Shota Fujishima

Traffic congestion causes considerable loss to our economic and social life. The Texas Transportation Institute estimates that the annual congestion cost exceeds $10 billion in Los Angeles and $8 billion in New York. To resolve this problem, a wide range of transport policies have been tried out around the world.

Some policies try to reduce traffic by raising transport costs. The most popular way to do this is with a fuel tax, but other examples include tolls or road pricing, which have been implemented in cities such as London. Other policies focus on regulating traffic directly. For example, cities such as Shanghai put a cap on the total number of license plates available for drivers in the city.

There is no guarantee that these policies will improve our lives. In particular,

the problem with a policy instrument such as a tax is that it has to be set at an optimal level, but we don’t know what that is. For example, if a fuel tax is too high, it can worsen our general social welfare even if it helps relieve traffic congestion.

This kind of inefficiency is actually quite likely, given that tax rates in the real world mostly depend on the discretion of policymakers rather than on empirically grounded evidence. But how do we know what the optimal tax rate is?

Economic theory is useful in setting an objective guideline to decide such issues. It is by no means perfect and leaves room for improvement, but it can help reduce arbitrariness in policymaking by utilizing scientific insights.

A fundamental principle of economics is that people consume a good only if their willingness to pay (WTP) is higher than the price of the good. This is a principle that can be applied to traffic flow. But what is the price of traffic? If we consider automobile traffic, the price includes vehicle operating costs such as gas and parking. In addition, automobile traffic congestion causes associated costs of air pollution, noise and time delay. These should also be included in the price, but drivers generally pay only the vehicle operating costs; therefore when their WTP is lower than the price, they will drive.

The problem with a policy instrument such as a tax is that it has to be set at an optimal level, but we don’t know what that is. For example, if a fuel tax is too high, it can worsen our general social welfare even if it helps relieve traffic congestion.

Economists argue that the traffic congestion problem could be resolved by allowing only drivers whose WTP is higher than the total price charged on roads. When planners set a tax rate, they can obtain the anticipated traffic level by counting the number of drivers whose WTP is higher than the price.

But how can planners know the WTPs of the potential drivers? WTP is private information. Indeed, who knows your WTP, say, for Coca-Cola? Traditional economic theory has assumed that preferences of agents are known to planners, but they are not, so recent research is trying to deal with cases where preferences are unknown. One goal of this research is to design a mechanism that makes agents reveal their preferences. A familiar example of this sort is an auction, where agents reveal their WTP for an object through submitting bids.

This mechanism of an auction can be harnessed for our traffic congestion problem as follows. The planner puts “rights of passage” up for bid. Only people who have the right of passage can drive. The planner sets a price of the right to drive at some low level and gradually raises it. If bidders remain in the auction until it ends, they are obligated to buy the right at the closing price. Hence, the bidders opt out when the price exceeds the level they will pay. By ending the auction when the price of the driving rights reaches the price of traffic, the planner can allow only people whose WTP is higher than the price of traffic to drive.

All of this is feasible only when the number of bidders is not terribly large, but in fact, the number of potential drivers is huge (for example, the number of commuters in Tokyo is more than 10 million!). From a practical point of view, then, it is nearly impossible that all potential drivers could simultaneously participate in an auction. Therefore, a feasible mechanism is needed.

Although no perfect solution yet exists, economics furnishes a clear guiding principle to planners: people whose WTP is higher than the price should be able to drive, but those whose WTP is lower than the price should not. If the tax rate is too high or too low, this will not work. Moreover, since planners generally do not know the WTPs of potential drivers, they need to design a feasible mechanism to gather the needed information. My hope is that in the future policymakers will be able to utilize insights from economic theory and reduce arbitrariness of their decision making, and my goal as an economist is to turn this hope into a reality.