Adding Up the Benefit Of Pennies at the Pump

Tuesday, April 29, 2008

Both Sen. John McCain and Sen. Hillary Rodham Clinton have called for a "gas tax holiday" this summer to offer commuters and vacationers some relief from spiraling gasoline prices. They have urged Congress to suspend the 18.4-cent-a-gallon federal tax and 24.4-cent diesel tax between Memorial Day and Labor Day, a step that could cost the government about $10 billion that would be used for transportation projects. The only major candidate to oppose the idea is Sen. Barack Obama, who voted for a similar measure in Illinois eight years ago. Obama now says that consumers would derive little benefit from such a moratorium. So, who is right?


When gasoline prices hit a shocking $2 a gallon in Illinois in the summer of 2000, politicians demanded action. As a Democratic state senator, Obama joined other lawmakers in pushing through a six-month suspension of the state's 5 percent sales tax on gas. While there was some talk about making the moratorium permanent, the tax was reinstated in January 2001, after then-Gov. George Ryan (R) told lawmakers the state could not afford to continue the tax break.

The moratorium proved politically popular in Illinois, but economically questionable. The Illinois Economic and Fiscal Commission estimated that the state lost $175 million in revenue during the six-month period. A subsequent study by the National Bureau of Economic Research showed that gas prices fell by an average of 3 percent while the moratorium was in effect, meaning that only 60 percent of the savings from reduced taxes was passed on to consumers.

"It turned out to have a pretty small effect," said Joseph Doyle, an assistant professor of economics at the Massachusetts Institute of Technology. "Consumers were slightly better off, but the benefits were spread very thinly, and the government was a lot worse off."

A Chicago Tribune poll showed that only 28 percent of motorists believed that they were actually paying less for gas as a result of the suspension of the tax.

Some economists say that a nationwide "gas tax holiday" would have even less impact on gas prices than a moratorium like the one passed by Illinois in 2000. "It's basic economics," said Len Burman, director of the Tax Policy Center, a nonpartisan think tank. "Gas is always in very short supply during the summer, which is why prices go up. In order to reduce the price, you would have to increase supply, but that is difficult over the short term, because the refineries cannot add capacity."

According to James Hamilton, a professor of economics at the University of California at San Diego, the benefits of a temporary tax moratorium would probably go to oil companies rather than consumers. He said states that suspend gas taxes are able to respond to rising demand more efficiently than the country as a whole, because gasoline supplies can be easily transferred from one state to another.

"Prices would certainly rise to the market-clearing level," Hamilton said. "I would expect the price to go back to very close to where it was before, in which case consumers would not see any benefit."


The advocates of a "gas tax holiday" are exaggerating the benefits to consumers from their proposal. If the Illinois experience is a guide, there is likely to be some reduction in the price of gas, but it would fall well short of the tax reduction. The government would have to cut back on highway construction and maintenance or find some other way of plugging the shortfall in revenue to the Highway Trust Fund.

ONE PINOCCHIO: Some shading of the facts. TWO PINOCCHIOS: Significant omissions or exaggerations. THREE PINOCCHIOS: Significant factual errors. FOUR PINOCCHIOS: Real whoppers. THE GEPPETTO CHECK MARK: Statements and claims contain the truth, the whole truth and nothing but the truth.

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