Figure 2.  Gasoline Prices and Taxes, 1985-2020

Source:  AEO98 National Energy Modeling System,
run BASECOMP.D10179A (October 1997).

Figure 3.  Federal Motor Fuels Taxes, 1932-1997

After the recession of 1981-1982, motor fuels taxes became an even greater source of funds for Federal highways, which had fallen into disrepair. The Surface Transportation Assistance Act of 1982 (P.L. 97-424) increased the tax rate on gasoline and diesel fuel from 4 to 9 cents per gallon. The diesel tax rate was increased to 15 cents per gallon by the Tax Reform Act of 1984 (P.L. 98-369). The 6-cent-per-gallon increase in the diesel fuel tax was in lieu of increasing truck taxes based on vehicle weights. An additional 0.1 cent per gallon added to the gasoline and diesel tax rates in 1986 to fund the cleanup of underground storage tanks⁴ expired in January 1996 but was reinstated on October 1, 1997.

The first State gasoline tax, of 1 cent per gallon, was enacted in Oregon in 1919 for the purpose of financing highways. By 1929, every State had adopted a gasoline excise tax of between 2 and 6 cents per gallon, most of which went for highway finance. State gasoline taxes changed infrequently between 1919 and 1980, usually at 1-cent increments. The energy price shocks of the 1970s led to energy conservation, which dampened tax revenues. Slumping revenues and growing highway repair costs combined to put upward pressure on motor fuels taxes. As a result, in the 1980s States increased taxes more frequently and by larger amounts than they had in the past.⁵ On average, State fuel taxes nearly doubled between 1980 and 1990, growing at an average annual rate of 6.4 percent for gasoline and 6.5 percent for diesel. Growth in State taxes slowed in the 1990s, with average annual increases of 2.9 percent for gasoline and 2.6 percent for diesel between 1990 and 1997.

Federal Tax Methodology

In AEO98 and previous AEO forecasts, Federal taxes on gasoline and diesel fuel were assumed to remain at current levels. The assumption is in keeping with the overall Federal policy-neutral stance of the forecast, and it enables NEMS to be used for analysis of proposed Federal tax changes with AEO98 as a baseline. Scenarios related to carbon taxes and carbon stabilization are the most recent examples of such analysis. Motor fuels tax laws typically have an expiration date, but for the AEO analysis they are not assumed to expire. Because motor fuels taxes have not been allowed to expire in the past, the AEO98 forecast and its predecessors have assumed that these taxes will be reissued. The following paragraphs look at the assumption of no new taxes in light of previous tax trends.

Projections in AEO98 are presented in terms of inflation-adjusted 1996 dollars. Adjusting the historical tax series for inflation shows periods of decline when inflation was rising faster than taxes, and periods of increase when taxes were rising faster than inflation (Figure 5). Despite numerous tax increases in the 1980s and early 1990s, the inflation-adjusted tax level for gasoline did not approach the 1960-1961 level of 19 cents per gallon (1996 dollars) until after the 1993 tax hike. Inflation has since eroded the gasoline tax value to 18 cents per gallon in 1996 dollars. Because the diesel tax increased by 6 cents per gallon more than the gasoline tax in 1984, the inflation-adjusted diesel tax is still above its 1960-1961 level.

When Federal taxes are looked at in terms of their share of total prices, the tax shares projected in AEO98 also fall within the historical range. Since 1970 the Federal tax component of gasoline prices has ranged between 3 and 17 percent. The 1997 Federal tax share of 15 percent is among the highest since 1970. By 2020 the Federal tax component of the projected gasoline price falls to only 7 percent, among the lowest values of the historical range. The tax component of diesel fuel prices can only be looked at since 1983, when EIA began collecting the diesel fuel price series. Since that time Federal taxes have represented between 8 and 22 percent of diesel prices, with the 1997 share of 21 percent representing the third highest of the period. In comparison, the 2020 Federal tax share of the projected diesel fuel price is 10 percent, the third lowest of the period.

The political nature of taxes makes them highly unpredictable. In the past, the one predictable aspect of motor fuels tax policy was that all significant changes were tax increases. However, recent expectations of budget surpluses have created some uncertainty in the opposite direction by opening up the possibility that motor fuels taxes might be reduced.

State Tax Methodology

In AEO98 and previous forecasts, State taxes on gasoline and diesel fuel are assumed to grow at the rate of inflation. When adjusted for inflation, the assumed State taxes look like a flat trajectory (Figure 6). The assumption was chosen because it results in a trajectory that falls within historical bounds, whereas alternative assumptions would have resulted in trajectories that go outside the bounds.

From a historical perspective, the assumed values fall between the peak of the early 1960s and the trough of 1982. The graph of average State taxes adjusted for inflation shows that during the 1960s and 1970s they did not keep pace with inflation, resulting in a declining tax value. In fact, the tax value was cut in half between 1962 and 1982, dropping from 29 cents per gallon to 14 cents per gallon for gasoline and from 29 cents per gallon to 15 cents per gallon for diesel fuel. In contrast, average State tax values rose between 1983 and 1993 as taxes increased faster than inflation. After adjusting for inflation, State taxes for both fuels grew by more than 5 cents per gallon between 1983 and 1993. After 1993, growth in State taxes slowed relative to inflation, resulting in a 1-cent decline for both fuels.

Since 1970 the average State tax for gasoline, adjusted for inflation, has represented between 7 and 21 percent of the end-use price. State taxes represented the highest percentages in the early 1970s, when oil prices were relatively low, and the lowest percentages in between 1979 and 1985, when oil prices were relatively high. Between 1974 and 1978 and in the years since 1986 State taxes have represented between 12 and 17 percent of gasoline prices. The AEO98 gasoline price projection for 2020 reflects a State tax component of 15 percent. Looking at the same shares for the average State diesel tax, the shares have ranged between 10 percent and 17 percent since 1983 (a diesel price series is not available before 1983). In general, State taxes as a share of diesel prices have increased over time, with the share ranging between 16 and 17 percent since 1991. The State tax share reflected in the 2020 diesel price projection is 16 percent, which is comparable to the levels of the 1990s.

According to analysis by the Federal Highway Administration, State tax rates have historically been influenced by growth in fuel consumption in two different ways.⁶ Growth in consumption results in increased revenues which tend to reduce pressure for States to increase tax rates. On the other hand, growth in vehicle miles traveled (VMT) leads to greater requirements for highway investments and the revenues to support them. Looking at the AEO98 growth rates for projected consumption and VMT provides little insight about State tax behavior, because the rates are similar. Consumption levels for gasoline and diesel are projected to grow at average annual rates of 1.1 percent and 1.4 percent, respectively, while VMT grows by 1.5 percent annually. If anything, the slightly higher growth rate for VMT would point to a greater need for revenues for highway spending.

The rate of increase in State motor fuels taxes may also be affected by the level of Federal funding relative to highway spending requirements. In general, increases in Federal highway funding require matching funds from States, creating greater revenue requirements for the States. Revenues increase in the absence of tax rate changes as the consumption of gasoline and diesel grows, but pressure to increase State motor fuels taxes occurs when the growth in revenues falls short of increases in highway spending.⁷ The possible link between growth in State fuels tax rates, the Federal share of highway spending, and motor fuel consumption can be evaluated by looking at implied tax revenues in the AEO98 forecast. It is important to note that tax revenues do not necessarily equate to highway spending (some tax revenues may be spent for other projects, such as mass transit); however, tax revenues do indicate an availability of funds. The combined Federal and State revenue generated from gasoline and diesel fuel consumption in the AEO98 projections declines from $59.2 billion in 1997 to $57.4 billion in 2020 in inflation-adjusted dollars.

Because no increases in Federal fuels taxes are assumed in the forecast, a long-term decline in the Federal share of total tax revenues occurs. The Federal share of tax revenues generated from motor fuels in 2020 shrinks to 33 percent, compared with 49 percent in 1997. Such a decline would presumably create pressure to increase State tax revenues. The rising consumption contributes to an increase of $8.6 billion (1996 dollars) in State motor fuels tax revenues. The question is whether this projected growth in State tax revenues will be enough to keep up with the growing revenue requirements for highway funding over the forecast period.

Methodologies of Other Forecasters

Other energy modelers, such as DRI and WEFA, make different assumptions about fuel taxes. Both the DRI and WEFA forecasts reflect gasoline and diesel fuel prices for the year 2020 that are substantially higher than the AEO98 projections. Review of the tax assumptions for the alternative forecasts reveals that the composition of the projected prices—i.e., crude oil costs, taxes, and refining, marketing, and distribution costs—also differ from those in the AEO98 projections (Table 3).

Other forecasts that do not adhere to the policy-neutral assumption for Federal taxes reflect nominal increases in Federal taxes over the forecast period. Comparing Federal gasoline taxes, the increases assumed by DRI and WEFA fall short of the rate of inflation, resulting in inflation-adjusted tax levels of 15 cents per gallon in both forecasts. This tax level is 3 cents below the 1997 value but 6 cents above the AEO98 assumption. In the DRI forecast, diesel fuel taxes also fall short of inflation but exceed the AEO98 tax level by 4 cents per gallon. In the WEFA forecast, diesel fuel taxes keep pace with inflation and are 12 cents per gallon above the AEO98 tax level.

State taxes on diesel fuel grow with inflation in all three forecasts, but State taxes on gasoline grow at different rates. After adjusting for inflation, the State gasoline taxes in the DRI forecast are about 1 cent per gallon below the AEO98 tax level. The WEFA forecast reflects somewhat higher State gasoline taxes, which are about 6 cents per gallon above the AEO98 level.

Although the DRI price projections are substantially higher than those of AEO98 and WEFA, they are similar to the AEO98 price projections in terms of their price components. As a percentage of end-use prices, the DRI breakdown of crude costs, total Federal and State taxes, and the refining, marketing, and distribution costs is almost identical to that of AEO98. However, the split between Federal and State taxes differs between DRI and AEO98, with Federal taxes representing higher shares of gasoline and diesel end-use prices and State taxes representing lower shares than in AEO98.

The WEFA forecast shows a much higher tax share of projected prices. In the WEFA gasoline projection, Federal taxes represent a slightly higher share of the total price, and State taxes represent a dramatically higher share than in the DRI and AEO98 projections. State taxes represent 20 percent of the end-use gasoline price projected by WEFA, compared with 16 percent for AEO98 and 13 percent for DRI. In contrast, it is the Federal tax component that is relatively high in the WEFA forecast for diesel fuel, representing 19 percent of the diesel fuel price, compared with 14 percent of the DRI price and 10 percent of the AEO98 price. The Federal, State, and total tax shares in all three forecasts fall within historical ranges. The percentage of State taxes reflected in the WEFA gasoline price projection is noteworthy because it is similar to the peak levels of the early 1970s.

Summary

Motor fuels taxes represent a significant component of retail gasoline and diesel prices, and assumptions about what taxes will look like in the future have a major impact on their price projections. The State and Federal tax assumptions used in AEO98 are not only important to the gasoline and diesel price projections but also explain some of the differences between the AEO98 projections and those of other forecasters.

The AEO98 Federal tax methodology assumes current laws and legislation, which means that Federal taxes on gasoline and diesel fuel remain at current levels. Although significant changes to motor fuels taxes have always been tax increases in the past, recent projections for Federal budget surpluses make tax reductions a possibility. After adjusting for inflation, AEO98 Federal taxes on both gasoline and diesel fuel are cut in half by 2020. In addition, the shares of projected prices represented by Federal taxes are also cut in half. The decline in inflation-adjusted Federal taxes in AEO98 is not as dramatic as it first appears when it is put into a historical context. The projected Federal taxes in real terms are within historical bounds, and the reduction is similar to the decline in tax values between 1959 and 1982.

The AEO98 assumption that State taxes will increase at the rate of inflation also looks reasonable in the context of historical trends. Throughout the AEO98 forecast, aggregate State taxes remain constant at 20 cents per gallon for gasoline and 19 cents per gallon for diesel fuel, in terms of inflation-adjusted 1996 dollars. Between 1960 and 1997, average State taxes ranged between 29 cents per gallon for gasoline and diesel in 1962 and 14 cents per gallon and 15 cents per gallon for gasoline and diesel, respectively, in 1982. As price components, State taxes represent 15 percent of the projected gasoline price and 16 percent of the projected diesel fuel price in the AEO98 forecast. These percentages are within historical ranges and are consistent with shares during the 1990s.

A comparison of AEO98 tax assumptions with those of DRI and WEFA uncovers some interesting differences between forecasts. Unlike AEO98, DRI and WEFA do not assume “current laws and legislation” but instead assume increases from current Federal tax levels. Although relatively higher than AEO98, the Federal taxes on gasoline in both the DRI and WEFA forecasts reflect a decline in terms of 1996 dollars. The Federal diesel tax in the DRI forecast also represents a decline in inflation-adjusted dollars, but the Federal diesel tax in the WEFA forecast remains the same after adjusting for inflation. Looking at State taxes, all three forecasts reflect taxes on diesel fuel that keep pace with inflation. In terms of State taxes on gasoline, DRI is only 1 cent below the AEO98 inflation-adjusted levels. WEFA reflects higher State gasoline taxes relative to the other two and  is 6 cents above the 1997 level and the AEO98 projection and 7 cents above the DRI projection in 1996 dollars.

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