Paying Too Much for Energy? The True Costs of Our Energy Choices

With less than five percent of the world’s population, the United States consumes about one-fifth (21 percent) of the world’s energy.

In a working paper for The Hamilton Project published in 2012, Greenstone and Looney find that the true social cost (private costs on energy bills plus external costs) of energy consumption is almost three times the amount we see on our energy bills. Although external costs of energy are mostly invisible to consumers, they are real nevertheless. The Greenstone et al. first break down external energy costs into four types, then estimate these costs for various energy sources, and finally suggest four principles for reforming US energy policy.

The four types of external energy costs identified are:

1. Non-carbon external energy costs result mostly from air pollution caused by soot and other pollutants. These are responsible for respiration problems, higher hospital admissions and mortality rates, and more restrictive activity days. The authors state that soot from US coal-fired power plants caused 23,600 premature deaths and more than 500,000 cases of respiratory illness.
2. Carbon-related external energy costs come from increased concentrations of carbon dioxide (CO₂) in the atmosphere, caused by burning carbon-based fuels, which in turn cause global warming. Currently, the average American experiences one day per year with temperatures above 90°F (32°C), but this is predicted to become 40 days per year in the near future. Such high temperatures have severe negative effects in the form of increased mortality and morbidity, as well as implications for agricultural production and increased flood risks and compromised ecosystems.
3. Other environmental and economic effects: coal mining destroys vegetation and displaces wildlife; offshore accidents damage ecosystems and local economic activities; and air pollutants like acid rain negatively impact soil quality. Smog limits outdoor activities in urban areas and ozone slows crop growth. Interestingly, some biofuels such as ethanol show even worse environmental impacts than fossil fuels when considering their entire life cycle from land clearing to the processing of crops.
4. Macroeconomic stability and international security: more than 90 percent of US fuel needs rely on oil, although oil consumption per dollar of economic activity has been declining since 1980. This creates significant oil dependency, and US military activities in the Middle East have been partly driven by this need. Ten of the eleven postwar recessions in the last century followed an increase in oil prices, including the most recent one.

The researchers estimate the total social cost per unit of energy for various technologies. Of course, there remain uncertainties for some aspects, and innovations constantly reduce private costs. Still, this study provides a good summary of the total cost per type of energy production.

Coal and hydroelectric are the least expensive with private costs of 3.2 cents/kWh. However, non-carbon external costs for coal are 3.4 cents/kWh, and costs associated with carbon emissions are 2.2 cents/kWh, or $21.4 per ton. That means the social costs for coal, all combined, nearly triple the private costs for existing plants and are 83 percent higher for new plants. Natural gas is the least expensive energy source, as the discovery of new techniques to access US reserves significantly lowered private costs. At the time of the study, negative externalities for natural gas were considered lower than for other fossil fuels due to less soot and carbon emissions. However, environmental damage from fracking was not well understood and might increase social costs significantly (e.g. considering methane leakage and higher risks of earthquakes).

For renewable technology, private costs account for the vast majority of total costs. When wind or solar technology is combined with “peaking” technology, such as natural gas combustion turbines to cover phases with less wind and sunlight availability, such combinations prove to be competitive. For example, the costs of a wind/combustion plant have been estimated at two cents/kWh less than a new coal plant, and are expected to decrease.

What does this mean for consumers? The private costs to purchase, maintain, and fuel a car are about $0.51/mile over its lifetime. However, external costs add up to approximately $0.10/mile. Thus, there is little incentive to change behavior as long as consumers only encounter private costs.

To internalize external energy costs, the researchers suggest four principles for reforming US energy policy:

1. Appropriately price the external costs of energy production and use through cap-and-trade systems or tax policies.
2. Fund basic research.
3. Make regulation more efficient.
4. Address climate change on a global scale with international cooperation through agreements like the COP21 agreement.

As both energy costs and benefits of regulation can be monetized, these true values should be applied in policy making to manage much needed fundamental changes. Overall, including the full cost of our energy consumption when shaping energy policy would result in healthier and longer lives, and lead to improved environmental conditions and better national security.

Article Source: Greenstone, Michael, and Adam Looney. “Paying Too Much for Energy? The True Costs of Our Energy Choices.” MIT Department of Economics Working Papers 12-05, 2012.

Featured Photo: cc/(joeshmo, photo ID: 1401101, from iStock by Getty Images)