Despite the hand-wringing in the headlines.
The price of oil has soared about 150% from the oil-bust low in early 2016, with WTI hovering at around $71 a barrel over the past few days. The price of gasoline has surged 50% over the period, and now the warnings are proliferating on how it will hit consumer spending.
According to the Energy Department’s EIA, the average price of gasoline, all grades combined across all states, reached $2.95 per gallon for the week ended May 14. This is up from below $2 a gallon during the low point of the oil bust in early 2016.
Across the entire grade spectrum, the average price ranges from $2.79 for regular in “conventional areas” to $3.57 for premium in “reformulated areas,” such as California. In terms of boots-on-the-ground data, we just filled up in San Francisco with regular for $3.70 a gallon. For a lot of drivers, $4-gas is once again showing up on the horizon.
These price increases come at the nick of time: Just as driving season is kicking off.
Nobody is worrying yet that these prices, which are still relatively low compared to pre-oil-bust highs, will impact consumer behavior in some dreadful ways, such as massively driving less or buying fuel-efficient low-profit compact cars that US automakers are now abandoning instead of buying big high-profit SUVs. That nightmarish scenario is not even close.
In 2008, $4-gas — as measured by the EIA’s average price — was the pain threshold that nudged some consumers to modify their behavior to lessen the impact. By now the threshold that would nudge Americans to modify their behavior, and cut demand for gasoline, would likely be closer to $5, based on the EIA’s nationwide all-grades average – which would translate into something closer to $6 in California. This price is still far away – and folks are not concerned about it.
But concerns are percolating up that today’s higher gas prices – even if they’re not high enough to change consumer behavior – are impacting consumer spending. USA Today summarized this fear with the title, “Higher gas prices are eating into Trump tax cut, trimming spending by Americans.”
Note: “…trimming spending by Americans.” We’ll get to that in a moment.
According to the Tax Policy Center, the new tax law will save the average middle-class American about $930 in federal income taxes in 2018. USA Today then goes on:
The jump in gasoline prices the past year, if sustained, would cost the average American $450 a year, offsetting about half the tax benefit, says Mark Zandi, chief economist of Moody’s Analytics.
As a result, “the tax cuts will be a boost to the average American, not a boon,” Zandi says.
As always, low income households get hit the hardest. USA Today, citing a Morgan Stanley report, noted that low-income households spend about 8% of their income on gasoline, while the top 20% of the spectrum spend only about 1% of their income on gasoline. Hence, gasoline price increases have a big impact at the lower end of the income spectrum.
But here’s the thing: Every dime that gets spend on higher gasoline costs is part of retail spending and therefore is part of consumer spending:
High-income consumers who spend more on gasoline will likely not cut back on other things. Instead, their total spending will rise just a tad due to higher gasoline costs.
Low-income consumers already spend every dime they make and can borrow, and will continue to do so, no matter what happens. When gasoline prices rise, these consumers go through a painful triage exercise, as to what gets bought and what doesn’t get bought. Fill up the car with more expensive gasoline and forget about buying that outfit for the kid? Some of them might even try to cut back on driving. But they’ll keep spending every dime they can get.
On net, higher gasoline prices shift some consumer spending from other categories to gasoline. So there’s a revenue shift among industries – but no decline in overall consumer spending. It’s this revenue shift that affected industries are worried about.
However, higher oil prices have a positive impact in the US oil patch, which got hit hard during the oil bust. Also some of the items that consumers switch away from in order to buy gasoline are imported and have no US content. This might whittle down imports just a tiny bit. So in terms of overall consumer spending, higher gasoline prices don’t change the propensity of Americans to spend. They just change the mix.
Which sheds a different light on phrases like “…trimming spending by Americans.”
Higher gasoline prices do have a nasty impact on households that now have to spend more to go to work or to the store, and at the lower income levels, they’ll feel real pain and they’ll have to cut back on other discretionary purchases. But since they’ll keep spending every dime they have, their pain will not hit overall spending – though maybe fast food restaurants, apparel stores, and the like are losing some share of this spending, while other industries gain.
Here’s a podcast where I take a deep dive into the current state of the car business. Read… Nuts & Bolts Update on Used Vehicles, Who Pays Sticker, and Why Subprime Customers are Vulnerable to Getting Ripped Off
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