Fuel Taxes
Increasing Fuel Taxes and Fees
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TDM Encyclopedia
Victoria Transport Policy
Institute
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Updated
6 April 2008
This chapter discusses
various reasons to increase fuel taxes, ways to implement fuel tax increases,
and how fuel prices affect travel, energy consumption and pollution emissions.
Description
Fuel is the largest and most visible motor vehicle operating expense. Justifications for increasing taxes on petroleum products, particularly motor vehicle fuels, are described below.
As a Road User Fee
Vehicle
fuel taxes are often considered a user fee to fund roadway projects and
services (Brown 2001; Metschies, 2005), but in many jurisdictions, these fees fail
to cover total roadway costs, particularly if traffic services as planning and
policing are included (Transportation Costs). Although
Figure 1
Inflation-adjusted fuel taxes per vehicle-mile declined by more
than half between 1960 and 2004 in the
To Finance Transportation Programs
Fuel
taxes can be increased to help Finance transportation
programs, including alternative modes and TDM programs. Critics argue that Road Pricing is more efficient and equitable (it can more
accurately reflect the costs imposed by a particular trip) and reliable (since
increased fuel efficiency and shifts to alternative modes may reduce future
fuel tax revenues per vehicle-mile), which may be true in the long-term, but
compared with commonly-used transportation financing options, such as property
and sales taxes, fuel taxes are relatively efficient and reliable (NSTIFC,
2008).
To Encourage Energy Conservation
Energy tax increases are justified as an Energy Conservation and Emission
Reduction Strategy. Fuel tax increases are one of the most efficient and
effective ways to encourage energy efficiency and conservation (CBO, 2003).
Many experts predict fuel prices to increase and fluctuate significantly during
the 21st Century due to growing demand and declining supply (Magoon,
2000), so higher fuel taxes are justified now to increased vehicle fleet
efficiency in anticipation of future petroleum price increases, so the future economy
is less burdened by an excessively inefficient transportation system.
As a TDM Strategy
Fuel is the largest and most visible vehicle operating costs. Higher vehicle operating costs tend to reduce vehicle travel. For this reason, fuel tax increases are sometimes proposed as a way to reduce driving and increase transport system efficiency.
As A Revenue-Neutral Tax Shift
Some economists recommend increasing fuel taxes as
part of a revenue-neutral tax shift, which means increasing taxes on resources
such as fuel to fund reductions in more economically harmful taxes, such as
those on income and investments (Durning and Bauman, 1998; Carbon Tax Center). Such tax shifts can provide overall economic,
environmental and social benefits (Norland and Ninassi, 1998).
To Internalize Fuel Production And Consumption External Costs
Fuel
production and consumption impose various economic, social and environmental
costs, including environmental damages, tax subsidies, micro-economic and
security costs of petroleum imports. These are estimated to average $0.30-1.00
per gallon (ExternE, 1999; Delucchi and Murphy, 1996; UNEP, 2003; Parry and
Small, 2004; Litman, 2006; Pigou Club
www.pigouclub.com). This is
particularly important in jurisdictions where fuel prices are below production
costs or international market prices, resulting in economic subsidies of fuel
consumption and financial drains on public budgets (Metschies, 2005).
To Fund Vehicle Insurance
Some people have proposed a fuel surcharge to fund basic vehicle
insurance, called “Pay-At-The-Pump” insurance (Litman, 1997).
North American taxes are lower than those in other developed countries, as illustrated in the figure below. Most fuel taxes are calculated as cents per gallon or liter, rather than as a percentage of sales prices, so their value tends to decline with inflation unless increased regularly. In addition, vehicle fuel economy has improved significantly over the last few decades. As a result, the inflation-adjusted value of fuel taxes per vehicle-mile has declined significantly over the last few decades (FuelTrends Spreadsheet).
Figure 2 Vehicle
Fuel Retail Prices
(International Fuel Prices, 2007)
North American fuel taxes and prices are far lower than those in other developed countries.
This suggests that fuel taxes could increase significantly without reducing North American economic competitiveness. One major study comparing vehicle fuel price policies throughout the world found a wide range of fuel price policies, from significant subsidization, to moderate taxation (the largest category), to high taxation (Metschies, 2005). The report recommends setting fuel taxes to at least cover basic roadway expenditures (a minimum tax of about 10˘ per liter), or higher to fund other transport sector expenditures (including subsidies for rail and public transit services), and to contribute to general government budgets.
Fuel tax increases often face consumer, voter and industry opposition. Motorists will often drive out of their way to save a few cents per gallon in fuel prices (sometimes to the point that the extra driving consumes much of their savings). Fuel-intensive industries are often able to obtain concessions and exemptions that reduce the effects of such taxes. Some jurisdictions use low fuel taxes to compete for businesses. Some jurisdictions find it easier to increase general sales or property taxes than fuel taxes, possibly because the percentage increase seems smaller (i.e., a 1˘ per dollar in general sales tax costs consumers about the same amount as a 10˘ per gallon fuel tax, but being a smaller number it appears more acceptable to voters). This political resistance and evasion makes it difficult to increase fuel taxes, particularly in a single, small jurisdiction. Metschies (2005) recommends that fuel tax increases should be gradual and predictable, with maximum price increases of 10% at one time.
How It Is Implemented
Fuel taxes can be raised by:
· Increasing motor vehicle
fuel tax rates.
· Imposing a carbon tax, that
is, a tax that reflects the amount of carbon released when a fuel is burned, as
a climate change emission reduction strategy.
· Appling general sales tax to
fuel. Many jurisdictions exempt motor vehicle fuel from general sales taxes. If
motor vehicle fuel excise taxes are considered a road user fee, as is assumed
in highway cost allocation analysis, then general sales taxes should also be
applied for the sake of economic neutrality (Jones and Nix, 1995). Exempting
fuel from general taxes represents a subsidy of driving, equivalent to
collecting the tax and then returning it as a grant just to fuel users.
· Index fuel taxes to
inflation or roadway costs. Most fuel taxes are a fixed amount per gallon or
liter, and so their real value declines over time, and it is often politically
difficult to raise them, resulting in less revenue per vehicle-mile and a
declining portion of roadway costs paid through user fees (Puentes and Prince,
2003; Litman, 2004). Indexing fuel taxes to
inflation or roadway expenditures would help overcome these obstacles.
· Adding a special hazardous
material tax to fund cleanup and environmental remediation programs.
Travel Impacts
Higher fuel prices cause a combination of reduced driving and increased vehicle fuel efficiency (Institute for Transport Studies, 2004; Komanoff, 2005; CBO, 2008). Short-term fuel savings consist of reduced driving and a shift toward more fuel-efficient vehicles owned in multi-vehicle households. Over the long-term, higher fuel prices encourage consumers to purchase more fuel-efficient vehicles. About two-thirds of long-term fuel savings typically come from increased fuel efficiency and one third from reduced vehicle travel. As a result, increased fuel taxes cause greater fuel savings but less vehicle travel reductions then the same amount of revenue collected through per-mile fees, road tolls or parking charges.
Figure 3 OECD Fuel Price and Vehicle Mileage (www.vtpi.org/OECD2004.xls)
Residents of European countries and
Fuel Consumption Impacts
The price Elasticity
of gasoline is estimated to be -0.27 in the short run and -0.7 in the long run,
meaning that a 10% price rise reduces fuel consumption by 2.7% in two or three
years, and 7% over a five to ten year period (Goodwin, 1992). DeCicco and
Gordon (1993) conclude that the medium-run elasticity of vehicle fuel in the
Table 2 Fuel Tax Increase Impacts (Harvey and Deakin, 1997, Table B.8)
|
Region |
Tax Increase |
VMT |
Trips |
Delay |
Fuel |
ROG |
Revenue |
|
|
$0.50 |
-3.6% |
-3.4% |
-8.5% |
-8.8% |
3.5% |
$1,332 |
|
Bay Area |
$2.00 |
-11.7% |
-11.3% |
-25.5% |
-30.6% |
11.6% |
$4,053 |
|
|
$0.50 |
-4.1% |
-3.9% |
-7.0% |
-9.3% |
4.0% |
$414 |
|
|
$2.00 |
-13.2% |
-12.7% |
-22.0% |
-31.8% |
13.0% |
$1,245 |
|
|
$0.50 |
-3.9% |
-3.5% |
-8.0% |
-9.1% |
3.8% |
$747 |
|
|
$2.00 |
-12.5% |
-12.0% |
-23.0% |
-31.1% |
12.3% |
$2,257 |
|
|
$0.50 |
-4.2% |
-3.5% |
-9.5% |
-9.3% |
4.1% |
$3,724 |
|
|
$2.00 |
-13.0% |
-12.5% |
-28.5% |
-31.6% |
12.8% |
$11,235 |
Tax Increase = additional
fuel taxes applied in addition to current taxes. VMT = change in total vehicle
mileage. Trips = change in total vehicle trips. Delay = change in congestion
delay. Fuel = change in fuel consumption. ROG = a criteria air pollutant.
Revenue = annual revenue in millions of 1991 U.S. dollars. See report for
additional notes and data.
Vehicle Travel Impacts
The Elasticity
of vehicle travel with respect to fuel price is typically found to be -0.20 to
-0.30 (Harvey, 1994; Schimek, 1997; Johansson and Schipper, 1997), with values
of about –0.1 in the short run, and up to –0.50 over the very long run. Deakin
and Harvey (1997) model the effect of a fuel tax increase on transportation
impacts in four major urban regions in
Table 3 Travel Impact Summary
|
Objective |
Rating |
Comments |
|
Reduces total traffic. |
2 |
Has a modest impact on
vehicle travel. |
|
Reduces peak period
traffic. |
1 |
Peak-period travel tends to
be less price sensitive than off-peak travel. |
|
Shifts peak to off-peak
periods. |
0 |
|
|
Shifts automobile travel to
alternative modes. |
1 |
Provides a modest incentive
to shift mode. |
|
Improves access, reduces
the need for travel. |
|
|
|
Increased ridesharing. |
1 |
|
|
Increased public transit. |
1 |
|
|
Increased cycling. |
1 |
|
|
Increased walking. |
1 |
|
|
Increased Telework. |
1 |
|
|
Reduced freight traffic. |
1 |
|
Rating from 3 (very
beneficial) to –3 (very harmful). A 0 indicates no impact or mixed impacts.
Benefits And Costs
Increasing fuel taxes is an effective Energy Conservation and Emission Reduction strategy, results in modest vehicle travel reductions, and provides revenue. Because travel reductions are relatively modest, congestion reduction and roadway cost savings also tend to be modest compared with the same revenue collected through other charges. Safety benefits are mixed, motorists who purchase smaller vehicles in response to higher fuel prices may increase their own injury risk, but this is offset by reduced risk to other road users and by overall reductions in vehicle mileage (Ross and Wenzel, 2001).
Fuel taxes are more accurate at internalizing vehicle costs
than some taxes, but they are less accurate than others (Price
Evaluation). For example, fuel taxes reflect roadway costs, insurance costs
and environmental externalities better than a general tax or a fixed vehicle
fee (since they increase with vehicle weight and mileage), but are less
accurate than weight-distance fees or GPS-based Pricing (FHWA, 1997; Distance-Based Fees). Although not optimal (congestion and
emission fees would be more efficient), Parry and Small (2004) conclude that a
fuel taxes can be applied to internalize some transportation costs on
second-best grounds, resulting in optimal taxes of $1.01 per gallon in the
Implementation costs are minimal, since most jurisdictions
already collect fuel taxes. The petroleum industry argues that increased fuel
taxes harm the economy, but this is probably not true. These costs are
primarily economic transfers within the economy, since increased costs to
motorists are offset by increased revenues or reductions in other taxes (TDM and Economic Development). Higher energy taxes can
reduce wealth transfers from petroleum consuming to petroleum producing
nations, and the negative economic development impacts that result by providing
consumers with an incentive to reduce energy use. If low fuel taxes were really
beneficial, and high fuel prices were really economically harmful, countries
like
Although steep, unexpected fuel price increases impose transition costs to the economy (i.e., producer and consumer choices based on low fuel prices are inefficient when fuel prices increase), and transfer of wealth from petroleum consuming regions to petroleum producing regions, a predictable increase in fuel taxes is not necessarily harmful to productivity in a region if revenues are retained within the economy. Raising vehicle fuel taxes in the short term can help minimize future economic harm from expected long-term fuel price increases by encouraging consumers to purchase more fuel energy-efficient vehicles now.
Many economists recommend eliminating fuel subsidies and
imposing taxes which at least cover public costs of production (such as roads
provided to access oil fields) and cover roadway costs in order to increase
economic efficiency (UNEP, 2003; Metschies, 2005). Others recommend shifting
taxes from other activities (such as wages and property) to fuel, as a way to
reduce total costs, encourage efficiency and increase productivity. If taxes on
petroleum or other fuels are used to reduce less efficient taxes — taxes with
greater “deadweight” losses to the economy, such as business and employment
income taxes — the result could be increased economic activity and employment
(Durning and Bauman, 1998). One study employing a comprehensive model of the
This suggests that fuel taxes can be increased significantly from current levels with neutral or positive economic impacts provided that price changes are predictable and gradual, and revenues are used efficiently (Evaluating Pricing Strategies). However, fuel taxes in one area that are significantly higher than nearby jurisdictions may result in cross border purchases. If a significant portion of the population is located within 20 miles of a border, fuel prices should not be set significantly higher (say more than 20% higher) than the prices in neighboring areas (Rietveld, Bruinsma and van Vuuren, 2001).
Table 4 Benefit Summary
|
Objective |
Rating |
Comments |
|
Congestion Reduction |
1 |
Modest reductions in
vehicle travel. |
|
Road & Parking Savings |
2 |
Modest reductions in
vehicle size and travel. |
|
Consumer Savings |
-1 |
Increases vehicle operating
costs. Overall impacts depend on how revenues are used. |
|
Transport Choice |
-1 |
Mixed. Driving becomes less
affordable, but may increase support for alternative modes. |
|
Road Safety |
0 |
Mixed. Increased safety
from reduced driving may be offset by use of smaller cars that offer less
occupant protection. |
|
Environmental Protection |
3 |
Significant reduction in
fuel use and related pollutants. |
|
Efficient Land Use |
1 |
Modest reductions in
vehicle travel. |
|
Community Livability |
2 |
Modest reductions in
vehicle travel and vehicle size. |
Rating from 3 (very beneficial) to –3 (very harmful). A 0 indicates no impact or mixed impacts.
Equity Impacts
The equity impacts of fuel tax changes have been widely
debated. Whether taxes are unfairly high or low depends on perspective and
assumptions. In North America, the total tax rate on fuel is approximately 100%
(that is to say, 50% of retail prices are taxes), and even higher in Europe and
If fuel taxes are considered a roadway user charge, increases of more than 40% are justified to cover all roadway costs (FHWA, 1997), and more if such taxes are intended to cover the full social costs of automobile transportation (traffic services, unpriced parking facilities, uncompensated crash risk and environmental externalities), rather than just current expenditures on roadway facilities. Fuel is exempt from general sales tax in many states, representing underpricing relative to other consumer expenditures. Fuel tax increases can therefore be justified based on the user-pay principle (horizontal equity).
Fuel taxes are regressive, since they account for a greater
share of income for lower-income households than for wealthier households.
However, how regressive depends on the perspective used in analysis. Economist
James Poterba (1991) demonstrates that fuel taxes are not very regressive when
based on lifetime expenditures earnings, which he considers an accurate measure
of equity, since it takes into account predicable year-to-year variations in
household income. For example, a college student or retiree may have relatively
little income, yet be quite wealthy overall. CBPP (2007) identified ways to
make fuel tax increases progressive with respect to income by incorporating
targeted discounts and exemption.
Fuel tax increases are considered particularly burdensome to some groups, such as rural residents and owners of older, fuel-inefficient vehicles, although such claims are often exaggerated, and negative impacts can be minimized if fuel tax increases are predictable and gradual (Glaister and Graham, 2000). Stead (2002) argues that these impacts are minor overall, and that rural residents may benefit overall if higher fuel taxes help support a more efficient land use and more diversified transportation options in rural areas. He recommends a number of Rural Transportation Management strategies to minimize negative impacts of fuel tax increases to rural residents. Ryan and Stinson (2002) evaluate the distributional impacts of a 150% fuel tax increase matched by reductions in general taxes now used to subsidize roads.
Table 5 Equity Summary
|
Impacts |
Rating |
Comments |
|
Treats everybody equally. |
-1 |
Some groups (i.e., rural
residents) bear greater costs than others. |
|
Individuals bear the costs
they impose. |
2 |
Increases the portion of
vehicle costs recovered through user fees. |
|
Progressive with respect to
income. |