discriminate among differenttypes of users, a disproportionate share of thetaxes could be paid by those who are most con-strained to using large vehicles. An equity argu-ment can be made for excepting certain classesof drivers in a tax program (e.g., taxis, hearses),Income support programs could aid in the casesof financial hardship; and tax proceeds could beused to fund these relief measures.

Both purchase subsidies and taxes may addi-tionally and at least temporarily strain the revenueposition of U.S. automakers because they arethe principal suppliers of large cars, but subsidiescould strengthen their long-term position due toincreased car sales.

If Congress wishes to avoid discriminationagainst large cars (which are inherently less fuelefficient than small cars), purchase taxes or sub-sidies could be based on the fuel efficiency of agiven model relative to other models within thesame size or market class. This type of approachwould lead to numerous cases where less fuel-efficient cars are taxed at lower rates or subsi-dized at higher rates than the more fuel-efficientones, but it would create a demand for cars withless powerful engines and technologically im-proved cars (as opposed to simply smaller ones)and it would not favor imports in most cases.

Bounties

Another way to use purchase pricing mecha-nisms to stimulate rapid fleet turnover to higherfuel economy is by offering a gas-guzzler boun-

ty. Bounties could be designed, as examples, asfull payment for a trade-in, or as a payment uponproof of scrappage of a fuel-inefficient car. Be-cause consumers are relatively unresponsive tochanges in prices,21 the bounty would have tobe large to induce significant increases in salesof more fuel-efficient cars. For example, if a valueof –0.3 is assumed for the price elasticity of de-mand for new cars, then for total new car salesto rise by 10 percent, net prices would have tofall by one-third. Since the average new car costsabout $8,000 in 1980-81, a bounty of about$2,700 would be necessary on average to raisenew-car sales by 10 percent. Since many usedcars have market values under $2,700, thisscheme would be profitable for the owners ofused cars. However, it would be costly both tothe Government and to potential buyers of usedcars.

The bounty price would become the effectiveminimum used-car market price and all used-carprices would be proportionately increased. Be-cause bounties distort existing relationships andoperations of both the new and used car markets,bounties would be difficult to design and imple-ment efficiently. Unless bounties were tied tohigh-fuel-efficiency car purchases, they mightneither help manufacturers nor lead to significantfuel savings.

Registration Taxes

Car registration taxes represent another de-mand-side stimulus. These taxes would affect theowners of all automobiles, and they could be ex-plicitly tied to fuel efficiency or some surrogatemeasure* to encourage replacement of fuel-ineffi-cient cars. However, they would make auto own-ership more expensive regardless of the amountand nature of the travel, and they would worktowards reducing demand for autos in the longrun. By effectively lowering consumer income,registration taxes would also disproportionately

21 “Motor Vehicle Demand Models: Assessment of the State ofthe Art and Directions for Future Research, ” prepared by CharlesRivers Associates, Inc., for U.S. Department of Transportation, April1980.

*One possible measure would be ton miles/gallon (e.g., howmuch a vehicle weighs per rate of fuel use), Several foreign coun-tries already have registration taxes that depend on automobileweight and/or engine size.

52 . Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

affect low-income groups. * In addition, a registra-tion policy implies State action, and consistent,concerted implementation may be difficult toachieve.

An important possible side effect of all demand-side stimuli which have the effect of reducinglarge-car demand is that only those domesticmanufacturers with a clear competitive advan-tage in producing large cars will continue to servethis shrinking market. This reorientation of do-mestic production would be consistent with long-term international trends towards corporate con-solidation and a standardized “world car. ”

Methanol

Promoting the use of methanol as an automo-bile fuel is likely to require coordination of supplyand demand stimuli. A limited supply of metha-nol, however, is currently available from thechemical industry. * *

Automotive uses of fuel methanol are principal-ly in a blend (with cosolvents) in gasoline or inengines designed or converted to use straight(neat) methanol. Because many automobiles nowon the road cannot accept methanol-gasolineblends with more than 1 to 3 percent methanol,the blend market for methanol is currently quitelimited (less than 50,000 B/DOE); but the poten-tial market could be expanded if incentives wereprovided to make new cars compatible with high-er percentage blends. This would also add flexi-bility with respect to matching supply and de-mand, which would help to avoid methanol fuelshortages and gluts. The use of blends could beencouraged through direct subsidies and throughapproval of methanol by EPA as a blending agentin gasoline.

Demand for fuel methanol can also be stimu-lated with incentives to convert captive fleets***(current fuel consumption by larger fleets is about

0.6 MMB/DOE22) to methanol. Captive fleets arecurrently more attractive for neat methanol usethan privately owned cars because fleets oftenhave their own fuel storage and pumping facil-ities, which can be converted to methanol at thesame time as the fleet conversion.

Introduction of vehicles for general use whichare fueled with neat methanol probably will re-quire coordinated planning to ensure that neatmethanol is available at service station pumps atabout the same time or before the vehicles ap-pear for sale. However, if this fuel supply prob-lem can be solved (see supply stimuli below) andmethanol is available at prices (per Btu) compar-able to gasoline, it is likely that some auto manu-facturers will supply alcohol-fueled vehicles with-out Government incentives.

Sector-Specific Supply Stimuli—Subsidies and Guarantees

Supply-oriented stimuli–in the form of directsubsidies, grants, and loan, price, and purchaseguarantees–are methods for quickly providingvisible and directed sector-specific support to in-dustries and firms.23 These stimuli, by shifting aportion of the costs and risks to the Government,can provide a temporary inducement to firms toaccelerate investments (i.e., to the auto industryto increase fuel economy and to the synfuels in-dustry to accelerate production). Supply-orientedstimuli can also be structured so as to minimizeor alleviate costly side effects associated with theinvestment or stimulus. The rationale is that mar-ket-driven business practices would not provide,at the time required, nationally desirable outputlevels.

Sector-specific, supply-oriented policy meas-ures share the disadvantages described earlierthat are associated generally with any sector-specific policy approach. In addition, they couldput direct pressure on the Federal budget. De-

*other fees that could discourage fuel use by all drivers includecommuter taxes, car-pooling incentives, and parking fees.

**Total U.S. methanol production, which comes from naturalgas and residual fuel oil, corresponds to about one 50,000 B/DOEsynfuels plant or about 1.5 billion gal of methanol per year.

***A captive fleet is a fleet of cars or trucks owned and operatedby a single business or Government entity and often used primar-ily in a localized area with central refueling facilities also ownedand operated by the fleet owner.

ZZThe Department of Energy (“Assessment of Methane-RelatedFuels for Automotive Fleet Vehicles,” DOE/CE/501 79-1, vol. 2, pp.5-23, February 1982) has estimated that automobile fleets of 10 ormore, truck fleets of 6 or more, and bus fleets consume about 0.6MMB/D of gasoline and about 0.4 MMB/D of diesel. Replacing allof the gasoline would require about 20 billion gal of methanol peryear.

~BSee An Assessment of Oil Shale Technologies, OTA-M-l 18(Washington, D. C.: U.S. Congress, Office of Technology Assess-ment, June, 1980).

Ch. 3—Policy Ž 53

tailed analysis is required to ensure that policiesand programs do not perpetuate inefficient opera-tions, that production changes and other efficientinnovations are not being discouraged, and thattargeted manufacturers are not benefiting inequi-tably. A major implementation problem is in link-ing of payment with performance: to ensure thatsupply-oriented mechanisms promote oil dis-placement, they would need to be contingent onsavings or production performance. Ideally, a de-tailed study of the many factors that determinefuel use could illuminate how much stimulationwould be required to reduce oil imports and howsuch measures would affect the Nation’s energybill. In practice, however, any such study is like-ly to have numerous shortcomings and inaccura-cies.

Loan Guarantees and Grants

The principal sector-specific supply-orientedpolicy mechanisms are loan guarantees, priceand purchase commitments, and direct grants.Of these, grants are the most advantageous forinvestors, since they are a form of direct assist-ance. Grants for improving auto fuel efficiencyand producing synfuels may be unpopular be-cause both alternatives are sponsored by the pri-vate sector and have profit-generating potential.Objections to direct grants could be offset some-what if the Government purchased equity in thecompanies with the money.

Loan guarantees are also advantageous to in-vestors because they allow investors to reducetheir financial exposure in case of default. Unlikegrants which require that the Government appro-priate funds immediately, loan guarantees requireGovernment payment only in the event of a com-pany’s default. Loan guarantees have been ap-plied to both the auto and synfuels industries. Inthe case of autos, loan guarantees were admin-istered by the Government to the Chrysler Corp.when it judged that the costs of not interveningwould be unacceptable from a national view-point. These loan guarantees represent a breakwith historic policy. No direct aid had previous-ly been given because the industry as a wholewas profitable and there was a reluctance bothon the part of the Government to subsidize theprivate sector (except under unusual circum-

stances) and on the part of the private sector toaccept Government support and related condi-tions.

Three policy complications also would arisewhen considering subsidizing domestic automanufacturers:

1. determining the eligibility of foreign firmsthat establish production subsidiaries in theU.S. (e.g., Volkswagen of America, Honda);

2. compliance with GATT provisions; and3. the treatment of auto suppliers. *

Loan guarantees are administered by SFC underESA for the synfuels industry. These guaranteeshave been justified on the basis that the costs andtechnical risks of synfuels production are so greatthat, in the absence of loan guarantees and othersupply-oriented stimulation, private investmentwould be slow in coming. With the large (75 per-cent) guaranteed loans that are possible underESA, investments in synfuels appear to be attrac-tive. * * industry has generally favored Govern-ment support in the form of loan guarantees tostimulate investment, and OTA believes that thisis an effective way of making synfuels investmentsfinancially attractive.24 Because of general infla-tion and steady increases in the estimated costsof synfuels projects, however, the funds currentlyavailable to SFC and the limitation of about $3billion in aid per project may not be adequateto support the number of projects originally en-visioned or allow a full 75-percent loan guaranteefor the larger projects.

*Although many suppliers will have to invest to accommodateautomotive change, it may be most efficient to subsidize only manu-facturers, who would in turn, fund suppliers as appropriate, for tworeasons: first, the amount of U.S. supplier investment (and to a lesserdegree U.S. manufacturer investment) depends on the amount ofoutsourcing and the degree to which foreign supplies are used; andsecond, it is easier to deal with the handful of manufacturers thanthe thousands of suppliers they may use.

**The 61 proposals received by SFC in its first general solicita-tion are a preliminary confirmation of this. These proposals reflectthe variety of approaches considered viable by private industry:14 oil shale projects, eight tar sands (including heavy oil) projects,one coal-oil mixture project, one solid-fuel additive from coal proj-ect, and one hydrogen-from-water project. Of course, general eco-nomic conditions, as well as the price of imported oil, will also havea major impact on the decisions of private investors. These condi-tions will, in turn, heavily influence the terms that SFC is able tonegotiate as it seeks to employ the funds available to it.

24lbid.

54 • Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

Purchase and Price Guarantees

Purchase and price guarantees protect investorsby ensuring that products can be sold at a priceequal to or greater than the minimum guaran-teed, regardless of market conditions. But unlessthe price is set at extremely high levels, these in-centives do not ensure against losses that occurif initial estimates are wrong with respect to cost,price, production volume, or product quality.These guarantees are most appropriate whenmarket demand and price are the major uncer-tainties (and are expected to be “too low”),where commodities are homogeneous, andwhen commodities have a value to the Govern-ment in use or resale. They could, however, dis-tort relationships among producers and consum-ers; they can be administratively complex, andthey do not reduce investors’ financial exposurein the case of poor performance.

Purchase and price guarantees have generallynot been considered viable for the auto industrybecause of the differentiation of its products andthe complexity of manufacturer-dealer-consumerrelationships.

Although purchase and price guarantees do notaddress the central technical uncertainties of syn-fuels production, they may nevertheless be usefulin conjunction with other incentives. Provisionsfor price guarantees and purchase commitmentsare included in the 1980 synfuels legislation.

Subsidies and guarantees can lead to large an-nual investments by the Government. For exam-ple, given that 6 to 8 million cars are produceddomestically each year, subsidies of several hun-dred dollars per car for fuel-economy improve-ments (which corresponds to the investmentsneeded to make the necessary changes) couldrequire annual expenditures of several billiondollars.

To illustrate the magnitude of subsidy thatcould be necessary through a price guarantee toaccelerate synfuels production, assume thatcrude oil costs $40/bbl, that synfuel from a new-ly opened 50,000 B/DOE plant requires a $10subsidy for each barrel of oil replaced, and thatsynfuels production costs follow general inflation.if the real price of oil were to escalate by 2 per-cent per year, the synfuel would have to be sub-

sidized for 11 years at a total cost of about $1billion. If the real price of oil escalates at 4 per-cent per year, the period of subsidization and thetotal cost would be half as large. Similarly, a1-percent real inflation rate for oil would doublethe duration and magnitude of the subsidy. Thus,price guarantee subsidies can reach levels thatare a significant fraction of the investment initiallyneeded to build the plant.

The Government could, however, require re-payment of a subsidy if the manufacture of fuel-efficient cars or the production of synfuels be-came profitable without subsidies.

Methanol

The supply incentives mentioned above andthose described under “demand stimuli” areprobably adequate to encourage production ofmethanol from coal for use by the chemical mar-ket and some captive fleets of automobiles, and,possibly, as blends in gasoline. However, addi-tional supply incentives may be necessary to en-courage the use of methanol in automobileswhich are not part of a captive fleet.

Once significant quantities (probably more than0.1 to 0.2 MMB/DOE) of methanol are being usedin captive fleets and, possibly, in gasoline blends,it may be possible to offer methanol for sale tothe public in enough places to make ownershipof a methanol-fueled vehicle practical for individ-uals. Incentives can be offered to owners of meth-anol-fueled captive fleets, who have their ownmethanol storage and pumping facilities, to sellmethanol to the public. Incentives can also begiven to service station owners who sell methanolblends to install methanol storage tanks and blendthe methanol with gasoline at the pump. Theycould then sell straight methanol, as well.

Many owners of captive fleets probably can-not be easily induced to offer methanol for sale,because it would not be related to their otherbusiness activities and would be tantamount toentering the service station business. Similarly,very large economic incentives may initially benecessary to induce service station owners to in-stall methanol facilities, because the investmentwould not lead to a near-term increase in sales.

Ch. 3—Policy ● 5 5

On the other hand, it could be mandated thatany supplies of methanol used for Government-owned captive fleets be made available for publicsale. And some captive fleet and service stationowners would be willing to offer methanol to gainan early market share or for the financial incen-tives offered by the Government. If these mone-tary and nonmonetary incentives were adequate,methanol could compete directly with gasolineand diesel fuel as an automobile fuel.

Regulations on Output

One of the most direct policy mechanisms forpromoting alternatives that can displace oil im-ports is regulation. Regulations are a common,if controversial, form of Government interventionin the economy. Although their effects can be felteconomywide, regulations are typically directedat specific industries or products. In general, theywould target the supply aspects of oil import al-ternatives. Measures could also be designed totarget consumers (e.g., the 55-mph speed limit,end-use fuel restrictions in the stationary sector),but the Government has traditionally been reluc-tant to mandate changes in consumer behaviorand habits.

Regulations can be designed for two major pur-poses. First, they can serve to protect the publicfrom the side effects caused by the conduct ofindustrial activities. These effects include impactson the environment, health, and safety which arediscussed in the next section. Regulations canalso be used to determine outputs directly—thelevel of consumption or production of fuels–ifthe market is unable to ensure desirable levels.

the investment risks since, although regulationscan affect the supply of fuel-efficient cars, theydo not directly influence purchases. Through the1970’s consumers failed to demonstrate a con-sistent demand for fuel economy, * and the CAFEstandards probably increased fuel efficiencyabove what the market would have achieved.And recent data (fall 1981 ) show that, in fact, theproportion of relatively large cars sold has onceagain increased compared with the number ofsmaller cars sold.

The arguments for extending CAFE standardsbeyond 1985 are inconclusive. To the extent thatCAFE standards are met through sales of smallercars, as opposed to purely technological changes,U.S. manufacturers must increasingly competewith imports for the small-car market. Increasinglystringent fuel economy standards could, there-fore, result in higher import levels if domesticmanufacturers are unable to increase their com-petitiveness in this market, despite the productchanges they have made. Post-1 985 standards arealso likely to require additional capital for morerounds of redesigning and retooling. But post-1985 standards could result in important fuel sav-ings to the Nation, especially if the demand forfuel-efficient cars remains sluggish. Additional de-mand stimuli may also be necessary, dependingon national and international conditions, to en-sure that fuel-efficient cars are bought.

In considering the effects of CAFE standards itis important to recognize that CAFE standards donot distinguish among average efficiency in-creases that result from: 1) technological improve-

The auto industry has been regulated in theUnited States in the areas of emissions, safety, andmore recently fuel economy. The major Govern-ment program mandating fuel-efficiency increasesis the CAFE standards. Whether or not to increasethese standards beyond levels set by current legis-lation for 1985 and beyond may be a major up-coming decision before Congress.

Effectiveness of the CAFE standards in spurringfuel economy improvements is controversial, Animportant feature of these standards is that theyare effective only if they force manufacturers todo more than consumers demand. This increases

*The drop in demand for fuel efficiency and the resurgence inlarge-car demand in the mid to late 1970’s led manufacturers topetition (unsuccessfully) NHTSA to lower CAFE standards for theearly 1980’s because sluggish sales of fuel-efficient cars madenecessary investments appear especially costly and risky. Markettrends in the 1970’s also led manufacturers to concentrate initiallyon improving fuel economy for relatively large cars rather than ondeveloping new small-car designs. Manufacturers attributed theirexpectation to exceed voluntarily the 1985 CAFE standard of 27.5mpg to renewed, strong demand for fuel economy arising from the1979 oil crisis and increases in gasoline prices. This increase in de-mand and current industry efforts to raise fuel economy recentlyled NHTSA, which administers the CAFE program, to terminate

rulemaking with respect to post-1 985 average fuel-economy im-provements (Fed. Reg. 22243, Apr. 16, 1981 ). A petition from theCenter for Auto Safety that requested NHTSA to continue rule-making was also subsequently denied (Fed. Reg. 48383, Oct. 1,1981 ).

98-281 IC - 82 - 5 : ~11, 3

56 . Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

ments, 2) consumers’ purchasing the more fuel-efficient cars in each size class, and 3) consumerspurchasing smaller cars. Depending on marketdemand, success of technical developments andauto manufacturers’ financial positions and capi-tal stock, CAFE standards could be met throughvarious mixes of the three (see table 8). Conse-quently, without special provisions it probablyis impossible to establish conventional CAFEstandards which simultaneously: 1 ) are effective(i.e., increase new-car fuel efficiency above whatmarket forces would dictate), and 2) do not pro-mote the sales of small imported cars. Separatefuel-efficiency standards for each automobile sizeor market class could significantly reduce the in-direct promotion of small-car sales; however, thiswould greatly reduce automobile companies’flexibility in responding to the regulations.

The NSPP sets targets for synfuels productionbut the mandating of synfuels output has notbeen of central congressional interest. The majordifficulty associated with developing synfuelsstems from technical uncertainties which, in turn,affect the likely cost at which synfuels initially willbe produced. in addition, contributions to oil im-port savings from synfuels would not be madeincrementally (as with increasing automobile fuelefficiency) but rather depend on the proper func-tioning of large-scale facilities. As experience andknowledge is gained, it may become possible toestablish realistically achievable production levelsif the Government desires an assured level of syn-fuels supply.

Table 8.—Potential Average New-CarFuel Efficiency in 1995

Fuel efficiency ofCar size class average model (mpg)a

Large . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ....30-45Medium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ....45-60Small . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ....60-75

Average new-car fuelSize mix of cars sold efficiency (mpg)a

1961 size mixb. . . . . . . . . . . . . . . . . . . . . . . . ....40-50Moderate shift to small carsc. . . . . . . . . . . ....45-60Large shift to small carsd . . . . . . . . . . . . . . ....50-65a All mpg figures rounded to nearest 5 mpg. Mpg refers to the composite con-

slstlno of 55 percent EPA city cycle and 45 percent EPA highway cycle,b 1~1 gales: 47 percent large cars, da percent medium-sized cars, and 5 per-

cent small cars.C l= gales: m percent large Cars, 55 percent medium, 25 percent small.d l% gales: s percerlt large cars, 45 percent medium, 50 percent smali.

SOURCE: Office of Technology Assessment.

One possible form of regulation would be tostipulate that a certain percentage of the outputfrom domestic oil producers be synfuels. How-ever, this provision would be unworkable forsmall oil producers, so it would have to be tar-geted at the larger oil companies. Similar prob-lems arise with regulations aimed at refiners orretailers. Furthermore, because refining and re-tailing are considerably less profitable than gasand oil production, regulations aimed at the form-er might induce some of the companies that arevertically integrated to abandon refining ratherthan to incur the added costs and risks. For thesereasons, it would probably be very difficult to ad-minister mandates on synfuel content.

Other Effects

Environment, Health, and Safety

Both increased automobile fuel efficiency andsynthetic fuels production have the potential forcreating large-scale environmental, health, andsafety hazards. A principal rationale for policy in-tervention is the general past failure of privatemarkets to internalize these other effects in invest-ment decisions and operating practices. Policiesto protect the public have tended to take the formof regulations that govern known or anticipatedimpacts through performance standards or con-trol specifications.

Apart from fuel efficiency, the auto industry isregulated in the areas of emissions and safety.Emissions standards require that each vehicle–and automobile safety standards require that eachof certain vehicle parts-meet minimum perform-ance standards. (By contrast, fuel-economy stand-ards are for fleet averages.) There are proposalsbefore Congress to delay, modify, or eliminateover 30 automotive-related environmental andsafety regulations.25

A potential threat to the public from size andweight reduction of vehicles used to increase fuelefficiency is decreased automotive safety. Thebasic policy issue is whether the Governmentshould act to help prevent future highway fatal-ities if consumer demand for safety does not result

25 See Gwenell Bass, “The U.S. Auto Industry: The Situation inthe Eighties,” CRS issue brief No. IB81054, Sept. 30, 1981.

Ch. 3—Policy ● 5 7

in adequate safeguards. * Regulatory policy could,as examples, reconsider the passive restraint pro-gram (rulemaking for that program was ter-minated by NHTSA although a recent U.S. Courtof Appeals ruling has reinstated the program, atleast for the moment), mandate the use of safetybelts, strengthen crashworthiness design stand-ards, or maintain or tighten speed limits. Othertypes of programs could provide for stricter driverlicensing standards and improved road mainte-nance and traffic control, support R&D, and pro-vide for driver safety education. Another poten-tial adverse effect is the air quality impact of alarge increase in diesel-powered autos. Policy al-ternatives include more stringent particulate andNOX emission regulations for diesel engines andGovernment assistance in diesel health effectsresearch and emissions control development.

Potential environmental and worker-relatedproblems associated with synthetic fuels develop-ment (e. g., contamination of drinking water, re-lease of cancer-causing agents and other hazard-ous pollutants, highly visible plant upsets, obnox-ious odors, and localized water availability con-flicts) are substantial and have considerablepotential for arousing strong public opposition.There are also elements of the present synfuelsdevelopment strategy that appear to increase thepotential for adverse impacts. These elements in-clude the proposed siting of some synfuels dem-onstration plants close to heavily populated areas,research budget cuts at EPA and the proposeddismantling of DOE, the current policy to shiftenvironmental management responsibilities toState and local agencies without a concomitantshifting of resources, and an industry environ-mental control program that appears reluctant tocommit resources to currently unregulated pollut-ants and that may be overconfident about theperformance of integrated control systems.**

“Manufacturers may not pursue safety for fear that the addedcost will dampen market demand. In most cases safety has not beena strong selling point in automobiles in the past.

*“In apparent response to their confidence that adequate environ-mental control of synfuels plants will involve only “fine tuning”of existing control technologies, developers have passed up someopportunities to test out control systems on demonstration plants.For example, Exxon feeds the wastes from its Baytown, Tex., EDSplant into a neighboring refinery rather than developing and testingspecific controls for the plant. In OTA’s opinion this increases therisk of unforeseen problems at the first large-scale plants. Such prob-lems appear quite possible given the differences between the con-ditions under which proposed control systems have been usedpreviously (in chemical plants, refineries, etc.) and the expectedconditions in synfuels plants.

Finally, the multiplicity of pollutants associatedwith synfuels production and the difficulty of de-tecting and evaluating some of the potential im-pacts (e.g., long-term cancer impacts from low-Ievel exposures), coupled with the above factors,leads to a strong concern about the adequacy offuture regulation of a synfuels industry.

Government actions targeted at the potentialrisks of synthetic fuels development may be animportant factor in assuring that the risks areproperly measured and in causing the private sec-tor to account for these risks. A problem the Gov-ernment faces, however, is that premature adop-tion of rigid standards could ultimately act to sti-fle innovation or force suboptimal environmentaldecisions. Also, the capital-intensive nature of theindustry leaves it vulnerable to delays caused byshifts in environmental requirements or standardsthat ultimately prove unattainable.

The existence of these problems places a pre-mium on an intensive research program and around of demonstration plants, that include fullenvironmental control systems, to avoid surprisesand provide timely information for intelligent reg-ulation. Also, the impact of an environmental sur-prise might be minimized by choosing isolatedsites and requiring particularly strict controls forthe first round of plants, thus minimizing the ac-tual impact suffered from excessive discharges orother problems.

The vulnerability of synfuels plants to schedul-ing delays has also generated pressures on Con-gress and State legislatures to streamline environ-mental permitting for energy facilities. Althoughit is too early to assess recent streamlining effortsat both the Federal and State levels, considerableimprovement appears possible without a full-scale Energy Mobilization Board.26 In most cases,regulatory delays are important only to the ex-tent they delay construction starts or requirechanges in plant design; otherwise, all necessarypermits are likely to be obtained before signifi-cant construction investment has been made. De-lays after construction has started could, how-ever, be costly. A 3-year delay, for example,

ZbCongressional Research Service, “Synfuels From Coal and theNational Synfuels Production Program: Technical, Environmental,and Economic Aspects. ”

58 ● Increased Automobile Fuel Efficiency and Synthetic Fuel: Alternatives for Reducing Oil Imports

could increase synfuels product costs by 20 per-cent or more. In addition, the risk that retrofit-ting may be required will remain until synfuelprocesses have been proven and both emissionsand products extensively tested. Formulating reg-ulatory policy entails an assessment of the fullrange of regulatory costs to industry versus thepossible costs arising in the absence of policy.At present these complex tradeoffs are often de-termined in a lengthy, case-by-case process basedon judicial interpretations.

policy alternatives to regulation include effluentcharges and pollution vouchers. Although suchmechanisms have a strong theoretical basis, thereis a general lack of practical experience in usingthem. Also, the toxic pollutants of most concernin synfuels production cannot safely be tradedoff among sources the way pollutants such as SO2

and NOX can be.

There are two additional levels for policy in-volvement. First, Congress could decide to in-crease the environmental capabilities of respon-sible regulatory agencies. One specific option isto target resources for specific State and local en-vironmental agencies, as was done under theClean Air Act in the early 1970’s. As a part of thisoption, Congress may also wish to investigate theeffects of the programmatic changes and budgetreductions for synfuels environmental researchand control system development at EPA andDOE.

Secondly, environmental concerns could be in-tegrated directly into financial support decisions—i.e., of SFC. Although some would claim thatthis latter option is redundant given current envi-ronmental legislation, there are neverthelessmany concerns (e.g., siting) which are notwell-addressed by existing laws. In addition, theprotection of SFC investments would be well-served by an ability to influence environmentalplanning. SFC has not yet moved aggressively tobuild a technical capability for the environmen-tal assessment of projects it will support.

The availability of water resources may posespecial problems for policy because of the pres-ent controversies surrounding the allocation and

use of increasingly scarce supplies.27 How con-flicts are resolved in areas where users presentlyor could potentially compete for water will haveimportant implications for the distribution of costsand benefits to all water users, especially sincethe costs of procuring water are likely to be small(in comparison with other costs) for the synfuelsindustry. Present water policies and planningmechanisms are fragmented and generally inade-quate to assess water availability and plan forfuture water needs on a consistent, compre-hensive, and continuous basis. Because of themagnitude, diversity, and nationwide distributionof water resource problems and because the out-come of water-resource allocation conflicts willhave local, State, regional, and National impacts,the Federal Government has an important roleto play in improving water resource managementpractices in cooperation with the States. Majorpolicy issues include the resolution of uncertain-ties surrounding water rights and future waterneeds and the definition of responsibilities, objec-tives, and priorities for water planning and alloca-tion. Legislation pending before Congress (e.g.,S.1095 and H.R. 3432, which both call for thedismantling of the U.S. Water Resources Coun-cil) seeks to redefine the respective responsibil-ities of Federal and State Governments and toclarify the role of regional and local interests inmanaging water resources.

Social Adjustment Assistance

Increasing automobile fuel efficiency and de-veloping a synfuels industry will result in socialcosts and benefits which are side effects, i.e., ef-fects that are external to the transactions madebetween consumers and producers. The move-ment of capital and labor as a result of industrialchange (i.e., restructuring, contraction, orgrowth) will have implications not only for thecharacter of the labor market but also, conse-quently, for lifestyles and standards of living.

ZzFOr further discussion of these issues see An Assessment of oilShale Technologies, OTA-M-118 (Washington, D. C,: U.S. Congress,OtYice of Technology Assessment, June 1980); and A TechnologyAssessment of Coal Slurry Pipelines, OTA-E-60 (Washington, D. C.,U.S. Congress, Office of Technology Assessment, March 1978).

Ch. 3—Policy • 59

in the auto industry, the major social effects arerelated to job losses resulting from structural ad-justment. In the synfuels industry, the major socialexternalities are related to new employment andresult from large, rapid and fluctuating popula-tion growth in some areas where the industry maylocate. Government policy may be importantboth for easing those social adjustments that themarket does not address and for ensuring thatassociated costs do not fall disproportionately onparticular groups. Social-adjustment assistance inthis country has generally been limited in the pastto sectors affected by international trade and toseveral programs focusing on regional adjust-ment.

Labor market dislocations are of primary impor-tance to the Nation because of the penetration,numbers, and dispersion of auto-related jobsthroughout the economy as well as the geograph-ic concentration of auto production jobs. Restruc-turing of the industry for improved internationalcompetitiveness, productivity, and fuel efficien-cy is resulting in what is likely to be a long-termdecline in auto-related employment.

The problem of unemployment in the auto in-dustry could be addressed by policy measuresthat seek to ease the adjustment of firms, workers,and communities to changing economic condi-tions. Policy options include, as examples: reloca-tion assistance, support of retraining programsand training institutions, local content provisions,manpower training vouchers for targeted individ-uals, plant-closing restrictions, tax incentives toother industries (or regions) to attract displacedworkers, and community aid programs (e. g., todiversify local economies).

Some assistance has been available under theTrade Act of 1974 provisions and through Hous-ing and Urban Development, the Economic De-velopment Administration, and other Govern-ment agency programs. These programs havegenerally been limited in scope and funding andhave generally required evidence of economicdistress (i.e., they are not preemptive). They arealso candidates for curtailment under proposedFederal budget cuts. Note that because employ-ment displacement depends in part on laborcosts, automobile-related employment levels will

also vary with the degree to which autoworkersaccept changes in compensation and work rules,behavior which is not generally subject to directFederal policy initiatives.

Major social side effects arise from synfuels de-velopment because the communities which ab-sorb the large, rapid population increases (a por-tion of which is only temporary) are vulnerableto institutional and social disruptions. These ex-ternalities could constrain synfuels developmentby generating public opposition to synfuels andby adversely affecting worker productivity. Theprincipal policy issues relate to who will bear thecosts of managing and mitigating these disrup-tions and how up-front capital can be made avail-able to finance necessary public facilities andservices. Those who view social impacts as theprice of regional development emphasize the re-sponsibilities of State and local governmentsworking with private developers. Those who as-sociate local impacts primarily with the pursuitof national energy objectives call for a continuedand expanded Federal role.

There are also many questions of equity thatarise in allocating resources among differentareas, because of the large variations in themagnitude and character of adverse impacts andthe resources available to cope with these im-pacts. An acceptable assistance program mustdeal with the problem that some of the shortagesof impact-mitigation resources are caused by limi-tations on planning and borrowing powers im-posed by local and State governments them-selves.

Current policies to deal with the social impactsof energy development are unable to addressconsistently and comprehensively the cumulativeimpacts arising from the large-scale, rapid-growthsituations that characterize synfuels development.Government policies could be directed at eitherenergy development generally or synfuels pro-duction specifically, and could provide, as ex-amples: financial aid, technical assistance, growthmanagement planning assistance, regulation(e.g., with respect to siting, phasing, pacing, mon-itoring), lending and borrowing assistance, or tax-ing provisions. The various forms of technical andfinancial assistance for growth management are

60 Ž Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil Imports

examined in detail in previous OTA stud-ies.28 29 30 31 All relevant Federal programs havebeen targeted for substantial budget reductions,or elimination, in fiscal year 1982 under proposalssubmitted to Congress by the present administra-tion.32

The development of a synfuels plant will leadto the creation of new jobs in construction and

ZBAn Assessment of Oil Shale Technologies, Op. cit.zgThe Dir~t L/se of~a~ OTA-E-86 (Washington, D. C.: U.S. Con-

gress, Office of Technology Assessment, April 1979).30&fanagement of Fue/ and Nonfuel Minerals in Federal Land,

OTA-M-88 (Washington, D. C.: U.S. Congress, Office of TechnologyAssessment, April 1979).

31An ~sessment of ~ve~pment and production Potential of Federa/ Coa/ Leases, OTA-M-150 (Washington, D. C., U.S. Congress,Office of Technology Assessment, December 1981).

3zCongressional Research Service, “Energy Impact Assistance Leg-islation, “ issue brief No. 1679022, Sept. 9, 1981.

engineering. Technically qualified personnelshould be available for most of these jobs. How-ever, a shortage of experienced chemical processengineers and project managers could arise, caus-ing costly mistakes and production delays. Theoverall number of chemical process engineers,for example, would have to increase by aboutone-third by the mid to late 1980’s to accom-modate an optimistic level of synfuels plant con-struction.

The Federal Government could encourage theeducation of engineers by providing financial sup-port for facilities, equipment, retraining programs,scholarships, and the hiring and retraining of fac-ulty. Training in skills needed for complex proj-ect management could similarly be stimulated.The auto industry would also benefit from pro-grams to train engineers if the industry pursuedextensive development efforts domestically.

CONCLUSIONSBoth increasing automobile fuel efficiency and

synfuels production have economic and noneco-nomic risks and external costs. The decision topursue either, or both, alternatives–as well asto pursue the third major technical alternative offuel switching and conservation in stationary usesof petroleum—depends on the desired rate andlevel of oil import displacement and what the Na-tion is prepared to spend to achieve its oil-dis-placement goals.

The availability and cost of capital are especiallyimportant for the automobile and synfuels indus-tries, since they are both capital-intensive. Gen-eral economic conditions affect consumer confi-dence and purchasing power. Among the policiesmentioned in this chapter are general tax policiesand special taxing provisions which would en-courage capital formation and stimulate industrialinnovation economywide.

The rate at which automobile fuel efficiencycan be increased and a synfuels industry devel-oped are also affected by factors that are specificto each alternative. Contributions to oil-importdisplacement from increased automobile fuel effi-ciency depend critically on consumer demandfor fuel-efficient cars. Government actions to stim-

ulate demand are a direct way to help ensure thatfuel-efficient cars are bought and, in turn, thatthey will be produced. Demand-oriented meas-ures that appear promising and that deserve fur-ther analysis include registration, purchase, andfuel taxes and purchase subsidies. Supply incen-tives, depending on their nature, could help man-ufacturers pay for the investments necessary toincrease fuel efficiency, especially if there is anabsence of strong demand for either cars in gen-eral or fuel-efficient cars in particular. In the caseof weak demand for efficiency, increasing CAFEstandards beyond the 1985 level may help to en-sure continued oil import displacement. How-ever, the increased cost of the efficiency increasescould reduce new-car sales and thereby reducethe potential savings. In general, a combinationof demand and supply incentives would be themost effective means of promoting more efficientfuel use in automobiles. This would contrast withpast policy, which has been aimed largely at pro-ducers.

The success of synfuels development in displac-ing oil imports hinges on the resolution of majortechnical uncertainties associated with as yet un-

Ch. 3—Policy ● 6 1

proven processes. private investments are likelyto be accelerated once processes are demon-strated in commercial-scale units—provided theprocesses are economically competitive sourcesof fuels. The high costs and other risks associatedwith demonstration projects are likely to necessi-tate Government support if synfuels productionis to become a significant fuel source by the endof the century.

Other policy considerations for displacing oilimports are applicable generally to planning ina world of uncertainty. First, flexible and nonspe-cific policy interventions provide both public andcorporate decision makers with the maximum op-portunities to adjust internally to changing eco-nomic and technical circumstances. Secondly,periodic reviews and adjustments can help pre-vent prematurely locking the Nation into techni-cal choices that discourage a continuing searchfor better methods, although too much flexibil-ity can lead to ad hoc programs.

A long-term, stable policy commitment to oilimport displacement, and to alternatives for dis-placing imports, is essential in order to send clearsignals about Government intentions and pro-mote mutual confidence in any public-privaterelationship. In the past, the Government hassometimes sent conflicting signals. For example,concurrent Government programs were in place,on the one hand, to encourage automobile fueleconomy with CAFE standards and, on the otherhand, to discourage fuel conservation with pricecontrols on oil which helped to keep the priceof gasoline low. *

Increased automobile fuel economy and syn-fuels production contribute in different ways tothe Nation’s energy security. The advantages ofautomobile fuel efficiency include the following:1) through conservation, it directly eliminates theneed for oil imports in the Nation’s highest petro-leum-consuming sector; 2) after large numbersof fuel-efficient vehicles have been sold, the fuel

*U.S. policies in the 1970’s also implicitly encouraged oil usefor stationary purposes (e.g., Federal curtailment policy for naturalgas).

savings does not depend on the operation of afew large plants, and there will continue to befuel savings even if particular vehicles performbelow standards; 3) it does not result in a netreduction of natural energy resources and thuspreserves options for future generations; and4) although there are long Ieadtimes for commer-cializing new products in the auto industry, sav-ings are already occurring as technologies are dif-fusing into the consumer market. However, ifmarket and/or Government pressures for in-creased automobile fuel efficiency damage theU.S. auto industry, there will be repercussionsthroughout the economy.

The principal national security advantage ofsynfuels production is that it may provide long-term strategic insurance against sustained short-falls. Rapid and successful deployment could con-ceivably serve to reduce the rate at which oil im-port prices increase and thus help to reduce infla-tion. The vulnerability of the synfuels alternativeis related to the complexity of technical controls,the high risks and costs of failure, potentially haz-ardous environmental side effects, institutionalbarriers to deployment, and, in some cases, thegeographic concentration of facilities.

Because increasing auto fuel efficiency and syn-fuels development are both capital-intensive,each will incur major economic penalties if facili-ties function below capacity. However, becausethe “normal” rate of capital turnover is likely tobe lower in the synfuels than the auto industry,synfuels production will be more limited in adapt-ing to changing demands.

Developing a long-term, coordinated, andcomprehensive energy policy will be an incre-mental process. A prime objective is to choosea least cost mix of options for reducing oil im-ports. Because investment costs (per barrel perday of oil saved or replaced) for the various op-tions considered in this report for the 1990’s arehighly uncertain, yet appear to be comparablein magnitude, the judgment of relative costs willdepend largely on value assessments of the var-ious externalties of pursuing each option.

62 ● Increased Automobile Fuel Efficiency and Synthetic Fuels: Alternatives for Reducing Oil /reports

APPENDIX 3A.–POLICY OPTIONS TOREDUCE STATIONARY OIL USE

Conservation

1. Tax credits for investments in conservation:Ž Current 15-percent credit for investments by

homeowners–single-family and 4-unit or lessmuItifamiIy.

● 10-percent tax credit for energy efficiency or re-newable resource investments by industry.

2. Residential Conservation Service:● UtiIity audit service for homeowners.● Proposed extension to include apartment and

commercial buildings.3. Subsidized loans to homeowners to finance conser-

vation investments:● Currently the purpose of the Solar and Conserva-

tion Bank.● Private savings and loan institutions also offer be-

low-market loans for conservation in some cases.4. Targeted tax credits (20 percent) for investments in

energy efficiency by industry:● Currently proposed in legislation now before

Congress.● Tax credit in addition to current credits.

5. State public utility commission actions to encourageconservation efforts by utilities:

Allowance of conservation investments in the ratebase of utilities (proposal).Permission to sell saved energy to private in-vestors (proposals).Allowing utilities to set up separate companies toprovide conservation services—now occurs insome cases,

6. Legislating standards and/or information:●

●

●

●

Appliance efficiency standards–labeling of appli-ances.Building standards–currently prescriptive stand-ards through the minimum property standards ofthe Department of Housing and Urban Develop-ment.Building energy performance standards are legis-lated but currently not enforced.Efficiency standards for industrial electric motorswere proposed but never enacted.

Fuel Conversion

1. Prohibition on oil use by utility boilers and largeindustrial boilers:

● Principal focus of the Fuel Use Act.● Goal to eliminate use of oil by 1990.

2. Financial assistance for utilities to convert from oilto coal:Ž State commissions have allowed New England

Electric Co. to secure a “loan” from their custom-ers to pay for an oil-to-coal conversion.

● Federal legislation proposed to provide loan guar-antees for these conversions was never passedand is not likely to be pursued now.

3. Legislation to remove regulatory restrictions on useof natural gas by industry:

● Currently part of several proposals to encourageconversion to natural gas.

• Current regulations (Federal and State) either pro-hibit or discourage natural-gas use for many appli-cations that now use fuel oil.

4. Environmental regulations affecting coal use in in-dustry:

● Lowering of emission standards for applicationsbelow a certain size.

• Financial assistance to help install control tech-nologies.

General

1. R&D to increase efficiency of end-use technologies:● Promotes general conservation.• Can also be directed at developing efficient elec-

tric energy using technologies to make the eco-nomics of switching to electricity attractive.

2. Tax on oil–either on imports or on specific prod-ucts such as fuel oil for boilers or space heating:

3. Economic incentives for development of unconven-tional natural gas:

● Currently unconventional natural gas is complete-ly deregulated.

• Tax credits to encourage development of uncon-ventional gas (this is currently not available).

Ch. 3—Policy ● 6 3

APPENDIX 3B.–ADDITIONAL CRS REFERENCESThe Congressional Research Service has recently 3.

published many reports on various aspects of energypolicy to which the reader is referred. These reportsinclude the following:

1.

2.

Rothberg, Paul, ‘Synthetic Fuels Corporation and 4.National Synfuels Policy, ” CRS issue brief No.1681139, Oct. 13, 1981.Chahill, Kenneth, “Low-Income Energy Assist- 5.ance Reauthorization: Proposals and Issues, ” CRSmini brief No. MB81227, Aug. 26, 1981.

Abbasi, Susan R., “Energy Policy: New DirectionsIndicated by the Reagan Administration’s BudgetProposals, ” CRS mini brief No. MB81222, June29, 1981.Parker, Larry, Bamberger, Robert L., and Behrens,Carl, “Energy and the 97th Congress: Overview,”CRS issue brief No. 1681112, Sept. 15, 1981.Rothberg, Paul, “Synthetic Fuels Corporation,Policy and Technology,” CRS mini-brief No.MB79245, July 13, 1979, updated Apr. 20, 1981.