Why has the OECD long-run GDP elasticity of economy-wide electricity demand declined? Because the electrification of energy services has saturated

Abstract

Understanding the income/GDP and price elasticities of energy/electricity demand is important for forecasting demand and evaluation of the potential impact of policies. Recent work on the GDP elasticity of economy-wide electricity demand has suggested that this elasticity is both substantially smaller than that of economy-wide energy demand and possibly has declined substantially over time. We assemble the largest OECD country panel to date to analyze the GDP and price elasticities of economy-wide electricity demand. We use an approach that addresses several key aspects of long-panel, macro modeling—cross-sectional dependence, country heterogeneity, and dynamic adjustments—and approximates temporal heterogeneity. We find that: (1) the GDP elasticity of economy-wide electricity demand has declined over time; and (2) that elasticity is now possibly as low as 0.2. In addition, we produce evidence that the reason for that decline is the saturation of the electrification of energy services in OECD countries. Hence, were more energy services to become electrified (e.g., transport), we would expect the GDP elasticity of economy-wide electricity demand to increase (e.g., toward 0.5—the GDP elasticity for gasoline demand). This saturation finding is important for forecasts of electricity consumption as well as for climate change mitigation policy; the finding is important because suggests that substantially increasing the electrification of energy services—one of two prongs in a carbon mitigation strategy—will/may lead to an increase in the GDP elasticity for electricity as well as to the potentially rapid increase in electricity consumption.