In an op-ed, “Delayed petrol tax beats CAFE plan,” that appeared in the May 21, 2009, edition of The Financial Times, Harvard Law School Professor Mark Roe ’75 and Michael Levine of New York University School of Law discuss the need for a petrol tax in order to make the Obama Administration’s automotive goals work well.

Professor Mark J. Roe '75

Professor Mark J. Roe ’75

This week, US President Barack Obama’s administration addressed the need to cut oil use and tightened automotive fuel economy rules – the corporate average fuel economy, or CAFE, standards. The move follows last week’s action by the federal government to push Chrysler into a deal designed to give it access to Fiat’s fuel-efficient technology.

Washington also directed Chrysler not to spend money on marketing over the next few months because it has the wrong product mix. At the same time, the administration is attaching conditions to the life-support General Motors needs, aimed at influencing its product mix towards smaller, more economical cars with expensive new technology.

All this comes at a time when lower petrol prices and recession have made consumers less interested in buying the fuel-efficient cars that the government desperately wants to see on the road. When the economy recovers, they will be even less interested. Politicians have avoided a discussion on taxing petrol, even though this is the best way to incentivise consumers to move their purchases in the direction the administration wants.

To make the administration’s automotive goals work well, we need a petrol tax. We do not need to put it in place immediately, but we need to commit to a timetable for its implementation. The economy needs stimulus right now, not extra burdens. But if the government were to announce a large petrol tax to be phased in over several years at, say, a rate of 50 cents per US gallon per year, we can get the benefits of tax incentives without the drawbacks.

Tooling for new models has a long lead time. An immediate tax would not much affect current production or tooling, but would affect tooling decisions for future production. But if the administration announces a phased-in tax, it will get Detroit’s attention. The industry will know that car buyers will not be coming into showrooms in a couple of years looking for bigger, plusher cars if they know petrol is going to be taxed a dollar or two.

Car manufacturers are experienced at exploiting loopholes in CAFE to sell consumers the high-profit fuel hogs they want when petrol is cheap. When the government issues directives to GM and Chrysler to produce small cars, it puts them at a disadvantage, because they operate under these added constraints, which do not apply to the rest of the industry. GM and Chrysler may comply with the directive’s intentions, because they have no choice. But CAFE will leave the rest of the industry free to sell gas-guzzlers, so long as they also subsidise more fuel-efficient vehicles. In an unintended way, the government, by using directives for GM and Chrysler, will weaken their competitiveness compared to Toyota, Honda and Ford.

A petrol tax would keep the playing field even. Consumers coming back into the market would want more economical cars and manufacturers would fall over themselves to accommodate them.

As the tax took hold and consumption shifted, it would brake our oil imports better than the CAFE standards alone and weaken the hand of oil producers such as Russia, Venezuela and the Middle Eastern states. It would make the car industry’s compliance with curbs on greenhouse gases easier and less intrusive. It would accomplish fuel efficiency and environmental goals better than clumsy and easy-to-manipulate fleet-wide mandates from Washington.

Last summer’s spike in petrol prices showed that consumers adjust to price rises fast and that history probably underestimates how profoundly consumers will adjust over time if they expect fuel prices to stay high. In the longer term, many people will change the kinds of cars they drive, rethink how they get to work and consider fuel costs when they choose where to live. Starting a multi-year phase-in of a major fuel tax now would induce people to factor higher fuel costs into their basic decisions.

The economy is now in recovery mode. A $1/gallon tax would pull about $100bn in revenue out of the private sector. We would want to channel this money back into the economy to avoid dampening activity. This can be done through reduced payroll taxes, reduced income taxes, increased tax credits or even – although perhaps less desirable – cash payments to buyers of new fuel-efficient cars. A petrol tax is regressive when standing alone because ordinary folks spend a higher percentage of their income on fuel than the rich. That should command the attention of a Democratic Congress.

The overall politics required could be delicate. Taxing petrol is unpopular and that unpopularity has kept the tax off the table for years, even in the face of pleas by economists and environmental organisations. The implementation of a petrol tax and its politics will require savvy. Done right, however, it will both do its job and make broad income tax cuts (or fewer increases) easier.

Special interests hit by a broadly applied fuel tax could stymie a petrol tax in Congress. Fuel is a core expense for airlines, railways, taxi drivers, farmers and truckers. Together they may be too powerful to overcome. The politically astute would have to engineer the right deal. Taxing road fuel only at the retail pump would take airlines, rail and farmers out of the picture. The emissions, the impact of other large users such as package express companies and truckers, could be addressed through financial credits in a cap-and-trade system. Independent truckers, small businesses and taxis might end up getting special tax concessions. The dealmaking needed would not be pretty and would almost certainly result in a less-than-optimal plan, but the practical question is whether what could be done would improve the current situation.

Overcoming these implementation and political hurdles will not be easy. But they are surmountable. A road fuels tax should not be off the table, as it is. On the contrary, it should be high on the national policy agenda now.

Michael Levine is a distinguished research scholar and senior lecturer at New York University School of Law. Mark Roe is a professor at Harvard Law School