In December 2011, the United States National Highway Traffic Safety Administration (NHTSA) and the Environmental Protection Agency issued a joint proposal to dramatically increase fuel economy and reduce greenhouse gas emissions of passenger cars and light trucks sold between 2017 and 2025. The joint proposal was created in response to President Obama's call for both agencies to build on a national program that would produce a new generation of clean vehicles. By 2025, new cars and light trucks were expected to achieve an unprecedented average fuel economy of nearly 50 miles per gallon (mpg), reducing fuel consumption by 4 billion barrels of oil and cutting greenhouse gas emissions by 2 billion metric tons of carbon dioxide over the lifetimes of the new vehicles. The NHTSA predicted that the national program would generate benefits of $323 billion--primarily in the form of savings in fuel costs for vehicle owners--amounting to four times the cost.
This case takes an in-depth look at the NHTSA's regulatory impact analysis for the 2017-2025 fuel economy regulation and examines the proposed social benefits and costs of the program. According to NHTSA's analysis, the private benefits to vehicle owners are several times the cost, while the external benefits are modest and more than offset by the loss in gas tax revenues. The case explores the NHTSA's explanations for the apparent paradox: if there are large net gains for vehicle owners (and for manufacturers who better meet buyers' preferences) from vehicles with higher mpg, why does the market not generate more fuel-efficient vehicles on its own? Could it be standard market failures, perhaps inconsistencies in consumer behavior patterns, or errors in the agency's estimates of costs or benefits? Are the more traditional market failures suggested by the NHTSA (imperfect competition in the auto industry and limited information) valid explanations?
This case helps students distinguish between private and external benefits associated with government policies. Students explore reasons for the disparity between what the analysis says rational economic actors should do and their actual market behavior. In addition to possible errors in the analysis, students also examine the extent to which insights from behavioral economics support the notion that the disparity reflects errors consumers commonly make.