Monday, July 14, 2008

Why Gasoline Taxes Are Charged Per Gallon

The reliably pro-tax Standard Examiner Editorial Board is at it again. Yesterday they whined about Utah’s gasoline tax revenues coming in 1.4 percent below the estimates of central planners. Revenues have increased only 3 percent instead of 4.4 percent. That 1.4 percent difference comes out to a shortfall of about $11 million.

Here’s how it works. Unlike standard sales taxes, gasoline taxes are levied per gallon rather than as a percentage of price. When gas prices go up, people tend to use less gas. With fewer gallons sold — or in this case, more gallons sold, but fewer than government analysts expected — less tax revenue comes in.

To the St-Ex Editors, this seems to be a crisis. The only options, they moan, are to make up the difference from somewhere else in the budget, “cut back on … road building and repairing,” or “raise fuel taxes.”

Welcome to a tiny taste of the real world of revenue volatility that private businesses live in every day. When costs increase, businesses must either increase prices, try to charge the same price for less product/service (like marketing ice cream in 1.75- instead of half-gallon containers), find ways to cut costs, or accept reduced profits. Unlike most taxpayers, the customers of these businesses are free to walk away from any deal they don’t like.

The St-Ex Editors are usually in favor of whatever tax scheme sticks it to the taxpayers the most. But overall, these writers not very good at understanding economics or finances. There is a reason that gas taxes are levied per gallon rather than by price.

Gasoline taxes are like a use tax for roads. In general, the more gas you use, the more wear and tear you exact upon the roads. So it makes sense to charge by volume. When the cost of road building and maintenance increases, politicians are left having to cut back on projects or else increase taxes to make up for it. This gets debated as a public policy issue rather than simply slipped in secretly.

While oil (and gasoline) prices are currently at an all-time high (and increasing with no end in sight), boom and bust cycles are a basic characteristic of the industry. Let’s look at what it would be like if gasoline taxes were charged as a percentage of sales price.

For starters, the whole process would become more political. Can you imagine the hue and cry from the taxpaying public and consumer advocates about the government gouging and rolling in record gas tax revenues at a time when consumers are hurting the most? We’d already have had a special legislative session to grant relief. Utah would have something like its own summertime gas tax holiday.

But the real problem is that the volatility of gasoline prices would make gas tax revenues far less predictable than they are at present. Road projects can’t just be started and stopped willy-nilly, except for emergency maintenance. It takes time and planning. Road projects are planned and scheduled over years, not days or weeks.

Last year when gas went from $3.15/gallon to $2.25/gallon over the space of a few weeks, gasoline sales increased by less than five percent. That would hardly have compensated for what would have amounted to a 29 percent per-gallon tax revenue decrease. I wonder what kind of inflammatory lines the St-Ex Editors would have been dropping in that case. This example makes our current 1.4 percent revenue difference look pretty benign.

To be sure, politicians and state planners have a problematic issue on their hands. People don’t want to live with poorly maintained and inadequate roads. But advocating a tax increase in an election year when voters are hurting from record gasoline inflation would prove unpopular, to say the least.

Of course, the legislative session occurs after the election during the months when gasoline is at its traditional seasonal low price, so increased gas taxes could be a possibility in 2009. I wonder if any politician will seriously consider alternatives such as targeted private initiatives or congestion pricing.

The St-Ex Editors did not come right out and say that gas taxes should be tied to price instead of volume, but that position is consistent with other statements they have made. I believe it’s clear that such a policy would work poorly in reality.

What the St-Ex Editors did say in this piece is that voters should ask politicians running for state level offices in Utah to explain how they plan to address the issue of road funding. Unlike some of these editors’ past suggestions on public finances, that is good advice.


Jesse Harris said...

We should be taking a harder look at gas taxes. Because they aren't adjusted for inflation, the buying power of the 24.5 cents per gallon has been steadily decreasing even as construction costs have increased sharply. General increases in fuel efficiency also means less revenue per mile driven. It certainly puts transportation planners in a tight spot from a revenue perspective as demand continues to climb.

It'll take a lot more than a sack full of money. Ideas like congestion pricing and tolling hold merit as components of the solution (though proponents tend to think of them as solutions in and of themselves). We should also be looking at 4-day workweeks, staggered starting times and telecommuting as ways to spread and reduce the demand for highway capacity. Our current policy of attempting to sate demand without also making a best effort to reduce it is a losing strategy.

Scott Hinrichs said...

Good points, Jesse. We need a broad mix of solutions to address the issue. No single approach will do it.

Charles D said...

Perhaps the idea of tying gasoline tax revenue to road construction and maintenance is the problem. Building more roads increases reliance on automobiles which increases gasoline use which increases tax revenues used to build more roads,etc.

If automobile use and gas consumption could be minimized in areas where it is not the only option (mostly in urban areas), then those who must rely on auto and truck transport could benefit from the price reductions caused by lower demand. Of course, that would mean a tax revenue decrease making less money available for alternative transportation, and the spiral reverses.

As you say, it will require a broad mix of solutions.