Rising inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spending power. has become a dominant issue for policymakers in the past year, with the most recent report finding inflation has risen 7.5 percent over the past 12 months. Some lawmakers have proposed suspending the federal gas taxA gas tax is commonly used to describe the variety of taxes levied on gasoline at both the federal and state levels, to provide funds for highway repair and maintenance, as well as for other government infrastructure projects. These taxes are levied in a few ways, including per-gallon excise taxes, excise taxes imposed on wholesalers, and general sales taxes that apply to the purchase of gasoline. to reduce inflation via a gas taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. holiday. Rising gas prices are certainly one piece of the inflation puzzle—but suspending the federal gas tax is a uniquely ill-suited policy for addressing rising prices.
The federal gas tax has been set at 18.4 cents per gallon of gasoline since 1993, and it remains the primary funding source for highway construction. In the context of recent increases in gas prices (almost $1 per gallon in the past 12 months), the federal gas tax of 18.4 cents is relatively small. And in real terms, the gas tax has lost almost half its value since its last adjustment in 1993 because it is not indexed for inflation.
Despite its declining value, the gas tax makes particular sense as the source of highway funding because it conforms to the user-pays principle. People who drive are also broadly the people who benefit most from roads, making the tax an efficient funding source. The rise of electric vehicles (EVs) makes the arrangement slightly less efficient, but EVs are currently only a small share of automobiles on the road.
The Committee for a Responsible Federal Budget recently estimated it would cost roughly $20 billion to suspend the federal gas tax from March to December 2022. That’s almost half of the $43 billion in total revenue the Congressional Budget Office expects the Highway Trust Fund to raise in the next year; the excise taxAn excise tax is a tax imposed on a specific good or activity. Excise taxes are commonly levied on cigarettes, alcoholic beverages, soda, gasoline, insurance premiums, amusement activities, and betting, and typically make up a relatively small and volatile portion of state and local and, to a lesser extent, federal tax collections. on diesel fuel would still be in effect as the proposal does not call for suspending it. Rising prices will mean highway maintenance becomes more costly, so cutting highway funding by nearly half at a time when costs are higher makes little sense.
In the context of the whole economy, reducing or eliminating the gas tax would exacerbate inflation. Currently, demand in the economy, boosted by expansionary fiscal and monetary policy, far outstrips supply, plagued with its own problems driven by the COVID-19 pandemic and its effects. Temporarily suspending the gas tax would be a much smaller program than, say, the American Rescue Plan (ARP) enacted last March, but it would have some shared design problems: providing more fiscal stimulus than the gap between the economy’s current position and its potential.
Nor would suspending the gas tax address the structural reasons for rising gas prices in particular. Gas prices have risen for a few simple reasons. As more Americans return to traveling and commuting, demand for gas has recovered to pre-pandemic levels. At the same time, domestic production has not returned to its 2019 heights, and international pressures have also reduced worldwide production. In short, demand has recovered, but supply hasn’t caught up yet—it takes time to drill for crude oil and refine it into motor fuel.
The savings from zeroing out the gas tax would likely be enjoyed at least in part by producers, rather than passed entirely to consumers. The bill, however, mandates “consumers immediately receive the benefit of the reduction in taxes.” The requirement is particularly unenforceable, but even if savings were passed to consumers in the form of lower gas prices, it could make the misalignment between demand and supply worse—reducing taxes on gasoline could spur further increased demand for gas, and in turn, higher prices.
While the gas tax is in need of long-term reconsideration, my colleagues Ulrik Boesen and Karl Smith have argued the gas tax ought to be replaced by a vehicle miles traveled (VMT) tax. Swapping the gas tax for a VMT tax is a far cry from turning the gas tax off for a year.
Expansionary fiscal policy is the wrong way to deal with inflation. If policymakers are looking to change the tax code to help fight inflation, they should pump the brakes on the federal gas tax holiday and instead consider structural reforms to raise the economy’s productive capacity in the long term.