Low Carbon Fuel Standards Will Raise Fuel Prices

Recognizing that American motorists will reject any policies that raise fuel prices, the people pushing new regulations on the energy sector are trying to have their cake and eat it too. For example, a new report [.pdf] claims that a national Low Carbon Fuel Standard would not only reduce carbon dioxide emissions, but it would also lower fuel prices for consumers. This defies both economic theory and common sense, and a chart from the report itself will highlight the absurdity.

The report explains, in jargon-heavy notation, what a Low Carbon Fuel Standard is, and how it compares with other regulatory measures:

A low carbon fuel standard (LCFS) is different from biofuel mandates such as RFS2 [national Renewable Fuel Standard] in several ways. First, it includes all transportation fuels—electricity, natural gas, and hydrogen as well as biofuels. Second, it is a performance standard, requiring reduction of a fuel’s average life-cycle GHG emissions or carbon intensity (CI)—measured in grams CO2 equivalent per mega-joule of fuel energy (gCO2e/MJ)—over a certain period of time. Under an LCFS, fuel providers can reduce the CI of fuels they provide by selling more low-carbon fuels; reducing the CI of fossil fuels by reducing flaring, improving refinery and oil-field efficiencies and carbon footprints, and capturing and sequestering carbon; and/or purchasing credits from other producers and fuel suppliers who are able to supply low-carbon fuels at lower prices. Third, it is more effective at stimulating innovation. Fuel suppliers are rewarded for reducing carbon emissions at every step in the energy supply chain from cultivation and extraction to fuel processing, transport, and distribution, unlike under RFS2. In summary, an LCFS is technology and fuel neutral, and is premised on stimulating innovation. (p. 5)

Given that a LCFS will force fuel providers to reduce the carbon intensity of their products, it is not surprising that academic studies estimate that the policy would lower total greenhouse gas emissions relative to the business-as-usual (BAU) baseline. Nobody denies that if the government penalizes energy producers for doing activity X, that they will then have an incentive to avoid activity X. However, the important economic question is always, what is the cost of such a policy? What are we giving up—in terms of economic growth, affordable energy prices, and other desirable things—by forcing energy producers to adopt different techniques from the ones they would have chosen voluntarily on a free market?

Here is where the report, though dressed up in very formal, technical language and listing impressive credentials, delves into absurdity. It claims that a LCFS will not only reduce emissions, but that it will lower fuel prices for consumers and even for some producers. Here is the relevant chart, Figure ES 1, from page 7 of the report:

Notice what the above chart is saying. The black line represents the estimated fuel price in the year 2035 under “business-as-usual,” meaning without a Renewable Fuel Standard (RFS2) or a Low Carbon Fuel Standard (LCFS). The study claims that by adding these regulations on the energy sector—by placing new hurdles and constraints on the way energy producers conduct their operations—it will become cheaper to deliver fuel to the end consumer.

This is nonsensical. The report, and the models upon which it is based, get lost in the weeds talking about the “feedstock mix, feedstock prices, demand for gasoline and diesel fuel, demand for plug-in electric vehicles and fuel cell vehicles, and future production costs of biofuels and other alternative fuels.” The main driver of the result seems to be their belief that by lowering the demand for fossil fuels, their world price would drop.

Yet this is confusing cause and effect. Remember, the LCFS doesn’t directly pick winners and losers; that’s what its supporters mean when they call it a “market-based solution” and call it “technology and fuel neutral.” All the LCFS does is penalize energy producers for using carbon-rich fuel sources, which just so happen to include fossil fuels more than (say) electric batteries. Therefore, the reason the LCFS reduces the demand for fossil fuels, is that the government is imposing artificial penalties on their use. If consumers were able to buy crude oil at world prices, refine it in their garages, and be exempt from the LCFS, then the study might have a point. But to the extent that motorists still have to buy their gasoline from a distribution network subject to the LCFS, then of course they will see their end prices rise along with producer costs.

In summary, if the proponents of a Renewable Fuel Standard and a Low Carbon Fuel Standard want to claim these measures will reduce emissions and are therefore good policies, we can have that debate. What is not up for debate is that restrictions from Washington on the energy sector will raise energy prices for consumers.