Just Bad Economics, June 26, 2022

Just as in the massive inflation of the 1970s, this current inflation began with supply-side woes. Both were led by escalating energy prices, one as a response by OPEC to U.S. support of Israel's Six Day War, and the other arising from energy sanctions in its war with Ukraine. Both triggered additional economic responses that exacerbated these supply shocks. But, only one may have us shooting ourselves in the foot. 

One difference with the 2022 inflation is that troubles had loomed for years as a result of the disruption of the supply chain by COVID19. In fact, many economists predicted an inflation, even if it were not for the invasion of Ukraine. The supply chain remains fragile and inefficient, and it may take years of investment in transportation and manufacturing infrastructure to create the robust network our nation deserves. Let’s hope for good policy to assist in that effort. 

So, what could go wrong? We might try to treat the symptoms rather than the disease. After all, a bit of palliative care is appealing and easy, and allows us to paper over the hard work for a while. Politicians love that sort of stuff. 

The proposed “gas tax rebate” is one such example that sounds appealing, but does little to solve the problem. Indeed, it has a high risk of making things worse. 

First, any temporary reduction in the gas tax will have an ironic effect on oil prices. A reduction in the price at the pump will increase demand for gasoline and hence demand for crude oil by refineries. This pushes up the price of oil and actually pads even deeper the already brimming pockets of oil companies. Exxon-Mobil should be running a full court lobbying press on reduction in the gas tax. 

Second, the purpose of the gas tax is to provide reliable revenue to improve our transportation networks. These improvements are sorely needed if we are to truly improve our supply chain and reduce costs in the future. 

Third, high fossil fuel prices are precisely the right thing to do in the absence of a carbon tax. While many nations with more coherent energy policies have imposed carbon taxes to ensure that the fossil fuel industry pays the true costs of their simultaneous production of fuels and of greenhouse gasses. Since we collectively pay for the costs of this industry’s greenhouse gas emissions, the fossil fuel industry is in essence subsidized by us all. 

With this deep subsidy in place, the incentives to transition to sustainable methods for energy production are insufficient and inefficient. 

Fourth, a gas tax rebate may be appealing to those who drive vehicles, it will do little to reduce inflation. Energy costs permeate the entire supply chain mostly through untaxed forms of fossil fuels, on the farms, in manufacturing, etc. In fact, if a gas tax reduction increases demand for gasoline, more refining capacity will be diverted to the automobile sector, and other energy users will experience an increase in their fossil fuel prices. 

Fifth, there is no assurance a reduction in the gas tax won’t be at least partially usurped by refiners, distributors, and retailers. There is nothing that can be done to pressure them to do the right thing.

Sixth, this federal fiscal gimmick will net the average driver less than $20 in savings this summer. It is hardly the inflation and recession fighting financial formula its proponent suggestion. Rather, it is a bit of fiscal folly.

Finally, such a gas tax reduction will do little to foster greater energy production. The uncertain duration of the war on Ukraine and the takeup by many of electric vehicles places this industry in an environment unconducive to industry supply expansion. 

Instead, such a policy will benefit oil companies and the price of oil, even for Russia, and do almost nothing to mitigate inflation by even a percentage point. 

President Biden added that he doesn't want to hinder highway maintenance, so he proposes to pay for highways out of the general fund instead, and asks the states to also return their gas tax revenues to consumers and pay for highway improvements from the taxpayer-funded general accounts instead. So, again, we all pay to subsidize oil companies, even those who don't use fossil fuels, instead of having hydrocarbon users pay for the full cost of the burning of fossil fuels.

I'm not sure how we ever get to sustainable energy when we insist on deepening our subsidies of fossil fuels.

But, it sounds good. “Free money” always sounds good, until we realize there is no such thing as a free lunch. Free market economies aren’t fueled by gimmicks.