Despite higher gas prices, American consumers have not backed off their demand for gas, apparently preferring to cut back consumption in other areas. Average U.S. gas prices were 31.2 cents per gallon higher on August 21, 2006 than on the same date in 2005, yet fuel deliveries to gas stations increased 1.7 percent in July over the same period in 2005. However, prices in real dollars -- adjusted for inflation -- have been higher 13 times since 1919. The current price increases do not yet seem to be sufficient to persuade consumers to make significant lifestyle changes."/> Americans Unwilling To Give Up Their Gas

Americans Unwilling To Give Up Their Gas

August 30, 2006

Never underestimate the American consumer’s thirst for gas.

 

The signs of adaptation to high gas prices are everywhere. Average U.S. gas prices were 31.2 cents per gallon higher on Aug. 21 than on the same date in 2005, yet fuel deliveries to gas stations increased 1.7 percent in July over the same period in 2005, with an overall year-to-date rise of 0.9 per cent, according to the American Petroleum Institute. And it would appear that many people are choosing their gas tanks over their stomachs: 29 per cent of people surveyed by Chicago-based consumer trends analyst Technomic in May said they had recently eaten out, down from 49 per cent in February, and according to The NPD Group, actual restaurant sales have declined for the first time in two and a half years.

 

The increase in gas prices, coupled with rising interest rates, has started to affect the better-off as well. Many of the retailers who had enjoyed Americans’ willingness to buy upscale items -- Starbuck’s, Williams-Sonoma, Whole Foods -- are beginning to see sagging sales similar to the downturns at the more proletarian chains, like Wal-Mart. Overall, second-quarter consumer spending rose 2.5 per cent, but that was down from 4.9 in the first quarter.

 

“You do have to go back over 15 years to find an environment where the consumer has responded like they are today,” Rick Federico, Chairman and Chief Executive of upscale casual-dining chain P.F. Chang’s said in a July conference call. “We have lowered our expectations for the back half of the year to better reflect current trends in our business.”

 

 

How expensive is it really?

 

There’s a bright side, according to Dawn McLaren, research economist at the W. P. Carey School of Business’s Bank One Economic Outlook Center and editor of the Western Blue Chip Economic Forecast: things have been worse.

 

In analyzing U.S. Energy Information Administration gas-price data from 1919 to the present, she determined that prices in real dollars -- adjusted for inflation -- have been higher. In 1919, for example, the 26 cents per gallon would translate to $2.88 per gallon today; in 1981, which logged the all-time high for inflation-adjusted price, the actual price of $1.38 was equivalent to $2.96 today.

 

In 13 of those years, prices topped the $2.60 per gallon recorded in 2006. Prices are projected to range from $2.25 to $2.75 in 2007, lower than the inflation-adjusted prices in 20 of the years studied by McLaren.

 

Also, as McLaren points out, Americans still spend far more on paying off debt -- up to four times more. People may be spending as much as 5 per cent of their budget on gas, she says, but that’s only a couple of percentage points above normal, not enough to change habits drastically.

 

“People are used to their big cars and getting around,” she says.

 

“Crude” is how oil is described in its raw form. There’s a price for finding and extracting it, then another to refine it, or turn it into useful liquids, like gas, diesel, heating oil. Additional costs come from transportation, marketing, taxes, etc. McLaren says the new wrinkle is that the cost of crude now accounts for more than half the retail price of gas -- much more than it used to.

 

“Events in the crude-oil market will hit us quicker,” she says.

 

Geopolitical instability in the Middle East and continuing strong demand contribute to rising prices, says McLaren. Other supply sources are available, she says, in geopolitically stable Canada, for example.

 

Worldwide, however, the cost of extracting oil is up. Political problems that continuously threaten supply lines in the Middle East overshadow this issue, but McLaren said it has become more costly to get the oil out of the ground. Canada possesses supplies of shale- and sand-oil, but they have been virtually untapped because of the expense of separately the oil from the surrounding material.

 

“We’re simply running out of easy ways to get at it,” McLaren says. “The technology to extract what's there is really expensive, and that pushed the price of crude up.”

 

However, there are those in the energy industry who believe profit margins are driving the high prices. Jeff Morris, president of Alon Energy USA -- which refines, distributes, and markets fuel, and operates 7-11 convenience stores -- says the consumer is shouldering an unfair portion of the price burden.

 

“West Texas producers don’t need $60 crude to convince them to drill and produce, certainly the world doesn’t need $60 crude to encourage production, and refiners don’t need a 10 per cent to 20 per cent margin to encourage them to produce gas,” Morris told The Midland Report-Telegram. “The consumer is right when he or she says, 'I don’t like $3 gas.' I don’t see it has to be that way. I think that is crazy. The business plan of destroying demand is nonsensical.”

 

 

The lifestyle trap

 

Ruth Bolton, professor and the W. P. Carey Chair in Marketing, says consumers won’t likely change the way they use gas because of three factors: lifestyle, lack of substitutes, and the strength of the economy. "High levels of employment imply substantial disposable income in the population, so household incomes simply aren't that tight," she observes.  

 

But lifestyle may be the most powerful disincentive to change. 

 

“They can’t easily change [lifestyle],” she says. “They’ve already bought the SUV; they’ve bought that big house in the suburbs. Combining a few errands doesn’t have a huge impact. Our lives have been set up.”

 

Observers talk of a “magic number,” a price of gas that will finally force major consumer changes, but both Bolton and W. P. Carey marketing professor John Lastovicka believe that number is, as Lastovicka puts it, “way, way higher than we think.”

 

It’s apparent that the forces of personal freedom, vanity, and reluctance to change are winning the battle against the forces pushing for lower gas consumption and alternative fuels. The lack of a long-term and global view inoculates us, says Lastovicka, who lived through the gas shortage of the early 1970s.

 

“In 1972 you couldn’t pick up a consumer magazine that had to do with automobiles that wasn’t full of gas-saving tips,” he says. “It’s just not as big a deal [now]. It’s really more that we are complaining about the pain of paying. Thirty-five years ago if the average family before the embargo was paying eight, nine per cent of their household budget on gas, and the pump price increased, that was noticeable. Today it’s going from four per cent to five per cent. The country is more affluent. From a short-run standpoint, we’re able to afford it more.”

 

Much has been made of the new hybrid cars and SUVs, but as McLaren says, the mileage per gallon difference from regular cars is not all that great, so the purchase is more of a values statement about conserving fuel than one made to lower one’s gasoline bill. Lastovicka points out that based on a cost/benefit analysis he did on the Toyota Prius in 2004, the return on the greater purchase price for hybrid vehicles doesn't kick in until 80,000 miles or so.

 

In a study for the National Transportation Board, Lastovicka and other investigators looked at ways to promote the use of mass transportation. Lastovicka assessed the prevalence of people in the Pacific Northwest who rode the bus or train as a matter of choice, rather than necessity.

 

“Empirically, it was virtually impossible to find people like that,” he says. “We just have a great love for the automobile. [Plus] there’s a perception in the U.S. that only the poor people are riding the buses. That’s a perception we need to get over.” He adds that the stigma applies to carpooling and the use of bicycles.  

 

Then there is the erosion of the concept of jointly-owned and jointly-used communal property, he observes. Today each family member has a TV, a phone, a car; we are not as interested in the greater benefits of sharing as in independence.

 

“We could play together [better],” says Lastovicka. “It’s just not about individual behavior, it’s about collective behavior. It’s easy to get spoiled and insist on having your own car.”

 

Bottom Line:

 

  • Despite higher gas prices, American consumers have not backed off their demand for gas.
  • In real 2005 dollars, recent price hikes have resulted in only the 14th-highest prices since 1919.
  • Besides increased demand from India and China, gas costs more these days because extracting it from the earth costs more.
  • Prices at the pump are quicker to rise in recent years because a higher percentage of the cost of gas (nearly half) now comes from the cost of crude oil, so the effect of market forces shows up much faster on the street.
  • Lifestyle is the main factor keeping consumers from changing their gas-buying and consumption habits.