Implementing the electric car in the greater Copenhagen area Policy implications of a techno-institutional and economic analysis

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1 Implementing the electric car in the greater Copenhagen area Policy implications of a techno-institutional and economic analysis Or: Why are these parking spaces empty? Nørrevoldgade, Copenhagen, May 2008 Aalborg University 2008 Kirsten Sophie Hasberg Maiken Mets

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3 Sustainable Energy Planning and Management Department of Development and Planning Fibigerstræde Aalborg Øst Title: Implementing the electric car in the greater Copenhagen area. Policy implications of a techno-institutional and economic analysis Theme: Sustainable Energy Planning and Management in an Institutional and Societal Perspective Project period: Project group: 08em0807 Group members: Maiken Mets Kirsten Hasberg Supervisor: Dr. Frede Hvelplund External examiner: Anders Møller Reports printed: 4 Number of pages: 83 Number of appendices: 13 Abstract: This project analyzes the techno-institutional and economic setting of the electric car and develops a policy mix for the implementation of the electric car in the greater Copenhagen area. Based on the theories on institutional change, the project develops a theoretical frame consisting of a techno-structure and the institutional setting. Methodologically, the institutional analysis first identifies the barriers towards electric cars, by analyzing the historical and current situation of the electric car. Secondly, the private economic barriers are identified. Thirdly, the project creates incentives and identifies actors to overcome these barriers. This is done using different methods: literature research, economic data analysis, qualitative interviews, and the use of illustrative cases, reflecting the project s interdisciplinary and systemic approach, building on both institutional, economic and policy theory. The project concludes that the institutional lock-in of the existing transportation system based on the internal combustion engine requires active policies and facilitated partnerships to bring about institutional change of technology towards electric cars. The creation of five types of incentives are recommended: a congestion charging zone with free access for electric cars, creation of a efficiency-differentiated road pricing, provision of the opportunity for long distance traveling by car sharing and public transportation, availability of a plug with parking space and access to after-sale services. These incentives can be provided by cooperation among the actors identified in the framework of a facilitator. The policies recommended create an economic incentive for and reduce the non-monetary costs of electric cars in the two illustrative cases and are hence likely to bring about the institutional change of technology towards the electric car in the greater Copenhagen area.

4 Preface This project is written on the 8th semester of the Master Programme in Sustainable Energy Planning and Management at Aalborg University, Department of Development and Planning. The semester focus is the analysis of energy systems in an institutional and societal perspective. The reference system of this project follows the Chicago Style. Interviews and other personal communications are in accordance with the Chicago style not included in the reference list and are not given formal references but run into the text. In the appendix, a full list of interviews is found with dates. For readability, we limit the use of abbreviations and rather use the short terms (e.g. electric car for battery electric car). However, a list of abbreviations is found in the appendix. Footnotes are placed on each page and not as end-notes or appendixes to allow easy access to additional information. Thanks to our interview persons Per Møller Jørgensen, chair of the Danish Electric Car committee, Anne Vang, political spokesperson of The Danish Social Democrats in the Municipality of Copenhagen, Anders Foosnæs, consultant at the Danish Energy Association, Bjarke Fonnesbech, chairman of the Danish Car sharing fund and Bendt Iversen and Sune Grøntved, consultants at Drivegreen, the Danish Think importer. Also, we d like to thank Åsgeir Helland, Environmental Officer, Think Global, Norway, Benjamin Caun, Marketing Manager at Inventek Corporation, California, Karl Sperling, and Brian Vad Mathiesen, both Phd students at the Department for Development and Planning at Aalborg University, Clement Johan Ulrichsen, Economist at the Danish Competition Authority Maria Bugge Severinsen, Dong Energy and Birte Busch Thomsen, Environmental Protection Agency of the City of Copenhagen and Gustav Langdal, Municipality of Stockholm, for their comments and insights. Special thanks to our supervisor Dr. Frede Hvelplund for taking time and effort for long and fruitful discussions with us. It is our hope that the active involvement of actors and our focus on the concrete implementation and present technology makes the project and its policy recommendations relevant in the ongoing discussion about the future of the Danish energy system in general and the transportation system of the municipality of Copenhagen in particular. Maiken Mets Kirsten Sophie Hasberg

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6 The table of content The table of content 1 1 Introducing the transportation sector and the role of the electric car Current problems of the transportation sector The electric car potential Using a hypothesis to define the research question Defining our institutional setting as researchers 6 2 Defining the theoretical approach and methodology Theoretical approach and definition of central concepts Defining the central concepts of institutional theory Institutions Applying institutional theory to the context of electric cars Methodology Project outline Tools and methods used Assumptions and delimitations 18 3 Identifying technological and institutional barriers Technical Background What is an electric car? Why electric vehicles? About The Think City Techno-Institutional Analysis Competition between ICE and EV creation of lock-in Six factors needed to overcome lock-in Electric car first attempt to unlock the market - history Implementation of electric cars behind the scenes What are the Main Barriers on a Way of Escaping from lock-in today? Conclusion of chapter three 35 4 Private transportation alternatives from a socio- and private economic point of view in the greater Copenhagen area Introduction: Transportation patterns Total costs of private transportation External costs of private transportation Private costs of private transportation The Jyllinge case family Copenhagen The private budgets of transportation of the two cases Conclusion of chapter Chapter 5 Establishing private person incentives for overcoming barriers in an actor framework 51 1

7 5.1 Solutions for overcoming barriers Access to parking spaces with plugs Free public parking No registration tax and ownership charge on electric cars Congestion Charging Zone with no charge for electric cars Efficiency-differentiated road pricing Access to after sale services Free membership of car sharing association - access to multiple different vehicles Discount on public transportation and access to shared cars in whole Denmark Electric cars in the car sharing fleet The role of facilitator Changes in the private budgets of transportation Jyllinge case: Costs of transportation alternatives after Copenhagen case: Costs of transportation alternatives after New transportation concepts induced by private person incentives The Jyllinge case after, the policies and relevant partnerships are established The Copenhagen case after, the policies and relevant partnerships are established Partial conclusion 64 6 Chapter 6 Discussion of strengths and weaknesses Strengths and weaknesses of theoretical approach Discussing excluded disciplines Discussing the interdisciplinary approach Strengths and weaknesses of central sources Research papers and evaluation reports Statistical data sources The six conditions for escaping institutional lock-in Articles, parliamentary debates, company information, internet resources and interviews Actor interviews Strengths and weaknesses of methodology Strengths and weaknesses of limitations and assumptions The transportation sector and the problem of general sustainability The technology chosen The temporal and geographical limitation The value of non-monetary costs and benefits Assumptions on change in behaviour Financial implications Strengths and weaknesses of suggested private person incentives Strengths Weaknesses Conclusion for chapter six 74 7 Conclusion Future perspectives 77 The role of an electric car in the future energy system 77 References 78 2

8 1 Introducing the transportation sector and the role of the electric car 1.1 Current problems of the transportation sector The transportation sector is often termed the most problematic concerning climate change and sustainability in general. Today, the transport sector of Denmark is almost 100 % oil dependent. Although Denmark is the only EU member state that is self-sufficient with energy today, the Danish oil- and gas production is decreasing, and the Danish import dependence on oil is showing an increasing trend. Also, oil and hence gasoline prices are increasing, indicating the increasing scarcity of fossil resources. Energy efficiency in the transportation sector is generally low. When looking at the well-to-wheel performance, the average conversion efficiency of internal combustion engine is only % (Jørgensen, 2008). At the same time, the energy use of the transportation sector has increased by 27,3 % compared to 1990 (Energistyrelsen 2007). Furthermore, local air and noise pollution, as well as congestion, are a significant problem caused by urban transportation. Today, Copenhagen has difficulties living up to the requirements set for air, concerning particles and nitrous dioxide (NO2), and noise, households are affected by exceeding noise levels (Københavns Kommune 2007). 800 annual cases of too early deaths in Copenhagen are caused by air pollution (Thomsen 2008). Furthermore, households are severely affected by noise levels (Thomsen 2008). 1.2 The electric car potential A long variety of reports and plans already today emphasize the potentials of the electric car in Denmark: - The report on alternative fuels for the transport sector, commissioned by the Danish government, describes electric cars as the greatest long-term potential, because they display the best energy efficiency and at the same time have great local environmental benefits in terms of less noise and no harmful local air emissions. Furthermore, the potential for interplay between electric cars and renewable energy, especially fluctuating wind power, is recognized. (Energistyrelsen 2008) 3

9 - The Danish Technology Council also recommends electric cars and plug-in hybrids as a mean for reducing energy consumption from the transport sector by 25 % in (Teknologirådet 2007) - Also, the Danish Parliament priorities for electric cars are set in the agreement on energy, where 35 million DKK are set aside over the years for demonstration projects, and the registration tax exemption for electric cars is prolonged until 2012 (Folketinget 2008). - In the 2007 report on cleaner fuel technology for transportation, the municipality of Copenhagen presents a vision for 2035: The municipality of Copenhagen must be know as the environmental capital of Europe, where 100 % of the municipal vehicles are sustainable due to the use of biofuels, battery powered cars and hybrid electric vehicles, powered by batteries and hydrogen. (Københavns Kommune 2007b) - The Energy Plan of the The Danish Society of Engineers, sees that 20 % of all cars in 2030 are electric, and emphasizes the interaction with fluctuating wind power, since more than 2/3 of the electricity production in the plan is based on renewable energy sources. (Ingeniørforeningen i Danmark 2006). Other plans underline the need for action, concerning the present problems of the transportation sector: - The municipality of Copenhagen has set goals in its vision for 2015: a reduction of CO2-emissions by 20 % compared to 2007-levels, a reduction in noise levels, and air of a quality that does not damage the health of Copenhageners (Københavns Kommune 2007a). - Also the Danish Infrastructure Commission has a vision for the Danish transportation system of the future: (In 2030), the increase in transport is detached from the rise in CO2-emissions. Air pollution is reduced significantly, and noise levels are reduced. (Infrastrukturkommissionen 2008). Furthermore, the European Union has set requirements, with its goals, to reduce CO2-emissions by 20 pct., increase the share of renewables by 20 pct. and increase energy efficiency by 20 pct. by 2020 compared to 1990-levels and simultaneously10 pct. of the energy used in the transportation sector has to be renewable energy (assuming that the biofuels target is interpreted as a general renewable energy target). (European Commission 2008) Considering these reports, plans and policies, as well as the severity of the range of problems outlined in 1.1., the scene is set for the implementation of electric cars: The electric car can contribute with high efficiency (targeting both the CO2 and the efficiency goal) and the possibility to run on renewable energy (targeting both the renewable energy goal and the transportation sector goal). It has low noise levels and no local emissions. 4

10 However, none of these reports answer to the question of how electric cars are to be implemented into the existing transportation system. Both, on the research side as well as on the policy side, there is a gap in describing concrete solutions and actions. Hence, the purpose of this project is to fill this gap by answering the question of how. The range limitations of the electric car, however, also play a significant part in the literature and discourse on electric cars: Although Horstmann (2005) concludes that the users of the electric car in have been satisfied, both Jørgensen (2008), KFB (2000) and Københavns Kommune (2007b) put emphasis on hydrogen as the fuel of the future because of the inherent range limitations of the electric car, although the reports are aware of the lower well-to-wheel efficiency of hydrogen. In the Danish media, the company Project Better Place has gained attention because it seeks to overcome the range limitations of electric cars (the Israeli- Californian company has a business concept of providing a battery exchange infrastructure for electric cars, planning cooperation with Dong Energy), (Dong Energy 2008). Recognizing these range limitations of the electric vehicle, we develop a system of multi-modal transportation, combining the electric car with car sharing and public transport. Our motivation as researchers for choosing electric cars as the area of our research is furthered by the future perspectives that the electric car possesses: By using vehicle-to-grid technology it can provide the possibility for electricity grid stabilization in a system with increased shares of fluctuating renewable energy. Also, it can solve the problem of the lack of CO2-regulation of the transport sector on the EU-level, because the use of electricity in the transport sector simultaneously includes it in to the European Emissions Trading system. 1.3 Using a hypothesis to define the research question Our background hypothesis for choosing our research question is: A transportation system based on the electric car has lower external costs than the current system based on the internal combustion engine car. However, institutional barriers exist, and private person incentives are not great enough to overcome these barriers, since private costs and non-monetary costs of the electric car exceed those of the internal combustion engine car. If the institutional barriers are identified by looking at historical experience and analyzing the present situation, it is possible to overcome the barriers by providing a range of solutions. These solutions consist of the internalization of the external costs of transportation using the polluter pays principle, and the 5

11 cooperation of actors to reduce non-monetary costs. In this way, private person incentives are created and the institutional barriers towards electric cars can be reduced. Hence, the electric car is implemented into the transportation system. Therefore, our research question is: How can the creation of private person incentives reduce institutional barriers towards electric cars and lead to the implementation of electric cars in the greater Copenhagen area, in order to reduce the global and local environmental impact of transportation? This is answered using the following sub-questions: - What are the barriers to the institutional change of technology towards electric car usage historically and today? - What are the social costs (externalities) and private costs of private transportation in the greater Copenhagen area of the current internal combustion engine vehicle and of the electric car? - How can relevant actors provide incentives for the private person to choose an electric car? 1.4 Defining our institutional setting as researchers Institutional theory is not only about the object studied, but also about the way the object is studied and the pattern of thought of the researcher. As Hodgson (2006) puts it, institutions are simultaneously both objective structures out there and subjective springs of human agency in the human head. In the same way, institutional analysis is both out there, studying institutional structures of the researched field, and in the researchers head, requiring us to think in a broad manner. Hence, the perspective of the project is holistic and systemic. Our educational background frames the way we conceive the world. We are students from two separate directions of study, electric power engineering and economics respectively; our awareness as researchers towards institutional factors has been created by our current educational setting in an interdisciplinary master programme. Jamison (2008) distinguishes three types of processes studied: ongoing processes, finished processes and future processes. This project studies a process of the first type. The implementation of the electric car is an ongoing process, and hence, our understanding is research as intervention, or interactive assessment 6

12 (Jamison 2008). Jamison (2008) uses three metaphors to describe the researchers role: fly on the wall spider in the web or queen bee in the honey comb. This project is a combination of the two latter: We as researchers are facilitators and consultants, playing both a participatory and advisory role. Because of the interactive role of our research, this project can be grouped into what Jamison calls changeoriented research, and is a way of cultivating the hybrid imagination : From theory of science perspective, we base our research on positivism (when doing economic analysis), social constructivism (when analyzing the social construction of technological change) and critical theory (by including policy suggestions). Studying a technical subject using tools from economics in an institutional frame implies that this project is by definition interdisciplinary. The theoretical and methodological basis is presented in chapter 2, underlining the interdisciplinary character of the project. The central concepts of institutional theory, the logic behind the chosen structure and the delimitations of the project are introduced. 7

13 2 Defining the theoretical approach and methodology Beginning with a discussion on the use of theory in general, this chapter consists of three subchapters, describing and discussing the theoretical approach and the central concepts of institutional theory, the methodology and the line of argument, and the delimitations and assumptions of the project. Theory is an intrinsic part of our understanding, but the theoretical background evolves throughout problembased project work, and is not systematic and detailed in advance. We understand research as a recursive process: Theory and concrete analysis feed each other to create the theoretical framework developed for this exact problem formulation. This perception of the usefulness of theory is also reflected by the following quote: There is nothing as practical as a good theory (Lewin 1951). It says that the good theory is practical and we see the value on theory if it can be applied to solve real-life problems. We see ourselves as practical theorists, as we are looking for a solution for a practical problem by applying operationalized theories for creating the knowledge. We have chosen a problem formulation with practical and concrete relevance. Hence, we have to apply theories and adjust existing theories to our concrete context. Institutional theory poses a possible explanatory framework to answer our research question. This might seem contradictory to the theoretical nature of the institutional focus, but as we show in section 2.1, theories can be operationalized and applied to the concrete context, creating our own theory. 8

14 2.1 Theoretical approach and definition of central concepts In this subchapter, the general theoretical background of institutional theory is defined; The theory is applied to our research question. Our own theoretical framework is created by introducing, using and critically reviewing the existing institutional research Defining the central concepts of institutional theory Institutions According to North (1990), institutions are the rules of the game in society, or as described by Campbell (2004), the foundations of social life. According to Scott, institutions consist of three pillars: the regulative, normative and cultural/cognitive pillar. However, these definitions are very broad. To be able to apply the theory of institutions, we need an adequate conception of what an institution is. As a definition, we will use the following, borrowing from Hodgson (2006): Institutions structure, constrain and enable individual behaviour. Furthermore, Hodgson (2006) argues that actor and institutional structure, although distinct, are thus connected in a circle of mutual interaction and interdependence. That is, our focus on the private person is no contradiction to institutional analysis on the contrary. Both quotes emphasize that institutions have to be seen in interaction with the individual actor. The term institutions, institutional setting and institutional barriers are used interchangeably in this project. When using the terms, we have the structuring, constraining and enabling features of the regulative, normative and cultural-cognitive societal setting in mind Technology and technological change According to Arthur, technology can be defined as method or knowledge imbedded in artefacts (Arthur, 1991, cited in Unruh (2006)). However, this narrow view of technology ignores the important systemic interrelations among individual technologies. (Unruh 2006) Therefore, our understanding of technology builds on the theory on social construction of technology within the field of science and technology studies, 9

15 and on the writings by Hughes on Large Technological Systems (Hughes 1983). Hughes provides a long, but useful definition of technology (Hughes 1987): Technological systems contain messy, complex, problem-solving components. They are both socially constructed and society shaping. Among the components in technological systems are physical artefacts ( ), organizations ( ), scientific ( ) (and) legislative artefacts (and) natural resources. If a component is removed from a system or if its characteristics change, the other artefacts in the system will alter characteristics accordingly. This verbal definition makes the complexity of the concept of technology clear and emphasized the interdependent nature of the components. However, it is difficult to operationalize the concept of technological systems and its underlying components in applied research. Therefore, a graphical definition is used for a more condensed and operationalized framework for understanding technology, using a modified version of the technology definition of Hvelplund (2005) shown in figure 2-1. Figure 2-1 Definition of technology, inspired by Hvelplund (2005) and Hughes (1987). From this figure, we derive our definition of technology: Technology consists components of technique, organization, profit, product, knowledge and natural resource, which are interrelated and interdependent, and embedded in an institutional setting. Furthermore, the graphical representation, figure 2-1, allows for an applied understanding of technological 10

16 change. Borrowing from Hvelplund (2005), it is defined in the following way: Institutional change of technology (technological change) takes place when more than one of the components is changed. Hvelplund s definition did not include the sixth component: the natural resources, which is seen as part of technology by Hughes (1987). As the natural resource(s) is central component for technology development and the institutional change will take place, if this component is changed, we have included it to definition of technology. In this project, the terms technology and technological system are used interchangeably; in each case, we refer to the described understanding of technology as consisting of the interrelated components of technique, organization, profit, product, knowledge and natural resource(s), embedded in an institutional setting. The terms, technological change and institutional change of technology are used interchangeably as well Path dependency and lock-in: The importance of history is central in institutional analysis. As Hodgson (2006) argues: Because institutions simultaneously depend upon the activities of individuals and constrain and mould them, through this positive feedback they have strong self-reinforcing and self-perpetuating characteristics. These characteristics have been termed path dependence in the academic literature on technological change. The central question is: Why are some technologies dominant and others not? The early founders of the theory of path dependency are David and Arthur see historical events as the central cause (Arthur (1989), David (1985). That is, the choices of the past are institutionalized and restrict the possibility of choices of the present, creating a lock-in of technologies already present. For our purposes, we have chosen the definition of path dependency and lock-in characterized by Meyer and Schubert (2007): 1. Actors are thought to behave rationally in the sense that they always choose the technology which is best suited for them. However, technological paths are the result of an emergent evolution behind the backs of the actors. 2. Increasing returns and lock-in are emergent processes, which are not and cannot be the result of deliberate planning and mindful action. 3. Once a path is locked-in, only external shocks can break it. The terms, path dependency, institutional barriers and lock-in are used interchangeably in this project. 11

17 Path creation: The theory on path dependency has resulted in a broad academic literature on how this path dependency can be overcome, and how lock-in can be broken. Garud and Karnøe (2001) have developed a theory of path creation. For our purposes, the stepwise definition, characterized by Meyer and Schubert (2007) is used: 1. Powerful actors can strategically influence the development of a path. They can shape the path, while over time they are themselves shaped by the path. 2. Increasing returns and lock-in are subject to deliberate actions and tied in with broader social dynamics. 3. The creation, but also the ending of a path may be caused by deliberate actions which do not necessarily have to be external. The terms, path creation, overcoming or escaping lock-in, overcoming or escaping path dependency and overcoming institutional barriers are used interchangeably. We use the term techno-institutional system as a synthesis of the outlined terms and concepts. Building on Unruh (2000), we define the techno-institutional system as a self-referential system, where technological systems and institutions are feeding each other. These techno-institutional infrastructures create persistent incentive structures that strongly influence system evolution and stability. 12

18 2.1.2 Applying institutional theory to the context of electric cars The theories outlined in are now combined into our own theoretical framework, shown in the following figure: Figure 2-2 The theoretical context of the project In the figure, the techno-institutional system as defined in section is separated into its parts: The institutional setting are the institutions, the technological system is imbedded in. The techno-structure is the technological components of the technological system. The techno-structure can be understood as the hardware, whereas the institutional setting is the software. The figure represents the theory that we have constructed as a synthesis of existing theories. In the following, we define what we mean by each component, proceeding from left to right: Techno-structure The techno-structure describes the technological structure that we create as a basis for our theory it does not reflect the technological situation today. The focus is on the transport need, which is split into long distance and short distance travelling. The electric car is implemented by using it for shorter commuting distances. In addition we introduce the shared car and the combination of public transport and car sharing as the solution to long distance travelling. The idea of combining the electric car with car sharing is also 13

19 proposed in Jørgensen (2007): A framework with a greater role to shared or rented cars at the expense of privately owned automobiles could probably provide better opportunities for electric vehicles and a framework with less use of the automobile We develop this inter-modal system to make it possible to reap the benefits of the electric car while avoiding its limitations with respect to range by using public transportation and car sharing: The disadvantage of the limited range of the electric car is turned into the advantage of a more flexible use of transportation means. The user can choose the means of transportation according to their need. The electric car can contribute to solving these different types of problems outlined in chapter 1. Depending on the residential location of a household, the electric car can be implemented in two ways: - Combined with car sharing in urban areas, the electric car can become part of the car sharing fleet, while public transportation takes care of the majority of commuting on a daily basis - Ownership of an electric car in extra-urban areas can be combined with car sharing of conventional cars, acting as a range extender to the electric car. For both, the electric car can also be used for long distance travelling if combined with rail transport. As part of a car sharing system, the electric car is available at train stations and provides the possibility for reaching the final destination away from the main rail lines. Our focus is on the need for transportation as a transportation service, not the need for a privately owned car for all possible trips Institutional setting Barriers: As described above, we use the term barrier interchangeably with other terms describing path dependency. In our context, we need a precise definition of barriers to be able to analyze them. Cowan and Hulten (1996) operationalize the analysis of technological change in the electric car industry by using six conditions for escaping lock-in: 1.) Crisis in the existing technology, 2.) Regulation, 3.) Technological break through, 4.) Changes in taste, 5.) Niche markets and 6.) Scientific results. (Cowan and Hulten 1996) These conditions are used for the techno-institutional analysis of the electric vehicles, and are described in more detail in chapter 3. The six conditions are used to explain and apply the concepts of path dependency and path creation: When the six conditions are not in place, institutional barriers are preventing technological change. When the six conditions are fulfilled, path dependence is overcome and opens the way for path creation. 14

20 Incentives: We define incentives as factors (monetary or non-monetary) that give the private person a motive for a particular action in our case, switching from driving conventional combustion engine car to electric and shared car. With this definition, we emphasize both the direct incentives affecting the private budget, as well as the non-monetary incentives, that can be understood as the embeddedness of the market in the existing institutional setting of the internal combustion engine. The terms private person incentives, policy suggestions, suggested solutions and first-mover advantage package are used interchangeably. With all these terms, we refer to the incentive-column in our theoretical framework. When developing incentives, we build our work on theories of externalities and policies. A short description of those theories is presented below. Externalities are the classic case of market failure. Following Hanley (2007), when market failure occurs, a wedge exists between what a private person does, given market prices, and what would be the socially optimal course of action. The table below shows how costs can be split into internal and external, variable and fixed and market and non-market. Costs Variable fixed Internal Fuel, parking, Vehicle operation and maintenance, accident risk, user travel time and stress Vehicle ownership, taxes, insurance, fixed parking, feeling of freedom and independence (unused range capacity of ICE), feeling of doing something good for the environment External Accident, congestion, air pollution, noise, barrier effect, effects on flora and fauna, waste (for BEV) Free parking, traffic planning and regulation, road infrastructure, fuel infrastructure, landuse (opportunity costs), land-use impacts (resulting from low-density, automobileoriented land use), social costs (inequality) Table 2-1. Fixed and variable internal costs and fixed and variable external costs. Source: Miljøstyrelsen (2001) and Litman (1997). Note: Italics indicates non-market. The true costs of the private person actions are not reflected in market prices, since market prices do not reflect the external cost of the private decision e.g. the costs of air pollution when driving a car. Because the individual does not have to pay for the externalities created, he or she lacks sufficient economic incentives to act in accordance with the true costs of their action. That is, there is a divergence between social and private costs of private action. To avoid this situation, externalities must be internalized. The polluter pays principle is a popular formulation of the theory on internalizing externalities: The private person must pay the full costs of their actions. 15

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