Because the only way to cut consumption significantly, short of a move and/or a lifestyle change, is to drive more efficient vehicles, gasoline demand is said to be “price inelastic”. One of the determinants of price inelasticity is the time it takes to change prices. Numbers never mean anything without a frame of reference, and so our frame of reference would be the time to act on changing consumption of gas. Coming up with a new route, carpooling, spending less time driving around, knowing where we're going in the first place, and never driving at rush hour are ways we can adjust the quantity we demand, but as we see, it takes a little while (a week to a month sometimes) for us to adjust these short term measures, especially when some of them, like carpooling or changing your work hours, are harder to change back if the mere gas spike falls.
What if gas prices never again stabilize below $2.00 a gallon? Suppose the new standard price is $2.09? Well, decisions about which new cars to buy will change a bit; rather than anticipate an average price of $1.20 or whatever it was then, we'll realistically expect gas to stay at $2.09, and thus buy more fuel efficient cars. That's not to say everyone will necessarily get a smaller car, as is the case in
The tricky thing is that the new car market deals with several differentiated products, and brand names make a difference. People also make different preferences based on the number of people in their family, how long they want to travel in the vehicle, or some other personal preference. People also vary in how often they replace their cars; some people replace them as soon as they're done paying for them, whereas people like my parents keep their cars until they have almost no trade-in value.
Even people who keep price in mind will note that if they drive 15,000 miles a year and get an overall fuel economy average of 20mpg, that's 750 gallons of gas a year, which at $2.09 is $1567 per year. Upping that mileage to 25mpg means 600 gallons and $1254 per year, and 30mpg means 500 gallons and $1045 per year. This means that going from 20mpg to 30mpg for someone who keeps their car for 7 years would be as well-off paying $3657.50 more for the increase in fuel economy. A car getting 20mpg, though, is likely to be more luxurious than a car getting 30mpg currently. Automakers, though, would have a profit incentive of $3657.50 for a vehicle by raising overall mileage from 20 to 30mpg, as opposed to $2100 with a gas price of $1.20, and if you do the math, an increase from 15 to 20mpg (SUV territory) yields the same gains.
I conclude that a permanent rise in gasoline prices will result in more fuel-efficient vehicles and greater overall fuel efficiency. The complexities, though, demonstrate that random sampling, anecdotal evidence, news reports and the like will not show certain things. Increases in fuel efficiency will obviously not be as great as they would be if fuel efficiency was the only differentiating factor in buying a car. From that, we see the limits of the effects of price changes in gasoline on the automobile purchasing preferences of consumers.
2 comments:
The sweet part is that the incentive margin is per car. When you consider an entire series of higher mileage cars, the incentives are multiplied. Bravo Dave.
Also, higher gas prices increase public pressure on research and development. We are much more likely to see a revolutionary technological breakthrough as a result of private economic forces than anything the government can do by itself. A well-advised government would allow for tax breaks for R&D in these corporations to increase the rate of technological growth.
Very good points made David! Most of the information is something I probably should have calculated/considered when buying a car but never thought about it. Obviously I thought about fuel economy, but didn't weigh it into my buying decisions as much as I should have. Gas mileage is more important now than ever.
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