Energy efficiency and appliance replacement

Engineering models generally find that most consumers are unwilling to adopt energy efficient appliances, even though the financial returns are positive. It is commonly thought that this is either due to market imperfections such as an incomplete credit market, very high intertemporal consumer discount rates, or irrational behavior. This paper presents a more sanguine explanation based on a model of rational dynamic choice in an uncertain environment. A random utility model (RUM) with consumer preferences that depend on the quality mix of energy-using appliances predicts that under plausible conditions - including the consumer's intertemporal discount rate equal to the real market rate of return on risk free investments - it may well be optimal for consumers never to adopt an energy efficient appliance. Essential model parameters include purchase prices of new appliances, periodic costs of use, including energy, failure rates for appliances per period, quality mixes of the service flows generated by different appliance types, consumers' permanent incomes and other demographic variables, and the random components of the RUM preferences. Empirical implementation of this model is straightforward with a McFadden and Train mixed multinomial logit econometric model using grouped time series, cross-sectional, or panel data.