By Ananya Vashishth | Spring 2026 – Volume 16

Introduction

On any given morning in Delhi, Mumbai, or Bengaluru,
a decades-old scooter may idle beside a brand-new SUV
at a traffic light. The contrast reflects more than
consumer preference. In India, vehicles are not merely
goods- they are long-term investments, livelihood tools,
and often the most valuable asset a household owns.

According to the Ministry of Environment, Forest and
Climate Change, over 21 million vehicles in India are
more than twenty years old (ET Auto, 2023). These
end-of-life vehicles (ELVs) are significantly more
polluting, less fuel-efficient, and more prone to
mechanical failure than newer models. They contribute
disproportionately to urban air pollution, greenhouse
gas emissions, and road safety risks (Singam et al., 2024;
Sengupta & Mandal, n.d.). Yet they remain on the roadlargely
because replacing them is costly.

In response, the Government of India introduced the
Registered Vehicle Scrappage Facility (RVSF) policy in
2021 (Parivahan, 2021). By mandating fitness testing,
imposing Green Taxes on older vehicles, and offering
scrappage incentives, the policy seeks to reduce the
negative externalities associated with ELV consumption
(Reddy, 2024). While the economic logic appears clear,
the policy’s real-world effectiveness mainly depends on
whether vehicle owners can afford to respond to its
incentives.

ELVs and the Logic of Externalities

A market failure occurs in this case, since there is a lack
of allocative efficiency in the ELV market, particularly
through overconsumption. Allocative efficiency is
achieved when Marginal Social Benefit (MSB) equals
Marginal Social Cost (MSC), social surplus is at its
maximum, and no stakeholder is better off in the
economy. Marginal Social benefit is the benefit to
society from consuming an additional unit of a good,
while Marginal social cost is the cost incurred to society
upon producing an additional unit of good. This is not
fulfilled in the case of Karnataka’s Vehicle Market, as
there is an existence of an external cost.

The utility a consumer gains upon consuming an
additional unit of an ELV is known as Marginal private
benefit (MPB), and the cost the producer experiences
upon producing an additional unit of an ELV is known
as marginal private cost (MPC).

At free market equilibrium, without any government
intervention, the market operates at quantity Qe (8
million ELVs) and price. This is where MSC=MPB. At
this point, consumers are only maximizing their utility.
The optimum equilibrium quantity in the market would
be Qopt, where MSC equals MSB. If the consumers of
ELVs considered the external cost generated by the
consumption of them, it would result in the socially
optimum quantity consumed. Qe is less than Qopt,
mirroring an overconsumption of old vehicles in the
market. The welfare loss on the diagram depicts the loss
to society in the form of external costs discussed above.
This welfare loss in the free market requires government
intervention to bring the quantity of ELVs consumed
closer to the optimum level.

The RVSF policy includes a specific green tax on bikes,
cars, and medium and large goods vehicles. This can be
considered as a Pigouvian tax, as it is imposed on ELV-a
demerit good-where the tax imposed internalizes the
externalities of consumption of ELVs, and aims to fix the
market failure of negative externality of consumption.
The tax imposed per unit on the Hindustan Ambassador,
a model older than fifteen years old, is Rs. 4500, and its
base price is Rs. 4.21 lakh. (Kulkarni & DHNS, 2022).
The free market equilibrium is at MPB=MSC, with the
quantity and price as Qe and Pe(Rs. 4.21 lakh). There is a
clear existence of market failure in the Hindustan
Ambassador market, since MSC is not equal to MSB,
social surplus not at its maximum, and there is an
overproduction of Hindustan Ambassadors since Qe is
greater than Qopt. This can be seen through the welfare
loss generated on the diagram,
depicting the loss to society as a
result of market failure.

This non-optimal allocation of resources is aimed to
be fixed by the specific green tax imposed on vehicles.
This green tax increases the cost of production for the
producers of Hindustan Ambassadors, which shifts the
supply to the left as it is a non-price factor of supply.
This reduced supply causes a consequent decrease in
quantity produced to Q1, and increase in price to P1.
This brings the quantity produced closer to optimum,
reducing the welfare loss (as shown on the diagram) and
reducing the negative externality of consumption.

When Environmental Policy Meets Income Inequality

India’s vehicle market is influenced by significant income
inequality, and this directly affects how the scrappage
policy operates in practice. Many ELVs are owned by
small transport operators and informal-sector workers,
for whom a vehicle is not a consumption good but a
source of income (Reddy, 2024). These vehicles are often
used for 7-10 years or more across different use cycles, as
owners try to extract as much value as possible from an
already-paid asset.

The scale of the issue is also substantial-India had
around 10 million ELVs in 2020, projected to rise to
nearly 50 million by 2030 (ET Auto, 2023). Against this
backdrop, scrappage incentives-typically 4-6% of a new
vehicle’s price-only marginally reduce replacement costs
(ClearTax, 2019). The binding constraint remains the
upfront cost of a new vehicle, especially given uneven
access to credit.

This leads to uneven responsiveness. For higherincome
households, the policy may act as a
straightforward incentive to upgrade. For lower-income
owners, however, it can impose a financial strain. In this
sense, liquidity constraints do not just slow adjustment,
they limit it altogether. As a result, while the RVSF policy
may move consumption closer to the social optimum in
theory, its impact is likely constrained in practice, with a
huge part of the externality remaining uncorrected.

Behavioral Responses and Partial Adjustment

In practice, responses to the policy are uneven and often
incomplete. When compliance is costly, many owners
delay or avoid it, which is reflected in outcomes: less than
3% of eligible vehicles were scrapped through formal
facilities between 2022 and 2025 (The Times of India,
2024). At the same time, a large majority of ELVs
continue to be processed in the informal sector, where
regulation is weaker and payouts are often highersometimes
by ₹15,000-₹20,000 compared to registered
facilities (Xynteo, 2025; Reddy, 2024).

These decisions reflect more than simple price
comparisons. A fully paid-off vehicle, even if inefficient,
is predictable and low-risk. Replacing it requires taking
on debt and accepting depreciation, which many
households are unwilling or unable to do. For commercial
operators, even short periods of downtime can reduce
income, further discouraging compliance.

As a result, the reduction in ELV usage is likely smaller
than standard models would predict. The negative
externality framework assumes relatively responsive
behavior, but in this case, responses are constrained by
income and risk. While the diagram predicts that raising
private costs will shift consumption toward the socially
optimal level, it assumes that consumers are both willing
and able to respond to price signals. In the case of ELV
owners, however, liquidity constraints and income
uncertainty limit this responsiveness, meaning the welfare
gain is likely to be only partially realized in practice,
rather than fully correcting the market failure.

Policy Recommendations

To close the gap between the policy’s intended welfare
gains and what happens in practice, the RVSF needs to
better reflect the financial constraints faced by lowincome
vehicle owners. One way to do this is by
introducing targeted credit support, such as low interest
“bridge loans” or credit guarantees, so that people who
want to replace their vehicles aren’t blocked simply
because they lack upfront cash. At the same time, the
inherently “lumpy” cost of buying a new vehicle could be
eased by expanding scrappage incentives to include
vouchers for high-quality used vehicles (like BS-VI
compliant models), rather than limiting them to brandnew
purchases. This would give owners a more realistic
transition option. Finally, if the policy is to compete with
the informal sector- which still handles a large majority of
ELVs- registered facilities need to offer payouts that are
closer to market value. Without this, there’s little incentive
to switch. Overall, shifting the policy focus from purely
price signals to addressing liquidity constraints would
make it more effective, while also avoiding undue pressure
on lower-income group.

Conclusion

The RVSF policy is, at its core, economically rational. It
targets a clear negative externality and attempts to bring
private costs closer to social costs, while also formalizing
scrappage processes and signaling a broader shift toward
cleaner mobility. Yet, economic rationality does not
necessarily translate into economic accessibility.

If those most likely to own end-of-life vehicles are also
those least able to replace them, then the effectiveness of
price-based correction is inherently limited. While the
policy may reduce ELV usage, it is unlikely to do so to the
extent predicted by theory, and may instead place
disproportionate pressure on lower-income vehicle
owners. In this sense, the adjustment it generates is not
only incomplete, but uneven.

The issue, therefore, is not whether scrappage can work,
but whether it can work inclusively. A policy that does not
account for income constraints risks addressing the
externality in principle while limiting its impact in
practice. In a country as economically diverse as India, a
policy that is efficient in theory but inaccessible in
practice risks delivering neither environmental nor social
gains. That distinction is not just technical- it is
fundamental to whether the policy succeeds at all.

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