A Fair Trade for Lower Gas Prices

A wonderful thing happened in Washington last week. Both political parties tried to bribe the American people past their anger over high gasoline prices, and the public response was a collective guffaw. The Republicans' $100- rebate bribe—yet another indication that Senate majority leader Bill Frist has become the central clearinghouse for cheesy political ideas—received most of the ridicule. But the Democrats were equally craven, proposing a two-month "holiday" from the 18(cent)-per-gal. federal gasoline tax. This is not to suggest that we have suddenly become a nation of policy connoisseurs with a well-honed sense of energy wonkery. But Americans do have a well-honed sense of baloney when they hear it. Which suggests that there might be an opportunity for political honesty, and for leadership, on this issue. "You're not going to get anywhere without doing something hard," Peter Orszag, a Brookings Institution domestic-policy analyst, told me. "You're not going to solve this with incentives—by giving tax breaks for research on alternative fuels, or to people who buy hybrid cars, or by encouraging more drilling, which are the only things the politicians are willing to talk about right now. You have to discourage the use of energy by raising the price."

You're thinking, Uh-oh, here comes another high-minded argument for pain. Yes and no. Tax incentives for hybrid cars certainly won't hurt. And while I'm a big fan of caribou, drilling for oil on a patch of their Alaskan stomping ground doesn't seem an eco-disaster. There's also a new generation of safer nuclear-power technology that could replace oil- and coal-fueled electric power plants. But some sort of price jolt will also be necessary to wean the public away from fossil fuels, and it's going to have to be a big one. After all, we've had a tripling of the oil price per barrel, from about $20 when George W. Bush took office to more than $70 now, and U.S. driving habits haven't changed significantly. Gasoline at $4 per gal. might get the job done, but that could have a very disruptive effect on the economy. How to minimize the disruption? By sending every last penny raised through new energy taxes right back to the public.

This is simple economics. If we use taxes to discourage antisocial behavior like smoking, we could also use taxes to discourage driving a Hummer at 90 m.p.h. on the interstate. If we use tax breaks to encourage positive social behavior like contributing money to charity, we could use tax breaks to encourage energy conservation by softening the impact of new energy taxes for those who can least afford to pay more at the pump. Economists ranging from New York Times columnist Paul Krugman on the left to N. Gregory Mankiw—former head of George W. Bush's Council of Economic Advisers—on the right have endorsed the general concept of a revenue-neutral tax shift. In 1999, Mankiw suggested lowering income tax rates 10% with the proceeds from a 50(cent)-per-gal. gas tax. His argument was that middle class people do most of the driving and income tax paying, so the tax shift would be a fair trade.

Let me suggest a slightly more fair trade: Why not apply the proceeds from an energy tax directly to payroll taxes? We've had a series of income and capital-gains tax cuts, dating back to Ronald Reagan. But we've also had an insidious series of rate increases—seven of them, dating back to Reagan—in Social Security taxation, which disproportionately affects workers at the bottom of the income scale. Indeed, an estimated 75% of U.S. taxpayers now pay more in Social Security and Medicare taxes than they do in income tax. Why not make the first $5,000 in wages exempt from Social Security taxes for workers and employers? That would cost an estimated $75 billion. A 60(cent)-per-gal. gas tax would generate the same amount of money while encouraging people to drive less or buy fuel-efficient cars. "Actually, most economists would tell you that a carbon tax would be more efficient since it would hit all fossil-fuel use, not just driving," says Robert Shapiro, one of Bill Clinton's economic advisers. All right: a very modest $70-per-ton carbon tax—which would produce an 18(cent) hike in the gasoline tax but also increases in heating oil and coal--would raise an estimated $83 billion, more than enough for the proposed Social Security tax decrease. Either way, the progressivity of the payroll-tax cut would take some of the sting out of the regressivity of the energy-tax increase. Of course, that would do nothing to solve the Social Security and Medicare insolvency crises. But that's another issue. Also, as conservation increased and energy prices—and tax revenues—fell with the advent of new fuels and more efficient cars, some other way of replacing payroll-tax revenues would be needed to prevent a bad Social Security situation from getting worse.

Currently, no significant politician in Washington favors higher taxes—even if they come with lower taxes. "They're scared of a 'He voted to raise gas taxes' ad in the next campaign," a Senate Finance Committee aide told me. True enough. It would take strong presidential leadership to sell such a plan. But if the public can see through a cynical $100 gas-price bribe, maybe it can now see through scurrilous negative ads as well.