UC Davis Econ in the News

Prof. Knittel talks about gas prices. Consumers aren’t responding to the increases in gas prices as much as they did in the 70’s.

What’s different about the now versus the 70’s that consumers are so much less responsive to price changes? The obvious answer, at least to me, wasn’t mentioned in the article, but is discussed in the associated research paper:

Another hypothesis is that as incomes have grown, the budget share represented by gasoline consumption has decreased making consumers less sensitive to price increases. The price income interaction model presented here provides insight into this hypothesis. If increasing income results in a decrease in the consumer response to gasoline price changes, one would expect the coefficient on the interaction term of the model to have a positive sign. However, in both periods we find that the coefficient on the interaction term is negative suggesting that on average, gasoline consumption is more sensitive to price changes as income rises. This somewhat counterintuitive result is supported by the household gasoline demand analysis conducted by Kayser (2000) who also finds a negative coefficient on the price income interaction term. The hypothesis proposed by Kayser is that as incomes rise, a greater proportion of automobile trips are discretionary. Alternatively, at lower income levels, the amount of travel has already been reduced to the minimum leaving little room for adjustment to higher prices. Another possible explanation is that the number of vehicles per household increases with income. When the number of household vehicles exceeds the number of drivers, there is the possibility for drivers to shift to more fuel efficient vehicles within the household stock as gasoline prices rise. Whatever the explanation, the overall decrease in price elasticity despite growth in incomes suggests that these effects are relatively minor compared to other factors affecting gasoline demand.

These results are extremely important if one thinks its a good idea to raise gas taxes. If consumers don’t respond to the higher after tax price by buying less gas, then you’re getting all the bad stuff that comes with taxes (consumers are poorer with the tax so they buy less stuff) and your not getting any of the “good” change in behavior.

3 thoughts on “UC Davis Econ in the News”

  1. Yeah, but with the extra tax money, you can support corn farmers whose businesses have been crippled by rising corn prices. Plus, you can feed the surplus corn to hogs and schoolchildren. It’s win-win.

Comments are closed.