Raising Retail Taxes on Oil is a Bad Idea

An article by Thomas Friedman in the NY Times today calls for the US government to raise retail taxes on oil. In the past I have discussed why imposing European oil tax regimes in the US is not appropriate.

Even if such a tax could be imposed in the US, Mr. Friedman suggests paying down deficits and funding other non-transportation goals. This would be a bad idea. To avoid negative externalities to the economy, any money raised should be spent improving mass transit, freight rail, and shipping. Otherwise it would be a hugely negative tax on trade and commerce.

There needs to be a US solution which meets the particular challenges of US transportation patterns. and which is politically tenable.  Such a a politically acceptable solution could be a Vehicle Efficiency Market.

Hey Mister, Spare US$2,240 a Year?

Gasoline prices in the US are around US$2.60 per gallon this week. The American Petroleum Institute (API) mentioned today that proposed US climate change legislation would add 77cents per gallon onto US oil prices. A rough calculation converts this to around US$2,240 out of pocket per US household per year. Gross this number up to pre-tax income and it becomes a whopping big number.

Repeal or Amend the US Gas Guzzler Tax

The US gas guzzler tax was created in the Energy Tax Act of 1978 and designed to discourage the purchase of inefficient vehicles. It had precisely the opposite effect.

The tax is paid by a vehicle buyer at the point of purchase. The tax is posted on the same window sticker as the EPA MPG rating at a new vehicle dealership. The gas guzzler tax only applies to cars. As SUVs and light trucks are not affected, the tax has created a major incentive since 1978 to purchase heavy vehicles. Light truck and SUV sales have gone from around 20% of total non-commercial vehicles sold in the US in 1978 to around 50% today (other factors have also played a part, but these have not been government related).

Gas guzzler taxes apply to cars that get less than 22.5MPG, with taxes beginning at $1,000 and increasing to $7,700 for cars which get 12.5MPG or less.

Want to immediately improve the incentive to become more efficient?  Amend the gas guzzler tax to eliminate the exemption for non-commercial light trucks and SUVs or repeal the law entirely and replace with a novel solution like a Vehicle Efficiency Market.

(Oil market environmental regulations are described in Oil 101)

Why Europeans Pay Higher Gasoline Taxes

(chart: population density)

There are fundamental differences between Europe and the US that make the European gasoline and diesel retail tax model unsuitable to the US.

First, there are major differences in population density. High European population density and the clumping of European populations makes public transportation a convenient alternative. US population density is much less than a third that of France, Germany, Italy and the UK. The less dense US population is also less clumped. Thus, public transportation is not an option for a large portion of the the US population.

Second, North America’s geography dictates far different commercial transportation patterns. The EU has seven times more coastline for its landmass than the US. European commercial seaports are in close proximity to consumer centers and less road trucking is required. In the U.S., two large coastlines require commercial oil powered trucking to haul goods inland.

Third, car ownership is spread more widely across the wealth spectrum in the US compared to Europe. Higher gasoline taxes would therefore impact a much larger portion of the US electorate versus Europe.

Given these fundamental differences, European governments have had an easier time implimenting high retail taxes on gasoline compared with US governments.

The US should look for solutions appropriate to US circumstances, rather than adopting ill-fitting models. The US could instead use a simple Vehicle Efficiency Market rather than a retail gasoline or diesel tax to increase efficiency.

Vehicle Efficiency Market

(above: Morgan Downey. This vehicle is a little extreme but shows what is possible.)

Oil consumption efficiency in the US is currently tied to oil price cycles and low retail taxes on oil. Following is a simple idea for improving the efficiency of the US vehicle fleet independent of oil prices and without increasing gasoline/diesel taxes. The evidence is clear that increases in gasoline/diesel taxes have not been and are not politically tenable in the US.

Summary
A Vehicle Efficiency Market (VEM) involves subsidizing efficient cars with money raised directly at the point of purchase from buyers of inefficient cars. The efficiency of a car relative to the rest of fleet sales would be determined by a monthly miles per gallon (MPG) assessment of new vehicles sold. The monthly MPG balancing point would be posted on the internet and at all new car dealer showrooms along with a schedule of credits or levies. Consumers would pay or receive a cash amount depending on whether the vehicle purchased was under or over the average miles-per-gallon (MPG) balancing point for the prior month. The further a vehicle is from the average MPG, the higher the cash payment or credit.

Taxpayers nationwide would not have to pay any additional taxes. There would merely be a simple direct cash transfer from those who are inefficient to those who are efficient. There would be a constant incentive for consumers to purchase more efficient vehicles, even when oil prices are low.

A portion of the revenue raised from buyers of inefficient cars would go toward improving public mass transportation. This would ensure that buyers of efficient cars wouldn't simply use all their savings to buy more oil and drive more miles by living further from their place of work.

More Details
Any vehicle in the plan would have to meet US safety and emission standards. The VEM would be structured such that the cash paid to those buying an efficient vehicle maxes out at a certain dollar level (e.g. $3,500). The goal of a VEM is to move the average MPG of vehicles (meeting US emissions and safety standards) steadily higher - not to provide incentives for anyone to buy any more vehicles than if the VEM didn't exist.

Non-commercial vehicles would be placed in simple classes depending on how many passengers the vehicles are designed to carry safely. Commercial vehicle classes would depend on cargo weight capacity.

The MPG balancing point would move higher each month with an equal sum of money paid (by those below the balancing point) and received (by those above the balancing point). The further the vehicle is away from the balancing point the more paid or received. The VEM payouts/receipts would not be linear (see example table below). A simple schedule posted on the internet and at car dealers would outline the amounts. It may look something like this if the monthly assessment found the balancing point assessment for the prior month to be 25MPG, for example:

How is the VEM different from current US CAFE standards?

US CAFE standards have been a rubber stamping of existing efficiency capabilities rather than incentivizing efficiency. Since 1983, US$735million has been levied against auto makers via CAFE. No US or Asian auto maker has ever been fined via CAFE. Almost all the CAFE fines have been paid by European luxury auto makers (Porsche, Mercedes etc) which account for only 8% of vehicles sold in the US.

The US Energy Independence and Security Act of 2007 set an ultimate CAFE goal of 35MPG by 2020 (current US CAFE standard is 27.5MPG for cars and 22.2MPG for SUVs). On May 19, 2009, the Obama Administration announced a requirement for 2016 passenger cars to average 39mpg and 30mpg for SUVs. This is not aggressive enough. The European Union efficiency goal, by comparison, is 47MPG for new vehicles by 2012 - and this doesn't require any technological discoveries. US CAFE standards don't even bring the US to today's (2009) European vehicle efficiency level. It is unlikely any US administration will have the guts to call for for more stringent measures. Whereas, by putting a price directly on efficiency via a Vehicle Efficiency Market, the Administration can stand back and allow the public to push efficiency very aggressively.

[The oil drum (thanks Gail) kindly allowed me to post the VEM idea on March 27, 2009.]