(June 14, 2011) After one spends a little time calculating paybacks for different vehicle purchase options under different energy and vehicle price, tax, emission rating and purchase incentive scenarios, it becomes obvious that any tax measures intended to change consumer energy use should focus on car purchase and annual re-registration, not fuel purchases.

I drive a 1999 VW Cabrio.  I typically drive well under 10,000 km/year — including an annual trip into the Okanogan — lucky as I am that I get to work out of my home office.

Every couple of years I assign a $200/TCO2e cost to CO2 emissions (using the fuel efficiency and estimates from my Air Care report or www.fueleconomy.gov, whichever is greater to estimate GHGs for my old car and the www.fueleconomy.gov estimates for emissions for the new car), adding that charge to what I actually will pay for gasoline over the next year for each of my old and new car options if there is no change in current gasoline prices.  Then I subtract the price I would have to pay today to buy the same car I currently own, again (on the second hand market) from the price I would have to pay to buy the best new hybrid electric vehicle in the same weight class.

The plan is to buy the best most efficient alternative to my 1999 Cabrio when the difference between the new and old car prices divided by the difference in annual fuel + CO2 discharge costs for each option gives me a payback of 8 years or less if I buy the newer/lower emitting vehicle.  Just for reference, I do the same comparison for the newest, best hybrid and the most comparable new non-hybrid being offered by the hybrid manufacturer.

This/next year the newest best hybrid is the 2012 Honda Civic Hybrid, rated at 44 miles per gallon, or 5.3 litres per 100 kilometers.  At 10,000 kms of car use in a year, and assuming I could still get the $2,000 BC PST tax credit on the hybrid purchase (which was actually cancelled when the HST was introduced), if I replaced my 1999 Cabrio with the 2012 Honda Civic Hybrid instead of a near identical 1999 Cabrio, I would get paid back in fuel and CO2 cost-savings in just under 22 years (at 0 interest rate, payback period is longer if I introduce a time value for money).  Waiting until the fall and buying a 2012 Honda Civic Hybrid instead of getting a brand new 2011 Honda Civic (not hybrid) today is an investment that takes 29 years to payback from fuel cost and CO2 tax savings (at $200/TCO2e).

If I used my car closer to the Canadian 16,000 km/year average, these paybacks would be 13 and 18 years, respectively.  Still too long.

At my current rate of car use, to get an 8+/- year payback on moving to the hybrid instead of keeping my beloved old Cabrio or buying a non-hybrid 2011 Civic and not the 2012 Civic hybrid, the wholesale plus excise tax price of gasoline has to be at least $2.75/litre on top of which a carbon tax rate equivalent to $200/TCO2e has to be added. 

These calculations are pretty straightforward and we have been able to do them for years (thanks to www.fueleconomy.gov and the partial verification of Air Care).

On the basis of this analysis, repeated for many model comparisons, I would argue, most of the carbon tax/price modelling that many academics tend to use is very unrealistic.

In theory (in the models), we should not need to put a carbon price on fuel to get consumers to shift from SUVs and Light Trucks to smaller vehicles, due to the large premiums they already pay for the larger, heavier, much less efficient vehicles.  But that theory does not play out in real life.  In real life, as the vehicle sales data clearly show, oversize/overweight/less fuel efficient SUVs and light trucks still account for close to 50% of new North American light vehicle sales (and more than 50% of new vehicle sales revenues and margins), in spite of the typically much higher price the market participants pay for these relatively inefficient vehicles.

This explains why most European governments that introduced fuel/energy-based carbon taxes and/or not-carbon-weighted-but-high energy tax policies between 1990 and 1999 have worked, since 2000 or so, to reduce their reliance on energy taxes as a source of government revenues.  In most cases they have replaced foregone energy tax revenues with revenues from taxes on new car sales and annual car re-registrations.  The car taxes generally:

• reflect the weight and emission/fuel efficiency rating of the vehicle, and sometimes also reflect the distance the car travelled since its last registration;
• have proved to be much, much more efficient mechanisms to incent market participants to change their car buying and use patterns;
• are much less costly to administer (admin. costs in the order of 1% to 2% per annum, compared to over 6% per annum for fuel/energy taxes [including private sector collection costs in both cases] );
• are much less regressive than energy consumption taxes (because there is a low correlation between fuel/energy demand and disposable income, but a much higher correlation between total family car weight and disposable income).

After one spends a little time calculating paybacks for different vehicle purchase options under different energy and vehicle price, tax, emission rating and purchase incentive scenarios, it becomes obvious — I believe — that any tax measures intended to change consumer energy use should focus on car purchase and annual re-registration, not fuel purchases.

Interestingly enough, if you go back to your Econ 300 micro and macro economic textbooks, you might discover that the economic theory we were taught a few decades ago actually suggest the same thing.  The older textbooks (from back when I was young and Jesus was a baby too!), suggest that for a tax/price increase to effectively and efficiently impact consumer demand, the tax/price impact has to be revealed to/experienced by the consumer at a point of a “primary” consumption decision, not a “secondary” or derived consumption decision.  Most fuel/energy purchases by non-industrial consumers are secondary or derived from their decisions to locate their home and the vehicles they buy.  So even the traditional general economic theorists told us, so many years ago, that if we want to change energy demand in as economically efficient a fashion as possible, we likely would need to tax (to the extent this is the policy mechanism of choice) home and car purchases (primary capital expenditure decisions) and not energy/fuel purchases (secondary, variable, operating costs).

But this original and very insightful bit of GE economic theory appears rarely present in modern day GE econometric models.  I can’t explain why that is the case.

If you want to learn more about the many different approaches to taxing vehicle sales and annual registration in OECD Europe, as well as carbon tax rates, revenues and exemptions, go to: http://www2.oecd.org/ecoinst/queries/index.htm, scroll down the page to:

Environmentally Related Taxes, Fees and Charges

• Main Characteristics
• Revenues Generated by Environmentally Related Taxes
• Tax Rates of Environmentally Related Taxes
• Exemptions in Environmentally Related Taxes
• Refund Mechanisms in Environmentally Related Taxes
• Tax Ceilings in Environmentally Related Taxes
• Earmarked Environmentally Related Taxes

Select the topic you want to explore, pick the nations you want to learn about, and then cruise the data tables that result from a search at this site.

Governments can focus on reducing emissions or generating long-term sustainable revenues from taxing emissions–not both.  Generally, when governments elect to tax energy consumption they are pursuing new revenues.  Generally, when governments introduce vehicle weight and emission-rating-weighted taxes on annual car registration, they are pursuing energy efficiency and emission reduction  goals.

Aldyen Donnelly, June 14, 2011