How would a revenue-neutral gas tax work?

Two different op-ed pieces -- one from the left and one from the right -- call for the incoming Congress and Obama Administration to reduce oil consumption by increasing the gas tax and off-setting it dollar for dollar with payroll or income tax cuts.

Both state essentially the same reasons that we need to reduce oil consumption.

Columnist Tom Friedman, who argues the same points in Hot, Flat, and Crowded:

There has to be a system that permanently changes consumer demand, which would permanently change what Detroit makes, which would attract more investment in battery technology to make electric cars, which would hugely help the expansion of the wind and solar industries — where the biggest drawback is the lack of batteries to store electrons when the wind isn’t blowing or the sun isn’t shining. A higher gas tax would drive all these systemic benefits.

The same is true in geopolitics. A gas tax reduces gasoline demand and keeps dollars in America, dries up funding for terrorists and reduces the clout of Iran and Russia at a time when Obama will be looking for greater leverage against petro-dictatorships. It reduces our current account deficit, which strengthens the dollar. It reduces U.S. carbon emissions driving climate change, which means more global respect for America. And it increases the incentives for U.S. innovation on clean cars and clean-tech.

Conservative economist Arthur B. Laffer -- yes that Laffer -- and Republican congressman Bob Englis:

As long as national security risks aren’t factored into the cost of gasoline and as long as carbon dioxide can be emitted without penalty, oil will continue to have an advantage over emerging fuels in the marketplace, and we’ll continue our ruinous addiction to it.
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A carbon tax would attach the national security and environmental costs to carbon-based fuels like oil, causing the market to recognize the price of these negative externalities.

And both offer the same mechanism for making an increase in the gas tax palatable to the people who would get hit at the pump.

Tom Friedman:

Obama is coming in with enormous popularity. This is his best window of opportunity to impose a gas tax. And he could make it painless: offset the gas tax by lowering payroll taxes, or phase it in over two years at 10 cents a month.

Laffer and Englis:

A carbon tax that isn’t accompanied by a reduction in other taxes is a nonstarter. Fiscal conservatives would gladly trade a carbon tax for a reduction in payroll or income taxes, but we can’t go along with an overall tax increase.

Using the tax code to effect behavioral changes is not new. (Why do you think charitable contributions are tax deductible?) The difficulty in pushing through a big increase in the gas tax would be: (1) structuring the tax code in such a way that the changes are not regressive, i.e., do not result in an overall tax increase to the people who can least afford it, and (2) selling it to a populous that it wary of anything that looks like a new tax when there is already enough worry about jobs and retirement accounts.

Would it be regressive?

A quickie payroll calculation, shows that Person A with a $35,000 salary and typical income tax withholding pays about $120 a week in FICA, Medicare and income tax withholding. Cutting those payroll taxes to $80 a week and increasing the gas tax by $2 a gallon, Person A's taxes would be revenue neutral if he uses 20 gallons of gas a week.

Person B with an $18,000 salary and typical income tax withholding pays about $45 a week in FICA, Medicare and income tax withholding. You would have to nearly eliminate Person B's payroll taxes to put him in the same position as Person A. Person B's taxes would be -- just barely -- revenue neutral.

How to adjust the withholding? Based on IRS guidelines, an employer and employee now pay 6.2% of the employee's first $102,000 of income in FICA (Social Security) withholding and 1.45% of all of the employee's income in Medicare withholding. More progressive payroll taxes would need to: (1) scale the FICA and Medicare withholding by income the same as income-tax withholding, i.e., higher-income employees would pay higher percentages of withholding, (2) begin withholding at a certain income level, i.e., not withhold on the first dollar of income, or (3) some combination of the two.

In the Jan. 5 Weekly Standard cover story, "The Case for a Net-Zero Gas Tax," Charles Krauthammer calls for a more modest $1 increase in the federal gas tax to be offset by a $14-a-week reduction in FICA withholding.

Here is how it works. The simultaneous enactment of two measures: A $1 increase in the federal gasoline tax--together with an immediate $14 a week reduction of the FICA tax. Indeed, that reduction in payroll tax should go into effect the preceding week, so that the upside of the swap (the cash from the payroll tax rebate) is in hand even before the downside (the tax) kicks in.

The math is simple. The average American buys roughly 14 gallons of gasoline a week. The $1 gas tax takes $14 out of his pocket. The reduction in payroll tax puts it right back. The average driver comes out even, and the government makes nothing on the transaction. (There are, of course, more drivers than workers--203 million vs. 163 million. The 10 million unemployed would receive the extra $14 in their unemployment insurance checks. And the elderly who drive--there are 30 million licensed drivers over 65--would receive it with their Social Security payments.)

Convincing Americans that a $2 or even $1 increase in the federal gas tax is good for them will not be easy, but it is worth the effort.

Moving tax dollars from income to gas would almost certainly reduce fuel consumption. Laffer and Inglis: "We need to impose a tax on the thing we want less of (carbon dioxide) and reduce taxes on the things we want more of (income and jobs)." Krauthammer: "The $14 in cash can be spent on anything. You can blow it all on gas by driving your usual number of miles, or you can drive a bit less and actually have money in your pocket for something else."

Consumers proved in July and August that they will buy more fuel-efficient cars and drive them less when gas is $4 a gallon than when it is $2 a gallon. If there is no downside to the pocketbook, why not make it permanent?