Gas Prices May Be Rising But You’re Still Not

Paying for the True Cost of Driving

BY JUSTIN WORLAND

MARCH 24, 2022 12:06 PM EDT

Across the globe, politicians are fuming about high gas prices—and trying a range of policy
mechanisms to bring down costs. The United Kingdom has cut the fuel duty, helping slash the cost for
consumers to fill up their cars. In California, lawmakers have proposed a gas tax rebate that would put
money back in the pockets of drivers. A suspension of the federal gas tax has also garnered attention
in Washington.

The reason for the push is fairly obvious: politicians and the voters they represent hate higher gas
prices. When gas prices rise, the cost of filling up the tank chips away at consumers’ discretionary
spending and puts the household budgets of the most vulnerable in the red. Right now, the average
gas price in the U.S. is a near-record $4.24 per gallon, according to AAA, as a result of the Russian
invasion of Ukraine and other factors.

But nonetheless, as politicians try to bring down the cost of gas, I want to take a moment to reflect on
the true cost of driving. That cost includes not just the price of a vehicle and filling up the tank but
also the costs that operating it impose on society, including pollution that drives climate change.
Calculating the damage done by pollution and other factors such as traffic and accidents—what
economists call externalities—is a fraught process, and economists don’t necessarily agree about all
the variables. But one thing is true under any reasoned consideration: driving costs society much
more than you’re paying to do it.

The idea that driving imposes costs on society is fairly easy to understand. Cars require well-
maintained roads, which are subsidized by the government, and the more drivers use these roads, the
more money is required to fix them. The pollution released when you drive worsens air quality, which
contributes to a range of health ailments from heart disease to asthma, some of which can eventually
kill people. Traffic wastes people’s time and harms economic productivity. More driving means a
greater chance of car accidents, which kill tens of thousands of people each year in the U.S. On top of
all that, driving contributes to climate change. The average passenger vehicle in the U.S. emits 4.6
metric tons of carbon dioxide annually, according to data from the U.S. Environmental Protection
Agency (EPA). And, considered collectively, EPA data shows that transportation is responsible for
nearly 30% of the country’s greenhouse gas emissions, more than any other sector.

So what does this all cost in dollars and cents? To get an understanding, I dug into the past few
decades of economic research and found one paper—a 2007 study from the research group Resources
for the Future—that looked at the range of questions at play. If you add up all the mileage-related
externalities, namely congestion, accidents, and local air pollution, the cost comes to a whopping
$2.10 per gallon. The paper looked at climate change separately and estimated that the cost of driving
to the planet only came to about six cents per gallon. But the paper notes one big caveat: it all depends
on how much you assume climate change is going to cost.

If you substitute the study’s outdated estimate with new figures for how much emitting a ton of
carbon dioxide costs, the cost of driving to the planet balloons to 72 cents per gallon. Add those two
together and you can see how the cost of the externalities can easily add up to $3 per gallon. That’s on
top of the actual cost of the fuel; 86% of the gas price at the pump today is made up of the price of the
original crude oil, the cost of refining it into usable gasoline, and the cost of distributing and
marketing it.

Of course, it’s worth taking the externality estimates with a serious grain of salt. They’re outdated, for
one, and many people question the whole practice of putting a monetary value on the loss of human
life and very real suffering that will result from the effects of climate change. Moreover, no politician
is seriously proposing trying to impose a fuel tax that would actually account for all the damage
driving causes. On average right now, state taxes add 31 cents to the cost of a gallon of gas while
federal taxes add another 18.4 cents, according to data from the Congressional Research Service.
Given the political dynamics of gas prices—and the political interest in cutting those fees—any move
to increase the gas tax would be political heresy.
“It’s just very difficult to do through fuel taxes alone, because you need big increases in fuel taxes,
which are politically difficult,” says Ian Parry, the author of the 2007 paper, who now works as the
principal environmental fiscal policy expert at the International Monetary Fund, of the policy needed
to transform the transportation sector. Instead, economists like Parry suggest a slew of other levers to
push: fees on dirty vehicles, rebates to purchase new ones, and road congestion fees, among other
things.

And, despite the clear economic case for gas taxes, politically-minded policy experts say that there’s a
world in which providing some form of gas tax relief could help address climate change if it offers
politicians the latitude to pursue other ambitious climate policies. “Do I, on this substance, support
this? No, of course not,” says Gernot Wagner, a professor of climate economics at New York
University, of proposals for a gas-tax holiday. But “if you basically trade off 18.4 cents for much, much
more ambitious policies? Yeah, of course. Let’s go for it.”

Still, no matter what happens with the political debate over high gas prices, it’s useful for drivers to be
aware—both as consumers and citizens—that there is a much higher cost to driving than they’re
paying at the pump.
Determining the cost of things is a crucial aspect in economics. This article attempts to quantify
the true cost of driving, not just the monetary one. It begins by talking about the many measures
that different governments are taking to reduce the cost of gas during this time of international
conflict. Most of these are some form of tax cut. The effect of these measures on gas prices can
be demonstrated by the following graph:

Since a tax cut reduces the

cost of producing and
distributing gas, the supply
increases, shifting the supply
curve from S 🠆 S+tax cut.
Price reduces from Pe 🠆 Pt ,
increasing quantity supplied
from Qe 🠆 Qt . The region in
blue shows the tax incidence
on consumers, and the one in
pink is the incidence on
producers. The region shaded
red is the deadweight loss
incurred by society.

Diagram 1: Effect of
tax on gas prices
The article then goes on to explain what is meant by
externalities in economics. It mentions pollution caused to the environment, congestion and
accidents as some of the externalities that come with driving. All these may not be reflected in
the price of gas (and cars), but the havoc they can wreak on society is very real. This means
that the market does not charge as much as it should for gas. This discrepancy can be shown in
diagram 2.

The production of oil has

negative externalities, since
marginal social cost is greater
than the marginal private cost.
This causes market failure to
occur when things are left to
be determined by only the
forces of supply and demand.

Market equilibrium occurs at

MPC=D (B), so market price is
Pm, and quantity supplied is
Qm. However, after quantity Qo, the social cost arising from production of one additional unit is
greater than the benefit.
This means that society is over producing and over consuming gas, not realizing its true cost.
The optimum allocation of resources, or the allocatively efficient point is equilibrium A. At this
point, no deadweight loss exists, which can be shown in the region shaded red when the market
operates freely. In this case, the DWL is in the form of atmospheric harm that comes with the
release of carbon dioxide into the air when gas is consumed.

In order to ensure that the market operates at this point, the most common course of action is
an indirect tax. The article mentions that the external cost arising from one gallon of gas is $3,
so the tax would ideally be exactly this amount per gallon in order to fully eliminate the DWL.

However, the article begins by saying that the opposite is happening worldwide. Towards the
end, an expert is cited saying that other forms of policies may be more effective and accepted
than tax on gas in a time where all prices are skyrocketing. These include fees on dirty vehicles
and congestion.

This scenario leads us to one of the most pressing questions that humanity needs to answer
this century: the question of sustainability. Times seem to be changing and more people are
concerned about the environment than ever before, but when we come face to face with the
short term disadvantages that acting sustainably creates, we seem to cave and go back to our
old ways. One thing is clear: the future does not lie with fossil fuels. We can either pay to
prevent economic, social and environmental collapse, or pay to deal with the consequences
once they already happen.