The case for a gas tax increase / Matthew Yglesias

Miscellany Central

Thursday, July 7, 2022

The case for a gas tax increase / Matthew Yglesias

The case for a gas tax increase / Matthew Yglesias

 — Read time: 9 minutes

The case for a gas tax increase

Yes, it's politically toxic — but it makes more sense than a gas tax holiday

The inaugural Slow Boring book club meets tomorrow! Join us at 8:30 p.m. Eastern on July 7 for a discussion with Princeton professor Leah Boustan about her new book Streets of Gold. Buy the book here, and sign up for the discussion here. This event is for paid subscribers.

Last week, Joe Biden got a good question about high energy prices and the war in Ukraine: how long does he expect the American people to make this sacrifice? The answer, though noble, is probably not what people want to hear.

Politics aside, it’s worth thinking this through as a question of policy.

We previously discussed the fact that negative shocks to energy supply are very economically damaging, which means this is not only a political problem for Biden but a substantive one as well. The shortfall of oil (and in Europe, gas) is causing real damage, which will only increase during the winter when inadequate supplies for home heat can create genuinely dangerous situations. Most Americans rely on natural gas for heat and are therefore semi-insulated from global market conditions by the fact that there is only so much liquified natural gas (LNG) export capacity. But Northern Europe is in for a world of pain, as is New England and parts of New York where oil is widely used for home heat.

At the same time, the policy objective of waging economic war on Russia has a very legitimate motivation. Countries commonly accept some economic sacrifice in pursuit of national security objectives, and that is essentially what we are doing here.

But while there is no wartime economy without sacrifice, prudent governments do try to modify their domestic economic policies in order to minimize economic pain and maximize the efficacy of the war effort itself. So far, though, we’re not really doing that. The Biden administration has made large releases from the Strategic Petroleum Reserve, which is good, but Democrats’ other main idea has been to promote the idea of a gas tax holiday. This makes some sense as a political gimmick, but if you’re really serious about putting the squeeze on Russia, you’d do the opposite and raise the gas tax.

A gas tax hike hurts Russia and curbs inflation

While sanctions on Russia have been highly effective at crimping Russia’s imports, the high global price of oil means that Russia’s export earnings remain robust. Indeed, oil has gotten so expensive that Russia is earning more than ever, even though their production is down. So far this hasn’t actually helped Russia because sanctions are deterring exporters from selling Russian stuff. But over time, someone who has cash and wants to buy things is likely to find a way to do it.

So it would be good to drive down the global price of oil.

And one of the main ways to do that is to reduce domestic gasoline consumption.

Gas taxes are particularly valuable in this regard because they also free up crude oil for more economically important uses, like diesel for commercial vehicles and jet fuel for commercial air travel.

What’s more, while the country is suffering from high gasoline prices, it is also suffering from inflation outside the volatile food and energy sectors. The Federal Reserve is currently trying to address that by choking off overall demand with interest rate increases. This works and is broadly appropriate. But there is a key problem with rate hikes as the exclusive tool of anti-inflation policy: they reduce investment when in some sense, the optimal anti-inflation strategy is to have tons of investment and thus expanded production. So to the extent that you can directly curtail consumption and reduce the need for rate hikes, you leave the economy in better long-term shape.

A higher gas tax would cut gas consumption, of course, but since people have only limited ability to cut back on gas use in the short term, it would also cut back on all kinds of consumption. In “normal” economic times that might be bad, hurting growth. But with core inflation running above target and the Fed trying to slow the economy, this reduced general consumption is a pro, not a con; it would minimize the need for rate hikes and preserve the investment side of the economy.

An offsetting tax cut

You could just leave it at that — use the higher gas tax to reduce inflation and help the economy.

But I do think that would be viciously regressive in a troubling way.

In California, Gavin Newsom is reacting to his state’s revenue windfall by handing out inflation impact checks. You could do that with gas tax revenue, too. But the problem, of course, is that while stimulus checks were great stimulus back when the economy needed stimulus, right now we don’t need stimulus.

What I would do is try to funnel the money into an offsetting tax cut that is both progressive and pro-work in its structure, something like an enhancement to the Earned Income Tax Credit or a payroll tax cut. I don’t think anyone knows exactly why, but prime-age employment is still a bit below pre-pandemic levels, which in turn were below dot-com era levels.

At this point we can’t count on additional fiscal or monetary stimulus to pull more workers into the labor force. But we know the people are out there.

So a tax swap — higher taxes on consuming gasoline, lower taxes on working — would help to encourage work and minimize the economic damage of the war even while turning the screws on Russia.

Increasing domestic oil production

The other thing we can do, of course, is increase domestic oil production.

Here I think it is useful to look at the larger context, which is that global output crashed during the pandemic and has not yet recovered. It’s just very challenging to have a full economic recovery without a full recovery of oil production.

Now of course in theory you could say this is all good. Burning oil creates pollution, which is bad. What we want to do over time is encourage people to drive electric cars and then we wouldn’t be pumping all this oil and setting so much gasoline on fire.

But I really do encourage people who are worried about climate change to pay attention to what the constraints are here. Want to buy a new Tesla Model 3? Well, you can’t because they’re all sold out. But if you put in an order, they will get you one in the September-December range.

Annoyed by Elon Musk’s politics and heard that the hottest new thing in luxury EVs is the Lucid Air? Well, they are taking reservations with no guarantee of shipment dates. Nissan had to halt U.S. orders of their new Ariya electric crossover because they are struggling to meet the demand for domestic orders in Japan. Ford has halted orders on the Maverick. In other words, the EV demand problem that we long worried about has been solved. If you want to boost demand for electric vehicles, you need ideas to boost the production of batteries, which as I understand it goes back to regulatory bottlenecks in terms of mining for the minerals that go into batteries.

In a world where EV adoption is constrained by battery shortages, we need an oil production recovery to have an economic recovery. And compared to where we were right before the pandemic, OPEC has risen a ton. The fall in Russian output, while large relative to the Russian economy, is pretty small relative to the scale of the global oil market.

The biggest source of deficit is the USA.

Increasing domestic oil output is a win-win that both helps the American economy and also, by reducing global oil prices, hurts the Russian economy. What can be done? There is some stuff Republicans complain about on the permitting and regulatory front and for the sake of pure politics, I might just give them what they want. But the basic issue is economic — U.S. output is rising steadily, and investors worry that if they accelerate their pace of output, they’ll lose their shirts in a price crash. That happened three times in the past decade and now they’re scared.

The biggest thing the Biden administration could do is use the Strategic Petroleum Reserve and the Exchange Stabilization Fund to guarantee high future prices of oil, even if the global situation changes. That might end up costing the Treasury money. But by the same token, all the military assistance we are giving to Ukraine definitely costs money. The premise of our policy, though, is that money spent on helping Ukraine to beat Russia is money that is well spent. By the same token, money spent on bolstering U.S. production to crush the Russian economy and keep the American consumer afloat is money well spent.

The refinery bottleneck

There are also refinery issues that have been interesting to progressives lately. Compared to the depths of the pandemic, gasoline prices have risen by more than oil prices because refinery capacity has declined in recent years as companies have stopped investing in new facilities or in repairing ones that break. This isn’t a conspiracy; it’s a response to the perception that the long-term trajectory of demand is heading downward.

Part of the reason a higher gasoline tax might be useful is that given the refinery bottleneck, a large share of the incidence would fall on refiners. In other words, for every one cent per gallon that the tax goes up, consumer prices would rise by less than one cent — potentially a lot less, with the remainder coming out of refiners’ pockets.

Then either in addition to taxation or instead of it, we could subsidize additional refinery capacity with loan guarantees or outright state ownership. Democrats in other contexts are precisely the party that believes you can’t leave things up to an unconstrained market.

What are we doing here?

The consumption-constraining aspect of this is, of course, a pure fantasy given the politics.

Joe Biden isn’t going to raise gas taxes, and he’s not going to ask people to carpool for Ukrainian freedom. It also seems like he doesn’t want to engage in outside-the-box ideas to increase domestic production because that contradicts his environmental policy goals. But that has left Democrats trying to soothe domestic pain by subsidizing consumption, which is counterproductive from the standpoint of the original policy goal of punishing Russia and trying to help Ukraine.

All in all, it seems to me like there should have been a big meeting at the White House before the vote on the oil embargo where Mitch McConnell, Kevin McCarthy, Janet Yellen, and Tony Blinken tried to hash out what exactly they think America’s policy response should be. I actually do think that at the moment of peak pro-Ukrainian fervor, a revenue-neutral Ukraine Solidarity Tax to finance a tax cut for working people might have stood some kind of chance of securing bipartisan support.

At a minimum, the State of the Union would have been a perfect opportunity for Biden to announce a pivot.

Back in 1943, FDR had a famous moment where he announced that he’d transformed himself from Dr. New Deal into Dr. Win The War. Not because the ideas of the New Deal were mistaken, but because the situation had changed. Biden could have specifically invoked this and said that Dr. Green New Deal was taking a break in favor of Dr. Beat Russia. Noting, of course, that the sanctions on Russia by crippling their ability to pump oil and gas are themselves reducing CO2 emissions. New pro-production measures in the United States would only partially offset the impact of the foreign policy measures already taken. If you paired that with a gas-for-work swap, it’s even better for the environment.

Now I’ll admit that on some level these ideas are bummers politically. But we started with Brian Deese breaking the bummer news that people may need to put up with economic disruptions for however long it takes for Ukraine to win the war. This is just to say that the decision to take a stand against Russia was a serious one, and I think it’s one Biden and his team believe in. But then you need to carry the logic of your own policy forward and really do everything possible to put it in a position to succeed.

Tony Lee at 11:48 AM

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