Common Tragedies

Thoughts on Environmental Economics

Pay-as-you-drive insurance

Posted by Daniel Hall on December 19, 2008

Just as an all-you-can-eat restaurant encourages more eating, all-you-can-drive insurance pricing encourages more driving. That means more accidents, congestion, carbon emissions, local pollution, and dependence on oil. This pricing system is inequitable because low-mileage drivers subsidize insurance costs for high-mileage drivers, and low-income people drive fewer miles on average.

In this discussion paper, we propose and evaluate a simple alternative: pay-as-you-drive (PAYD) auto insurance. If all motorists paid for accident insurance per mile rather than in a lump sum, they would have an extra incentive to drive less. We estimate driving would decline by 8 percent nationwide, netting society the equivalent of about $50 billion to $60 billion a year by reducing driving-related harms. This driving reduction would reduce carbon dioxide emissions by 2 percent and oil consumption by about 4 percent. To put it in perspective, it would take a $1-per-gallon increase in the gasoline tax to achieve the same reduction in driving.

In order to facilitate the spread of PAYD, we propose a three-part strategy. First, states should pass legislation permitting mileage-based insurance premiums. Second, the federal government should increase the funding available to PAYD pilot programs by $15 million over five years. Finally, since the monitoring costs may exceed the expected benefit of PAYD to insurance firms but are much smaller than the social benefit, the federal government should offer a $100 tax credit for each new mileage-based policy that an insurance company writes, to be phased out once 5 million vehicles nationwide are covered by PAYD policies.

Here is the paper from Jason Bordoff and Pascal Noel.  The pointer is from this week’s RFF Policy Commentary, where they add:

Our research also shows that low-income families would especially benefit from PAYD, because low-income people tend to drive fewer miles. Every household income group making less than $52,500 (in 2001) would save money on average. Further, the savings for low-income groups are significant as a share of their total income, whereas any losses by high-income groups are not significant.

Yes, more like this, please.

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12 Responses to “Pay-as-you-drive insurance”

  1. bella said

    The PAYD model you are presenting is really a tax on driving and not car insurance. While it is true that accidents increase with miles driven, they are not in any way linear. Further, the variability is still largely driver specific. Coupling insurance with miles driven in the simple manner you are advocating is just a tax scheme and not an insurance issue.

  2. Carlos Ferreira said

    The closer to the actual consumption you (tax?), the more efficient it will be. But, in fact, the costs of monitoring will be very high. Two problems:
    1. Adverse selection: this scheme will be chosen by those who already drive less, so there might be less-than-expected effect.
    2. Moral hazard: people will try to tamper with the measuring mechanism. Monitoring this could be nightmarishly expensive. It’s the same as trying to forego the petrol tax and tax directly the amount of C02 emitted. It’s probably possible to devise a system to monitor and enforce it, but how do we make sure there are no violations of the device?

    It’s a good idea, but needs more thinking. There’s little use in it if it’s too expensive to monitor compliance.

  3. josh walker said

    I don’t really think it can be considered a tax so long as its implemented by a company. The fact that people are required by the state to have insurance doesn’t make the money they spend getting it taxes. People buy all kinds of insurance already. This could just be another option for people who think it’s a good idea. So long as it’s opt-in and the business model succeeds enough to provide appropriate coverage as mandated by the state, I don’t see the problem.

    The implementation would be up to the company, and a major challenge would be fraud prevention, but I doubt such issues would be intractable, and probably not as expensive as all the money people spend on insurance.

  4. Shawn said

    I disagree with the first two posts.

    The PAYD model you are presenting is really a tax on driving and not car insurance. While it is true that accidents increase with miles driven, they are not in any way linear. Further, the variability is still largely driver specific. Coupling insurance with miles driven in the simple manner you are advocating is just a tax scheme and not an insurance issue.

    This is already handle by the actuary models that insurance uses. Not an issue.

    1. Adverse selection: this scheme will be chosen by those who already drive less, so there might be less-than-expected effect.

    This can also be handled by actuary tables.

    I.e., Insurance has proven itself highly capable of figuring out what to charge in order to turn a profit.

    Moral hazard: people will try to tamper with the measuring mechanism. Monitoring this could be nightmarishly expensive. It’s the same as trying to forego the petrol tax and tax directly the amount of C02 emitted. It’s probably possible to devise a system to monitor and enforce it, but how do we make sure there are no violations of the device?

    It’s called an odometer. There’s already been huge effort made into making it tamper proof with legal regulation to boot. It’s been fairly successful, yes there are cases of tampering, but they are quite rare these days.

    Insurance agent can just glance at the dash and compare to a previous reading. It uses a technology called subtraction. Then presto, like magic they know how much the car has been driven. Most likely will rely on user reporting at some interval, then spot check in case of accident. You lie, you’re not covered.

    I for one would love a pay as you go policy. I work 5 miles from home and regularly ride a bike or with a friend. I got rid of a trunk I would have kept for odd jobs, if I could have pay as you go insurance I would have kept it.

  5. rickd said

    I’ve wanted this for soooo long. Auto insurance for me is expensive, and using public transportation most of the time, it doesn’t make sense for me to pay for a month of driving when I really only use my car 5 or 6 days out of that month.

    Check out MileMeter (http://milemeter.com/about) if you’re in Texas- they seem to be the first company around that offers “by the mile” insurance.

    In response to Bella- pay by the mile is not a tax! You pay lots of taxes on your car (emissions, sales tax, city stickers, registration, plates) but insurance is insurance. Whether you insure for a month or a mile, you are paying for collision insurance. If the government decides to start charging you for every mile you drive- THAT is a tax. We currently don’t have that system in the US. Unless you consider that you pay tax on each gallon of gas- which is the only way you are currently “taxed” by miles driven (other than, perhaps, tolls).

  6. Stupid said

    Are you daft? Insurance companies already charge different rates based on annual mileage. Based upon age, work status, and annual mileage, you are assigned a class. Different classes have different numerical modifiers to base rates. And yes, if you do not have typical mileage and work rates, the companies expect you to prove that by showing odometer readings over time and tax information about earnings. You might look into a situation before you open your mouth.

  7. Dody Bush said

    Driving is already expensive enough. Insurance is for those who get into accidents. I happen to drive a lot, or did, and never had an accident. If this policy were instituted, I would skirt the insurance all together, breaking the law because it is a TAX not an insurance anymore. As it is I am considering LEGAL means of not being required to carry insurance on a vehicle, since I have never been in an accident in all my years of driving. I find required insurance to be a necessary pain to keep things honest, but in reality I find the high premiums I pay would be better placed in a bank account “just in case” instead of wasting it all on insurance i never use. Thus my search for a vehicle that doesn’t need insurance. Your proposed idea will just send more people in the same direction as me.

  8. Big WTF said

    Yes, more direct government intervention into markets is obviously the corrct answer. Yes, more like this, please.

    My neighbor commutes long distances to his work. He is a very conscientious and safe driver, but he must be punished by government mandated increases to his automobile insurance premiums because he is a CO2 violator. Automobile insurance premium hikes are the obvious and fair way to combat this problem.

    Please think before you post.

  9. bee bee said

    Straight from exam 5… :o)

  10. bee bee said

    I think the BIGGEST problem is the fact that this is very big brother-y.

  11. twomonkeysayoyo said

    Speaking as someone who is forced to drive an additional 360 miles/week to see his kids due to court rulings that already inordinately favor the mother (even though she makes twice what I do) I fear this kind of legislation. This change could force me out of their lives completely due to the cost of driving increase. I realize I would be a small minority but one that needs to be looked at. I don’t CHOOSE to drive this anymore than I choose to be involved in my kids lives. I live 1.5 miles from where I work, and 2 miles from the grocery store and drive a car that gets over 32mpg. By every measure I fit the ‘low income’ profile and definition and yet here is another tax on me, another burden for being a good dad.

  12. Dave said

    Some will pay more and some will pay less. You can’t satisfy everyone. In terms of environmental impact, PAYD insurance would be a great idea. The fact that some people live so far away from where they work is all the more reason why this policy should be implemented. This would encourage people to move closer to where they work. You’ll say you can’t afford it but maybe you should give up the American dream of a big house with a back yard. Surburbia was a failed experiment. Driving less is also good for your health. It’s also been shown that people who take transit weigh less than people who drive. Walking to/from the bus stop is good exercise.

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