The Builder and Energy Conservation: a New Target For Public Policymakers1

ABSTRACT - Policymakers should be more aware of the level of energy consumption attributable to builder purchases of energy using equipment. This paper analyzes the information inputs and intervention options available to public policymakers interested in stimulating the purchase by builders of more energy efficient equipment;

Citation:

John A. Quelch (1980) ,"The Builder and Energy Conservation: a New Target For Public Policymakers1", in NA - Advances in Consumer Research Volume 07, eds. Jerry C. Olson, Ann Abor, MI : Association for Consumer Research, Pages: 290-295.

Advances in Consumer Research Volume 7, 1980     Pages 290-295

THE BUILDER AND ENERGY CONSERVATION: A NEW TARGET FOR PUBLIC POLICYMAKERS1

John A. Quelch, Harvard University

[The author gratefully acknowledges the funding for this study provided by the Consumer Research and Evaluation Branch, Consumer and Corporate Affairs Canada.]

ABSTRACT -

Policymakers should be more aware of the level of energy consumption attributable to builder purchases of energy using equipment. This paper analyzes the information inputs and intervention options available to public policymakers interested in stimulating the purchase by builders of more energy efficient equipment;

INTRODUCTION

Policy interventions designed to promote energy conservation in the residential sector have focused primarily on the consumer. Yet each year, builders are responsible for the selection and purchase of substantial numbers of furnaces, water heaters, and domestic appliances which are installed in new housing. Since the ultimate consumer as purchaser or tenant is not directly involved in these equipment selection decisions, they may be characterized as "imposed choice" purchases. It should, however, be noted that since the installed equipment represents one element in the total package of benefits offered in a new home, the builder is likely to be indirectly influenced by consumer preferences for one equipment model versus another. The builder's degree of concern is likely to mirror the degree to which consumers differentiate among housing alternatives on the basis of the installed energy using equipment.

In Canada, the residential sector accounts for 20 percent of total secondary energy consumption. Of this amount, furnaces and space heating equipment are responsible for 70 percent, water heaters for 18 percent, and major kitchen and laundry appliances for 8 percent of consumption. Other appliances and lighting account for the remainder (Energy, Mines, and Resources Canada, 1977). A variety of energy saving design options have been identified for each of the three principal equipment categories. In the case of major appliances, for example, see Federal Energy Administration (1976), Hirst and Carney (1977), and Norgard (1979). Increasingly, these design modifications are being incorporated in commercially available models. As a result, inter-brand differentiation on the basis of energy performance is increasing. In the interests of energy conservation, policymakers would prefer that builders as well as consumers purchase the more energy efficient models. Over time, ever increasing energy savings could result if an increasing proportion of the total housing stock were equipped with imposed choice purchases where energy performance had been considered as a criterion.

The annual energy requirements of equipment purchased on an imposed choice basis for installation in new housing in 1978 represent 48 percent of the annual energy requirements of all equipment purchased in 1978. This is equivalent to 3.1 percent of total secondary energy consumption in the residential sector (Quelch, 1979). The 48 percent figure is not constant across ail three equipment categories. The energy consumption attributable to imposed choice purchases as a percentage of that attributable to all purchases in 1978 is 60 percent for furnaces and space heating equipment, 32 percent for water heaters, and 18 percent for major kitchen and laundry appliances. Two factors account for these differences. First, whereas building codes generally require the installation of space heating and water heating equipment in all new housing, the installation by the builder of major kitchen and laundry appliances is frequently discretionary. Thus a lower percentage of total appliance purchases fall into the imposed choice category. Second, variations in average economic life mean that the proportion of total annual sales accounted for by replacement purchases differs from one equipment category to another.

INPUTS TO POLICYMAKING

To determine how to effectively stimulate builders to specify more energy efficient models in their imposed choice purchases, policymakers require information on both the industry structure and the distribution channels through which equipment flows from the manufacturer to the ultimate consumer. Such a channel analysis may indicate that the optimal way to influence builder purchases is to exert leverage at some other point in the channel.

In addition, if the policymaker is to determine where and when he can most effectively influence the decision making process, together with the factors which influence each of these decisions, must be clearly understood. Different decision making processes may be used by building firms of different sizes. The policymakers must also appreciate the composition of the decision making unit, the person(s) within the firm responsible for the decisions in question, and know whether the decision making unit varies at different stages of the process.

Each equipment category must be considered separately, at least in the initial stages of policymaking, since variations in industry structures and decision making processes are likely from one product category to another. In addition, policies designed to influence imposed choice purchases made by builders must be analyzed in terms of their impact on all purchases within a particular equipment category. Specifically, the impact of policies aimed at builders on the purchase decision making processes of individual consumers and other parties in the distribution channel must be considered.

To illustrate the information inputs relevant to policy-makers, one of the three equipment categories - water heaters - has been selected for analysis. There are three principal distribution channels in Canada through which tank type water heaters flow from manufacturer to end consumer. Sixty percent of units reach the builder or the consumer via contractors and wholesalers. Twenty percent are shipped direct from manufacturers to mass merchandisers for sale to consumers in the replacement market. The remaining twenty percent are shipped direct from manufacturers to the power utilities which sell or rent them to individual consumers.

Figure 1 shows the decision making process which would typically determine the equipment installed by a builder in a new housing project, together with a summary of the factors influencing each stage of the process.

In the remainder of this section, the attitudes of channel members towards the availability of higher priced energy efficient water heaters are examined. Conclusions are based on depth interviews and survey research, and are broadly applicable to all three equipment categories addressed in this study.

FIGURE 1

TYPICAL DECISION MAKING PROCESS FOR BUILDER PURCHASES OF WATER HEATERS

Manufacturers would welcome the higher unit margins which would be associated with energy efficient water heaters, particularly since total industry demand is derived solely from the numbers of housing starts and breakdowns of existing equipment. Deterring product innovation, however, is a lack of resources available for R & D; the ability of competitors to quickly match attempts at differentiation; and uncertain consumer demand for higher priced more energy efficient models. The critical mass of demand necessary to warrant production of these models has to constitute a higher percentage of the total available market in Canada than in the U.S.

Manufacturers lack the experience and resources to engage in consumer "pull" advertising although development of brand franchises would help to protect them against increasing dependence on private label sales to the growing mass merchandising segment. The success of an alternative "push" strategy through the plumbing wholesaler depends on his willingness to carry energy efficient as well as standard models in inventory. Each manufacturer's annual sales volume is very dependent upon the number of wholesalers who carry his brand. Since plumbing wholesalers commonly carry only two (rather than all) brands, the manufacturer's ability to persuade a wholesaler to accept a new product is limited.

As perhaps the most specialized and knowledgeable element in the distribution channel, the plumbing contractor might appear to be the person to influence. However, competition for business in the new housing market is such that the plumber must meet the builder's specifications at the lowest price possible. And when the plumber installs water heaters for mass merchandisers and utilities on a subcontract basis, he is not involved in the purchase selection process. In the replacement market, however, the plumber deals directly with the consumer and has the opportunity to inform him about the availability of energy efficient models. There is a financial incentive to the plumber to do so if these models carry a higher unit margin, are more complex to install, and require more frequent maintenance.

A recent mail survey of Canadian builders (Quelch and Thirkell, 1979) asked builders to rank a set of attributes according to their importance in influencing purchases of water heaters. As indicated in Table 1, builders (and especially large builders) buy primarily on the basis of price. Although builder-landlords might be expected to be interested in energy operating costs, there is no evidence that energy efficiency is currently used by builders as an equipment selection criterion. This result is partly explained by a lack of perceived dissimilarity among water heaters in terms of their energy efficiency; 85 percent of builder respondents to the survey regarded water heaters as "moderately" or "very" similar in this regard. A significant relationship was found to exist between perceived dissimilarity and rank order of importance on the energy efficiency dimension (x² = 10.99, d.f. = 3, significance = 0.05).

TABLE 1

MEAN IMPORTANCE RANKINGS OF FACTORS INFLUENCING PURCHASES OF WATER HEATERS ACCORDING TO SIZE OF RESPONDENTS' FIRMS

Accustomed to purchasing water heaters on a simple price basis, builders are only likely to consider specifying higher priced energy efficient models if (a) they are aware of significant inter-brand differences in energy efficiency, and (b) they are confident of being able to pass on the incremental cost to potential home buyers. As long as a significant segment of consumers remains disinterested in paying a higher price for a home with energy efficient equipment, many builders may be deterred from specifying the energy efficient models.

Both the mass merchandisers and power utilities buy water heaters in bulk direct from the manufacturers. Mass merchandisers have shown increasing interest in water heaters as high ticket store traffic builders. Primarily dealing with individual consumers in the replacement market, they view the energy efficient models favorably as promotable items offering higher unit margins than the standard models. As energy suppliers, the utilities are less enthusiastic about the energy efficient models. The administrative complexity of different rental rates for different models; the incremental capital carrying cost on the more expensive equipment; and the possible increase in service requirements associated with the energy efficient water heaters are ail viewed as further negatives by the utilities.

While a growing segment of consumers is concerned with the fuel used in home heating due to differential availability and cost, few consumers are likely to treat the model of water heater installed as a criterion in home selection. To most consumers, the water heater is a mysterious appliance which commonly attracts their attention only when it fails to function as expected. Consumers are more likely to assess the quality of highly visible preinstalled kitchen appliances than the quality of the water heater as a surrogate for the overall quality of the home. In the replacement market, however, the consumer's attention is focused on the purchase of a water heater and (s)he is likely as a result to be more receptive to detailed information comparing brand alternatives on energy efficiency and other dimensions.

Under a free market scenario, the diffusion of energy efficient water heaters depends largely on the salience of the water heater to the consumer, and on the relative importance attached to energy efficiency in the evaluation of alternative models. Consumer "pull" is necessary to persuade builders to specify more energy efficient models in their imposed choice purchases. The next section highlights possible policy interventions to encourage this process.

FRAMEWORK FOR POLICY ANALYSIS

Several alternative, though not mutually exclusive, policy options are available to policymakers interested in encouraging the wider availability and speedy adoption by builders of energy efficient equipment (Evans, Ritchie, and McDougall, 1978). Using a framework applied by Quelch and Ash (1979) to the field of preventive health care, Figure 2 identifies three types of interventions which rely on different forms of leverage:

Mandatory Leverage: Standards can be established for product design and building codes can be written to cover equipment design and installation procedures. Mandatory interventions are most likely to be implemented when voluntary approaches have failed to achieve desired levels of compliance.

Financial Leverage: Taxes, subsidies, and prices can be manipulated to offer financial incentives or disincentives to consumers and organizations.

Message Leverage: The consumer's motivation to respond is principally the perceived relevance of the message and the perceived credibility of the source. Neither legal sanction nor direct financial loss is likely to result from non-compliance with the recommended behavior.

It should be noted that interventions are classified in the typology according to the principal (rather than exclusive) type of leverage employed. For example product standards are classified under mandatory leverage, but financial penalties may be imposed in the event of infractions and informative messages may be required to announce the existence of the standards and associated penalties. The three categories of leverage may be viewed as a continuum of increasingly potent and multifaceted interventions. Mandatory interventions often include a financial component and a message component. Interventions relying principally on financial leverage frequently embody a message component. Interventions which depend upon message leverage rely on persuasion alone rather than on explicit financial or legal incentives.

FIGURE 2

PRELIMINARY TYPOLOGY OF POLICY INTERVENTIONS

In addressing any energy conservation objectives, it is likely that allocation of resources among a mix of intervention approaches will prove more cost effective than allocation of all available resources to the single best intervention approach. This is especially so when different segments of the target population are more or less responsive to different types of leverage. For example, the responsiveness of builders may differ from that of consumers.

The survey of Canadian builders indicated strong support among respondents for government intervention and expenditures to encourage energy conservation. In addition, respondents indicated that principal responsibility for reducing the residential energy consumption of the three categories of equipment addressed in this study should rest with equipment manufacturers, consumers, and government agencies in that order. With these three groups excepted, it is noteworthy that the builder respondents were willing to allocate a greater level of responsibility to themselves than to any of nine other groups (Quelch, 1979).

Respondents also rank ordered nine policy interventions which the Canadian Federal Government might take to promote conservation according to the level of energy savings which they were likely to generate if implemented. As indicated in Table 2, the set of interventions included some relying principally on message leverage, financial leverage, and mandatory leverage. Reflecting the builders' conclusion that equipment manufacturers should assume principal responsibility for reducing the energy consumption of their products, raising energy efficiency performance standards for new equipment was regarded by respondents as the intervention likely to generate the largest energy savings. In aggregate, respondents appeared to favor a mix of approaches rather than reliance on any one type of public policy intervention. The three most highly supported options included interventions relying on mandatory leverage (performance standards), financial leverage (tax credits), and message leverage (information programs). Small builders ranked tax credits significantly lower than large builders, hut ranked energy usage disclosures and labeling significantly higher.

It must be emphasized that the relative support among builders for the various policy options should not be used as an exclusive basis for deciding which option(s) to adopt. Although the favorable disposition of builders is likely to assist the implementation of any intervention approach, it does not in itself guarantee success. Moreover, the opinions of all groups in the channel of distribution for a particular product category are relevant to the policymaking process.

TABLE 2

MEAN RANKINGS OF GOVERNMENT ACTIONS TO REDUCE RESIDENTIAL ENERGY USING EQUIPMENT CONSUMPTION BY SIZE OF RESPONDENTS' FIRMS

EVALUATION OF POLICY OPTIONS

In this section, interventions based upon the three types of leverage already discussed are qualitatively assessed in terms of their relative ability to promote the more frequent specification of energy efficient models in imposed choice purchases.

Message Leverage

Two types of information delivery programs are available to policymakers interested in stimulating imposed choice purchases of more energy efficient equipment. General information programs are usually overtly persuasive in nature, while brand specific information programs are intended to provide consumers with objective information regarding the performance of alternative brands on specific attribute dimensions (such as energy consumption) of interest to the policymaker. These two types of program are mutually reinforcing rather than mutually exclusive. Without general precepts, consumers are unlikely to be either able or motivated to use brand specific information. And general precepts are of little value if brand specific information is not available to permit them to be applied to purchase decision making. The impact on consumers of general information programs has been reviewed by Crossley (1979), while a study of energy labeling in the U.S. has been reported by McNeill and Wilkie (1979).

To convince one builder to emphasize energy performance in the many equipment selection decisions for which he is responsible can potentially result in much greater energy savings than can be achieved by convincing a single consumer to do the same thing. However, given the number of decisions facing the builder in the construction of a new dwelling, and given the simplicity of purchasing on a price basis, it seems unlikely that the time sensitive builder will change a tried and tested purchasing pattern in response to an information campaign alone. In the final analysis, if the builder cannot expect incremental profit from investing more time in the purchase decision making process through additional information acquisition, no information program can be expected to have a significant impact.

In the area of general information programs directed at builders, it is recommended that public policymakers take action in cooperation with relevant builder trade associations to maximize source credibility, to insure effective information delivery, and to insure consistency of the information communicated to builders from different sources. In addition, policymakers should recognize that there may be actions other than the purchase of energy efficient equipment which builders might take when designing and constructing new residential housing offering potentially greater energy savings. Information regarding the energy performance of equipment options should, therefore, be incorporated into a broader information program dealing with ail aspects of housing design and construction related to energy conservation.

In the area of brand specific information programs, the Canadian Federal Government has recently introduced its ENERGUIDE energy performance labeling program for household appliances (Hirshhorn, 1978). Given the advance planning and level of involvement which major appliance purchases frequently involve, consumers may be expected to use the labels to facilitate brand comparisons. However, a labeling program would be unlikely to have a similar direct impact on builder purchases. Commonly, builders do not see the equipment which they buy prior to purchase. Given that consumer purchases account for a lower percentage of total sales in the case of furnaces and water heaters than in the case of major appliances, extension of the labeling programs to include these two equipment categories might yield little impact.

There are, nevertheless, several arguments in favor of an energy performance labeling program. First, to the extent that the salience of energy efficiency as a purchase criterion is increased among consumers as a result of energy labeling, market pressures may prompt builders to consider energy efficiency as well as price in their purchase decision making. Second, a labeling program would require manufacturers to develop (in accordance with standardized test procedures) brand-specific energy performance information of the type necessary for any tax credit or graduated sales tax program. In other words, brand specific energy performance information is a necessary prerequisite for the effective implementation of a wide range of other policy interventions. As a result, the incremental cost of a labeling program implemented in conjunction with other policy interventions is unlikely to be as great as if such a program is implemented in isolation. Third, an energy performance labeling program may be expected to prompt equipment manufacturers to closely scrutinize the energy performance of their existing models. Labeling would probably accelerate the introduction and aid the marketing of more energy efficient models. And greater variation in the energy performance of models on the market might well prompt more consumers to use labeling information in the purchase process.

Financial Leverage

Despite the interest expressed by builders in a tax credit program, the use of financial incentives and disincentives to influence imposed choice purchases presents several problems. First, the costs to the builder of energy using equipment installed in a new dwelling are about five percent of total construction costs. Any tax credits are likely to be too small to persuade the builder to devote additional time to the decision making process. It is true that an additional incentive might exist if the builder believed that he could pass on to a home buyer any incremental costs associated with the purchase of more energy efficient equipment as well as gain the tax credit. However, to achieve an adequate incentive, it might be necessary to set the tax credit at a level above the value of the energy savings achieved through the specification of a more energy efficient equipment option.

Second, there is no clear relationship within a particular product category between the energy efficiency of equipment options and their prices. Any tax credit would have to be related to each model's energy performance rating rather than to the retail price. The builder, accustomed to purchasing on a price basis, might find this approach more complex and, therefore, less appealing.

Third, a tax credit might encourage manufacturers to price their energy efficient models higher than would otherwise be the case because, if adopted, the tax credit could reduce the builder's price sensitivity. Fourth, a tax credit program would probably have to be available to consumers as well as to builders, otherwise some builders might attempt to establish themselves as unofficial intermediaries between manufacturers and end consumers interested in buying energy efficient models. Administrative costs of the program would increase greatly if it were applicable to consumers as well as to builders. Finally, in order for any tax credit scheme to be implemented, brand specific information of the type required for an energy labeling program would have to first be generated.

Tax credits have been used with some success as incentives to consumers to purchase insulation. However, in this case, the objective has been to persuade consumers to purchase the product--a less complex objective than to persuade builders to identify and then to purchase a more energy efficient brand within a product category as would be the objective in the case of the imposed choice equipment purchases discussed here.

Like a tax credit program, a graduated sales tax related to energy performance focuses on the price variable to which builders are particularly sensitive in their decision making processes. Unlike the tax credit program, the sales tax does not depend to the same extent for its effectiveness upon the willingness of builders to commit time and effort to information acquisition. Otherwise, the implementation problems associated with these two policy options are similar. However, as indicated in Table 2, builders react much more positively to the tax credit concept than to the sales tax. A builder may choose whether or not he participates in a tax credit program. And such a program may be perceived by the builder as offering an incremental financial advantage if he adopts the suggested behavior pattern. On the other hand, a graduated sales tax promises no incremental financial advantage. The builder must simply search for the least worst product option, given that all models within a particular product category will be subject to a greater or lesser tax.

Mandatory Leverage

In Canada, standards for the design, performance, and installation of energy using equipment are set primarily by the Canadian Standards Association in voluntary cooperation with manufacturers, builders, and other interested parties. These standards may be incorporated in the National Building Code which serves as a guide for the provincial and local building codes to which builders must adhere when constructing new housing. Unlike the tax credit and sales tax programs already discussed, manufacturers and builders are already familiar with standards and codes, and with the established procedures through which they are revised and upgraded.

Manufacturers support the concept of voluntary standards because they provide an industrywide assurance of quality and lessen seller liability (Hemenway, 1975). To a degree, they discourage product innovation and differentiation and, therefore, stimulate price competition. And companies operating on tight margins in mature product categories have limited funds available for new product development. The existence of minimum performance standards has not, however, deterred major equipment manufacturers from introducing energy efficient models. The standards setting process could respond to such developments in the interests of conservation in three ways. First, the safety and performance of such models could be reviewed more expeditiously so as not to deter such new product introductions. Second, supplementary seals of approval could be developed conveniently indicating that certain models operate at a certain level of energy efficiency over and above the minimum performance standard. Third, minimum performance standards could be periodically reviewed and upgraded, but not so rapidly that manufacturers of the more energy efficient models are not allowed sufficient time to profit from their product differentiation efforts, and not so rapidly that smaller manufacturers are forced out of business by the investment costs of retooling. Like manufacturers, builders are generally supportive of product standards and building codes. The builder who constructs a dwelling in accordance with the building codes is protecting himself and the reputation of his industry as well as the prospective purchaser. Furthermore, construction in accordance with the code minimizes the number of decisions the builder has to make. At present, builders appear unwilling to install more energy efficient equipment in new housing units built on speculation because of uncertainty as to whether prospective purchasers will be willing to absorb the incremental cost of such equipment in higher home prices. Thus, it is expected that the imposed choice builder segment of the market will lag the end consumer retail segment in the adoption of more energy efficient equipment. The advantage of upgrading product standards in the area of energy performance is that a simultaneous adoption of more efficient equipment must necessarily occur in both segments.

Builders are unlikely to oppose revisions to the building codes requiring them to install more energy efficient models. Since all builders would have to comply with the revised code, no one builder would be placed at a competitive disadvantage. Within the parameters stipulated in the revised code, builders could continue to purchase their equipment for preinstallation on the simple price basis which they currently use. And they would not be obliged to spend time obtaining information on how to compare the energy efficiencies of different models within an equipment category in order to make a contribution towards energy conservation. The only cost to the builder involved in an upgrading of standards is any additional carrying cost between the time of purchase of the higher priced more energy efficient equipment and the sale of the house.

CONCLUSION

On the basis of this preliminary analysis, it appears that policymakers can most effectively stimulate builders to purchase more energy efficient equipment through developing equipment performance standards which place a greater emphasis on energy efficiency; insuring that such standards are rapidly incorporated into building codes; and requiring that the equipment installed by builders in all new publicly financed housing meets these upgraded standards. The complexities involved in implementing tax credit and sales tax programs suggest that financial leverage might not be as effective. The likely impact of information programs directed at builders is also questionable. However, information programs targeted at consumers, including energy performance labeling, could indirectly influence the imposed choice purchases of builders. If consumers become more sensitive to the energy consumption of furnaces, water heaters, and appliances, they may increasingly question builders on the energy efficiency of installed equipment when purchasing new homes and treat the quality of this equipment as an indicator of the overall quality of the dwelling. As a result, some builders may be prompted to install the energy efficient models in order to differentiate their new homes and gain a competitive advantage.

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