Impacts of Long-Range Increases in the Corporate Average Fuel Economy (CAFE) Standard

CAFE standards have been in place since 1978. After the increase in petroleum prices in 1998-99, CAFE standards again arose as a public policy issue. This paper attempts to model the impact of higher CAFE standards on producer and consumer welfare, gasoline consumption, externalities from increased driving, and the emissions of traditional pollutants, given that CAFE standards are successful in inducing manufacturers to engage in technology forcing. The study then examines CAFE standards from a cost-benefit and a cost-effectiveness viewpoint. In particular, a long-run 3.0 MPG increase in the CAFE standard would impose social welfare losses of $5.556 billion per year and save 5.1 billion gallons of gasoline per year. This amounts to a hidden tax of $1.09 per gallon conserved. An 11 cent per gallon increase in the gasoline tax would save the same amount of fuel at a welfare cost of $275 million per year. The 3.0 MPG increase is thus 20 times more expensive than the gas tax increase. The marginal welfare costs of long-term increases in the CAFE standard amount to $1.26 per gallon and exceed by a factor of five recent estimates of the marginal societal benefits from avoided externalities. Increasing the CAFE standard is therefore neither cost-effective nor cost-beneficial.