Halving the fuel excise is smart politics, but flawed policy

First, it is fiscally costly and unsustainable. Our research^[4] suggests that the effect of a cut to temporarily soften a hit comes at significant cost to the budget. If debt-financed, such relief comes with higher public debt. Depending on the scale, this may create a debt overhang, where higher interest bills become a drag on growth long after the crisis has ended.

The Morrison government’s fuel excise cut^[5] in 2022 to address cost-of-living pressures cost about $1 billion a month, a cost that is hard to sustain in long-term crises.

Second, it is too narrow in what it covers. A fuel excise cut only lowers the cost of fuel, even though the shock is hitting Australian households and businesses more broadly with higher prices^[6] for other goods that are reliant on energy, transport, and hydrocarbon-dependent products.

Third, it is too broad in who it helps. Relief is spread across all fuel users, not those who need it most. This is poorly targeted and makes the excise cut a blunt tool that benefits wealthy households, as well as low-income ones.

When fuel is scarce, higher prices serve an important role. They signal that economic adjustment is needed, encouraging businesses and households who can cut back to do so. This helps ensure that limited supply goes to essential uses – farming, food transport and other industries, and households under the greatest pressure from rising fuel costs.

A fuel excise cut works against this price signal. When higher prices can’t do the rationing, we tend to fall back on queues, spending limits or formal rationing, increasing the administrative cost.

Additionally, a broad fuel tax cut creates a wider macroeconomic tension. If it is not offset elsewhere in the budget, it can leave overall spending higher than is helpful when inflation is still^[7] a concern and the Reserve Bank is working to dampen demand.

That does not make a fuel excise cut inherently inflationary, but it does sit uncomfortably alongside the RBA’s efforts to slow growth.

Economists^[8] have voiced similar warnings^[9] about the inflation risk of broad fuel tax relief.

What better-designed relief could look like

If governments want to help households through an oil shock, support should be targeted and fiscally sustainable. The aim should be to direct help to the people under the greatest pressure, rather than simply subsidising all fuel users.

In the near term, that points to more targeted responses, such as direct payments to vulnerable, low-income households and support for essential fuel-using activities.

To fund that relief, a temporary tax on the windfall profits earned by the largely foreign-owned gas exporters from the energy shock is worth considering^[10]. Alongside these policies, the excise cut would reconcile public demands for action within a sound and broader economic policy package.

Over the longer term, policymakers could also focus on reducing Australia’s exposure to future energy supply shocks. That means strengthening energy security and exploring policies that support the transition to lower fuel dependence.

Read more: Amid a surge in energy prices, a windfall tax on gas profits could be the best way to protect households^[11]

References

1. ^{^} has announced (www.pm.gov.au)
2. ^{^} cost the federal budget (www.abc.net.au)
3. ^{^} national income (www.investopedia.com)
4. ^{^} Our research (doi.org)
5. ^{^} fuel excise cut (doi.org)
6. ^{^} higher prices (theconversation.com)
7. ^{^} inflation is still (www.abs.gov.au)
8. ^{^} Economists (theconversation.com)
9. ^{^} similar warnings (www.theage.com.au)
10. ^{^} worth considering (theconversation.com)
11. ^{^} Amid a surge in energy prices, a windfall tax on gas profits could be the best way to protect households (theconversation.com)