Car User Taxes, Quality Characteristics and Fuel Efficiency: Household Behavior and Market Adjustment

Tinbergen Institute Discussion Paper 12-122/VIII

51 Pages Posted: 17 Nov 2012

See all articles by Bruno De Borger

Bruno De Borger

University of Antwerp - Department of Economics

Jan Rouwendal

VU University Amsterdam - Department of Spatial Economics; Tinbergen Institute

Date Written: November 2, 2012

Abstract

We study the impact of fuel taxes and kilometer taxes on households' choices of vehicle quality, on their demand for kilometers driven, and on fuel consumption. Moreover, embedding this information in a model of the car market, we analyze the implications of these taxes for the opportunity costs of owning cars of different quality. Higher quality raises the fixed cost of car ownership, but it may raise (engine size, acceleration speed, etc.) or reduce (fuel technology, etc.) the variable user cost. Our results show that kilometer charges and fuel taxes have very different implications. For example, a higher fuel tax raises household demand for more fuel efficient cars, provided that the demand for car use is inelastic; it reduces the demand for characteristics that raise variable user costs. Surprisingly, however, a kilometer tax unambiguously reduces the demand for more fuel efficient cars. Incorporating price adjustments at the market level, we find th at fuel taxes raise the marginal fixed opportunity cost of better fuel efficiency at all quality levels. Total annual opportunity costs of owning highly fuel efficient cars increase, while they decline for cars of low fuel efficiency. We further find that both a fuel tax and a kilometer charge reduce the total annual fixed ownership cost for car attributes that raise the variable cost of driving (engine power, acceleration speed, etc.). There is thus in general a trade-off between fixed and variable car costs: if the latter increase - due to higher fuel prices or a kilometer charge - total demand for cars decreases and a return to equilibrium is only possible by a decrease in fixed costs. All theoretical results are illustrated using a numerical version of the model. The analysis shows that modeling the effect of tax changes on household behavior alone can produce highly misleading results.

Keywords: car market, car quality, fuel tax, kilometer charge, market equilibrium

JEL Classification: H22, L62

Suggested Citation

De Borger, Bruno and Rouwendal, Jan, Car User Taxes, Quality Characteristics and Fuel Efficiency: Household Behavior and Market Adjustment (November 2, 2012). Tinbergen Institute Discussion Paper 12-122/VIII, Available at SSRN: https://ssrn.com/abstract=2176652 or http://dx.doi.org/10.2139/ssrn.2176652

Bruno De Borger (Contact Author)

University of Antwerp - Department of Economics ( email )

Prinsstraat 13
Antwerp, B-2000
Belgium
+32/3/220.40.31 (Phone)
+32/3/220.47.99 (Fax)

Jan Rouwendal

VU University Amsterdam - Department of Spatial Economics ( email )

De Boelelaan 1105
1081HV Amsterdam
Netherlands

Tinbergen Institute ( email )

Burg. Oudlaan 50
Rotterdam, 3062 PA
Netherlands

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