Income Growth, Energy Consumption and the Role of Energy Efficiency Governance

Abstract

There exists a strong correlation between income growth and energy consumption. In general, their effects are positive (or non-significant) in both directions. However, none of the existing works control properly for double causality. In this vein, energy governance has a remarkable importance to regulate energy use, which may favor economic growth through a more efficient use of energy in the production process. For a set of 32 OECD countries, we construct an energy efficiency governance index for the 2000-2015 period, which is used as an external instrument to characterize the effect of energy consumption on income growth. We find that the index only affects income growth through its impact on energy consumption growth. The estimated elasticity between (energy-governance-driven) energy consumption and income growth is close to unity, which almost double the elasticity commonly found in the literature and triple the one estimated under OLS fixed effects. For the other side of causality, we use the previous estimations to construct an adjusted GDP growth series, where the response of economic activity to energy consumption growth (driven by energy governance) is ruled-out. We obtain a large negative elasticity (about -3.0), which is of opposite sign to our OLS fixed effects estimates and to the usual finding in the literature. Thus, energy consumption driven by improvements in energy efficiency governance enhances growth, while income growth improves a more efficient use of energy.