Using Taxes to Keep Gasoline Prices High Makes Sense to Some

WSJ.com - BOB DAVIS : "With gasoline prices topping $3 a gallon and consumers searching for relief, what's the smartest thing the government could do? Make sure the prices stay at least that high, say some economists.

That answer may seem crazy. Higher pump prices reduce what consumers can buy elsewhere, undercut economic growth and force people to think twice before driving.

But the last is precisely the point. High prices could boost conservation and diminish the country's oil thirst. The last time that happened was from 1978 to 1981, when average gasoline prices rose about 90 cents to $2.86 a gallon in today's dollars, and gasoline consumption fell 11%, while imports slumped 28%. Tighter fuel-efficiency standards also played a role.

But those gains were ephemeral; when gasoline prices declined, consumption and imports soared. The same pattern is bound to occur today unless the government intervenes, through higher taxes, to assure that pump prices will continue to pinch. Taxes can change long-term behavior, as long as taxpayers believe the levies are here to stay. Pregnant women, for instance, sharply cut back on smoking after cigarette taxes rose steadily in the 1990s, according to a study by three New York City economists.

Higher prices have an immediate effect on consumption by prompting multicar families to use the most fuel-efficient car in their garage and encouraging city dwellers to commute by bus or train rather than car. The larger effect, though, comes from changing car-buying habits and encouraging the development of new-technology vehicles.

Walter McManus, a University of Michigan automotive economist, estimates that if prices jumped to $2.86 a gallon and stayed at that level, sport-utility vehicle sales would fall 18% in five years. If gasoline rose to $3.37 a gallon, SUV sales would fall 28%. Sales of pickups and vans would plunge. "If you want people to economize fuel, increasing the cost through taxes would be effective," Mr. McManus says.

Congressional Budget Office Director Douglas Holtz-Eakin calculates that a $1 increase in gasoline taxes would cut consumption 20% within 14 years. Other economists believe the savings may be inflated, because owners of SUVs and other large vehicles tend to be wealthier and more able to afford higher gasoline prices. Former Bush administration economist Phillip Swagel warns that a heavy tax could batter consumers, especially post-Hurricane Katrina. "It could muck things up," he says.

Economy.com economist Mark Zandi says a gasoline-tax increase now would be well-timed. The economy still is expanding, and consumers already have confronted the shock of $3-a-gallon gasoline. The consequences will be clear in the next six to 12 months, the time needed to pass a gasoline tax. Fifty-six economists polled by The Wall Street Journal online edition said, on average, it would take sustained gasoline prices of $4.06 a gallon to threaten the economic expansion.

Mr. Zandi urges a flexible tax, aimed at keeping gasoline prices at roughly $3 a gallon; the tax would fluctuate with gasoline prices. A simpler way is to increase gasoline taxes by $1 a gallon. The idea is the same: make gasoline prices high and predictable.

A $1 increase in gasoline taxes would raise about $100 billion, which could finance a big part of the hurricane recovery. As with any sales tax, lower-income consumers pay a proportionately higher amount. To ease the burden, other taxes that low-income Americans pay could be reduced or tax credits aimed at the poor could be bolstered.

Harvard economist Martin Feldstein, a top candidate to succeed Alan Greenspan as Fed chairman, long has pushed an alternative to reduce gasoline consumption. He would distribute gasoline vouchers equal to about 75% of total U.S. gasoline use. Drivers who want more than their allotment would have to buy vouchers from gas savers and would bid up prices. The system wouldn't pump up government revenue, but it would be a far more complicated system than a tax.

"The real purpose is to make the U.S. economy less dependent on energy and therefore less sensitive to spikes in energy prices," Mr. Feldstein said in an interview when gasoline prices were about $1.70 a gallon.

Gasoline-tax increases have been considered politically suicidal since 1994, when Democrats lost control of Congress, in part because of wrath over a 4.3-cent increase in gasoline taxes. But times change. After two wars in the Persian Gulf, fought in part over access to foreign oil, and a disaster in the U.S. Gulf, where oil refining is concentrated, the public may be looking for a way out. Politicians talk of "shared sacrifice." Taxes are an economic embodiment of that idea."