IDEAS home Printed from https://ideas.repec.org/p/ecl/harjfk/rwp07-026.html
   My bibliography  Save this paper

Measuring Illegal Activity and the Effects of Regulatory Innovation: A Study of Diesel Fuel Tax Evasion

Author

Listed:
  • Marion, Justin

    (U of California, Santa Cruz)

  • Muehlegger, Erich

    (Harvard U)

Abstract

This paper examines tax evasion in the context of the diesel fuel market and the response of evaders to regulatory innovation. Diesel fuel used for on-road purposes is taxed, while other uses are untaxed, creating an incentive for firms and individuals to evade on-road diesel taxes by purchasing untaxed diesel fuel and then using or reselling it for on-road use. We examine the effects of a federal regulatory innovation in October 1993, the addition of red dye to untaxed diesel fuel at the point of distribution, which significantly lowered the cost of regulatory enforcement. We propose a model of the evasion decision that predicts that evasion increases as taxes rise and monitoring costs fall. Testing the predictions of the model, we find that sales of diesel fuel rose 26 percent following the regulatory change while sales of heating oil, which is an untaxed perfect substitute, fell by a similar amount. The effect on sales was higher in states with higher tax rates and in states likely to have higher audit costs. Heating oil sales are also found to be much less responsive to demand factors such as temperature and season prior to the dye program, indicating that a significant fraction of sales prior to dyeing was illegitimate. In addition, we find evidence that tax evaders found new methods of evading fuel dye regulations. We find that sales of kerosene and jet fuel, two undyed alternatives to untaxed diesel fuel, rose following the introduction of fuel dye. Furthermore, we find a pattern of price and tax elasticities consistent with innovation in new evasion techniques subsequent to the regulatory change. Finally, we examine the extent to which tax increases are incorporated into tax revenues, using the estimated tax and price elasticities to describe how this is affected by evasion. We estimate that the elasticity of tax revenues with respect to the tax rate was 0.60 prior to the dye program, yet would have been 0.85 in the absence of evasion.

Suggested Citation

  • Marion, Justin & Muehlegger, Erich, 2007. "Measuring Illegal Activity and the Effects of Regulatory Innovation: A Study of Diesel Fuel Tax Evasion," Working Paper Series rwp07-026, Harvard University, John F. Kennedy School of Government.
    • Handle: RePEc:ecl:harjfk:rwp07-026
    as

    Download full text from publisher

    File URL: https://research.hks.harvard.edu/publications/workingpapers/citation.aspx?PubId=4863&type=WPN
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Jonathan S. Feinstein, 1991. "An Econometric Analysis of Income Tax Evasion and its Detection," RAND Journal of Economics, The RAND Corporation, vol. 22(1), pages 14-35, Spring.
    2. Raj Chetty & Adam Looney & Kory Kroft, 2009. "Salience and Taxation: Theory and Evidence," American Economic Review, American Economic Association, vol. 99(4), pages 1145-1177, September.
    3. James Alt, 1983. "The evolution of tax structures," Public Choice, Springer, vol. 41(1), pages 181-222, January.
    4. Raymond Fisman & Shang-Jin Wei, 2004. "Tax Rates and Tax Evasion: Evidence from "Missing Imports" in China," Journal of Political Economy, University of Chicago Press, vol. 112(2), pages 471-500, April.
    5. Pommerehne, Werner W & Weck-Hannemann, Hannelore, 1996. "Tax Rates, Tax Administration and Income Tax Evasion in Switzerland," Public Choice, Springer, vol. 88(1-2), pages 161-170, July.
    6. Dubin, Jeffrey A. & Wilde, Louis L., 1988. "An Empirical Analysis of Federal Income Tax Auditing and Compliance," National Tax Journal, National Tax Association, vol. 41(1), pages 61-74, March.
    7. Edgar L. Feige, 1979. "How Big Is the Irregular Economy?," Challenge, Taylor & Francis Journals, vol. 22(5), pages 5-13, November.
    8. Jonathan E. Hughes & Christopher R. Knittel & Daniel Sperling, 2008. "Evidence of a Shift in the Short-Run Price Elasticity of Gasoline Demand," The Energy Journal, International Association for Energy Economics, vol. 29(1), pages 113-134.
    9. Rosen, Harvey S, 1976. "Tax Illusion and the Labor Supply of Married Women," The Review of Economics and Statistics, MIT Press, vol. 58(2), pages 167-172, May.
    10. Slemrod, Joel & Blumenthal, Marsha & Christian, Charles, 2001. "Taxpayer response to an increased probability of audit: evidence from a controlled experiment in Minnesota," Journal of Public Economics, Elsevier, vol. 79(3), pages 455-483, March.
    11. Allingham, Michael G. & Sandmo, Agnar, 1972. "Income tax evasion: a theoretical analysis," Journal of Public Economics, Elsevier, vol. 1(3-4), pages 323-338, November.
    12. Stefano DellaVigna & Eliana La Ferrara, 2010. "Detecting Illegal Arms Trade," American Economic Journal: Economic Policy, American Economic Association, vol. 2(4), pages 26-57, November.
    13. Chang-Tai Hsieh & Enrico Moretti, 2006. "Did Iraq Cheat the United Nations? Underpricing, Bribes, and the Oil for Food Program," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 121(4), pages 1211-1248.
    14. Dubin, Jeffrey A. & Wilde, Louis L., 1988. "An Empirical Analysis of Federal Income Tax Auditing and Compliance," National Tax Journal, National Tax Association;National Tax Journal, vol. 41(1), pages 61-74, March.
    15. James Kau & Paul Rubin, 1981. "The size of government," Public Choice, Springer, vol. 37(2), pages 261-274, January.
    16. Wenzel, Michael & Taylor, Natalie, 2004. "An experimental evaluation of tax-reporting schedules: a case of evidence-based tax administration," Journal of Public Economics, Elsevier, vol. 88(12), pages 2785-2799, December.
    17. Clotfelter, Charles T, 1983. "Tax Evasion and Tax Rates: An Analysis of Individual Returns," The Review of Economics and Statistics, MIT Press, vol. 65(3), pages 363-373, August.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Giliberto Capano & Michael Howlett, 2020. "The Knowns and Unknowns of Policy Instrument Analysis: Policy Tools and the Current Research Agenda on Policy Mixes," SAGE Open, , vol. 10(1), pages 21582440199, January.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Justin Marion & Erich Muehlegger, 2008. "Measuring Illegal Activity and the Effects of Regulatory Innovation: Tax Evasion and the Dyeing of Untaxed Diesel," Journal of Political Economy, University of Chicago Press, vol. 116(4), pages 633-666, August.
    2. Slemrod, Joel & Yitzhaki, Shlomo, 2002. "Tax avoidance, evasion, and administration," Handbook of Public Economics, in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 3, chapter 22, pages 1423-1470, Elsevier.
    3. Bayer, Ralph-C & Sutter, Matthias, 2009. "The excess burden of tax evasion--An experimental detection-concealment contest," European Economic Review, Elsevier, vol. 53(5), pages 527-543, July.
    4. Torgler, Benno & Schneider, Friedrich & Schaltegger, Christoph A., 2007. "With or Against the People? The Impact of a Bottom-Up Approach on Tax Morale and the Shadow Economy," Berkeley Olin Program in Law & Economics, Working Paper Series qt6331x6vz, Berkeley Olin Program in Law & Economics.
    5. Kalina Koleva, 2005. "Seeking for an optimal tax administration: the efficiency costs’ approach [A la recherche de l'administration fiscale optimale : l'approche par les coûts d'efficience]," Post-Print halshs-00195354, HAL.
    6. Kalina Koleva, 2005. "A la recherche de l'administration fiscale optimale : l'approche par les coûts d'efficience," Cahiers de la Maison des Sciences Economiques r05050, Université Panthéon-Sorbonne (Paris 1).
    7. Benno Torgler & Friedrich Schneider & Christoph Schaltegger, 2010. "Local autonomy, tax morale, and the shadow economy," Public Choice, Springer, vol. 144(1), pages 293-321, July.
    8. Benno Torgler & Friedrich Schneider & Christoph Schaltegger, 2010. "Local autonomy, tax morale, and the shadow economy," Public Choice, Springer, vol. 144(1), pages 293-321, July.
    9. Lumir Abdixhiku, Geoff Pugh, Iraj Hashi, 2018. "Business Tax Evasion in Transition Economies: A Cross-Country Panel Investigation," European Journal of Comparative Economics, Cattaneo University (LIUC), vol. 15(1), pages 11-36, June.
    10. Torgler, Benno & Schneider, Friedrich & Schaltegger, Christoph A., 2007. "With or Against the People? The Impact of a Bottom-Up Approach on Tax Morale and the Shadow Economy," Berkeley Olin Program in Law & Economics, Working Paper Series qt6331x6vz, Berkeley Olin Program in Law & Economics.
    11. Benno Torgler, 2003. "Tax Morale and Institutions," CREMA Working Paper Series 2003-09, Center for Research in Economics, Management and the Arts (CREMA).
    12. Colin C. Williams, 2023. "A Modern Guide to the Informal Economy," Books, Edward Elgar Publishing, number 18668.
    13. Nagac Kadir, 2013. "Effect of Tax Administration Reform and Audits on Tax Evasion in Turkey," Review of Middle East Economics and Finance, De Gruyter, vol. 8(3), pages 1-23, January.
    14. Martin Halla & Friedrich G. Schneider, 2005. "Taxes and Benefits: Two Distinct Options to Cheat on the State?," Economics working papers 2005-05, Department of Economics, Johannes Kepler University Linz, Austria.
    15. Çule, Monika & Fulton, Murray, 2009. "Business culture and tax evasion: Why corruption and the unofficial economy can persist," Journal of Economic Behavior & Organization, Elsevier, vol. 72(3), pages 811-822, December.
    16. Mukhtar Ali & H. Cecil & James Knoblett, 2001. "The effects of tax rates and enforcement policies on taxpayer compliance: A study of self-employed taxpayers," Atlantic Economic Journal, Springer;International Atlantic Economic Society, vol. 29(2), pages 186-202, June.
    17. Li, Jianjun & Wang, Xuan & Wu, Yaping, 2020. "Can government improve tax compliance by adopting advanced information technology? Evidence from the Golden Tax Project III in China," Economic Modelling, Elsevier, vol. 93(C), pages 384-397.
    18. Anastasiou Athanasios & Kalligosfyris Charalampos & Kalamara Eleni, 2021. "Determinants of tax evasion in Greece: Econometric analysis of co-integration and causality, variance decomposition and impulse response analysis," Bulletin of Applied Economics, Risk Market Journals, vol. 8(1), pages 29-57.
    19. James Alm, 2019. "What Motivates Tax Compliance?," Journal of Economic Surveys, Wiley Blackwell, vol. 33(2), pages 353-388, April.
    20. Catalina Tejada & Eliana Ferrara & Henrik Kleven & Florian Blum & Oriana Bandiera & Michel Azulai, 2015. "State Effectiveness, Growth, and Development," Working Papers id:6668, eSocialSciences.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:ecl:harjfk:rwp07-026. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: the person in charge (email available below). General contact details of provider: https://edirc.repec.org/data/ksharus.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.