UPDATE: The day after I posted this blog, I learned that the tax structure problem that I noted here was actually largely corrected by the same legislation (SB1) that introduced the new 12 cent excise tax. See the end for an explanation. The $3 billion per year mystery surcharge, however, continues.
Who wouldn’t like to pay lower taxes and get cheaper gasoline? That’s why there will be a lot of grumbling Wednesday when California’s gasoline tax goes up by 12 cents per gallon. There’s already enough pushback that it’s easy to imagine a proposal to repeal the tax increase will get enough signatures to make it to the ballot.
Supporters of rolling back the increase argue that California already has among the highest gas prices in the country and that the tax revenues goes into a black hole of road repair costs that are overseen by an inefficient government bureaucracy that is beholden to unions.
Opponents respond that California roads are in dreadful shape, causing massively costly traffic delays and vehicle damage, and that fixing them will not be cheap. They also argue that starving the state transportation department won’t necessarily make it more efficient, but it will definitely make the roads worse.
What isn’t getting attention in the debate are two elements of California’s gas prices that are hurting consumers and aren’t helping to build any infrastructure. One is the ridiculous structure of California’s gas tax that automatically increases it when oil prices go up and decreases it when they fall. The other is a large unexplained premium that we’ve been paying to gasoline sellers since early in 2015. This may be profiteering, or it may be driven by infrastructure constraints on gasoline production and imports, but it is definitely not due to taxes. We’ll get back to the “seller surcharge”, but first the tax structure problem…
California’s (Self-imposed) Gas Price Roller Coaster
For historical reasons too tedious for even the Energy Institute blog, California’s gasoline tax is designed to automatically drop when the price of gasoline declines, and rise when it increases. Part of the tax is a straight percentage sales tax and part is a cents-per-gallon excise tax that is adjusted each year on July 1 to remain approximately the same percentage of gas prices.
World oil prices are the primary determinant of our gas price and, as you know, they fluctuate a lot. So this tax structure means that when oil prices dive, as they did in 2008 and 2014, drivers get a double bonus, because the gas tax also declines. But when the global oil prices rise, we also get whacked by higher taxes. It’s the opposite of an insurance plan, helping you out when you need it least, but adding an extra cost when your wallet is already feeling light.
The state coffers are on the other side of that same volatility. Instead of a reliable stream of revenues, a soft world oil market lowers the tax and kicks our state budget in the shins, and an oil price rally needlessly boosts the tax just when people are inclined to do less driving.
There is a simple solution, of course. Convert the tax to a fixed cents-per-gallon excise tax. That would stabilize state revenues and do a bit to reduce the gas price whiplash that consumers face at the pump.
Better still would be a gas tax that moves inversely to the price of gasoline, helping drivers out when oil prices jump by lowering the tax, and buffering the drops by raising the tax. I wrote a paper on this idea nearly a decade ago. It got a little support, but mostly people said that gasoline prices could only go up, so this would just boost the tax. By the way, California gas prices today are about a buck and a half lower than they were in June 2008, though a buck higher than they were by December 2008. Talk about whiplash.
California’s Mystery Gas Surcharge
Gas prices are a favorite grousing topic in California, in part because we have long paid more for gas than the U.S. average. It’s been true since at least 1996 when we moved to a cleaner burning gasoline that costs an extra dime per gallon to produce. Research shows that the health benefits of our unique blend clearly outweigh that extra cost, but that doesn’t stop the complaints.
From 1996 until the February 2015 Exxon Torrance refinery explosion in Southern California, our gasoline price premium tracked closely with our higher taxes and production costs. Occasional refinery outages spiked prices, but they returned to the expected differential within a month or two, because that’s how long it takes to import our special blend from refineries outside the state. The 2015 Torrance explosion, however, has been a different story.
It’s been 32 months now, and Californians continue to pay at least 20 cents per gallon more than our higher taxes, greenhouse gas fees (cap and trade and the low-carbon fuel standard), and production costs could explain. Throughout that time, I was a member of the California Energy Commission’s Petroleum Market Advisory Committee, a panel of independent energy market experts, and I chaired the committee starting in August 2015.
The PMAC issued its final report last month. It highlighted the unexplained price premium (shown in the figure above) that has hit Californians since mid-February 2015, amounting to $12 billion — or $1,200 for a typical family of four — in excess payments over the last two and a half years. Those extra payments continue today at a rate of about $3 billion per year, nearly twice the cost of Wednesday’s gas tax increase.
And unlike the extra tax revenue, this money is not going to fix any roads or bridges.
The PMAC discussed both profiteering and infrastructure constraints on production and imports. But the final report concluded that the committee had been given neither the authority, nor the resources, to fully investigate and determine the cause of the mystery surcharge. The committee had no budget allocation, was assigned less than one full-time staff person, and had no power to compel cooperation from industry.
The committee urged the State to commit serious time and resources to unpack the reasons for the new normal of higher payments to gasoline sellers. So far, there is no sign of an appetite in Sacramento for such an investigation, even as we re-argue the case for and against increasing gas taxes to maintain roads and bridges.
Fixing What’s Really Wrong with California’s Gas Prices
Like many staples, gasoline will probably always cost more than most people think it should. But there are things policymakers can do to lighten the burden without undermining the programs that reduce air pollution, fight climate change, and maintain roads to support a thriving economy.
First, they can restructure gas taxes so they don’t add to the uncertainty that consumers already face from oil prices. At the same time, that would reduce the volatility of state revenues from gasoline, a win-win. They could even go a step further and use tax changes to buffer oil price shocks.
Second, they can commit to supporting a deep look into why we are paying an additional $3 billion per year to sellers. After all, before we roll back the new gas tax and cut the revenues for public programs, shouldn’t we figure out where the rest of the money is going?
CORRECTION ON GAS TAX ISSUE: The day after I posted this blog, I learned that the tax structure problem that I noted here was actually largely corrected by the same legislation that introduced the new 12 cent excise tax. As of July 1, 2019, there will no longer be an adjustment to the excise tax every year. Instead, the total state excise tax will be fixed at 47.3 cents. Plus there will continue to be a 2.25% state sales tax. Beginning in 2020, the excise tax will be adjusted for inflation every year.
A shorter version of this blog ran in the East Bay Times and San Jose Mercury News on October 30, 2017
I’m still tweeting energy articles/research/opinions most days @BorensteinS
Severin Borenstein is E.T. Grether Professor of Business Administration and Public Policy at the Haas School of Business. He has published extensively on the oil and gasoline industries, electricity markets and pricing greenhouse gases. His current research projects include the economics of renewable energy, economic policies for reducing greenhouse gases, and alternative models of retail electricity pricing. In 2012-13, he served on the Emissions Market Assessment Committee that advised the California Air Resources Board on the operation of California’s Cap and Trade market for greenhouse gases. Currently, he chairs the California Energy Commission's Petroleum Market Advisory Committee and is a member of the Bay Area Air Quality Management District's Advisory Council.