My RealClearMarkets piece today favorably discusses a proposal to change the federal gasoline tax from an 18.4 cents per gallon specific excise to an 8.4% “ad valorem” tax. This reform would be revenue neutral in the first year but would cause the tax to rise over time with the price of gas. State highway officials are floating the proposal, possibly as a bargaining chip to go along with a full extension of the Bush tax cuts.
Indexing the federal gasoline tax (which is essentially what this proposal is—indexing the gas tax to the price of gas) is good policy. The gas tax was last raised in 1993, and has fallen by a third in real terms since. Many state gas taxes and other vehicle taxes have also fallen in real terms. But this has not led to lower spending on road construction and maintenance—from 1994 to 2008, while GDP grew 103 percent and road spending grew 102 percent, gas and vehicle tax receipts rose only 70 percent.
Governments have made up the difference by tripling their borrowing to finance roads and tripling the diversion of general revenue to pay for road costs. This is a bad trend, because gas taxes below the cost of roads use cause inefficient overuse of roads, and the higher sales and income taxes used to plug the gas tax gap are a drag on the economy. Real annual reductions in gas tax rates hasn’t starved the beast, but have made the way we pay for our road infrastructure less efficient.
Some sort of gas tax indexation would be a good move to stop the slide toward general revenue financing of highways, though it would be even better to index the existing tax to CPI than to link it to the price of gas. I also suggest other positive highway finance changes, including: allowing states to pay for interstate highway improvements with tolls; allowing states outside the northeast to open on-highway service plazas; and repealing the Davis-Bacon Act.