Energy, Growth and Development
It is nearly impossible to overstate the role of access to reliable energy as a critical determinant of growth. Greater access to reliable energy transforms lives and economies in an almost uncountable number of ways including: income generation; greater economic specialization; and more enjoyable leisure; substitution of labour with capital that increases productivity; creation of small businesses and enterprises; facilitating the reallocation of household time (especially by women) from energy provision to improved education; protection from extreme temperatures; access to greater market size due to lower transportation and communication costs; and potential health improvements due to reduced indoor smoke, cleaner water, and improved refrigeration (Lipscomb, Mobarak, and Barham, 2013; Dinkleman, 2011; Toman and Jemelkova, 2003; Barreca et al. 2012; Jensen, 2007; Suri et al., 2012). Furthermore, the EIA projects that nearly all of the world’s growth in energy consumption will come from non-OECD countries (see Figure 1) and Wolfram et al. (2012) suggest that these projections may understate developing countries’ likely growth in energy consumption.
Despite energy’s multitude of benefits and projected growth in consumption, access to reliable energy remains a major impediment to economic growth around the world. Approximately 1.2 billion people live without access to electricity. About 2.8 billion people still rely on solid fuels, such as wood, charcoal, animal waste, and coal for heating and cooking, leading to high levels of indoor air pollution (World Bank, 2013). Even among those that are connected to the grid, a high fraction has intermittent and unreliable access to electricity. The scale of the challenge is evident in the figures for average per capita electricity consumption, which was 13,325 kWh in the US in 2010 but just 626 kWh in India and 122 kWh in the Indian state of Bihar (CIA World Factbook 2010; Government of Bihar). That is, the energy consumption of citizens in Bihar is less than 1% of that in the US, which severely constrains their productive potential.
Policy plays a central role in increasing access to energy and promoting energy choices that maximise growth. With respect to access, there are important issues around impediments to the construction of the necessary energy infrastructure. Furthermore, in many countries, state and privately owned energy suppliers are required to achieve a multitude of goals (e.g., redistribution) in addition to supplying energy, which impedes their ability to recover costs and earn a profit. As a result, they frequently do not have the incentives to provide a steady supply of electricity to their customers.
With respect to energy choices, policy rarely reflects that the full costs of energy consumption include both the private costs of producing energy and, especially in the case of fossil fuels, the external costs which include shortened lifespans (Chen et al., 2013; Lim et al., 2012; Muller et al., 2011) and a changing climate. Developed and developing countries throughout the world find it challenging to make their energy usage decisions on the full social (i.e., the sum of the private and external) costs, and predominantly base decisions on the private costs alone. Too often, the result is elevated rates of morbidity and mortality that restrict growth. Figure 2 summarizes recent research in the US that makes clear the wide variability in the full costs of different sources of electricity (Greenstone and Looney, 2012).
The IGC Energy Research Programme aims to answer the fundamental policy questions at the centre of energy and growth that focus on how to increase access and minimise the social costs of energy consumption. In the remainder of this document, we review four of the leading areas for energy research that could identify policy interventions that increase growth and advance economic knowledge: (i) improving the reliability of grid services, (ii) rural electrification, (iii) energy efficiency and (iv) minimising the external costs of energy consumption. Each of these areas are divided into subsections and are dealt with separately. These sections are focused on the questions surrounding many of these issues and where future research can help inform policy solutions.
2. Improving the Reliability of Grid Services
A lot of attention is paid to the 1.2 billion people without access to electricity with the assumption being that these people are not connected to the grid. However, a surprising number of these people are connected to the grid but electricity does not flow to the feeders and transformers in their areas. Further, many hundreds of millions of people are connected to the grid but live with electricity outages and irregular service that severely constrain their access to electricity. Irregular and unpredictable access to electricity makes it very challenging for households and businesses to do the planning and make the investments that are the foundation of growth.
In many countries, the poor and erratic state of electricity delivery reflects a choice by distribution companies not to provide regular service because they are unable to recoup the costs of the electricity generation. In India, for example, distribution companies are responsible for getting electricity from the power grid to customers and billing those customers for their consumption. The main problem in the Indian power sector is that as much as half of power drawn from the grid — in Bihar, 45% — is not paid for and is counted opaquely as “aggregate technical and commercial losses” (AT&C), attributable mainly to power that is unmetered, unbilled, or pilfered. Part of these losses is a consequence of redistribution policies (e.g., many farmers are given free electricity) but a high proportion is due to an inability to recover payment for services rendered. Wolak (2008) estimates that the distribution companies in India have annual losses that exceed 1% of GDP. So although power is cheaply available in the wholesale market, the huge losses and poor financial condition of the distribution companies and the poor state of power supply are a single interlinked problem which constrains economic growth.
Although the exact details often differ, India is not unique in having high rates of electric power losses in its transmission and distribution systems. In fact, as the World Bank has detailed in its indicators, almost all of South Asia, large parts of Africa, and many other low- income regions all struggle with this problem.2 Governments often put an emphasis on increasing generation capacity as a solution; however, this misses the fundamental instability of systems where losses are high regardless of the level of transmission and where the revenue generated is limited. Indeed, these factors constrain attempts to increase supply. Ultimately, part of the problem stems from governments’ desire to achieve multiple policy goals through their ownership or regulation of the energy sector, although social norms and politics also play important roles.
The development of growth-enhancing and sustainable energy distribution policies require the identification of empirically-tested approaches that can work in the presence of real world political constraints. Three general foci stand out for their economic and policy relevance: (i) demand-side valuation of the quality of energy supply, (ii) incentivising the fiscally solvent supply of energy, and (iii) supply-side development. While this division of topics is helpful, there are important interactions between these different areas of research and in the policy responses to these issues. The IGC Energy Research Programme is dedicated to building a new knowledge base in these areas. Credible policy solutions will need to draw on research in a number of areas given the interactions between different areas of potential intervention.
2.1 Demand-Side Valuation of the Quality of Energy Supply
It goes without saying that both households and industries benefit from a constant and reliable flow of accessible energy. Understanding the value that consumers place on accessible and reliable energy is critical to the formulation and prioritization of policy. In situations of limited resources, time, and capabilities, it is necessary for policymakers to ensure that their efforts are directed towards those activities where the gains are greatest for the long-term growth of the country. Therefore, it is important to gain an idea of the value of reliable, high-quality energy services across sectors, regions, and consumer groups in order to both determine (i) what public and private costs would result in net social gains for these sectors and communities, and (ii) which of these groups would receive the largest social gains from improvements in the quality of their energy supply.
In the absence of perfectly-functioning markets, it is difficult to infer the valuations of energy accessibility and reliability by simply observing the prices paid for the service. This is due to theoretical and data concerns, issues of imperfect information, price dispersion, heterogeneous preferences, corruption, as well as the many uses of electricity for both households and industry. Further, willingness to pay for a kWh of electricity is likely to vary with the reliability of the service such that a kWh is worth more in settings where electricity is supplied continuously relative to cases where it is only available infrequently. This is because the set of viable uses is substantially larger when electricity is supplied continuously than when service is intermittent.
There are many ways in which the use of energy for production purposes (i.e., both industrial and agricultural) can affect output and by extension economic growth. Energy is often used as a direct input in production, but, as energy is itself produced, it acts as an intermediate good in the chain of production. Toman and Jemelkova (2003) develop a simple model that incorporates these interactions.3 The model highlights how, in markets defined by limited access to physical and human capital and to energy, the value of expanding the energy provided to industrial production must be balanced with the opportunity cost of the physical and human capital used in energy production. This balance does go both ways, however, and it can equally be the case that large output gains can be achieved by reallocating human and physical capital to the generation of larger amounts of higher-quality energy services in cases where energy is currently constrained.
Beyond use as a direct input, energy often also enhances the productivity of various other inputs. The availability of reliable energy has direct implications for the choice of capital inputs in the production process and therefore the adoption of more advanced levels of technology. Unreliable energy provision hinders, and in some cases prevents, the uptake of energy-intensive capital inputs. Increased energy access can therefore lead to increased productivity of other inputs, allowing for more advanced and efficient techniques of applying the inputs and for the shift to more productive technologies. Indeed, there have been a number of studies over the years, such as Jorgenson (1984), Worrell et al. (2003), and Murillo-Zamorano (2005), which have found that increased energy usage in production leads to general increases in total factor productivity. These studies demonstrate that the gains from increased energy inputs go beyond the value of energy as a production input. These positive spillover and multiplier effects of energy production highlight the importance of establishing reliable systems for energy provision.
*Courtesy of IGC; Michael Greenstone is at MIT