Time to Excise Fuel Duty?

Abstract

Taxes comprise 60 per cent of the cost of a litre of petrol or diesel. Fuel duty will contribute about £33 billion to the Treasury in 2012 (Including the VAT charged on the fuel duty (see HM Treasury, 2012).Currently, revenues from fuel duty and road tax exceed expenditure on roads by £30 billion per annum. Investment in road improvements has collapsed over the last twenty years. Fuel duty is higher in the UK than in any other major economy. Taxes on diesel for commercial use are particularly high, over 50 per cent higher than in France and Germany and over 500 per cent higher than in the USA. Industries heavily dependent on road transport in the UK are therefore at a major competitive disadvantage. High fuel prices hamper just about every economic activity by raising the costs of trade. Fuel duty will tend to reduce economic output by lowering labour mobility, preventing economies of scale, and hindering competition and specialisation. Motoring taxes may also increase welfare dependency by raising travel-to-work costs, meaning many potential workers may be better off on welfare benefits than entering employment. Fuel duty discriminates against residents and businesses in rural, semi-rural and suburban areas. It represents a transfer of resources to those inner city areas which receive a disproportionate amount of the general government spending funded by motoring taxes. Poorer motorists are hit particularly hard by fuel duty. Road fuel accounts for almost 10 per cent of spending by car-owning households in the bottom decile. Motorists and hauliers are treated unfairly by the tax system. Other activities with negative environmental effects are taxed at much lower rates than private road transport. Trains and buses – which also produce significant noise and air pollution – benefit from tax breaks and subsidies. Fuel duty is a very inefficient way of addressing the wider costs associated with road transport. The amount paid bears little relation to congestion levels, accidents, infrastructure costs and local environmental impacts. Many of the economic costs associated with road transport are in reality the result of a long history of misguided government interventions in transport and land markets. For example, planning policies continue to encourage the development of brownfield sites close to busy roads, despite the obvious implications for exposure to noise and air pollution. A number of policy measures should be implemented to reduce fuel duty: In the short term, the planned 3p increase in fuel duty should be cancelled. In the medium term, a fuel duty ‘downward escalator’ should be introduced, to bring about gradual reductions in the tax over a number of years. The EU-imposed minimum price, currently 29p a litre for petrol, would be a realistic target. (Minimum tax rates are imposed by the EU Energy Taxation Directive)An alternative target, in the absence of EU regulation and in the context of current climate change targets, would be to set fuel duty according to ‘social cost’ of carbon estimates contained in the Stern Review or other studies. In the longer term, the government should aim to abolish fuel duty. These measures could be financed as follows: To cancel the planned 3p rise, about £1.5 billion per annum should be cut from government spending on counterproductive traffic management schemes and loss-making public transport services. To halve duty to 29p per litre, over a longer period, uneconomic projects such as High Speed 2 should be cancelled and train/bus operating subsidies phased out (saving in total about £11 billion p.a.). In addition, limited peak-time road pricing should be introduced in congestion hotspots with part of the revenues used for road improvements. A consistent approach to environmental taxation could also be considered, raising £5.5 billion p.a. from charging full-rate VAT on domestic heating and power. (Deregulation of the energy sector would mitigate the impact on consumers (see Wellings, 2011b).The privatisation of the road network would facilitate the abolition of fuel duty. The flotation of motorways and trunk roads would raise approximately £150 billion, which would be used to make large cuts in fuel duty. Government spending on transport would then be phased out, saving about £20 billion p.a. Finally, general tax revenues would increase markedly due to substantial efficiency gains, including much lower levels of congestion. This process is set out in much more detail in Knipping and Wellings (2012). Abolishing fuel duty would require the EU Energy Taxation Directive to be rescinded.