The Mounting Dangers of the CAFE Mileage Standards

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676 October 13,1988 THE MOUNTING DAN.GERS. OF THE "CAFE MILEAGE STANDARDS I I INTRODUCTION Responding to concerns raised by the 1973 Arab oil embargo and OPEC's quadrupling of oil prices, Congress in 1975 mandated minimum fuel economy levels for cars sold in the United States.

Known as Corporate Average Fuel Economy, or CAFE, stan'dards; these require auto manufacturers to maintain certain minimum fuel efficiency averages among cars sold in the U.S. The standard for passenger cars'was set'at 18 miles per gallon in l978 rising to 27.5 mpg by 19

85. The Secretary of Transportation, however, has discretion to raise or lower this standard within certain limits Transportation Secretary James Burnley last week acted to limit the CAFE level for pas senger cars to 26.5 mpg for 1989 and is now soliciting public comment on CAFE levels for 1990 and beyond.

He should take that opportunity to reduce future,CAFE le~els.to.26.mpg or lower Harming Consumers. It was believed by its sponsors, and many others at the time, that CAFE was necessary to ensure'that Americans could buy fuel efficient cars. Over the past thirteen years, however, it has become apparent that CAFE regulations are not necessary.

Worse, they actually harm American consumers, possibly endanger drivers, and penalize U.S. auto makers at a time when they face tough foreign competition.

Although CAFE was first proposed to foster more fuel efficient cars, the average fuel ef ficiency.of cars driven in the U.S. actually began to increase even before standards were enacted. The reason was simple. With gasoline prices rising from 36 cents per gallon in 1972 to 53 cents per gallon in 1974, consumers began to demand more efficient automobiles. The average price of leaded gasoline reached a high of $1.31 per gallon in 1981.l No federal regulation was needed to tell auto makers to improve fuel economy the market was sending an unmistakable signal As fuel prices began to drop in the early 1980s, however, consumers began to look for other important qualities in their cars, like size, comfort, and safety. The effect of CAFE however, was to limit consumer choice by preventing auto companies from making suffi cient numbers of larger cars available. This is unfair to the consumer and damaging to the U.S. economy Forcing Auto Makers Abroad. Retaining CAFE restrictions, for example, could leave Americans no choice but to turn increasingly to foreign cars; it could force U.S. manufac turers to take more of their auto production abroad. According to..one.recent study, enforc ing a 27.5 mpg CAFE standard in 1990 could destroy close to 20,000'U.S jobs, while actual ly increasing U.S. gasoline consumption by about 200 million gallons more dangerous cars. As a result, some believe that eachyear CAFE'could'cause hundreds of highway deaths and thousands of injuries.

The Department of Transportation's power to amend CAFE standards is limited: it can lower CAFE levels, but it cannot abolish them altogether.!The.Reagan.Administration and its successor thus should press Congress to repeal the regulations altogether. While several bills to do this were introduced in the 100th Congress, such as S. 1654, introduced by Senator Don Nickles, the Oklahoma Republican, and HX 2181: by Representatives Bob Carr, the Michigan Democrat, and Michael Oxley, the Ohio Republican, there has been lit tle action on any of the bills. Congress thus should act swiftly in 1989 to consider the repeal of CAFE Of even greater concern, CAFE could cost lives if it forced consumers ,to buy lighter, ti I a L.'b I 1 uj 6 I I HOWCAF'EWORKS 1 The CAFE program was enacted in 1975 as part of the.Energy Policy and Conservation Act (EPCA) and took effect with the 1978 auto model year. The program requires all car manufacturers to maintain certain minimum fuel mileage averages for their fleet of cars sold in the U.S. The aim was to..reduce. the consumption of gasoline and thus the-need.for oil imports. While the average was set at 18 mpg for 1978 and .was..to rise to 27.5 mpg by 1985, the Secretary of Transportation has used his authority to brake the increase. The Act gives the Secretary authority to adjust annual standards to "the maximum feasible average fuel economy level" for each model year, using four broad criteria 1 2 Energy Information Administration, Annual Energy Review 1987, DOE/EIA-0384(87 p. 145.

Comments of the Staff of the Butzau of Economics of the Fe&d Tmde Commission before the National Highway Traffic Safely Administration on Passenger Automobile Average Fuel Economy Standards for 1989 and 1990, Docket No. FE-88-01 Notice 2 (September 15,1988 p. 2 2 1) Technological feasibility 2) Economic practicability 3) The impact of other federal standards (such as emissions controls) imposed on the auto industry 4) The need to conserve energy The exact meaning of these factors was not defined. Using his authority, however, the Secretary can lower the standard to 26 mpg for any model year without congressional ap proval. The statute also allowed the Secretary to lower CAFE levels below26 mpg..o,r raise them above 27.5 mpg, unless such action were disapproved by either house of Congress.

Such one-house vetoes, however, have since been held by the Supreme Court to be un constitutional? As a result, the Secretarysauthority indisiareaiis now unclear.

CAFE standards apply to U.S; sales by any manufacturer, domestic or foreign, who sells over 10,000 cars per year in the U.S. Each of these manufacturers must satisfy CAFE re- quirements for each of several separately. defined fleets..Fordnstance, vehicles.manufacs tured abroad are considered separately from those manufactured in the U.S. A manufac turer with an overall passenger automobile fleet average of 30 rnpg thus would fall short of CAFE requirements if its domestically built passenger automobiles averaged only 25 mpg since the domestic fleet would not satisfy the CAFE minimum. Different CAFE standards also apply to different types of vehicles. For instance, the CAFElevel for passenger automobiles is more stringent than that for light trucks. Each of these fleet averages is calcu lated from the combined average of city and:highway mileage of each vehicle sold, accord- ing to tests conducted by the Environmental Protection Agency. The recent Department of Transportation actions have involved the imported and domestic passenger. automobile fleets 9 I a I 1 I Penalties and Credits. If a manufacturers fleet average falls belowdhe .mandated levels a penalty is imposed, amounting to $50 for each mpg belowtherequired CAFE level, multi plied by the number of cars in the fleet sold. Conversely, if a manufacturers fleet average exceeds the target figure in a given year, a corresponding credit is granted, which may be ap plied to offset penalties incurred over the preceding, or the following, three-year.periodi For the first few years of lowered gas prices, most auto makers were able to avoid paying any civil penalties under CAFE by applying past credits or borrowing against anticipated future credits! As the price of gasoline in the 1980s began falling to relatively low levels however, consumers have been demanding larger, more comfortable and safer cars.

Ford and General Motors fell short of the standard in 1983, and relied upon credits from prior years to avoid penalties. Beginning in 1985, car makers have avoided penalties be cause of DOT action that set the standard at 26 mpg rather than letting it rise to 27.5 mpg 3 4 Inimiption and Natumlization Service v. Chanda, 462 U.S. 919 (1983).

In fact, only one auto maker, Jaguar, has so far been forced to pay a fine 3 based on the Department's determination that the criteria set down in the legislation per mitted such a relaxation of the standard In a case decided this June, a federal appeals court upheld DOT'S action? Although it was technologically feasible for auto makers to meet the 27.5 mpg standard, the court found that DOT legitimately took market forces and consumer demand into account in finding a higher standard to be economically impractical THE QUESTIONABLE IMPACT ON FUEL EFFICIENCY The fuel economy of new cars sold in the U.S. has risen substantially since CAFE was enacted, from about 20 mpg in 1978 to about 28 mpg in 1987..Yet.it.appe;ars.that,Cm.ac tually had little to do with this dramatic increase. Rather, fuel economy rose in response to market demand because of higher fuel prices.

Although CAFE did not take effect until 1978; new car fuel economy already had risen 40 percent from 1974 levels, following the gasoline price increases of 60 percent triggered by the Arab oil embargo. When CAFE went into effect, its mandated 18 mpg standard actually was below the average atdhe time of almost 20 mpg. From~.l978;throughr1982, new car mpg averages improved by another 35 per cent. These increases, too, followed fuel price in creases. In fact, according to research by'Brookings Institution economist Robert Crandall these efficiency improvements were almost exactly what could have been predicted from changes in gas prices alone a 6 Predictably, therefore, since oil prices began their decline in 1982Juel efficiency im provement of new model cars has slowed, reflecting the rise in demand for larger cars. Even so, the average has increased 8 percent. There are several reasons why fuel efficiency has not declined with gas prices in recent years. First, CAFE standards finallyfhavetbegun to restrict the car market, preventing auto makers from responding to the turnaround in con sumer demand. Second, and perhaps more important; many of the gains .in fuel economy have been achieved through technological advances in engine, and body design Once the huge capital investment was made to achieve 'these advances; it isunlikely that manufac turers would return to older, less efficient technologies ECONOMIC COSTS OF CAFE While the efficiency benefits ,actually resulting from CAFE have been few, its costs soon could become enormous if the standards forced manufacturers to improve fuel efficiency beyond the level demanded by consumers. Not only would this severely limit consumer choice, which itself is an economic cost, but thousands of jobs could be lost 5 6 Public Citizen v. National Highway TMBC Safety Administration, 848 F.2d 256 (D.C. Ck. 1988).

Robert Crandall and Theodore E. Keeler Public Policy and the Automobile in Richard L. Gordon Henry D. Jacoby, and Martin Zimmerman, eds, Energy: Markets and Regulation (Cambridge, Mass MIT Press, 1987 4 How CAFE Is Anti-Consumer When auto makers find it technically more difficult to increase the efficiency of cars, they are forced to meet CAFE requirements by changing the "mix" of cars in their fleets. Since CAFE is based on the fleet's average performance, the sale of a less efficient (though per haps more desirable) large car in the fleet must be offset by the sale of a more efficient small car. Auto makers can change the mix of the cars that they sell by increasing the prices of low-efficiency cars to reduce their sales and by lowering the price of high fuel economy cars. Thus, in effect, CAFE acts a tax on low-mpg cars, which can be used to subsidize high-mpg cars.

This skewed pricing system imposes burdens on consumers because it limits their ability to purchase the car of their choice. Thus, many legitimate desires or needs of consumers can go unfulfilled. Large families, for example, may need a larger car, or an older citizen may desire a car that is easier to,get in and out of. The CAFEstandards make it more ex pensive for these buyers to exercise their choices;.

In addition to restricting choice, CAFE increases can harm consumers economically. For one thing, they have to pay for the increased costs. for. buildingin greater.fue1 efficiency that they may not desire. For another, and perhaps more important reason, these higher car costs could prompt many Americans not to buy new cars at all. This defeats the conserva tion goals of the CAFE laws by encouraging drivers to keep their older, less efficient automobiles longer. According to the recent study by the staff of the FL%'s Bureau of Economics, the total loss o consumers from a CAFKiiicrease-to 273 mpg would lie.ap proximately $950 million. If for some reason CAFE were raised even more, consumer los ses would be much higher. According to a February 1988 study by Andrew Kleit of the Federal Trade Commission, a 2.5 mpg increase could cost consumers an estimated $8.8 bil lion s a a 8 How CAFE Could Destroy American Jobs The staff of the Bureau of Economics also calculates that.a C-AFE-increase to 27.5 mpg, a jump of about 1.0 mpg above the averages now being achieved by Ford and General Motors, would reduce U.S. auto sales and jobs as well. Overall, according to the study about 20,000 U.S. auto industry jobs would be lost if DOT allowed.the rate to riselto97:Y mpg. And Kleit estimates that a larger increase of 2.5 mpg in the. CAFE standard would result in the loss of 121,900 auto industry-related jobs 7 8 FTC Comments, op. cit, p. 2.

Andrew N. Kleit, The Impact ofAutomobiIe Fuel Economy Standardr, Federal Trade Commission Working Paper No. 160 (February 1988 p 21. Since Kleit's study uses slightly different assumptions and data than the later FTC staff study, their conclusions cannot be directly compared 9 Ibid 5 Decreased Demand. There are several specific reasons for these job losses. First, a great number of potential large-car buyers simply would decide not to purchase a new car if its price were raised beyond a certain amount. Past studies of automobile demand indicate that a 10 percent increase in the price of large cars decreases demand by 30 percent Second many buyers who prefer large cars, a market in which the U.S. industry specializes, would turn to foreign manufacturers. A car buyer who normally preferred to buy a mid-size Buick for instance, might turn to a Honda instead.

Third, higher CAFE standards would encourage American manufacturers to move some of their production facilities overseas, cutting their U.S. payroll while employing foreign workers. Car makers might be induced to do this because the CAFE law divides each manufacturer's production into two separate "fleets domestic and forei The domestic fleet is composed of those models manufactured in the U.S. and Canada Each fleet must meet CAFE requirements independently. U.S. manufacturers currently find it difiZiil't to do so with their domestically-built fleets. By contrast, their foreign-built fleets more than meet the requirements because .this category includes most of.theirsmal1 car offerings.

Thus moving some domestic production abroad could help U.Sf manufacturers meet more stringent CAFE requirements. The result: fewer U.S. jobs, but no savingsin U.S. fuel con sumption. Finally, job losses could occur simply because large car production requires more labor per car built than small car production. Replacing large cars ~th,small,cars. alone thus could lead to fewer auto industry jobs, even if the total number, of cars built were to L r I 1 Yrl.l' I1 I r;i h P stay the same Effect on Fuel Consumption 1 I I. Y Despite these harmful economic effects, CAFE would appear to save little or no fuel.

The Bureau of Economics staff, in fact, concluded that an increase of CAFE to 27.5 mpg in 1990 would actually increase gasoline consumption in America by about 200 million gallons over the fifteen-year period from 1990 to 2005.l2 This adverseimpact would be caused by consumers keeping their old, less fuel efficient cars longer, as well as increases in the num ber of miles driven by the owners of the more fuel efficient small cars, who.would find driv ing less expensive In his earlier study, Kleit concluded that a CAFE standard increase of 1.5 mpg would out weigh these effects and-would reduce overall consumption of gasoline. But it would do so at a huge cost to the economy. According to Kleit, such an increase would ultimatelyreduce*v gasoline consumption by about 700 million gallons of gasoline out of an annual passenger automobile consumption level of about 64 billion gal10ns.l~ This constitutes only about 3 10 hid, Technical Appendix, p. 3 11 "Domestically manufactured" is defined as automobiles for which at least 75 percent of the cost to the manufacturer is attributable to value added in the U.S or in Canada if the car is sent to the U.S. within 30 days. Because Japanese cars assembled in US. plants rely on imported parts for more than 25 percent of their value, Japanese manufacturers have no "domestic fleet" for CAFE purposes, allowing them to average the fuel effciency of the cars they build on both sides of the Pacific 12 FI'C Comments, op. cit p. 11 13 Kleit, op. cit pp. 23-24 6 percent of annual automobile gasoline use and less than 1 percent of total annual U.S, oil consumption Modest Gains. The price of these modest gains would be huge. Using Kleit's figures for the total costs of CAFE, each gallon of gasoline sayfd by CAFE would cost the economy 4.00 to $5.00 above the cost of the gasoline itself.

This cost undermines the rationale for the CAFE regulations. The intended purpose is to reduce U.S. reliance on foreign oil. To do this at a cost of $4.00 per gallon or over $150 per barrel makes no sense. There are many cheaper ways by which the U.S. can devise sub stitutes for foreign oil. There is, for example, a tremendous amount-of oil left in the ground after the most easily extracted oil has been depleted. There is an estimated 300 billion bar rels of oil available in existing oil fields that could be pumped out,.but at a cost of $35..to $45 per barrel. The technology to extract it is available, but it is too costly to remove in light of today's $14 per barrel world oil prices. In addition, it is estimated that over 400 billion bar rels of oil are trapped in the oil shales of several~Westermtates!~Transforming this into usable oil products would cost around $45 per barrel Hidden Cost. Since the U.S. only imports about 3 billion barrels of oil per year, either of these alternatives could make the nation completely se~-sufficient;in,oil at.a cost -about, I u one-third that of CAFE. The US. is not developing these other sources of oil because the cost is too high, which would make the U.S. economy noncompetitive: The even higher .cost of CAFE-induced reduction of oil imports, of course, is hidden from the. consumer; it is, for instance, incorporated as part of an auto's sale price. If the CAFE cost were not hidden U.S. consumers and policy makers would reject it just as they do the hard-to-get-at oil and oil from uneconomic oil fields I. 1 I r i I There are a number of alternative, and more sensible, methods of reducing U.S. depend ence on unstable sources of imported oil. The best method already is being used and has greatly reduced the world price.of oil by increasing overall supplies. This is using oil from non-OPEC countries, such as Britain and Canada, which promise to,be,more secure sup 11 pliers I a Greater use of resources found on federally owned lands is another way of reducing de pendence on unstable suppliers. Two areas of high oil production potential are the waters off California and the federal lhds on the North Slope of Alaska. Another option isto remove some of the tax and regulatory burdens on the U.S. domestic oil.industry, which dis courage the investment necessary to maintain adequate production levels.15 14 Ibid 15 Many of these alternatives are highlighted in Milton R. Copulos The Hidden Cost of Imported Oil National Defense Council, 1988 7 I HOW CAFE REDUCES AUTO SAFETY Tightening CAFE standards could decrease safety significantly. By forcing auto makers to design vehicles with fuel economy foremost in mind, other important goals, including safety, would be downgraded in importance. Many safety innovations introduced over the last fifteen years, ranging from anti-lock brakes to improved bumpers, reduce fuel economy. Under the CAFE rules, U.S. auto makers could face fines for exceeding the stand ards if they introduced similar lifesaving improvements in the future Lighter Cars. CAFE already may be reducing safety by encouraging the use of smaller automobiles. Mileage improvements over the past ten years have come from two major developments: weight reduction and technical improvements. Overall, the,.weight of .the average U.S. automobile has been reduced 23 percent since 1974.16 Cars over 4,000 pounds accounted for about a quarter of all cars sold during the 1978 model year; they constitute only 1 percent of the cars built since 19

84. Cars of more than-3,500 ounds made up over 70 per cent of the 1978 fleet, but &e only 36 percent of the 1987 flEet. A While some reduction of car weight would have occurred without CAFE, the standards have had a significant effect in recent years.LAccording. to lastudybylthe.Brookings;,r I Institutions Crandall and John Graham of the Harvard School of Public Health, the average weight of passenger automobiles for the 1989 model year will be about 500 pounds less than would have been the case without CAFE regulations. 18 Generally Less Safe. This decline in vehicle weight has serious implications for safety since these lighter cars are generally less safe. Crandall and Graham note that the nega tive relationship between wei ht and occupant fatality risk is one of the. most secure find ings in the safety literature.Using two measures of this relationship developed by economist Leonard Evans, Crahdall and Graham estimate that the 500-pound decrwe vehicle weight caused by CAFE will increase highway fatalities by 14 to 27 percent. This translates into 2,200 to 3,900 lives lost in model.year !1989,.cm over thelifetime,of the vehiclesF1 An additional 11,Oq to 19,500 serious injuries are likely to occur in those cars because of CAFE regulations This safety issue curiously has received little attention. This may be because U.S. auto makers, who should be making the main case against CAFE, understandably are reluctant to argue that their products are less than perfectly safe. The Department of Transportation meanwhile has not considered CAFE a detriment to safety, but-recently has been sued over 16 Robert W. Crandall and John D. Graham, The Effect of Fuel Economy Standards on Automobile Safety 17 R.M. Heavenrich, et al., Light-Duty Automotive Fuel Economy and Technology Trends Through 1987 18 Crandall and Graham, op. cit, p. 19 19 Ibid., p.20 20 hid p. 27 21 Ibid 22 Ibid March 1988 draft [Forthcoming in The Journal of Law and Economics (1989 p. 7 Society of Automotive Engineers, Inc., Technical Paper Series, May 1987, p. 12 8 this issue by the Competitive Enterprise Institute, a public interest research group. CEI claims that the Department acted arbitrarily in ignoring arguments pertaining to safety when it established a 26 mpg standard for 1987 Safety deserves much more serious consideration by policy makers. If Crandall and Graham are correct, CAFE could be a large contributor to U.S. highway deaths CONCLUSION Corporate Average Fuel Economy Standards are unnecessary for saving fuel. Worse, they harm the U.S. economy, restrict consumer choice, and destroy tens of thousands of U.S automobile manufacturing jobs. Worse still, CAFE restrictions may ,lead. to. thousands of ad ditional highway deaths To be sure, U.S. dependence on foreign sources of oil isa serious concern. CAFE stand ards, however, are not an effective method of addressing'the problem. CAFE saves a minus cule fraction of U.S. oil consumption at an enormous cost: And policy makers should ex plore alternative methods for decreasing America's dependence on foreign oil.

Secretary of Transportation James Burnley should be commended for acting to limit CAFE to 26.5 mpg for the 1989 model year: He now should move to keep it at 26.0 mpg or less for future years. Even better, the new Congress should recognize that CAFE has been a costly mistake and repeal the legislation altogether 8 I ti I James L. Gattuso McKenna Senjor Policy Analyst in Regulatory Affairs Policy Kent Jeffrer" Ana yst 9

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