The government may choose to subsidy for customers the difference in cost (fully or partially). Subsidy basically shifts the demand curve upwards. A partial or zero subsidy would result in likely drop in sales of cars (to somewhere between Q1 and Q0) and it may be expected that less people would drive a car after the transition than before. Figure: Automobile market in Iceland (medium run) Price of cars before and after the transition.
To maintain the number of vehicles in the economy after the transition, different approaches can be employed to push demand curve up (or supply curve back down) Cars as a utility product usually see relatively low price elasticity (usually between 0. 8-1. 3). In Iceland with relatively large number of cars and high proportion of luxury vehicles, the higher boundary may well apply. The rise in transportation cost may show effect in general price levels throughout the economy and thus buying power of people.
As well, it will affect demand for substitute products where higher absolute cross elasticity, such as risen demand for public transport service. The relative proportion of car classes will likely change as well, with luxury cars demand substituted partially by demand for cars of lower classes (as complimentary product of inferior character). On the other hand, consumers would be motivated to buy new vehicles if their operation was more cost efficient.
Negative effects may be decreased if the country manages to maintain high economic growth throughout the transition period and secure rise in incomes. It should be the aim of the government to maintain the living standards of inhabitants over such major transition and elaborate on migration strategies eliminating the negative effects of transportation cost related (cross) elasticities (related to income, substitute products, quality of products and services consumed in economy, general demand for cars).
Figure: Anticipated number of (drivable) cars over the period of transition (2035 as the year of transition) Virtually every owner of a vehicle would need to buy a new one somewhere during the period of transition, if they choose to continue driving. Thus, an external stimulation of demand for cars will arise for a certain period. A short term upward shift of demand curve could be encouraged even more through other measures, such as a deduction of value of an old vehicle from the price of a new one.
Subsequently, these vehicles could still be resold to other countries. Demand for cars may be expected to remain stable or even rise in the short run despite the upward shift of supply curve. The transition period shall be designed over a number of years, with sub-periods when cars with old and new technology are sold simultaneously (e. g. 3 years), followed by sub-period when both types are driven but only new technology based ones are sold (e. g. another 2 years).
Eventually this will lead to a complete transition, when oil is not imported to the country and thus only new technology cars are sold and driven (date to be set to somewhere between the years 2030-2040). Figure: Anticipated proportion of cars available in the final year of transition depending on year of production At this time, likely a number of vehicles powered by traditional engines will still be in hands of some inhabitants, which will represent a minor share of vehicles from within the transportation industry and range of costs to their owners depending on their age.
In overall the government would need to apply some financing mechanisms to assist the transition process in order to eliminate negative financial impact on the car owners. A special fund accumulated over a number of years before and during the period of transition could serve this purpose. There are number of other technologies which appear as possible candidates for a major role in future transportation industry. From ammonia based fuels, rechargeable batteries powered engines, vegetable oil and methanol based technologies, to mention the most competent ones.
Iceland’s strategy is a long term one and the first steps have been made. However, strategy leading to a hydrogen economy may still turn out as a government failure if the world eventually chooses to take some other path. Energy storage in form of hydrogen relates mainly to harvesting of Iceland’s abundant and relatively cheap clean energy resources. However, the engine technologies, if not further pursued globally, may not develop in terms of extend of competition and size of market to reach the maximum efficiency in terms of production and usage of the technology.
Thus, shall the quantity produced remain relatively low in global terms (red area in figure) cost of transportation in Iceland would remain relatively expensive and inefficient also in the future. Even though Icelandic natural conditions are very attractive, many of the potential investors in the country’s future energy and transport sector must be distracted by current economic downturn and its extensive impact on Icelandic economy. However, I chose not to back away from the topic as this strategy is of a long term character, aiming at time periods more than 20 years away.
The natural conditions will still be there and economic conditions will improve. Iceland may eventually abandon or reschedule their intentions, however, similar transition, to hydrogen or other technologies, will be experienced by other countries worldwide, though, over a possibly longer period. Thus, I consider certain assumptions and conclusions made in this paper relevant and applicable also in other circumstances or to alternative technologies.