CERE Working Papers,
CERE - the Center for Environmental and Resource Economics

Abstract: A rather large literature argue that firms and households do not improve energy efficiency by investing in new technology despite that is cost-effective to do so. If this is the case people would be able to reduce their energy bills and spend their money on more pleasurable things. We argue that the so-called energy efficiency gap to some extent is a numerical artifact that can be explained by heterogeneity within the frames of rational choice not captured in the calculations of average cost-effectiveness of various measures to improve energy efficiency. In this paper we have reviewed the theoretical and empirical literature on the energy efficiency gap and provided a rational for policy makers to act on improving energy efficiency. By eliminating market failures, welfare can be improved in a broad sense, including both environmental quality and material welfare. Social ‘nudges’ are an example of policy instruments which does not directly target any market failure in energy markets, but still may have a significant impact on energy use. As social ‘nudges’ do not restrict choices available to consumers such ‘nudges’ can be considered as least-cost instruments, given they have persistent and desirable effects on energy demand.

Keywords: energy; policies; residential

JEL-codes: Q21; Q28

36 pages, August 27, 2014

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