At $4, Everybody Gets Rational - Washingtonpost.com

Here is another excellent gas price article containing accurate economic principles.

Yes, the non-economist (ie, average citizen) doesn’t get it on how higher gas prices will ultimately lead a nation’s economy to conservation, energy independence and efficiency in the long run.

Hey, I’ll be honest: I don’t like higher gas prices any more than I do going to the dentist, but I am glad they are rising as I see and read about SUV purchases falling off a cliff, driving habits changing right before my very eyes, and the quantity demanded for gasoline falling fast.

By CHARLES KRAUTHAMMER | Posted Friday, June 06, 2008

So now we know: The price point is $4.

At $3 a gallon, Americans just grin and bear it, suck it up, and, while complaining profusely, keep driving like crazy.

At $4, it is a world transformed. Americans become rational creatures. Mass transit ridership is at a 50-year high. Driving is down 4%. (Any U.S. decline is something close to a miracle.) Hybrids and compacts are flying off the lots. SUV sales are in free fall.

The wholesale flight from gas guzzlers is stunning in its swiftness, but utterly predictable. Everything has a price point. Remember that “love affair” with SUVs? Love, it seems, has its price too.

America’s sudden change in car-buying habits makes suitable mockery of that absurd debate Congress put on last December on fuel efficiency standards. At stake was precisely what miles-per-gallon average would every car company’s fleet have to meet by precisely what date.

It was one out-of-a-hat number (35 mpg) compounded by another (by 2020). It involved, as always, dozens of regulations, loopholes and throws at a dartboard. And we already knew from past history what the fleet average number does.

When oil is cheap and everybody wants a gas guzzler, fuel efficiency standards force manufacturers to make cars that nobody wants to buy. When gas prices go through the roof, this agent of inefficiency becomes an utter redundancy.

At $4 a gallon, the fleet composition is changing spontaneously and overnight, not over the 13 years mandated by Congress. (Even Stalin had the modesty to restrict himself to five-year plans.)

Just Tuesday, GM announced that it would shutter four SUV and truck plants, add a third shift to its compact and midsize sedan plants in Ohio and Michigan, and green-light for 2010 the Chevy Volt, an electric hybrid.

Some things, like renal physiology, are difficult. Some things, like Arab-Israeli peace, are impossible. And some things are preternaturally simple. You want more fuel-efficient cars? Don’t regulate. Don’t mandate. Don’t scold. Don’t appeal to the better angels of our nature. Do one thing:

Hike the cost of gas until you find the price point.

Unfortunately, instead of hiking the price ourselves by means of a gasoline tax that could be instantly refunded to the American people in the form of lower payroll taxes, we let the Saudis, Venezuelans, Russians and Iranians do the taxing for us — and pocket the money that the tax would have recycled back to the American worker.

This is insanity. For 25 years and with utter futility (starting with “The Oil-Bust Panic,” the New Republic, February 1983), I have been advocating the cure: a U.S. energy tax as a way to curtail consumption and keep the money at home.

In May 2004 (and again in November 2005), I called for “the government — through a tax — to establish a new floor for gasoline,” by fully taxing any drop in price below a certain benchmark.

The point was to suppress demand and to keep the savings (from any subsequent world price drop) at home in the U.S. Treasury rather than going abroad. At the time, oil was $41 a barrel. It is now $123.

But instead of doing the obvious — tax the damn thing — we go through spasms of destructive alternatives, such as efficiency standards, ethanol mandates and now a crazy carbon cap-and-trade system the Senate debated last week. These are infinitely complex mandates for inefficiency and invitations to corruption. But they have a singular virtue: They hide the cost to the American consumer.

Want to wean us off oil? Be open and honest. The British are paying $8 a gallon for petrol. Goldman Sachs is predicting we will be paying $6 by next year. Why have the extra $2 (above the current $4) go abroad? Have it go to the U.S. Treasury as a gasoline tax and be recycled back into lower payroll taxes.

Announce a schedule of gas tax hikes of 50 cents every six months for the next two years. And put a tax floor under $4 gasoline, so that as high gas prices transform the U.S. auto fleet, change driving habits and thus hugely reduce U.S. demand — and bring down world crude oil prices — the American consumer and the American economy reap all of the benefit.

Herewith concludes my annual exercise in futility. By the time I advocate the tax floor again next year, you’ll be paying for gas in bullion.

Eight reasons you’ll rejoice when we hit $8-a-gallon gasoline - MarketWatch - by Chris Plummer

I selected this article because I really believe in it. It wasn’t until I became a fan of studying economics that I began to believe that rising gas prices are in the LONG TERM ECONOMIC INTEREST of the US economy as these higher prices will incent consumers and businesses to move towards alternate forms of fuels.

I am also no longer in support of US offshore drilling, not because I am an environmentalist, but an economist that understands that it will be necessary to take higher, painful increases in petroleum to incent businesses and consumers to pursue alternative energy and more efficient transportation solutions. Voluntary conservation or asking oil companies to pursue alternative fuel development is nice in concept, but poor in results.

I now root for “steadily climbing oils prices” to provide greater incentive to move faster to more efficient forms of transportation and spawn alternative energy solutions. It’s a little like going to the dentist: it’s not fun, but it is necessary and will leave us in better condition when its over.

For one of the nastiest substances on earth, crude oil has an amazing grip on the globe. We all know the stuff’s poison, yet we’re as dependent on it as our air and water supplies — which, of course, is what oil is poisoning.

Shouldn’t we be technologically advanced enough here in the 21st Century to quit siphoning off the pus of the Earth? Regardless whether you believe global warming is threatening the planet’s future, you must admit crude is passé.

Americans should be celebrating rather than shuddering over the arrival of $4-a-gallon gasoline. We lived on cheap gas too long, failed to innovate and now face the consequences of competing for a finite resource amid fast-expanding global demand.

A further price rise as in Europe to $8 a gallon — or $200 and more to fill a large SUV’s tank — would be a catalyst for economic, political and social change of profound national and global impact. We could face an economic squeeze, but it would be the pain before the gain.

The U.S. economy absorbed a tripling in gas prices in the last six years without falling into recession, at least through March. Ravenous demand from China and India could see prices further double in the next few years — and jumpstart the overdue process of weaning ourselves off fossil fuels.
Consider the world of good that would come of pricing crude oil and gasoline at levels that would strain our finances as much as they’re straining international relations and the planet’s long-term health:

1. RIP for the internal-combustion engine

They may contain computer chips, but the power source for today’s cars is little different than that which drove the first Model T 100 years ago. That we’re still harnessed to this antiquated technology is testament to Big Oil’s influence in Washington and success in squelching advances in fuel efficiency and alternative energy.

Given our achievement in getting a giant mainframe’s computing power into a handheld device in just a few decades, we should be able to do likewise with these dirty, little rolling power plants that served us well but are overdue for the scrap heap of history.

2. Economic stimulus

Necessity being the mother of invention, $8 gas would trigger all manner of investment sure to lead to groundbreaking advances. Job creation wouldn’t be limited to research labs; it would rapidly spill over into lucrative manufacturing jobs that could help restore America’s industrial base and make us a world leader in a critical realm.

The most groundbreaking discoveries might still be 25 or more years off, but we won’t see massive public and corporate funding of research initiatives until escalating oil costs threaten our national security and global stability — a time that’s fast approaching.

3. Wither the Middle East’s clout

This region that’s contributed little to modern civilization exercises inordinate sway over the world because of its one significant contribution — crude extraction. Aside from ensuring Israel’s security, the U.S. would have virtually no strategic or business interest in this volatile, desolate region were it not for oil — and its radical element wouldn’t be able to demonize us as the exploiters of its people.

In the near term, breaking our dependence on Middle Eastern oil may well require the acceptance of drilling in the Alaskan wilderness — with the understanding that costly environmental protections could easily be built into the price of $8 gas.

4. Deflating oil potentates

On a similar note, Venezuela’s Hugo Chavez and Iran’s Mahmoud Ahmadinejad recently gained a platform on the world stage because of their nations’ sudden oil wealth. Without it, they would face the difficult task of building fair and just economies and societies on some other basis.
How far would their message resonate — and how long would they even stay in power — if they were unable to buy off the temporary allegiance of their people with vast oil revenues?

5. Mass-transit development

Anyone accustomed to taking mass transit to work knows the joy of a car-free commute. Yet there have been few major additions or improvements to our mass-transit systems in the last 30 years because cheap gas kept us in our cars.

Confronted with $8 gas, millions of Americans would board buses, trains, ferries and bicycles and minimize the pollution, congestion and anxiety spawned by rush-hour traffic jams. More convenient routes and scheduling would accomplish that.

6. An antidote to sprawl

The recent housing boom sparked further development of antiseptic, strip-mall communities in distant outlying areas. Making 100-mile-plus roundtrip commutes costlier will spur construction of more space-efficient housing closer to city centers, including cluster developments to accommodate the millions of baby boomers who will no longer need their big empty-nest suburban homes.

Sure, there’s plenty of land left to develop across our fruited plains, but building more housing around city and town centers will enhance the sense of community lacking in cookie-cutter developments slapped up in the hinterlands.

7. Restoration of financial discipline

Far too many Americans live beyond their means and nowhere is that more apparent than with our car payments. Enabled by eager lenders, many middle-income families carry two monthly payments of $400 or more on $20,000-plus vehicles that consume upwards of $15,000 of their annual take-home pay factoring in insurance, maintenance and gas.

The sting of forking over $100 per fill-up would force all of us to look hard at how much of our precious income we blow on a transport vehicle that sits idle most of the time, and spur demand for the less-costly and more fuel-efficient small sedans and hatchbacks that Europeans have been driving for decades.

8. Easing global tensions

Unfortunately, we human beings aren’t so far evolved that we won’t resort to annihilating each other over energy resources. The existence of weapons of mass destruction aside, the present Iraq War could be the first of many sparked by competition for oil supplies.

Steep prices will not only chill demand in the U.S., they will more importantly slow China and India’s headlong rush to make the same mistakes we did in rapidly industrializing — like selling $2,500 Tata cars to countless millions of Indians with little concern for the environmental consequences. If we succeed in developing viable energy alternatives, they could be a key export in helping us improve our balance of trade with consumer-goods producers.

Additional considerations

Weaning ourselves off crude will hopefully be the crowning achievement that marks the progress of humankind in the 21st Century. With it may come development of oil-free products to replace the chemicals, pharmaceuticals, plastics, fertilizers and pesticides that now consume 16% of the world’s crude-oil output and are likely culprits in fast-rising cancer rates.

By its very definition, oil is crude. It’s time we develop more refined energy sources and that will not happen without a cost-driven shift in demand.

The Associated Press: Gas prices knock bicycle sales, repairs into higher gear

Greg Mankiw has an ongoing series of posts linking to articles illustrating the impact that rising gas prices have had on demand in markets other than that of the automobile.

The concept of cross-price elasticity of demand measures the responsiveness of consumers of one good or service to the change in price of another. As gas prices rise, drivers tend to switch from automobiles to alternative forms of transportation. A few days ago I blogged about the switch from tractors to camels in India, one illustration of the concept of cross-price elasticity of demand. Mankiw has so far linked to articles about the impact of high gas prices on demand for bicycles, small cars and mass transit.

These three “goods” are all substitutes for the most common form of transport among Americans, the private automobile (often times a gas-guzzler in “the bigger the better” America). The principle of cross-price elasticity of demand says that when the price of a good like personal vehicular transport becomes more expensive (in this case due to the price of an input required in private cars, gasoline), the demand for a substitute good will increase.

In the case of bicycles, evidence indicates that just such a change in demand is already underway in America today:

Bicycle shops across the country are reporting strong sales so far this year, and more people are bringing in bikes that have been idled for years, he said.

“People are riding bicycles a lot more often, and it’s due to a mixture of things but escalating gas prices is one of them,” said Bill Nesper, spokesman for the Washington. D.C.-based League of American Bicyclists.

“We’re seeing a spike in the number of calls we’re getting from people wanting tips on bicycle commuting,” he said.

Interestingly, the increase in demand for bicycle travel in response to high gas prices might be even more pronounced due to America’s sluggish growth, 4% inflation and rising unemployment. Real wages have seen little gain in the last couple of years as growth has fallen close to zero while prices have continued to rise. It may be possible that a fall in real incomes in America has spurred new demand for bicycle transportation, which could be considered an inferior good, meaning that as household incomes fall, consumers demand more bicycles for transportation.

Since bicycles represent such a drastically cheaper method of transportation, high gas and food prices, a weak dollar, and falling real wages accompanying the economic slowdown have had a negative income effect on American consumers, leading to increases in demand for inferior goods such as bicycle transportation

That said, having worked in a bike shop myself for two years in college, I can say that most consumers looking at new bicycles are not doing so because of falling incomes. Quite the opposite, in fact, indicating that new bicycles are normal goods (those for which as income rises, demand rises). However, the article states that in addition to increases in new sales, “more people are bringing in bikes that have been idled for years”.

It may be that while new bicycles themselves are normal goods, bicycle transportation as a whole is an inferior good. The increase in demand for new bicycles could be explained by the substitution effect (as the price of motor vehicle transportation rises, its substitute, bicycle transport, becomes more attractive to consumers) and at the same time explained by the income effect too (as real incomes have fallen, demand for the bicycle transport has risen).

This phenomenon is an excellent illustration of how the income and substitution effects work in conjunction to explain the inverse relationship between price and quantity demanded for automobiles (the law of demand), as well as the concept of cross-price elasticity of demand between two substitute goods.

FT.com / Asia-Pacific / India - Camel demand soars in India

In a principles of economics course such as AP or IB Econ, we learn about the determinants of demand. I teach my students the acronym “TOEISS”, which stands for consumer tastes, other related goods’ prices, expectations, income, size of the market and special circumstances. A change in any of these determinants will shift the demand curve for a particular product.

“Other related goods” refers to the effect that a change in price for a substitute or a complement of one good will have on the demand for that good. An example might be the effect of an increase in the price of pork on demand for beef. Clearly, these two goods are substitutes in consumption, and if pork becomes pricey, consumers will demand more beef.

In an era of soaring gasoline prices, many consumers have made the switch from large, inefficient, gas-guzzling trucks and SUVs to smaller, more efficient hybrids and compact cars, a reasonable substitute for the average commuter. For some drivers, however, a hybrid just won’t meet their everyday needs.

In northern India, where farmers rely on tractors to till their arid fields, rising gas prices have made expensive tractors, dependent as they are on large inputs of fuel, less attractive to farmers. As gas prices have risen, demand patterns have shifted among farmers in the northern state of Rajasthan:

As the cost of running gas-guzzling tractors soars, even-toed ungulates are making a comeback, raising hopes that a fall in the population of the desert state’s signature animal can be reversed.

It’s excellent for the camel population if the price of oil continues to go up because demand for camels will also go up,” says Ilse Köhler-Rollefson of the League for Pastoral Peoples and Endogenous Livestock Development. “Two years ago, a camel cost little more than a goat, which is nothing. The price has since trebled…

”Market prices for these “ships of the desert”, which crashed with the growing affordability of motorised transport, are rising again as oil prices soar.

A sturdy male with a life expectancy of 60-80 years now fetches up to Rs40,000 ($973), compared to Rs5,000-Rs10,000 three years ago, according to Hanuwant Singh of the Lokhit Pashu-Palak Sansthan, a non-profit welfare organisation for livestock keepers. Entry-level tractors cost around $4,000.

Camels, the ultimate “alternative energy vehicle”. In fact, the only fuel these vehicles need is the occasional bite of grass and a weekly sip of water; talk about fuel economy!

While it may seem funny to those of us so used to the motor vehicle, animals represent a viable substitute for farm machinery in the developing world, and it is likely that as fuel costs continue to soar, more poor farmers will switch back to traditional means of tilling their soil. Water buffalo, cattle, camels, these are all substitutes for the gas powered tractor. Demand for these “alternative vehicles” will rise as fuel costs climb.

Clinton thinks suspending the gas tax for the summer is good for Americans. She says that any revenue lost can be made up for by taxing the profits of oil companies.

Obama thinks it will cause more harm than good to the economy. He says the $9 billion of government revenue foregone could have done more good for the economy through job creation and road maintenance than the $25 each American driver will save with a suspension of the gas tax.

They’re both using their positions on the gas tax to garner more support among Democratic voters in Indiana and North Carolina, where next week’s key primaries will be held.

Greg Mankiw, Harvard economist, has this to say about Hillary’s plan:

I don’t know any prominent economist who favors this McCain-Clinton proposal. More common is the reaction of a friend of mine (a veteran of the Clinton administration) who calls the idea “ludicrous.”

Sometimes a candidate’s position on one particular issue, even a relatively minor one like a federal gas tax that most Americans probably didn’t even know they were paying when they filled up their tanks, draws clear lines around a candidate’s values.

Clinton’s ‘Trouble’ ad

Obama Takes On Clinton and McCain on Gas Tax Holiday

It should be noted that while Obama is probably right that a gas tax suspension will only save drivers a pittance, his economics is slightly flawed. Here’s Tim Haab of Environmental Economics blog responding to Obama’s claim that a gas tax holiday could actually increase demand for gas thus raise gas prices:

Wrong, wrong, wrong: A lower gas price causes quantity demanded to increase as consumers move down the demand curve. The only things that cause gas demand to change are changes in income, prices of substitutes and complements, tastes and preferences and expectations… I demand a retraction.

Who are these “some economists” that Obama is talking about? Did they get their degrees from an SEC school or something? Name names so that we can have an econoblogosphere beatdown! Out these blasphemers!

Note: I think Obama got the $25 to $30 number correct.

Mr. Haab is technically correct when it comes to basic economic theory. Repealing the gas tax should shift supply out, not demand, as taxes are a determinant of supply. Rather than demand changing, quantity demanded by drivers will increase, in response to the increased supply and lower prices.

What I do think could happen, however, is that expectations of future price increases might incentivize drivers to increase their demand for gas over the summer. This Mr. Haab seems to oversee. When August roles around and drivers know that come Labor day the gas tax will kick in again, they may chose to take a family road trip that they otherwise would have postponed, shifting overall demand for gas out, driving prices up.

In the case of a temporary suspension of an excise tax on any good, there is always the expectation that the price will increase again in the future. This could lead to hoarding or stockpiling of the good, increasing overall demand and driving the price up before the tax has even returned.

Kite Powered Ship Sets Sail for Greener Futhre - Guardian.co.uk

A German engineer has given an old technology new life to help make trans-oceanic shipping greener and least costly.

A cargo ship pulled by a giant, parachute-shaped kite will leave Germany on Tuesday on a voyage that could herald a new “green” age of commercial sailing on the high seas.

The owners of the MS Beluga, a 462ft cargo vessel, will try to prove that modern steel ships can harness wind power and reduce their reliance on diesel engines.

During the journey from Bremen to Venezuela, the crew will deploy a SkySail, a 160 square metre kite which will fly more than 600ft above the vessel, where winds are stronger and more consistent than at sea level.

Its inventor, Stephan Wrage, a 34-year-old German engineer, claims the kite will significantly reduce carbon emissions, cutting diesel consumption by up to 20 per cent and saving £800 a day in fuel costs. He believes an even bigger kite, up to 5,000 square metres, could result in fuel savings of up to 35 per cent.

Here’s a thought… reduced fuel costs to trans-oceanic shipping companies should shift the supply of such services out, as the marginal cost of shipping falls. Greater supply will mean lower prices to customers demanding such services, moving downward along the demand curve, increasing the equilibrium quantity of trans-oceanic cargo journeys.

Question: Assume all cargo ships in the world eventually incorporate the sail technology, increasing the supply and reducing the price of shipping by an average of 20% and reducing the emission of greenhouse gases of vessels by an average of 20%. What would have to be true about the price elasticity of demand for trans-oceanic shipping in order for a 20% reduction in price to result in an overall reduction of greenhouse gas emissions by cargo ships? Depending on the answer to this question, this “green” technology could actually result in greater emissions of greenhouse gases by cargo ships.

Explain…

BBC NEWS | Technology | Nintendo warns of Wii shortages

Looks like Brits dreaming of the Wii from Nintendo may have to wait a while longer this holiday season, as British retailers are finding it nearly impossible to fill customers’ orders. It turns out there is quite a shortage for the hot new gaming system from Nintendo!

“Although we’re receiving regular deliveries from Nintendo, Sony and Microsoft and getting the products onto the shelves as fast as we can - it’s possible that demand will outstrip supplies on some products, for example the Nintendo Wii, which has been hugely popular all through the year,” read a statement from high street gaming specialist Game…

“The Nintendo Wii consoles have proved extremely popular with our customers and have been flying off the shelves whenever we get new stock in,” said a spokeswoman.

It seems like the shortage of Wii’s in the UK should send a message to Nintendo and its retailers: RAISE THE PRICE!! One way retailers have tried to do this is by bundling the consoles with up to three or four games, meaning to take home a console shoppers would have to fork over 300 GBP. This seems like a great strategy for retailers faced with strong demand from customers, given that they are probably not allowed to charge above Nintendos suggested retail price for the console itself. Continue Reading »