Question:  Do increases in gas prices lead us to cut back on how much gasoline we put into our cars and trucks?  

A.  Yes, and home kits that transform bacon grease into diesel fuel fly off the shelves.

B.  Not so much.

Correct answer: “B,” as clearly displayed in Figure 1.  If you thought “A,” you probably remember the great Simpson’s episode where Homer cooks bacon so he can sell the grease.  To refresh your memories:

Homer Simpson: Okay, boy. This is where all the hard work, sacrifice, and painful scaldings pay off. 
Employee: Four pounds of grease... that comes to... sixty-three cents. 
Homer Simpson: Woo-hoo!
Bart Simpson: Dad, all that bacon cost twenty-seven dollars. 
Homer Simpson: Yeah, but your mom paid for that! 
Bart Simpson: But doesn't she get her money from you? 
Homer Simpson: And I get my money from grease! What's the problem?

Humor aside, as we have talked about before, demand for gasoline tends to be inelastic, meaning the demand for gasoline is not very sensitive to changes in price in the short run.  On a monthly basis, retail sales at gasoline stations won’t walk in lock step with gas prices, as there are monthly fluctuations in the amount of gasoline sold, and these fluctuations can arise because of such things as weather and data sampling error.  Therefore, we don’t know what the March retail sales data to be released Wednesday will show. 

With that caveat in mind, the recent string of gas price increases has been fast and furious.  In December, prices were just under $3 per gallon, and by early April, they had reached $3.68 per gallon, their highest level since September 2008.  For you Trivial Pursuit fans, weekly average gas prices last peaked in July 2008 at $4.11 a gallon.    

Consumers collectively spent more than $323 billion last year on fuel to fill up our cars, trucks, scooters, tractors, and assorted lawn care tools.  That translates into about $240 per month for the average household.  So, our fill-ups can really add up over the course of a year, and the fluctuations in gas prices can create considerable budgetary whiplash.  As shown in Figure 1, as the price of a gallon dropped from 2008 to 2009 and rebounded in 2010, monthly spending on fuel moved in lock step.  Put another way, in 2008, 2009, and 2010, the typical household put about 86 gallons into its vehicles each month.  Given how constant our demand is, if the recent surge on gas prices holds, it could easily result in a drain of hundreds of dollars from our wallets this year.

To put this in other terms, if gasoline prices go up 25 cents, then the average household would be $20 out of pocket each month paying for the more expensive gas (assuming that they purchased the same number of gallons).  The good news is that while gas prices have been going up, the payroll tax cuts that took effect in January have greatly eased this pain at the pump as they average $78 per month per household.

So, higher gas prices usually mean that more dollars are spent on gas.  To see what happens to sales at gasoline stations, look out for the retail sales report that will be released this Wednesday. 

~Mark Doms, Chief Economist, U.S. Department of Commerce

April 11, 2011