**_Energy demand models for policy_** **_<u>formulation</u>_**

# **Box 4: Rationale for traditional energy use in developing countries**

Any energy use involves costs and resource allocation problems. Both traditional energies (TE)<sup>4</sup> which play a crucial role in the energy profile of the poor, and modern energies impose private and social costs. The private cost may be in monetary terms or in terms of time spent by the family members to collect the TEs. For collected TEs, the problem of valuation of the cost arises and the collected fuel is considered as free fuel by many, even perhaps by the poor themselves, as no monetary transactions are involved. However, depending on the quantity of collected fuel, its source and the type of labor used in the collection process, the private cost and social cost can be substantial. The social cost arises due to externalities arising from pollution and other socioeconomic problems related to particular forms of energy use.

The entire decision-making process for use of any modern energy form (electricity, kerosene or LPG, or renewable energies) as opposed to any other form of traditional energies revolves around monetary transactions. Any commercial energy requires monetary exchanges and the decision to switch to commercial energies can be considered a three-stage decision-making process. First, the household has to decide whether to switch or not (i.e. switching decision). Second, it decides about the types of appliances to be used (i.e. appliance selection decision). In the third stage, consumption decision is made by deciding the usage pattern of each appliance (i.e. consumption decision).

While the costs do not always lend themselves to monetary-based accounting, the switching decision is largely determined by monetary factors: the amount and regularity of money income, alternative uses of money and willingness to spend part of the income to consume commercial energies as opposed to allocating the money to other competing needs. Appliance selection is affected by similar factors: cost of appliance, the monetary income variables described above and the availability of financing for appliance purchases through formal and informal credit markets. Finally, the consumption decision depends on, among others, family size, activities of the family members, availability of appliances and family income.

This framework of three-stage decision-making helps in analyzing the problem in a logical manner. The poor normally lack regular money income flows due to unemployment or partemployment, both of which sometimes produce in-kind payments as compensation. Moreover, they often participate in informal sector activities, where barter rather than monetized transactions prevail. It is rational for any household or individual to focus on private monetary costs rather than social and/or non-monetized costs due to the inherent subjectivity and complexity of the valuation problem. Moreover, any modern energy has to compete with other goods and services (including saving for the future) procured by the household for an allocation of monetary resources. Given above characteristics and constraints, it is quite logical for the poor to have a natural preference for the fuel that involves no or minimum money transactions. Reliance on firewood and other traditional energies used for cooking, which constitute the major source of energy demand by the poor, can be explained using this logic.

Source: Bhattacharyya (2006).

> 4 We use the term ‘traditional energies’ to ‘non-commercial energies’ to avoid any confusion arising out of monetisation or commercialisation of some of such fuels.

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