Yesterday, I wrote a post using data from Kevin Drum’s blog in which I argued that any feasible U.S. gas tax would be highly unlikely to free America from the need for sourcing massive amounts of oil from unstable regimes, or to make a meaningful dent in potential global warming damages. This is because, among other things, the price elasticity of oil is just not high enough.Ryan Avent at The Economist has written a good-faith reply that, ironically, reinforces this point.
Avent’s first criticism centers on long-run elasticity being much higher than short-run elasticity (essentially, that I can drive a little less this year if the price of gas goes way up, but that if it stays high over 10 years, I can buy a smaller car, and bring my usage way down). This is, of course, correct. It’s why I only quoted the long-term price elasticity estimates from Drum’s post. According to the IMF study on which these are based, “long term” here means twenty years.
Avent’s second criticism is that if one believes (as I do, and as I stated in the post) that the key to reducing ceteris paribus fossil fuels consumption in the U.S. is improved technology, “ then higher prices are a good way to encourage their development.”
They are a way to do this, certainly, but not necessarily a good way.
Start with a rigorous definition of “new technology” for this purpose. This doesn’t just mean geo-thermal powered rocket packs, but also things like better bus routing software, improved rail tracks, and more energy-efficient housing construction materials. Either consumers would or would not choose any one of these new technologies under current conditions. If you use a tax to push up the price of fossil fuels, and this changes the consumer decision calculus so that they are now willing to choose some alternative that they otherwise would not have, it is because you have foreclosed a choice they used to have that they prefer to any of the options that are available after the tax increase. Another way of saying this is that you have just lowered their material standard of living.
When I say “new technology,” then, I mean technical advances that create new alternatives that people would choose to employ instead of fossil fuel based alternatives at current prices. That is, improvements to material standard of living that also have the benefit of reducing fossil fuels consumption.
Now to evaluate Avent’s argument that taxing fossil fuels is a good way to induce new technology, consider an analogy. Suppose that there is a chemotherapy drug that increases five-year survival rate for a specialized type of cancer from 10 percent to 60 percent, but with horrible side-effects. Some scientists in a couple of university labs have had some promising results with basic compounds that might or might not ultimately be precursors to a new drug that could get better increases in survival rates, and without many of the awful side effects. If you believed that improving treatment for this disease should be a major public priority, would your preferred approach be to add a large tax to chemotherapy? This is, in effect, what Avent is proposing as way to encourage the development of alternative energy technologies. I’d fund NIH research into the new alternative drug.
Finally, Avent argues that a gas tax is a great idea whether or not it really reduces fossil fuels usage, because even if I’m right and it won’t eliminate that much oil consumption, then it will be “a great way to generate revenue” (i.e., will result in a ton of additional tax collections). That is an entirely different argument, which would concede the point I was making in my post.