An analysis of the impact of Flex-Fuel vehicles on fuel consumption in Brazil, applying Cointegration and the Kalman Filter

The aim of this article is to analyze the impact of Flex-Fuel technology on the consumption of fuels in Brazil. Applying the methodology suggested by Hall (1993), combining an Error Correction Model (ECM) with the Kalman Filter (KF), we studied the influence of the relative prices of Hydrous Ethanol and Gasoline C on the consumption of these fuels. We analyzed structural breaks in the time series and the evolution of parameters over periods of time. We found that the introduction of Flex-Fuel technology into the Brazilian fleet of light passenger and cargo vehicles had a significant impact on the pattern of demand for fuel in the country. In particular, we noted the following: (i) the existence of a structural break in the time series of demand for Hydrous Ethanol and Gasoline C; (ii) the marked effect of situations in which there was a reduction in the availability of Hydrous Ethanol for the fuel market; (iii) the increasing importance, in terms of demand, of the ‘Ethanol-Gasoline C relative price’ variable. We concluded that all these factors are due to the technological advance in Flex-Fuel vehicles, which enables consumers to choose between Ethanol and Gasoline C when refueling vehicles – the decision for most vehicle drivers being essentially based on cost-benefit considerations. We consider the findings relevant given that several economic and climatic factors indicate that there is a strong likelihood of long term variation in the relative price of Ethanol and Gasoline C in Brazil. Government and key players in the energy field will consequently need to adopt a clear strategy, based on reliable data, in order to deal with fluctuating supply and demand for both fuels. Furthermore, the methodology used in this study and the findings obtained are relevant to future studies into the likely impact of future technological and economic developments in the Brazilian fuel market, such as the introduction of electric vehicles.