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analysis

There have been two – contradictory – critiques of the move by several provincial governments to temporarily reduce fuel taxes to offset surging pump prices.

Some critics scoffed at the idea that those tax savings would be passed on to drivers. Rather, Big Oil would simply plump its profit margins and pocket the money.

Others fretted that returning tax dollars to motorists would further fuel consumption.

The first critique has, so far, proved to be wrong. And the second never made much sense at all.

University of Calgary economist Trevor Tombe has analyzed changes in pump prices in Alberta and Ontario since those provinces reduced their fuel taxes on April 1 and July 1, respectively. His conclusion: for the most part, those tax reductions have been passed through.

To reach that conclusion, Prof. Tombe constructed a theoretical price based on the historical relationship of pump prices in Alberta and Ontario to those of comparable markets. So, it’s not enough for pump prices to go down after taxes were cut. His modelling indicates whether prices declined by more than they otherwise would have (or rose by less than they otherwise would have).

There was volatility from day to day, with between 80 and 100 per cent of Alberta’s 13-cent-a-litre temporary reduction in excise taxes flowing through to drivers. The same pattern is emerging in Ontario, which temporarily cut fuel taxes by 6.4 cents a litre (which includes a reduction of .7 cents a litre in HST), although Prof. Tombe cautioned that the volatility of day-to-day prices are a “huge caveat” in drawing conclusions after less than a week.

But Prof. Tombe’s observations are perfectly in keeping with economic theory: in a market with sufficient competition – a description that most assuredly applies to retail gasoline outlets – a drop in the cost of a commodity product should be passed through. Vendors accept smaller margins but aim to maximize profits by boosting sales volumes.

That might seem to validate the second critique, namely that reductions at the price pump will spur consumption. But that point ignores another fundamental economic fact: fuel purchases are price inelastic, meaning that a given change in price results in a smaller change in demand. Gasoline is estimated to have a price elasticity of -0.25 to -0.5; that means that a 10-per-cent drop in price would result in an increase in demand between 2.5 and 5 per cent.

Ontario’s tax cut is more like a 3-per-cent cut; even using the higher elasticity figure, that would result in an unimpressive 1.5-per-cent increase in consumption, or less than 1 per cent with the lower elasticity. Alberta’s larger reduction could boost consumption by something on the order of 3.5 per cent at the high end, or under 2 per cent using the lower elasticity estimate.

Taxing questions

The issue of federal benefits for Canadian seniors continues to generate lots of feedback from readers, including one person who questioned why those who have amassed significant balances in tax-free savings accounts (TFSAs) are eligible for the Guaranteed Income Supplement aimed at helping the poorest seniors.

It might seem a contradiction that someone with significant savings can still receive the GIS – but that is in fact the case. The mechanics are clear enough: the GIS and the Old Age Security program use taxable income to determine clawbacks. (In the case of the GIS, OAS payments are excluded.)

Of course, neither the balances in a TFSA nor any withdrawals from it are included in taxable income.

But the logic behind that structure is elusive, particularly in the case of the GIS. The sole object of that program is to alleviate senior poverty. Reflecting that goal, the clawback structure is far from generous: after $5,000 in earnings, GIS payments are reduced by 50 cents on the dollar for every additional dollar of taxable income. And the GIS is fully clawed back once taxable income hits $20,208.

However, those clawback rules do not apply to funds withdrawn from a TFSA – neither the original contributions, nor any resulting investment returns. For the moment, that’s likely to be mostly a marginal issue. As of 2022, the maximum cumulative contribution was $81,500; it would take some impressive investing chops to push that amount deep into six-figure territory.

But that contribution ceiling rises each year, and investments will have time to mushroom for workers in their forties and fifties. So, there could be cases in which a retiree with no private-sector pension would be eligible for some GIS payments (although any income from the Canada Pension Plan would result in clawbacks.)

That is in accordance with current rules – but should those rules allow wealthy individuals to claim hardship benefits?

Line Item

Borrowed lunch money: A new study from the Fraser Institute takes aim at the contention that permanent deficits are acceptable, even desirable, so long as economic growth outpaces interest rates. That’s more than a matter for academic debate: the federal Liberals have made that argument as a justification for their large (if declining from the dizzying levels of 2020) deficits.

But the Fraser Institute study argues that simple arithmetic doesn’t tell the full story. First, there are the somewhat obvious perils of the crowding out of private investment, and that international bond markets can suddenly swing against borrowers that seem risky.

More subtle is the point concerning the effect of rising debt levels on interest rates (nudging upward) and economic growth (nudging downward). In short: as debt levels rise, the balance between interest rates and economic expansion grows steadily less favourable.

Follow me on Twitter, @PatrickBrethour or ask your Taxing Question here.

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