The hidden costs of energy efficiency

When talking about the cost of living and reducing household expenses, improving energy efficiency seems like an obvious win-win not only for households, but also for the environment. Improved energy efficiency promises to cut household costs, reduce emissions, and increase energy supply relative to demand. But what if this does not happen? What if there is a catch? This catch is a subtle economic phenomenon, called the rebound effect, that policymakers and consumers alike need to understand.

The rebound effect is an economic phenomenon that sees energy efficiency improvements partially or fully offset by behavioural or economic responses that result in increased energy usage. This phenomenon was first observed during the industrial revolution by William Stanley Jevons and was called the Jevons Paradox. Jevons observed that technological efficiency gains, specifically steam engines using coal more economically, did not decrease the actual consumption of coal. Paradoxically, coal use increased, as did emissions. Increasingly efficient steam engines became economical to employ in a wider range of industrial uses, driving a total increase in coal consumption that offset any coal consumption decreases brought about by the increased efficiency.

“It is wholly a confusion of ideas to suppose that the economical use of fuel is equivalent to a diminished consumption. The very contrary is the truth” - William Jevons, 1865

The rebound effect applies not only to industry but also to households. For example, you may swap your old car for a newer, fuel-efficient car. This does not mean that you are going to use your car less. You might, on the contrary, take a few more road trips now that your car is cheaper to run. This means that the reduced operating costs of the new car often lead to increased usage. This is a perfect example of the rebound effect, where some of the fuel energy savings are offset by increased use.

Another example could be that a household replaces an old electrical heater with a new heat pump. For the same electricity cost, the household can now run the new heat pump for longer (greater energy consumption), offsetting energy efficiency savings from the heat pump.

These are just illustrative examples. There are numerous real-world applications to industry and households that result in the rebound effect. Economists tend to group the rebound effect into three types.

The direct rebound effect occurs when increased efficiency lowers the cost of a good or service, leading to a direct increase in its usage. This rebound effect tends to be less than 30 percent for household energy services in the OECD meaning that 70 percent of the energy reduction is retained.

There is also an indirect rebound effect when efficiency gains in a specific good or service are spent elsewhere. For example, if the cost savings from a more energy-efficient home are used to buy more plane tickets. This means that the energy savings in household operation have been offset by the energy usage in increased air travel. The indirect effects are more difficult to measure. Studies do show that low direct rebound effects can still trigger high indirect rebound effects.

The last rebound effect is the economy-wide rebound when increased efficiency can instigate economic growth and change relative prices, expanding the total consumption of energy across an economy. The economy-wide rebound effect tends to be quite large, as energy consumption is shifted towards more energy-intensive goods in response to lower energy costs. An example of this was evident in the expanding coal use due to steam engine efficiencies.

The rebound effect does not mean aiming for energy efficiency is a wasted effort. Instead, the rebound effect represents real economic benefits such as improved productivity, cost savings, and increased standard of living as consumers and businesses can redirect their savings from energy efficiency into other forms of consumption. When a rebound occurs, resources are normally redirected into their next best use.

Understanding the rebound effect has implications for economic policy. A key implication is that the effect challenges the notion that efficiency gains directly translate into emissions reductions. Rather, the rebound effect demonstrates that some of the efficiency gains will inevitably lead to either increased usage or be redirected elsewhere. By acknowledging and addressing the rebound effect, policymakers can design strategies that maximise the benefits of energy efficiency while minimising unintended consequences.