Petrol taxes and inflation
Posted February 7, 2008on:
At Kiwiblog there is mention of Don Brash stating that we should think about allowing the Reserve Bank to increase and reduce the petrol tax. This is something that the Reserve Bank has actually suggested itself (at the same time they suggested a floating GST rate).
As far as I can tell they want to do it as during a boom asset prices drive consumption, so if you tax petrol you introduce a negative income effect which lowers consumption – opposite for a recession. This works because demand for petrol is inelastic (as there are few substitutes for driving your car), and as a result the amount a person spends on fuel will increase with the price – leaving them less to spend on other stuff. This will reduce demand-pull inflation, and allows the RBNZ to keep a fund of money that they can inject into the economy when a recession is threatening. A benefit is the fact that the administration costs of the tax are low, as the institutions are already in place.
1. Efficiency in the goods market, if the relative price was socially efficient (say that the neutral rate involved the efficient Pigovian tax), increasing it is not.
2. Petrol is an input to production, as a result increasing the price will create cost/push inflation
3. As poor people spend a greater proportion of their income of petrol, an increase in petrol taxes will be regressive during a boom. Furthermore, low income labour are only paid their reservation wage, if an increase in petrol taxes increases their reservation wage it will lead to further cost/push inflation.
4. In legislative terms, allowing the RBNZ to adjust a tax is dodgy (no tax without representation).
So what does everyone else think?