A dynamic carbon tax on gasoline

This paper proposes a dynamic carbon tax (DCT) that stabilises gasoline prices by adjusting inversely to crude oil prices. Compared to a standard fixed-rate carbon tax, the DCT can be expected to cut more CO2 emissions while receiving greater public support. Therefore, it could be a useful instrument for accelerating the ecological transition. The analysis is articulated in three parts. First, we show how, in the context of vehicle choice decisions, any policy that reduces uncertainty about future gasoline prices improves the expected utility of more fuel-efficient vehicles relative to less efficient ones. Second, we show how a DCT could be designed to automatically stabilise gasoline prices and thereby reduce price uncertainty. Third, we conduct an econometric test for whether gasoline price volatility, considered as a proxy for price uncertainty, negatively affects vehicle fuel efficiency. Using microdata from the 2017 National Household Transport Survey, we test for negative correlation between gasoline price volatility and fuel efficiency of new vehicles sold in the US. Evidence of a negative correlation is indeed found despite limited volatility of gasoline prices in the study period. Further tests are warranted using data from different time periods and alternative model specifications.