Wednesday, 1 August 2012

"Inevitable" UK will shift to road pricing says Institute for Fiscal Studies report

Motoring lobby group the RAC Foundation commissioned research organisation the Institute for Fiscal Studies to consider the future of motoring taxation in the UK.  What came out of its work is this report which was published in May.

The headline stories from it are not unfamiliar to those following debates about taxes and charges for road use in the United States.  Quite simply, the UK faces a long term crisis of revenues from conventional motoring taxes falling behind over time because of increased fuel efficiency.

However, it is important to note the stark difference between the UK and the US.  Until recently, it has proven relatively easy for UK governments to inflation adjust both fuel and vehicle ownership taxes.   Furthermore, not one penny of UK motoring taxes is hypothecated into a specific fund to spend on roads or transport.  They truly are simply taxes, and what government spends on roads has no relationship at all to those taxes (in fact the government receives in revenue four times what it spends on roads - meaning a healthy "profit" from the roads).

Some of the more interesting points around revenue are:

In 2011/2012, motoring taxation is expected to raise £38 billion (US$59.7 billion) in general revenue for central government, or around 7% of all taxation in the UK

Motoring taxes are already shrinking as a proportion of total receipts, and are expected to amount to just 6% of revenues by 2016/17. This would be the lowest share since 1954.

By 2030 “The total decline in motoring taxes is equivalent to £13.2 billion a year in today’s terms.  To make up this difference from other taxes would mean increasing the basic rate of income tax from 20p to 23.4p, increasing VAT from 20% to 22.7%, or increasing fuel duty by more than 50%. 

Given the UK's Chancellor of the Exchequer recently delayed a planned increase in fuel duty expected August until next year, it would appear the political capacity for increasing fuel duty is drying up, similar to that in the US.

So there will be declining revenues due to increased fuel efficiency, which affects both fuel taxation and revenue from vehicle excise duty, as more and more fuel efficient vehicles mean declining revenues (as such vehicles get relatively low VED rates).

The obvious policy response is to keep increasing fuel taxes, because it continues to promote fuel efficiency and more environmentally friendly vehicles.  However, the greatest criticism of that is the distributional impact.

The study looked into that and found that the distributional impact of current motoring taxes is slightly progressive, in that only 41% of the poorest 10% of the population own a car, but 96% of the richest 10% do, and richer households tend to own larger more fuel thirsty vehicles.  Whilst I don't disagree with that, this level of detail isn't helpful and shouldn't be used to justify higher fuel tax on its own.  The bigger question is usage.

Obviously those without cars don't pay, but UK car ownership figures are significantly distorted by London, where only about 60% of the population have access to a car (a wide range of stats around London transport use are here) compared to 77% elsewhere.  There are a range of factors for that, such as the intensity of public transport, severity of traffic congestion and paucity of good highway routes.  10% of London residents earning more than £100,000 (US$157,000) a year do not have access to a car, rising to 25% of those on average incomes, to 85% of those on the lowest incomes.

For the rest of the UK, car commuting is the dominant mode across most income categories. In other words, the distributional impacts of motoring taxation are unlikely to be particularly progressive.   Over time

What about the impacts on externalities?

The report is scathing about the value of fuel taxation as a way of addressing such costs.

On climate change it concludes that "At current carbon values, burning a litre of fuel generates a marginal externality of around 14p". In other words, of the 59p of current fuel excise duty, only 14p could be attributed to CO2.
What about the rest?

On the infrastructure cost side it's relatively easy to see that with £9 billion a year spent on roads either directly or through grants to local authorities and devolved administrations, there is a considerable amount of overcharging on the face of it. 

Yet when congestion in included it looks more stark.  Indeed it appears that rural areas are being comprehensively over charged at the moment, but congested cities undercharged (and poor pricing means excess demand over supply).

Furthermore “Department for Transport (DfT) estimates suggest that the marginal external costs associated with around half of the kilometres driven in the UK are very low – less than 5p per kilometre. However, driving in the most congested areas of the country is associated with extremely high marginal external costs of almost £2.50 per kilometre.” In other words, much motoring could have its costs recovered by a tax of only 5p per km, but congested charging would justify charging much more than that (although not the £2.50 as higher prices will reduce those costs).

So in other words, having a very high fuel tax is far too blunt an instrument to effectively charge for infrastructure or environmental costs, and it is inadequate in dealing with congestion.

The latter is obvious, otherwise congestion wouldn't be so severe.

It's conclusion is not unexpected - the recommendation is that the UK shift to a form of road pricing.

While motoring taxes can be justified by the costs road use imposes upon government “the current tax system does a poor job at targeting these external costs. In particular, fuel taxes are completely unable to capture variation in external costs by time and location – most notably the costs of congestion. A system of road pricing or congestion charging which is able to take such variation into account more accurately would be preferable”.

The report isn't going to change the political landscape around road pricing in Britain, but it is the first serious flagging of a long term issue - fuel tax isn't sustainable in the long run as a source of revenue, unless it is constantly escalated at levels that are increasingly seen as unfair (and rightfully so, especially by people in rural areas who are required to pay more despite not imposing increasing demands on infrastructure).

Certainly the current policy of looking for new opportunities to toll to pay for new infrastructure is not going to be enough, but is the obvious first step to follow.

The hardest question remains:  How to sell road pricing to a public that is completely sceptical and untrusting of politicians around taxation in any form?

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