Converging on Crisis: Saving the Highway Trust Fund
October 13, 2015
In 2014, governments spent $230 billion on highways and mass transit. About a quarter came from the federal government, mainly from the Federal Highway Trust Fund. With the fund facing serious shortfalls that threaten its solvency, the existing system of revenue collection must be examined and evaluated to identify potential solutions to the mounting challenges posed by budgetary shortfalls in the fund and consequentially inadequate investment in infrastructure.
The Highway Trust Fund
Founded in 1956 to help finance the development and long-term growth of the Eisenhower Interstate Highway System, the Federal Highway Trust Fund (FHTF) distributes grants for federal highway and, beginning in 1982, mass transit projects as well as small disbursements for leaking underground storage units. The HTF is primarily funded through two types of taxes: (1) the federal excise tax on gasoline which stands at $0.18 per gallon, and (2) the federal excise tax on diesel which stands at $0.24 per gallon. There are also other fees and taxes that help to finance the HTF such as taxes on tires, but the fuel taxes constitute around ninety percent of revenues for the Fund.  Prior to the establishment of the HTF by the Federal-Aid Highway Act of 1956 and the Highway Revenue Act of 1956, funds for federal transportation projects were drawn from the General Fund at which ever level was deemed necessary. With the advent of the Interstate System, the Federal government formed the HTF and designated that “user taxes” would fund it. It was logical that those who utilized the new transportation infrastructure most would be the ones who would contribute to its expansion and upkeep.
Taxes are collected upstream from the producer/importer of the product. While the tax receipts technically do go to the General Fund, they are hypothecated which means that revenues from the federal gas tax are translated into the HTF. So, every $1 collected by the IRS from an oil refiner is earmarked as $1 for the HTF. Since the federal gas tax is a flat excise tax rather than a percentage tax (e.g. state sales tax) it is not subject to short-term consumption patterns and changes that would affect its revenues. In 2014, the federal government spent $46.3 billion on highways and $12.5 billion on mass transit. It collected $34 billion in revenues and had an $11 billion shortfall. Since 2008, Congress has shifted $65 billion from the General Fund to the HTF to keep it solvent. In addition to these short-term problems, long-term economic trends and exogenous factors can create serious challenges for maintaining a steady and increasing revenue stream. 
When American surface transportation infrastructure requires the largest influx of capital investment due to lifespan obsolescence, deferred maintenance, and mothballed projects, the HTF faces constrained revenues due to (1) hypothecation, (2) inflation, (3) technological advancements, and (4) shifting microeconomic behaviors. Furthermore, the states are ill-suited to accept increased responsibility for transportation administration and capitalization due to serious budgetary constraints, the incongruence of state gas tax rates with transport needs, and the appropriation of gas tax receipts for mandatory state spending. The myriad impediments to government infrastructure investment preclude modernization and adaptation for changing transport modes and shifting economic demands.
Imagine that most healthcare funding was derived in toto from excise taxes on unhealthy consumer products such as cigarettes, sodas, and alcohol. We do currently fund government programs with hypothecated excise taxes from cigarettes, but these are earmarked for specific federal and state health initiatives that are minute compared to the entirety of the HHS (Medicare and Medicaid) budget. However, our primary source of federal surface transportation funding is a hypothecated excise tax on fuel sources. Washington spends approximately $50 billion per year on surface transportation, mainly in the form of grants to local authorities and states for authorized projects.  Although the “user fee” model satisfies a sense of fairness in that use of federal resources is pegged to a commensurate cost for such use, it ensures that revenues rather than project need is the determining factor for the scale and breadth of federal transportation initiatives. Back to the healthcare example: if our healthcare programs were primarily funded by hypothecated excise taxes, we would be unable to expand services, despite popular demand and expert advisement, without a significant uptick in receipts from the healthcare excise taxes.
Dependency on revenues is not the only disadvantage of a hypothecated tax model. It generates two behavioral forces that generate disincentives for future investment. By directly linking gas taxes with federal transportation funding, it ensures that when gas prices are high, such as during the mid-2000s, people are opposed to any incremental rise in the federal gas tax rate as their allocation of funds towards transportation spending have already increased. When gas taxes are low, and the government seeks to reinforce pocketbooks such as during the recent Great Recession, it is unsustainable to approve new taxes from both a political and a Neo-Keynesian viewpoint. Therefore, increased spending resulting from increased revenues is almost impossible to achieve.
Returning to the initial impetus behind the implementation of the federal gas tax and the HTF, it is apparent that politicians and policymakers were dedicated to ensuring that those who utilized infrastructure the most, such as truckers, contributed the most to its maintenance and expansion. However, the unintended consequence of this is the perception that surface transportation infrastructure is more of a consumer service and less of a national investment. This precludes the willingness of individuals to contribute to a system, rife with tolls and truckers, when they feel that those who use it most should shoulder the fiscal burden to support its upkeep. The integrated nature of our economy, however, ensures that the shadows of underfunding touch all lives. Consumer prices rise for all citizens when goods are delayed in transit, bottlenecked. American economic competitiveness is diminished when our comparative advantage slips due to inadequate commercial connections, bridges that cannot support freight, and ports that cannot export LNG.  Prices and jobs are not the mere bailiwick of truckers and interstate commuters, but rather the underpinnings of the larger economy. If hypothecation is abandoned and funds are drawn from the General Fund, it will improve the solvency of the HTF and it will reestablish federal transportation funding as a national investment. 
Hypothecation is not the only barrier to achieving a sustainable HTF. Inflation, rising dramatically since the breakdown of the Bretton Woods System, eats away at the value of the dollars collected ensuring that every year, each $0.18 contribution buys less concrete, employs fewer workers, and builds diminishing mileage. In 1993, Congress raised the gas tax to $0.18 per gallon from $0.14 per gallon. In terms of funding the HTF. (This change did not take effect until 1997 as the increase amount was used for deficit reduction.) However, the federal gas tax is not indexed to inflation. This means that as inflation increases from year-to-year, the gas tax remains at $0.18 per gallon (in that year’s dollars) and its purchasing power declines commensurately. From 1993 to 2014, the increase in inflation was more than 60 percent. In order to purchase the same goods that could be bought for $0.18 in 1993 dollars, one would need $0.29 today (using 2014 dollars).
For the sake of simplicity, let us construct our model (also shown in Figure 2) by establishing some explanatory parameters. We will not include gasohol (which adds 10 percent ethanol), we will also disregard the 1993-7 diversion for deficit reduction and assume that 100% of finished motor gasoline is taxed at federal excise rate. If we include the increase in gross annual consumption of finished motor gasoline with the per gallon federal tax of $0.18, we find a 19 percent increase in annual revenues from 1993 to 2014. However, if we adjust for the purchasing power of that $0.18 (which in 2014 dollars equals $0.11 in 1993 dollars) we find a 27 percent decrease in annual revenues from 1993 to 2014, including the increase 19 percent increase in consumption. Almost every major government revenue and expenditure algorithm is indexed to inflation. By refusing to index the federal gas tax, every increase in inflation decreases the purchasing power revenues of the HTF. The impact of this devaluation was tempered by a steady increase in petroleum consumption from 1993 to 2014. (If it consumption had remained constant, revenues would have declined by 39 percent.) However, if petroleum consumption declines, the impact of inflation will be far more severe.
Since the 1970s, fuel efficiencies in automobiles have been steadily increasing. Whether due to economic pressures (1973 OPEC oil crisis) or government regulatory mandates (California emissions standards), the average rated miles per gallon for new models has increased 48 percent from 1980 to 2013. As vehicles, particularly passenger cars, become more fuel efficient, they consume less gasoline, and generate less revenue per mile in federal gas tax. However, they continue to congest roads, erode highway surfaces, and utilize deteriorating infrastructure. Thus, a mounting discrepancy between gasoline consumption and road usage is mounting. The greatest potential threat to the long-term solvency of the HTF may be plug-in electric vehicles (PEVs).
Since EVs rely on the electrical grid (or decentralized generating facilities) they can avoid the gas tax. They also tend to be heavy, which means more rapid degradation of road surfaces and more needed maintenance.
In 2013, 1.24 percent of cars sold in the United States were plug-in electric vehicles (PEVs). We can roughly project the market share of PEVs. We can estimate future sales of cars based on trends since 1980 using aggregated data and trends. [6-8] Following academic studies on projections of PEV sales, we can project a mid-range growth model for PEVs.  Our model demonstrates that we can reasonably predict that PEVs will constitute a majority of the car market by around 2028 (see Figure 3). From a solvency perspective, this could be doubly damaging to the HTF, under its current financing structure. First, it will reduce the amount of vehicles which consume taxable gasoline as a percent of total U.S. vehicle fleet, meaning that each vehicle-mile generates less revenue for the HTF. Second, it will require new infrastructure to accommodate PEVs (e.g. charging stations at rest stops). The overarching problem with the growth of the PEV market is that these vehicles escape the “user fee” model developed in the 1950s. Therefore, their replacement of gas-powered vehicles will reduce federal receipts and stress national surface transport infrastructure.
Shifting Microeconomic Behaviors
Recent studies show that per capita vehicle-miles traveled (VMT) in the United States has decreased since the mid-2000s. While the gross VMT has flat-lined (due to population growth), the per capita VMT shows that Americans, on average, are driving fewer miles per year. This is both informative and misleading. It shows that Americans are either finding alternatives to driving (mass transit, walking), reducing their VMT without an alternative, or that their VMT has been reduced by exogenous factors (losing a job, urbanization). The problem with using this statistical evidence is that the trend change has occurred during a period of rapid petroleum price fluctuation and economic distortion. To argue that these behavioral changes are the result of a single, defined factor, such as behavioral modification due to “Millennial aversion to driving” ignores the myriad potential catalysts for such a change.
Furthermore, should this trend continue (although the reduction in the rapidity of the decline should be noted), it will only exacerbate problems for the HTF. As per capita VMT declines, this means less gasoline purchased and less federal gas tax revenue. The Washington Post article which included Figure 5 (below) was only referring to passenger cars.  FHWA (Federal Highway Administration) studies predict highway VMT rates to rise faster among non-passenger car vehicles such as single-unit trucks and combination trucks.  If a larger segment of the VMT is produced by trucks, highways will degrade more quickly than with a higher proportion of lighter passenger cars. In order to make a confident empirical statement about passenger VMT trends, more data is needed in order to isolate and analyze the impact of exogenous factors such as gasoline prices. Also, if gasoline prices rise significantly over the next decade, this could influence VMT in addition to directing more freight off roads and onto rail.
Source: Washington Post
Source: Federal Highway Administration
If the federal government chooses, instead of raising revenues, to shift responsibility for road construction and maintenance to the states, serious problems may develop. States levy their own taxes and fees on gasoline and diesel. On average, these state rates for gasoline are higher ($0.21 in tax, and $0.97 in fees) than the federal tax ($0.18) per gallon. The combined tax for gasoline is $0.49 per gallon while the combined average for diesel is $0.55 per gallon.  However, there is massive variation between states in terms of tax and fee rates. While Alaska adds $0.11 on top of the federal rate (the lowest), Pennsylvania adds $0.51 per gallon. These interstate variations not only incentivize drivers to buy their gas in other states where prices may be lowered, but create a pattern of inconsistency and unfairness. If a state levies a low gas tax, but seeks disproportionate federal highway assistance, this is distorting a more even distribution. Furthermore, the second wealthiest state (New Jersey) levies the second lowest gas excise tax while its poorer neighbor, Pennsylvania levies the highest. Differences in state sales taxes pale in comparison to the difference in state gas taxes. 
New Jersey also exemplifies another problem with state gas taxes: states do not spend these funds on roads. In New Jersey, the state government, spent 95 percent of over $500 million in gas tax revenues to service its debt. Meanwhile, Texas spends 25 percent of its fuel receipts on education.  Then, these states are forced to pull funds from the HTF to pay for infrastructure maintenance and expansion, drawing from the already-depleting fund. While this may be interpreted as an argument for hypothecated state gasoline taxes, it also demonstrates that the states are even less able to administer a transportation program than Washington is. It would seem that states should have less authority over transportation revenues and expenditures so that they can stop robbing Peter (the HTF) to pay Paul (their state transportation funds) to pay Patty (their state debt servicing and other programs).
Summarizing the Crisis of Convergence
The HTF faces a multiplicity of threats, that when combined, endanger the ability of the United States Government to build infrastructure and make absolutely necessary repairs for the safety of the nation’s travelers.
The hypothecated tax ties our federal transportation funding to a diminishing source of revenues and precludes formal access to the General Fund.
Failure to index the gas tax to inflation has meant that the purchasing power of the HTF has significantly declined over time despite increases in petroleum sales. This problem will only increase as the $0.18 per gallon rate remains and inflation rises over time.
Technological advancements mean less revenues as more fuel-efficient cars replace their gas-guzzling predecessors. Also the supplanting of gasoline combustion vehicles with electrical vehicles will, long-term, significantly reduce gas tax revenues, while necessitating increased federal spending as novel EV infrastructure must be built.
Microeconomic shifts point towards reduced driving behavior in the short-term, reducing revenues from gas taxes from low-impact vehicles (passenger cars). Low gas prices mean increased truck freight (high-impact vehicles which degrade roads significantly more than passenger cars). Long-term, the increased share of trucks compared to passenger cars will degrade roads faster while providing less money to repair them. Also, the relationship of gas prices to macroeconomic economic conditions tends to create disincentives for raising gas taxes because of consumer perception.
While not mentioned before, legislative intransigence has played a major role in the HTF crisis. Had Congress indexed the tax to inflation, and raised rates marginally, the HTF would be solvent.
Technocrats and economists have proposed a number of solutions to the HTF crisis. The majority of these proposals include raising revenues through increasing the gas tax rates to cover the shortfalls in the HTF. Testifying before the Senate Committee on Finance, Joseph Kile, the Assistant Director for Microeconomic Studies at the CBO (Congressional Budget Office) laid out three basic options for Congress concerning the systemic shortfalls in the HTF: (1) reduce spending drastically by 33 percent for the authority and by 66 percent for the transit account; (2) implement new revenue measures or raise existing hypothecated taxes; or (3) increase transfers from the General Fund into the HTF.  Most have cited Option 2 as the best measure to solve the HTF’s problems. Gregory Mankiw, noted economist at Harvard University, wrote in 2006 for the need to increase the gas tax by $1 per gallon, phased in gradually over ten years.  Mankiw lays out a convincing argument for raising the gas tax, which would certainly allow the Federal government to increase transportation spending while, as Mankiw argues, “[making] the tax code more favorable to growth” and “[closing] the looming fiscal gap.”  He also notes that it would be beneficial to the environment by raising the costs of gasoline and encouraging more conservative consumption habits.
Mankiw fails to note if he would “de-hypothecate” the tax. It is assumed that he would, considering that he proposes to fill other budgetary shortfalls in non-transportation programs with revenues from the newly-raised gas tax. However, the function of the federal gas tax is not to raise general revenues, it is to specifically raise funds for the HTF, and in the case of states, for their transportation budgets (despite their reallocations).
Some have criticized federal intervention in transportation. Michael Sargent outlines an argument that is predicated on limiting federal involvement in financing transportation projects. He critiques a number of proposed solutions, which he alleged do not resolve the structural issues with the HTF. In his unfavorable assessment of a gas tax rate hike, he writes that “a gas tax increase could hurt motorists.” Sargent’s critique is misleading because the U.S. pays the second lowest gas taxes in the OECD (see figure below). Many other countries, with lower per capita GDP, levy far higher rates. However, his concerns about the long-term sustainability of the gas tax due to declining consumption are valid. [18-19]
Source: Council on Foreign Relations
Sustaining the HTF
In searching for a solution, it is important to address the challenges facing the HTF, rather than merely the budgetary shortfall. Revenues and expenditures should be tailored to fit market conditions and microeconomic trends. To resolve insolvency and to offer a sustainable and growth-oriented plan for the HTF, two strategies emerge.
(1) Fix What Exists: Modify Existing Tax
De-hypothecation is the first step. By ensuring that level of spending is determined by federal need rather than consumer demand and excise receipts, the Federal government can simultaneously ensure that it has flexibility in its transportation strategy and that the HTF is solvent. Thus, increased yearly collection in the gas tax, as Mr. Mankiw suggested, could be diverted to other programs, and yearly deficits could be matched seamlessly with infusions from the General Fund. The next step would be to index the gas tax to inflation to ensure that the HTF receives consistent receipts. Finally, an increase in rates along the lines of what Mr. Mankiw proposed (towards $1 per gallon) to close the shortfalls would ensure that the United States can pursue its infrastructural priorities in a timely and efficient manner. This solution is strong in that it addresses the ills of hypothecation and inflation, while ensuring that the HTF is insulated from economic conditions and augmented through new capital infusions. While certainly more politically feasible than the second strategy, this proposal is weak in that it fails to address the long-term problems with declining fuel consumption, changing technologies, and taxation fairness.
(2) Replace and Reform: The VMT Model
The Government could also decide to go further, and totally eliminate the current federal gas tax. This strategy has major strengths. It would avoid the problems associated with coupling revenue generation to consumption of a product with historical price volatility, major environmental ramifications, and trends towards technological obsolescence, at least for vehicular power generation.
If the gas tax is eliminated, how do we fund surface transportation, and fund it at a higher level than we currently do? One-hundred percent of HTF funds can be derived from the General Fund. Other taxes, such as income or capital gains, could be increased to commensurately account for this uptick in discretionary spending.
To return federal spending to levels in the early 1960s (around 0.8 percent of GDP) would equal approximately $134 million today. To return to this level would require $100 million in additional revenue generation, an unrealistic figure. Therefore, funding should, at a minimum, allow for continued growth in spending to approximately $60 billion by 2025. 
However when addressing revenue, the issue of “user fees” returns. The alternative to this solution lies in pursuing a tax model that returns to the purpose of the gas tax: tax motorists for using government roads. A solution is to enact a “VMT tax” which would levy a particular rate per mile to reflect the cost of that mile in terms of constructing the road and maintaining it. This would be scaled according to the weight class of the vehicle. To fund the HTF, including the highway and transit accounts, at a level of $65 billion for 2016, and using 2014 VMT figures, the federal government would need to levy an average VMT tax of $0.02 per mile. This would be indexed to inflation and adjustable. The strengths of this model would be: to ensure a steady, de-hypothecated and malleable revenue source; decouple transportation funding from expenditures from gasoline; equally tax vehicles regardless of engine type; tax vehicles based on their damage and use of federal roads; and insulate transportation revenues from changing technologies. A more extreme version of the VMT would be to completely eliminate gas taxes at both the federal and state level, replace them with a national VMT tax, federalize and eliminate toll roads, and allocate all major highway and transit capital spending through the HTF which would be funded at $250 billion. By increasing the average VMT tax to $0.08 per mile, the United States could eliminate all fuel taxes, increase transportation spending by $20 billion, and achieve all of the aforementioned benefits with the $0.02 per mile rate.
The VMT model has significant advantages, but also drawbacks. It would be politically challenging to implement the tax, and it would administratively difficult to ensure compliance by individual drivers. However, the VMT model would allow the U.S. to design a sustainable funding model for the foreseeable future.
1. “Financing Federal- Aid Highways,” US Department of Transportation: Federal Highway Administration, last modified February 20, 2015, http://www.fhwa.dot.gov/reports/fifahiwy/fifahi05.htm.
2. Joseph Kile, “Testimony on the Status of the Highway Trust Fund and Options for Paying for Highway Spending,” Congressional Budget Office, June 18, 2015. Accessed at https://www.cbo.gov/publication/50297.
3. Congressional Budget Office, “The Highway Trust Fund and the Treatment of Surface Transportation Programs in the Federal Budget,” CBO, June 11, 2014. Accessed at https://www.cbo.gov/publication/45416.
6. We use the equation y = -97644x + 107 where x represents an integer counting up from period one (1980). Therefore, 2014 is period 35 (x = 35). We can estimate the future sales by extending this to 2030 (period 51). Obviously, this does not include certain exogenous factors, but can give a rough idea of future trends and market share.
7. Methodology: annual units sold since 1980 have on-average fluctuated. Website (autoalliance.org). U.S. car sales from 1951 to 2014 (in units). http://www.statista.com/statistics/199974/us-car-sales-since-1951/.
8. It should be noted that our predictions for average annual car sales are, in the short-range, on the lower end of possibilities. However, we feel that adhering to the long-range trend of sales is a better heuristic. Furthermore, it is important to note that this reflects sales rather than gross vehicles operated so certainly ICE (internal combustion engine) vehicles will constitute a far larger proportion of total vehicles for a significant period even after EVs have achieved a majority of sales.
10. Emily Badger, “U.S. car travel has been on the decline for a decade. Will cheap gas change that?” The Washington Post, January 10, 2015, accessed at http://www.washingtonpost.com/news/wonkblog/wp/2015/01/10/u-s-car-travel-has-been-on-the-decline-for-a-decade-will-cheap-gas-change-that/.
11. “National Transportation Statistics,” United States Department of Transportation Office of the Assistant Secretary for Research and Technology, http://www.rita.dot.gov/bts/sites/rita.dot.gov.bts/files/publications/national_transportation_statistics/index.html; Office of Highway Policy Information, “FHWA Forecasts of Vehicle Miles Traveled (VMT): May 2015,” Federal Highway Administration, June 5, 2015. Accessed at https://www.fhwa.dot.gov/policyinformation/tables/vmt/vmt_forecast_sum.pdf.
12. “State Motor Fuel Taxes,” American Petroleum Institute, July 15, 2015. Accessed at http://www.api.org/~/media/files/statistics/statemotorfuel-onepagers-july-2015.pdf.
13. Alexander Hess and Thomas Frohlich, “States with the highest (and lowest) gas taxes,” USA Today, January 20, 2015. Accessed at http://www.usatoday.com/story/money/business/2015/01/20/24-7-wall-st-state-gas-taxes/22056799/.
14. Damian Paletta, “States Siphon Gas Tax for Other Uses,” The Wall Street Journal, July 16, 2014. Accessed at http://www.wsj.com/articles/states-siphon-gas-tax-for-other-uses-1405558382.
15. Joseph Kile, “Testimony on the Status of the Highway Trust Fund and Options for Paying for Highway spending.” https://www.cbo.gov/publication/50297.
16. N. Gregory Mankiw, “Raise the Gas Tax, “ The Wall Street Journal, October 20, 2006. Accessed at http://www.wsj.com/articles/SB116131055641498552.
18. Michael Sargent, “Highway Trust Fund Basics: A Primer on Federal Surface Transportation Spending,” The Heritage Foundation, May 11, 2015. Accessed at http://www.heritage.org/research/reports/2015/05/highway-trust-fund-basics-a-primer-on-federal-surface-transportation-spending.
19. Steven J. Markovich, “Transportation Infrastructure: Moving America,” Council on Foreign Relations, October 14, 2014. Accessed at http://www.cfr.org/infrastructure/transportation-infrastructure-moving-america/p18611.
21. Methodology: We use the equation y = -97644x + 107 where x represents an integer counting up from period one (1980). Therefore, 2014 is period 35 (x = 35). We can estimate the future sales by extending this to 2030 (period 51). Obviously, this does not include certain exogenous factors, but can give a rough idea of future trends and market share. Annual units sold since 1980 have on-average fluctuated. It should be noted that our predictions for average annual car sales are, in the short-range, on the lower end of possibilities. However, we feel that adhering to the long-range trend of sales is a better heuristic. Furthermore, it is important to note that this reflects sales rather than gross vehicles operated so certainly ICE (internal combustion engine) vehicles will constitute a far larger proportion of total vehicles for a significant period even after EVs have achieved a majority of sales.
Website (autoalliance.org). U.S. car sales from 1951 to 2014 (in units). http://www.statista.com/statistics/199974/us-car-sales-since-1951/ (accessed October 12, 2015).
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