07/01/2004
Summary of working paper 10330
Higher gasoline taxes encourage work, and when this effect is taken into account, the optimal gasoline tax is substantially higher than previous research has suggested.
Gasoline taxes are a hotly debated topic in both environmental and economic policy settings. Previous studies have examined the effects of various gasoline taxes on the supply and demand for gasoline. But in Empirical Estimates for Environmental Policy Making in a Second-Best Setting (NBER Working Paper No. 10330), authors Sarah West and Roberton Williams examine the effect of gasoline taxes on work decisions. Do people work more or less when gasoline prices go up? The authors find that higher gasoline taxes encourage work, and when this effect is taken into account, the optimal gasoline tax is substantially higher than previous research has suggested.
If gasoline taxes are set based only on their effects on gasoline use, then the best governmental policy would be to set the gas tax equal to marginal damage: the value of all of the negative externalities that result from using a gallon of gasoline, including pollution, accidents, noise, and traffic congestion. Since these costs are imposed on others, people don't have enough incentive to conserve gas. Taxing gasoline forces drivers to take that cost into account when making driving decisions. If the gas tax equals marginal damage, then the cost of gasoline to the driver is the same as the cost to society, thus providing the proper incentives.
"First-best" government policy would provide the proper incentives for all decisions. But this isn't the case. People make work decisions based on the perceived return to them, working so long as the value of making more money is greater than the value of having more free time. Because part of what they earn goes to pay income taxes, people don't have enough of an incentive to work. Since the government needs a certain amount of tax revenue, though, the best it can do is the "second-best" optimum: the ideal policy, given the fact that people don't have sufficient incentives to work. The second-best optimal gas tax thus depends both on how gas prices affect driving decisions and on how they affect work decisions.
Taxes on specific consumer goods often discourage work by even more than the income tax does, thus exacerbating the disincentive to work. If the same were true for gasoline, then this would reduce the optimal gas tax. But the effect could be just the opposite. Whether a specific tax increases or decreases work effort depends in part on how it affects the costs of various leisure activities. Since a gasoline tax increase makes leisure driving more expensive, it may reduce the time spent in such activities, thus encouraging people to work more. The authors' empirical work suggests that this is indeed the case: raising gasoline taxes and lowering income taxes would cause people to work more, not less.
The authors find that a 10 percent increase in gasoline prices would decrease gas consumption by 4.3 percent, or roughly 37 gallons per household per year. That same increase in gas prices would also increase hours worked by 0.07 percent, approximately 2 hours per household per year. Raising the gasoline tax thus has the triple benefit of lowering fuel consumption, decreasing pollution, and providing an incentive for people to work at a more socially optimal level.
This change in work is tiny compared to the total number of hours worked, but still substantially increases the optimal gas tax, because the labor market is far larger than the gasoline market. Ignoring effects on work decisions, the optimal gas tax is equal to marginal damage, which other researchers have estimated at 88 cents per gallon (in 2003 dollars). Using this estimate, West and Williams find that the optimal gas tax is $1.19 per gallon (also in 2003 dollars), with the difference arising because higher gas prices encourage work.
Controlling for various other effects, the authors find that the work effect is not attributable solely to consumers paying more for gasoline. Even if other taxes are lowered to compensate for the increased price of gas, people still work more. This effect may be because decisions regarding non-work-related driving are more flexible than decisions about work-related driving, such as commuting. In other words, a person's choice to work longer or shorter hours does not affect how much gas he uses to commute. However, that person may choose to make fewer non-work automobile trips, thus leaving more time available for work.
-- Les Picker
FAQs
Since a gasoline tax increase makes leisure driving more expensive, it may reduce the time spent in such activities, thus encouraging people to work more.
What effect might an increase in gasoline taxes have on the way people get to work? ›
A gasoline tax would help to accomplish this by encouraging people to car-pool, take public transportation, or live closer to work. Another benefit of a rise in the gas tax would be a reduction in the size of vehicles.
Will raising gas taxes benefit the environment? ›
To encourage more sustainable transportation habits, economists recommend higher gasoline taxes, which in theory should reduce fuel consumption, and higher fuel-efficiency requirements for new cars.
How does gas tax affect the economy? ›
While raising the gas tax would increase government revenues, it would only do so at the expense of economic growth, jobs, and family income. Some of these negative effects are due to Americans' mobility needs.
Who benefits from the gasoline tax? ›
Funds generated from a gas tax pay for related government services like road construction, maintenance, repair, and public transportation. Because these taxes connect drivers to the costs of road upkeep, they encourage efficient road use, which helps limit congestion and the wear and tear that comes from overuse.
Are fuel taxes effective? ›
Raising the gasoline tax thus has the triple benefit of lowering fuel consumption, decreasing pollution, and providing an incentive for people to work at a more socially optimal level.
What are the negative effects of high gas prices? ›
Rising gas prices may force some businesses to re-evaluate their hiring plans, holding off because they are uncertain about the economy's health. Less discretionary spending results in decreased sales, both of which can influence a company's ability to hire.
Which is worse for the environment natural gas or gasoline? ›
Burning natural gas for energy results in fewer emissions of nearly all types of air pollutants and carbon dioxide (CO2) emissions than burning coal or petroleum products to produce an equal amount of energy.
Is gasoline good or bad for the environment? ›
Vehicle pollutants harm our health and contain greenhouse gases that cause climate change. Burning gasoline and diesel fuel creates harmful byproducts like nitrogen dioxide, carbon monoxide, hydrocarbons, benzene, and formaldehyde. In addition, vehicles emit carbon dioxide, the most common human-caused greenhouse gas.
Do high gasoline prices reduce the environmental effects of using gasoline? ›
Environ Int. 2014 May:66:88-91.
California has the highest tax rate on gasoline in the United States. As of July 2023, the gas tax in California amounted to 77.9 U.S. cents per gallon. California has long been known as the state with the highest tax rates – and consequently some of the highest fuel prices in the country.
Where does federal gas tax money go? ›
Gas taxes were first introduced as part of the 1932 Revenue Act. At the federal level, the gas tax has remained at 18.4 cents per gallon of gasoline since 1993. Most of this revenue goes into the Highway Trust Fund, which pays for major highways and public transportation.
Why is gasoline tax regressive? ›
Gas taxes have become more regressive over time, partially because of environmentally-oriented technological change, although the share of expenditures on gas taxes declines with expenditures much less than the share of income spent on gas taxes declines with income.
How much government revenue does the gasoline tax generate? ›
How much revenue do state and local governments raise from motor fuel taxes? State and local governments collected a combined $53 billion in revenue from motor fuel taxes in 2021, or 1.3 percent of general revenue.
Are consumers of gasoline helped or hurt by this tax? ›
The tax on gasoline should be imposed on consumers rather than producers. If the demand for gasoline were more elastic, the tax would be more effective in reducing the quantity of gasoline consumed. Consumers of gasoline are hurt by this tax because they have to bear the burden of higher prices.
What is the purpose of fuel tax? ›
Use fuel taxes provide revenue for planning, constructing, and maintaining California's publicly funded roadways and public mass transit systems.
What is the effect of an increase in the price of fuel? ›
Ultimately the price increase of fuel will result in even the price of transport going up. This means that goods being transported by road will now cost you more. The fuel price increase will also have an impact on employees traveling to work.
What effects can an increase in taxes have on the economy? ›
How do taxes affect the economy in the long run? Primarily through the supply side. High marginal tax rates can discourage work, saving, investment, and innovation, while specific tax preferences can affect the allocation of economic resources. But tax cuts can also slow long-run economic growth by increasing deficits.
What might be some of the effects of raising gasoline taxes in the United States to the rate that most Europeans pay for gasoline? ›
The first major effect of rising gasoline taxes would be encouraging people to use fuel-efficient modes of transportation similar to how Europeans do. It could even cause an increase in the amount of public transportation being used.
What effect do higher fuel costs generally have on companies? ›
Higher fuel costs typically lead to increased expenses for companies. Increased expenses, like higher fuel costs, often reduce profit margins. Reduced profit margins, caused by higher fuel costs, generally lead to lower net profits.
