Fuel economy standards in a model of automobile quality

In this paper, car manufacturers' choice of model line is interpreted as qu ality provision by discriminating firms. Existing models of self-selecting consumers and discriminating production are modified and interpreted to app ly to the trade-off between quality of automobiles and their fuel efficienc y. It is shown that the effects of a constraint representing legislation re garding automobile fleet fuel averaging [referred to as corporate average f uel economy (CAFE)] are not invariant to the strategies available to car ma nufacturers in choosing the optimal model line. When firms are unable to pe rfectly discriminate, the optimal adjustment entails firms relying more hea vily on improving the fuel economy of small cars rather than that of the mo re profitable large cars as compared to the case of perfect discrimination or perfect competition. This allows several implications to be drawn when o ur results are discussed in conjunction with recent empirical evidence rega rding the effects of CAFE on pollution abatement, safety as well as CAFE's relation to the alternative of taxation. (C) 1999 Elsevier Science B.V. All rights reserved. JEL classification: R40.