Yes, He Can: Obama floats $10 a barrel Oil Tax

Case Summary
As a part of his 2017 budget, the then US president Barack Obama proposed to impose $10 a
barrel oil tax.

The US being one of the biggest oil consumer spends about $140 billion on gasoline alone. Data
shows increase in consumption of oil every year which indicates a deep intensity of people’s
reliance in fuels and increasing pollution. So, the major purpose of the plan was to lessen the
consumption of oil and adapt to a more environment friendly technologies. The budget allocate
from the tax would be utilized to fund eco-friendly technologies like autonomous cars, high
speed railways to reduce emissions from the US transportation system.

The imposition of such tax would reduce greenhouse emissions, encourage investment in
alternative energy sources and promote clean transportation. However, it is not limited to that.
Imposition of such tax has its effects not only on aggregate demand and supply of oil but also
on the consumption which lowers the national income.

This will result to tax multiplier (ΔY/ΔT = -b / (1-b)) effect as shown in following figure:

Fig: Tax multiplier

In the figure, equilibrium is established at E1 when the tax is not imposed. Here, Consumption is
C, Investment is I and Government Expenditure is G, AD1 is the sum of the three factors and
national income is Y1. When tax is levied directly to Oil Corporation, the companies involving in
purchasing the oil directly such as air ways companies, large industries and factories will face
increase in the cost. This leads to decrease in profitability for those corporations causing
investment and ultimately consumption to go down. Consequently, AD decreases and a new
equilibrium is established at E2 where national income is reduced from Y1 to Y2. This shows
that tax has negative effect on equilibrium level of National income and imposition of tax in oil
causes decrease of national income.