The Elephant in the Road: An Economic Analysis of the Indian Car Market

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Chapter 1

To investigate how fuel economy is valued in the Indian car market, I compute the cost to Indian consumers of purchasing a more fuel-efficient vehicle and compare it to the benefit of lower fuel costs over the life of the vehicle. I estimate hedonic price functions for four market segments (petrol hatchbacks, diesel hatchbacks, petrol sedans, and diesel sedans) to compute 95% confidence intervals for the marginal cost to the consumer for an increase in fuel economy. I find that the associated present value of fuel savings falls within the 95% confidence interval for most specifications in all market segments for the years 2002 through 2006. Thus, I fail to consistently reject the hypothesis that consumers appropriately value fuel economy.

Also, I look at vehicle models available in both petrol and diesel form (i.e., twins). Diesel vehicles are generally more expensive than their petrol twins, but, due to higher fuel economy and lower fuel price, have sufficiently lower fuel costs to more than offset the difference. Net savings from purchasing a diesel twin are substantial. Diesel hatchback owners save the equivalent of 50% of the purchase price of their chosen vehicle; diesel sedan owners save 18% of the purchase price of theirs. In 2006, 74% of twin hatchback owners and 59% of twin sedan owners realized these savings by buying the diesel twin. Due to their lower monthly driving distance, forgone savings by owners of petrol twins are lower, but still substantial. Petrol hatchback owners could have saved 24% of the purchase price of their chosen vehicle and petrol sedan owners could have saved 10%. Owners of petrol twins are apparently willing to forgo these substantial savings in order to drive their preferred vehicle.

Chapter 2

The Indian car market is the fastest growing in the world. With increased mobility, however, has come increased foreign oil dependence, fuel consumption, and associated externalities. In response to this, the Indian government is contemplating fuel economy standards, but at the same time continues to subsidize diesel fuel. The result of this policy has been a diesel discount of 30%, relative to petrol, and \emph{dieselization}, the increasing market share of diesel cars. This chapter uses a model of vehicle choice and vehicle use to compare the welfare impacts of two possible policy responses: diesel fuel taxation and diesel vehicle taxation. Using data comprised of household-level vehicle purchase and driving distance observations from the 2006, 2008, and 2010 JD Power APEAL survey, I estimate a theoretically consistent model of discrete-continuous choice which explicitly accounts for unobserved household and vehicle characteristics and correlation between vehicle choice and driving distance. I find the effect of a diesel fuel tax that eliminates the petrol/diesel price gap to be 4.6 percentage point reduction of the market share of diesel cars based on results from 2006, a 7.9 percentage point reduction based on results from 2008, and an 8.6 percentage point reduction based on results from 2010. On average, a diesel car tax of 21.9% would achieve the same result. The diesel car tax option, however, does relatively little to change intensive margin incentives. A smaller diesel fuel tax, sufficient to yield the same total fuel conservation as the diesel car tax, compares favorably to both policies on efficiency grounds. While the subsidy eliminating diesel fuel tax is more efficient than the diesel car tax in terms of deadweight loss per liter of fuel conserved, the smaller diesel fuel tax actually results in a net welfare gain. This result comes from the fact that the pre-existing tax on petrol fuel raises enough revenue from those would-be diesel car buyers who are compelled to buy a petrol instead to more than compensate them back to their pre-tax utility levels. Comparing compensating variation of the subsidy eliminating diesel fuel tax to the diesel car tax, neither policy imposes a consumer welfare cost of more than 2% of new car buyers' average annual income. However, the welfare burden as a share of household income is found to be greater for the poorest households.