Anticipation, Tax Avoidance, and the Price Elasticity of Gasoline Demand

37 Pages Posted: 24 Feb 2015

See all articles by John M. Coglianese

John M. Coglianese

Board of Governors of the Federal Reserve System

Lucas W. Davis

University of California, Berkeley - Haas School of Business; National Bureau of Economic Research (NBER)

Lutz Kilian

Federal Reserve Banks - Federal Reserve Bank of Dallas; Centre for Economic Policy Research (CEPR)

James H. Stock

Harvard University - Department of Economics; National Bureau of Economic Research (NBER); Harvard University - Harvard Kennedy School (HKS)

Multiple version iconThere are 4 versions of this paper

Date Written: February 2015

Abstract

Traditional least squares estimates of the responsiveness of gasoline consumption to changes in gasoline prices are biased toward zero, given the endogeneity of gasoline prices. A seemingly natural solution to this problem is to instrument for gasoline prices using gasoline taxes, but this approach tends to yield implausibly large price elasticities. We demonstrate that anticipatory behavior provides an important explanation for this result. We provide evidence that gasoline buyers increase gasoline purchases before tax increases and delay gasoline purchases before tax decreases. This intertemporal substitution renders the tax instrument endogenous, invalidating conventional IV analysis. We show that including suitable leads and lags in the regression restores the validity of the IV estimator, resulting in much lower and more plausible elasticity estimates. Our analysis has implications more broadly for the IV analysis of markets in which buyers may store purchases for future consumption.

Keywords: Anticipation, Forward-looking behavior, Gasoline market, Gasoline tax, IV, Price elasticity of demand

JEL Classification: C23, Q41, Q43

Suggested Citation

Coglianese, John M. and Davis, Lucas W. and Kilian, Lutz and Stock, James H., Anticipation, Tax Avoidance, and the Price Elasticity of Gasoline Demand (February 2015). CEPR Discussion Paper No. DP10430, Available at SSRN: https://ssrn.com/abstract=2569260

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Lucas W. Davis

University of California, Berkeley - Haas School of Business ( email )

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National Bureau of Economic Research (NBER)

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Lutz Kilian

Federal Reserve Banks - Federal Reserve Bank of Dallas ( email )

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Centre for Economic Policy Research (CEPR)

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James H. Stock

Harvard University - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Harvard University - Harvard Kennedy School (HKS) ( email )

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