Legal Commentary

Raise Gasoline Taxes Now? Posner's Comment

By Richard Posner

I agree with Becker that it would be a mistake to raise gasoline taxes. We're in the midst of a depression and threatened with deflation, which would be an especially ominous development. Deflation occurs when the price level falls, as can happen--as may be happening now--when demand falls so far that sellers, to avoid complete ruination, slash the prices of their goods by extreme percentages, such as 50 or 75 percent. With prices depressed, a given amount of dollars buys more goods--money thus is more valuable. Credit tends to dry up, since even if the nominal interest rate is zero, the real interest rate may be very high. Imagine, to take an extreme case, that a dollar will buy you a loaf of bread today but two loaves of bread in a year. Then to borrow a dollar today for repayment in a year at a nominal interest rate of zero amounts to borrowing at a real interest rate of 100 percent, because to have the loaf of bread today you will have to give up two loaves in a year.

When there is a danger of deflation, raising taxes increases the danger by reducing the demand for goods and services, in the present instance for gasoline and therefore also for cars, in particular cars made by the Detroit automakers because the gas mileage of their cars is inferior to that of the foreign cars. As demand falls, discounts will increase, so prices will continue to fall. Output will be falling too, but prices can fall faster than output, especially if sellers have swollen inventories because they did not anticipate a depression.

It is true that many "foreign" cars are actually manufactured in the United States. A mere substitution of those cars for Detroit-made cars would not reduce demand. Nor for that matter would a substitution of cars manufactured abroad, though by reducing employment in the United States such a substitution would deepen our depression. But the foreign cars (wherever actually made) would be sold at a discount too, in order to compete with the Detroit-made cars.

If gasoline taxes were raised to a very high level, there might actually be an increase in overall demand for cars if there are new cars that are enormously more fuel-efficient than existing ones. But the effect on the economy would still be negative, because people would have much less money to spend on other products.

Becker points to the possibility of a double whammy: raising gasoline taxes would not only reduce the demand for cars but by doing so it would increase the cost of the auto bailout. I am inclined to disagree if the bailout is understood as I hope it will be as intended simply to postpone the bankruptcy of the three Detroit automakers until the overall economic picture clarifies, rather than to reform and revitalize them. I don't think there would be any social benefit from saving the companies once the economy can absorb their disappearance or radical shrinkage without serious macroeconomic consequences. At that point, it should be sink or swim for them. To preserve them beyond that point by means of continuing federal grants would be merely to subsidize the United Auto Workers and the blue-collar workers whom the union represents, plus automobile dealers, the companies' managerial and white-collar employees, and the companies' stockholders and bondholders.

I hope that after the depression ends, however, serious consideration will be given to four types of tax (broadly defined), none a gasoline tax as such, that would reduce the demand for motor vehicles. One would be a tax on carbon emissions. The second a tax on traffic congestion. The third a tax in the form of highway tolls, to pay for the infrastructure projects that are part of the Obama Administration's "stimulus" (i.e., Keynesian--deficit spending) program. The fourth would be a tax on petroleum, designed to reduce our dependence on foreign oil and (relatedly) the income of the oil-exporting nations.

Full post as published by Becker-Posner Blog on January 04, 2009 (boomark / email).