The main criteria are:

• Environmental Effectiveness
• Fiscal Impact
• Economic Efficiency
• Fairness
•  Simplicity
  5.1 ENVIRONMENTAL EFFECTIVENESS
  Environmental

  effectiveness refers to whether, and to what extent,

  the proposal will contribute to achieving the environmental

  goal. In general, an environmental tax measure will

  be effective if it induces a change in producer or consumer

  behaviour that achieves the goal. This presupposes that

  the measure can be targeted effectively and that it

  will alter behaviour such that environmental objectives

  will be met.

   

  Thus,

  we divide the discussion into four parts:

   

  • Targeting  
  • ConsumerResponse 
  • ManufacturerResponse 
  • EnvironmentalBenefits and Side Effects. 

  Targeting

  An

  important limitation is that, contrary to a fuel tax,

  feebates do not directly target fuel consumption. By

  affecting the vehicle purchase decision, a feebate will

  have a major impact on fuel consumption, but some of

  the fuel savings may be lost if drivers convert the

  savings into more distance travelled – this is referred

  to as the rebound effect.

   

  As

  described in Section 3, this is accounted for in the

  model, which uses a figure of 23 percent based on past

  experience in the US. In fact, this figure likely overestimates

  future rebound in the Canadian context: anecdotal evidence

  suggests that distances traveled are not generally constrained

  by the cost of fuel, but are more likely to be constrained

  by other factors, such as availability of time. If the

  rebound is in fact overestimated, the effect is to underestimate

  the GHG reductions that can be achieved from a feebate.

  Consumer Response

   

  Consumers will respond to feebates in several ways. They may ignore

  them (accepting whatever fee or rebate they receive

  without modifying their choice of vehicle); they may

  shift their purchase (from trucks to cars, or from less

  fuel-efficient vehicles to more fuel-efficient vehicles);

  they may purchase a vehicle for the first time if the

  rebate on cheaper vehicles provides enough inducement;

  they may hold on to less fuel-efficient vehicles for

  a longer period to avoid the fee on a replacement; or,

  they may seek to purchase a used vehicle that meets

  their needs. The model attempts to predict the response

  by assuming that consumers will shift their purchases

  as determined by cost and the elasticities described

  in Section 4.

   

  • Shiftsin purchases. The incentive to switch 

    depends primarily on the feebate rate. Although partiallyoffset by technology improvements, there will likely

    be a significant shift from trucks to cars, from larger

    vehicles to smaller vehicles, and from less fuel-efficient

    vehicles to more fuel-efficient vehicles within a

    given class. In a single-class feebate, the increase

    in car share ranges from 1-6 percent, with a 3-percent

    shift for $500 per litre per 100 km feebate. With

    separate classes for cars and trucks, the shift is

    reduced to less than 0.1 percent.

  • Modalshift from transit to small cars. Lower 

    prices for fuel-efficient cars might tempt some peoplewho would not otherwise have done so to purchase a

    car. This effect increases as the rate rises and is

    included in the overall estimate of demand for smaller

    vehicles.

  • Scrappage.Higher new car prices for larger vehicles means longerretention of existing cars in these classes. In the

    worst case scenario, approximately 6000 fewer vehicles

    would be sold, out of total market of 3.8 million

    (approximately 0.1 percent). Assuming that vehicle

    ownership remains the same, this would mean that an

    equivalent number of older vehicles would stay on

    the road longer.

  • UsedVehicles. If feebates are high enough, 

    purchasers seeking less fuel-efficient vehicles couldlook to the used car market for supply. Similarly,

    purchasers of more fuel-efficient vehicles will be

    more likely to buy new vehicles. Eventually, Canadian

    used car prices will reflect the value of the feebates

    that applied to them when they were originally sold,

    however this could take several years. To some extent

    this effect is included in the overall calculation

    of vehicle sales and is reflected in the figure of

    6000 fewer vehicles sold. However, what is not included

    is the possibility that feebates will lead to increased

    imports of larger (relatively new) used vehicles from

    the US or increased exports of smaller (relatively

    new) used vehicles to the US. If significant, either

    or both effects (vehicle arbitrage) would undermine

    revenue neutrality and could significantly reduce

    the effectiveness of the measure.

  Manufacturer

  Response

   

  Manufacturers

  will respond to feebates either by ignoring them and

  accepting that consumers will shift demand to other

  vehicles or by investing in new technologies to improve

  fuel efficiency. Depending on demand, manufacturers

  may also respond by making individual models more or

  less available to the Canadian market. The model seeks

  to predict this response by assuming that manufactures

  will cater as much as possible to consumer demand by

  investing in technology to the extent that the combination

  of increased purchase price and valued fuel savings

  are most advantageous to the consumer.

   

  • Investmentin Technology. Feebates would induce 

    significant investment in technology. In fact, themodel suggests that most improvements in fuel efficiency

    will likely flow from technology improvements as opposed

    to shifts in purchasing. However, because manufacturers

    respond to overall North American demand for fuel

    economy, technology investment is smaller with unilateral

    Canadian policies (approximately 80 percent for Canada-only

    versus 85 percent for an integrated North American

    feebate of $500 per litre per km).

    It is important to note that, although not included

    in the model, the availability of hybrid and diesel

    technologies will enhance the technology contribution

    and that excluding hybrids and diesels tends to underestimate

    effectiveness of feebates and overestimate costs.

  • Availability.Constraints on the availability of diesels and hybridsare expected to be overcome in the medium term. The

    availability of models incorporating conventional

    technologies is governed by the assumed design modification

    thresholds – lower production run models may

    not be available.

    • Incontrast with fuel consumption standards, feebatesshould not directly restrict the availability

      of less efficient models.

    • High-volumemanufacturers have the ability to continue tooffer a wide choice of product offerings, but

      some less fuel-efficient models will probably

      be dropped.

  Environmental

  Benefits and Side Effects

   

  The

  main concerns are: fuel savings and GHG emissions; other

  air emissions; congestion and noise; and, safety.

   

  • FuelSavings and GHG Emissions. The combination 

    of technology improvements and shifts in purchasingis expected to yield fuel consumption improvements

    of 0.2 litres per 100 km to 0.8 litres per 100 km,

    with an improvement of 0.4 litres per 100 km for a

    $500 per litre per 100 km feebate (equal to 1.2 billion

    litres per year). Corresponding GHG reductions are

    expected to range from 1.5 Mt per year to 6.2 Mt per

    year, with 3.0 Mt per year for a $500 per litre per

    100 km feebate. Adopting two or more separate classes

    would slightly reduce the fuel economy improvement

    and would significantly reduce the GHG reductions

    (because these are cumulative).

  • CriteriaAir Contaminant (CAC) Emissions. Some 

    fuel-economy technologies will increase CAC emissions,but overall, the reduction in fuel consumed should

    result in significant decreases. To some extent, manufacturers

    may take advantage of this to reduce their investment

    in emission controls to meet the

    On-Road Vehicle

    and Engine Emission Regulations, but generally

    emissions per kilometre should be substantially lower.

    However, because of the rebound effect, distance travelled

    may increase and total CAC emissions could rise accordingly.

    Emissions may also increase due to reduced vehicle

    scrappage, but, as noted earlier, the number of vehicles

    affected would be relatively small. Overall emissions

    of CACs should be lower.

  • Congestionand Noise. Both congestion and noise 

    may increase slightly due to the rebound effect. Noisecould also increase because of the use of diesel technology

    which is slightly noisier, but the use of hybrids

    would decrease noise.

  • Safety.There will be an increase in exposure due to the largerdistances traveled (rebound effect). As far as risk

    is concerned, larger and heavier vehicles are safer

    for their occupants but less safe for others. Overall,

    there no consensus on the impact of a smaller fleet

    on safety risks.

  5.2

  FISCAL IMPACT

  Fiscal

  impact refers to how the proposal will affect government

  expenditures or revenues.

   

  In

  this case, the federal government has mandated that

  the options under consideration should be revenue neutral.

  However, there are still a number of relevant considerations,

  including:

   

  • Sizeof the Transfer 
  • PublicPerception and Trust 
  • AdministrationCosts 
  • Effecton Other Revenues 
  • AnnualSurplus or Deficit. 
  • Sizeof the Transfer. Although all options 

    are revenue neutral, they vary in terms of the amountof fees collected and rebates paid. The total transfer

    varies from approximately $300 million per year (for

    a $250 feebate, or a $500 feebate with 11 classes)

    to over $1.1 billion per year for a $1000 feebate.

  • PublicPerception and Trust. Because there 

    is little experience in Canada with revenue-neutralgovernment programs, many people are sceptical of

    the Government’s short-term and long-term intentions

    and will need significant ongoing reassurance that

    this is not primarily a tax increase.

  • AdministrationCosts. The cost of administration of 

    the program is discussed in Subsection 5.5. What isrelevant here is that this cost has not been considered

    in the calculation of revenue neutrality. In principle,

    the pivot point could be adjusted to raise additional

    revenues in order to account for these costs, but

    again, this could be perceived as a tax increase.

  • Effecton Other Revenues. Because fewer cars 

    will be sold and those cars that are sold will besmaller and cheaper, there will be an overall reduction

    in revenues for retailers and manufacturers. Reduced

    revenues for vehicle purchases also means less GST

    collected. However, it is expected that the loss of

    these GST revenues will be compensated for by additional

    GST revenues elsewhere in the economy. Overall no

    net effect on GST revenues is forecast.

    However, the same is not true for fuel taxes. Because

    of the greater fuel economy of vehicles, less fuel

    will be sold and governments will collect fewer fuel

    taxes. The loss is expected to range from $200 million

    per year (for a $250 feebate) to $900 million per

    year for a $1000 feebate (including both federal and

    provincial taxes). Again, the pivot point could be

    adjusted to raise additional revenues to account for

    these lost revenues, but this could be perceived as

    a tax increase.

  • AnnualSurplus or Deficit. As discussed in 

    Section 3, it should be possible to achieve revenueneutrality over time, but it will not be possible

    to do so with certainty in any given year while providing

    the price certainty necessary for transactions to

    proceed. Thus, it will be necessary to consider the

    practicality of different options regarding adjustments

    for compensation, as well as different options regarding

    bias. For example, in the early years, it may be important

    to demonstrate that Government is not retaining excess

    revenue, and therefore, a pivot point could be selected

    to provide a degree of certainty that fees will not

    exceed rebates. All of the options will involve trade-offs

    between the certainty of revenue neutrality and the

    need for price certainty for market effectiveness.

  5.3

  ECONOMIC EFFICIENCY

  Economic

  efficiency refers to how the proposal will affect the

  allocation of resources in the economy and Canada’s

  global competitiveness. There are three key considerations:

   

  • InternalEfficiency 
  • Competitiveness  
  • AdjustmentCosts 
  • InternalEfficiency. In assessing internal efficiency, 

    we are concerned with the extent to which feebateshelp compensate for market failures and their cost-effectiveness

    in doing so. Specifically, we are concerned with two

    types of market failure:

    • Undervaluationof Fuel Savings. To the extent that 

      consumers fail to value fuel savings correctly– this is supported by the market research in

      Canada, though the extent is unknown – feebates

      provide a means of correcting this tendency. The

      optimal feebate for this market failure is the

      difference between the social valuation of the

      fuel savings and the consumer valuation. As discussed

      in Section 4, on this basis, a feebate of approximately

      $1000 would be appropriate. This calculation is

      particularly sensitive to the choice of discount

      rate, and so using a rate of 10 percent means

      that the undervaluation is conservatively estimated.

    • Externalities.Feebates also provide an indirect means of givingvalue to GHG reductions. They can help internalize

      the costs of GHG emissions in decisions to purchase

      new vehicles, but not in decisions to drive and

      consume fuel directly. Thus, they help improve

      economic efficiency when GHG emissions are otherwise

      underpriced in the cost of fuel. As discussed

      above in the section on targeting, other options

      could address externalities more directly, including,

      for example, fuel taxes, a GHG charge and congestion

      pricing.

    • Cost-Effectiveness.A calculation of cost-effectiveness needs to considerthe change in consumer surplus, overall societal

      costs and any changes in opportunity costs. Assuming

      GHG reductions are the key objective, cost-effectiveness

      is the ratio of costs per tonne of emissions reduced.

    • Changein Consumer Surplus. Feebates impose 

      costs which rise as the rate increases 

      • $7million per year for $250 
      • $60million per year for $500 
      • $300million per year for $1000. 
    • OverallSocietal Costs. The reduction in 

      consumer surplus is more than compensated forby unvalued fuel savings that are realized. The

      benefits are positive for all rates up to $1000

      but marginal costs begin to outweigh benefits

      between $500 and $1000. Adopting two or more classes

      reduces the benefits significantly while creating

      a relative subsidy for larger vehicles.

    • Costsper Tonne GHG Reductions. Because 

      of the unvalued fuel savings, feebates produceeconomic benefits as opposed to costs. These range

      from $40 per tonne for a $250 per litre per 100

      km feebate, to $10 per tonne for a $1000 per litre

      per 100 km feebate. If it is assumed that consumers

      already fully value fuel savings, then there are

      no unvalued fuel savings and the costs are in

      the range of $10 per tonne.

    • OpportunityCosts. By selectively targeting 

      fuel economy, feebates impose opportunity costs.Consumers who might otherwise have chosen other

      features such as power, weight or options will

      have their choices reduced. This effect is not

      modeled and there is no way to estimate how significant

      these costs may be in this context.

  • Competitiveness.The key considerations are effects on exports andeffects on investment:
    • Exports.Feebates will only affect vehicle sales in Canada,so there should be no impact on exports.
    • Investment.In theory, feebates should have no impact on theenvironment for manufacturing. However, as noted

      previously, an environment interpreted as hostile

      to the product could affect investment decisions.

  • AdjustmentCosts. The key consideration will be 

    the effect on vehicle sales and revenues, and howthis will affect employment in the sector.

    • VehicleSales. Overall vehicle sales are 

      expected to decline slightly (at most 6000 orapproximately 0.5 percent of annual sales for

      a $1000 feebate). Of greater importance is the

      shift to less expensive models, which overall

      would reduce revenues by approximately $1.5 billion

      per year. (Note: these results are very sensitive

      to elasticity assumptions.)

    • Employment.There are a number of factors that will affectemployment.
      • Althoughnet sales may only decrease slightly, theemployment impacts could be greater if imports

        are substantially increased.

      • Onthe other hand, a large proportion of theNorth American adjustment may occur in the

        US.

      • Somelosses will be offset by new employment associatedwith technology investments.
      • Forillustrative purposes, using 15 jobs per 100vehicles would imply a worst-case net loss

        of approximately 1000 jobs worldwide; this

        result may mask greater or lesser adjustments

        in Canada.

      • Giventhe overall economic benefit, the loss ofjobs in this industry should be more than

        offset by job gains elsewhere in the economy.

    • FuelSales. In addition to a reduction 

      in vehicle sales, there will also be a reductionin fuel sales that will affect refiners and their

      retail networks. The reduction in revenues would

      range from $300 million per year (for a $250 feebate)

      to $1.4 billion per year for a $1000 feebate (not

      including fuel taxes) and would involve associated

      employment changes. Once again, these losses should

      be more than offset by gains elsewhere in the

      economy.

  5.4

  FAIRNESS

  Fairness

  refers to how the impacts of the proposal are distributed

  across sectors of the economy, or groups within sectors,

  as well as regions or groups within the population.

   

  In

  this case we are concerned with the distribution of

  impacts for different groups within the automotive sector

  and individuals.

   

  • AutomotiveSector. In terms of market share, the 

    main impact is further loss in market share for GM/Ford/DCX.The shift increases as the rate increases, reaching

    4 percent for a $1000 per litre per 100 km feebate.

    This shift can be significantly mitigated by segmenting

    the market into two classes. (Having 11 classes makes

    little additional difference.) As far as profitability

    is concerned, the assumption is that all costs and

    savings are passed on, and so profits are unchanged.

    However, since there will be a shift to smaller vehicles,

    and historically these vehicles have had lower profit

    margins, it is reasonable to conclude that profits

    will be adversely affected. As far as parts suppliers

    and retailers are concerned, they will be affected

    in proportion to their exposure to GM/Ford/DCX.

  • Individuals.For individuals, the key issue is price. The priceof each individual vehicle will rise in order to pay

    for new technology. However, consumers are expected

    to shift to lower-priced models within classes and

    to lower priced classes overall, so average prices

    will decline. Certain consumers who are unable or

    unwilling to shift will bear a greater burden. For

    example, the estimated 50 percent of consumers who

    use trucks for commercial purposes may not be able

    to avoid the higher fees. Similarly, larger families

    may be restricted in shifting to smaller vehicles.

    Regions and areas that have a greater preference for

    larger vehicles (western Canada and rural areas, for

    example) will find that their traditional choices

    are more costly. Conversely, consumers who would have

    purchased fuel-efficient vehicles anyway will gain

    a windfall. Because lower income households tend to

    purchase smaller vehicles, the measure is progressive

    overall. (Feebates will eventually influence prices

    in the used car market as well as new cars.)

  5.5

  SIMPLICITY

  Simplicity

  refers to how governments will administer the proposal

  and how affected individuals or parties will comply

  – and at what cost. While a detailed study of administration

  and transaction costs is beyond the scope of this report

  and not part of the modeling exercise, some findings

  are possible. The key issues are:

   

  • Volumeof Transactions 
  • OverallComplexity 
  • AdministrativeCost and Practicality. 
  • Volumeof Transactions. As noted earlier, the 

    size of the transfers will range from approximately$300 million per year to $1.1 billion per year, whereas

    the number of transactions will be equal to the number

    of new vehicle sales (1.5 million per year). The number

    of transactions could be reduced by adopting a deadband

    but the level of effort probably would not be substantially

    reduced, since there would still be an administrative

    procedure required to assert that the vehicle was

    not subject to a feebate.

  • OverallComplexity. Overall complexity is a 

    function of the number of classes and the number ofrules. A single class would clearly be the simplest

    approach, whereas 11 classes could be cumbersome to

    manage. Because definitions are unclear, anything

    more than one class creates the potential for gaming

    (artificially changing features to move vehicles into

    a different class). Similarly, the use of a cap, plateau

    or deadband would introduce added complexity and induce

    responses that would reduce the effectiveness of the

    measure.

  • AdministrativeCost and Practicality. In terms of administrative 

    practicality and costs, the measure could be similarto the GST in that retailers would need to collect

    the fees, pay the rebate, and submit the appropriate

    paperwork on a regular basis. Overall, given the experience

    of the GST, it would be anticipated that costs would

    be significant at first but would fall substantially

    after the initial implementation. Some of the considerations

    are as follows:

    • Becauseof year-round model introduction, feebates wouldprobably need to be administered on a calendar-year

      basis.

    • Itwould be necessary to publish the rate and pivotpoint ahead of time and calculate the fees and

      rebates accordingly. This could be done through

      NRCan’s Fuel Consumption Guide. (The timing

      of industry submissions and publication might

      need to be adjusted.)

    • Cash-flowimpacts on retailers would need to be assessedand mitigated so there is no incentive to sell

      more inefficient vehicles in order to collect

      more fees.

    • Theapplication of feebates leasing requires additionalstudy, but should not present major impediments

      as the fee or rebate can be passed on by the leasing

      agent.

    • Theannual feebate option could be implemented throughvehicle licensing but would require the participation

      of provinces and would be much more complex to

      administer.

    • Theapplication of feebates to alternative-fuel vehiclesrequires additional study but could be implemented

      via a GHG conversion factor. 

      
      

        

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