Topic: Economics
Oil Markets Get Limber What was that about the inelasticity of demand for petroleum?by RS Davis
(libertarian)
Friday, October 10, 2008
In the world of economics, the enemies of the free market like to take certain commodities and claim that their demand is "inelastic," meaning that no matter how much it costs, people are still going to buy the same amount.
This is a complete myth.
As gas prices were rising, I told people not to worry too much about it because if it got too pricey, people would curb their consumption, it would hurt the providers of petroleum, and they'd have no choice but to lower prices.
I was scoffed at. "People still have to go to work!" they'd cry, wringing their hands. "They have to go get food and take their kids to school!"
"Of course they do," I'd respond. "It's at the margins that people will change their habits, not on the basic necessities of travel. They won't take distant vacations. They'll try to do things in one trip. They'll become more efficient at the things they have to do."
"But Rick," they'd argue. "That's not going to make much of a difference."
"Maybe not at the individual level," I'd assure them, "but there are millions - maybe billions - of drivers in the world. In the aggregate, it's going to make a difference."
I'd usually get some noncomittal answer to that, and they'd go back to developing their ulcers. But while they were swigging Maalox, drivers were taking more active measures to help themselves.
AAA reported in July that "People are tending to travel shorter distances. In some cases, they're staying for a shorter time."
As recently as August, Suzanne Parlee, a camper at Hartt Island in Canada commented to reporters: "We don't go camping as much as we used to, but when we do, we try to stick fairly close to home because gas prices are through the roof."
She wasn't alone. Back in May, Progressive Insurance polled drivers nationwide to find out if their driving habits were changing. Indeed they were:
52% said they would drive less often.
24% said they would drive shorter distances.
23% said they wouldn't visit family and friends as often.
93% said they would shop around for better gas prices
20% said they would buy a cheaper grade of gas
24% said they would buy a car with better gas mileage
61% said high gas prices would affect their vacation plans
24% would vacation closer to home.
14% would cancel their vacations altogether
13% would fly instead of drive
So, the first part of my thesis was proving correct. But would it affect gas prices? Would producers feel the crunch? According to a new story from ABC News, the market is working just fine.
They report that "the cost of a barrel of crude oil is now under $90, down 40 percent from a record high of $147 a barrel in July," the results being that nationwide, the price of gasoline has dropped 78 cents in only four months. In some places, even more, working out to an average savings of $700 for the year.
Andy Lipow, president of Houston's Lipow Oil Associates, explained the drop: "Consumers have been stressed by high fuel prices, high food prices, and a loss in value of their 401(k)s. So they've had to change their habits, which has resulted in lower gasoline demand and so we've seen worldwide prices have been falling."
So much for the inelasticity of demand. So, put down the Maalox and go for a drive.
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The views expressed in this
article are those of RS Davis only and do not represent
the views of Nolan Chart, LLC or its affiliates. RS Davis is
solely responsible for the contents of this article and is not an
employee or otherwise affiliated with Nolan Chart, LLC in his/her role as a columnist.
I am one of those people who thinks global energy demand is fairly inelastic.(note I didn't say, I think it should be.)
My primary reasoning is that governments and central bankers will do whatever they have to in order to maintain a failing economic system. The global bailout is a prime example.
Secondly, the recent drop in energy prices has nothing to do with supply and demand and everything to do with deleveraging and U.S. dollar appreciation.
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