Step Tolling with Price Sensitive Demand: Why More Steps in the Toll Makes the Consumer Better Off

Abstract

Most dynamic models of congestion pricing use fully time-variant tolls. However, in practice, tolls are uniform over the day or at most have a few steps. Such uniform and step tolls have received surprisingly little attention from the literature. Moreover, most models that do study them assume that demand is insensitive to price. This seems an empirically questionable assumption that, as this paper finds, strongly affects the implications of step tolling for the consumer. First-best tolling has no effect on the generalized price, and thus leaves the consumer equally well off as without tolling. Conversely, under price-sensitive demand, step tolling increases the price and lowers the number of users, making consumers worse off. The more steps the step toll has, the closer it approximates the first-best toll, thereby increasing the welfare gain and making consumers better off. This makes it important for real-world tolls to have as many steps as possible: this not only raises welfare, but also increases the political acceptability of the scheme by making consumers better off.