For the first time in U.S. history the pain at the pump is not killing our economy. Counter-intuitively, high gasoline prices are creating jobs and helping restore America’s manufacturing and commercial strength. Here are the facts on our country’s economic recovery:
Retail sales strength
March retail sales were up .8 percent on top of February’s 1% sales volume increase. The sales leader? Cars and light trucks sold at a 14.3 million unit annual rate. March capped the strongest quarter of car sales since 2008.
America is creating jobs. 120,000 jobs were added in March with almost a third coming in manufacturing. Year to date, approximately 700,000 jobs have been created in the U.S.
This type of economic performance in the face of record high gasoline prices is NOT supposed to be happening based upon historical economic trends. Here is the economics of how high gasoline prices are creating jobs and helping our economy grow:
Consumer’s capital substitution of $4 gasoline:
Consumers have finally accepted that the price of gasoline is not coming down. 2011 was the first time gasoline prices did not fall below $3 per gallon and diesel prices remained above $4 per gallon. The recent gasoline price spike into $4+ per gallon may have been the straw that broke the camel’s back by convincing the American consumer that high gasoline prices are here to stay. Americans may still vote for “drill baby drill,” but with their wallets they are voting for higher mileage automobiles. For the first time in American history the average gas mileage for new cars, light trucks, minivans and SUVs purchased in March 2012 was above 24 miles per gallon.
In economics what the American consumer is doing is called a “capital substitution effect.” In this case, consumers are substituting the operating cost of gasoline consumed in a low MPG vehicle by making a capital expenditure to buy an energy efficiency vehicle.
The American consumers are the best in the world at comparative economics. In financial terms they are “going long” by investing in vehicle energy efficiency betting that the days of higher gasoline prices are here to stay.
Auto industry’s finest hour
Capital substitution doesn’t work if there is not a financially attractive capital investment to be made that will lower an operating cost. That was the case in 1974 during the first gasoline price spike. This time automobile manufacturers are delivering vehicles that are price competitive with higher mileage while still achieving attractive performance. The highest mileage hybrid is the sales leading Toyota Prius with sales surging 54%. Both Volt and LEAF electric cars saw sales spike in March and Volt owners self-reported achieving on average 120 miles per gallon. Even luxury car manufacture BMW has achieved 34 highway MPG for their new 3 series without a sacrifice in 0-60 times. The key point is that all manufacturers are offering new model cars, light trucks and SUVs with historically superior MPG that are winning market share with American consumers.
Manufacturing job multiplier impacts
Manufacturing jobs are key to economic growth. What most people don’t realize is that America, the world’s largest economy, is also the world’s largest manufacturer. The two do go together due to what economists call a multiplier effect. A multiplier effect is when a person with a job buys something locally that then creates a local economic stimulus or multiplier effect that results in job growth. Manufacturing jobs have the highest multiplier effect. The growth in automobile manufacturing jobs is creating a multiplier effect that is stimulating our economy and creating jobs.
The Income Effect is when consumers have more money and feel wealthier even if something like gasoline prices increase. That is what is now happening in today’s economy. The Thomson Reuters/University of Michigan March 2012 consumer confidence index hit its highest levels of consumer confidence in 13 months with only a slight slip in April as higher consumer prices slightly eroded consumer confidence. Consumer confidence is overwhelming the painful news at the pump. Collectively we are beginning to feel a little better about the economy and our personal finances so as consumers we conduct a comparative analysis with a growing number of us realizing we have the income to buy a higher mileage vehicle rather than pay more and more at the pump. The Income Effect along with comparative economics are working as “invisible hands” in our free market economy to create job and economic growth. Counter-intuitively the high prices at the pump are creating the demand for investment in vehicles offering pump pain relief that is sparking new jobs with a multiplier effect that is creating the projected 2+ percentage increase in our country’s economic growth.
Public policy implications
Since I am an economist, I understand that what I am about to outline as sound public policy will probably fall upon deaf political ears. The invisible hand of the economy is proving the public policy of a steady tax escalation in gasoline prices to promote economic growth is effective. This policy was first proposed in response to the 1974 oil embargo. Today such a public policy would cement consumer expectations that gasoline prices will only go higher and support their capital substitution of more efficient automobiles for higher gasoline expenditures.
What to do with the tax revenue? One path is to make it “revenue neutral” by returning the tax dollars annually collected at the pump with a refund tied to the annual filing of income tax statements. This path creates the higher-price-at-the-pump signal to encourage the purchase of fuel efficient consumer alternatives that not only include higher MPG cars but use of mass transportation, living in walkable neighborhoods and even electronic shopping. But it doesn’t create a negative income effect by actually taking money out of consumers’ hands.
Another path for targeting accelerated job growth is to use this gasoline tax to subsidize the purchase of U.S. manufactured cars that get at least 50 miles per gallon and cost no more than $30,000. My economic analysis suggests this path holds the potential of reducing America’s jobless level toward 6% unemployment by 2017.
Or most likely we will do nothing. The price of oil will continue to rise even with “drill baby drill” because the world is annually adding approximately 150 million new members to the middle class and they all want a car. This means the price of gasoline will over time continue to rise toward $5 and then $6 and then …
The American consumer will take control of their gasoline expenditures by investing in higher MPG vehicles, or led by the Millennial Generation, increasingly shift from a reliance upon gasoline fired cars by living in walkable/mass transit enabled communities, use digital for shopping and Zipcar like daily rentals if they must have a car. That’s why as an economist I have such faith in the United States. Despite our faults we have the freedom of commercial choice and we are really good at figuring out how to align value with values.
Bill Roth is the founder of Earth 2017. His book, The Secret Green Sauce, profiles best practices case studies on companies making money going green. Through Green Builds Business Roth has coached hundreds of business owners across the U.S. in the development of projects that have created jobs, grown profits and reduced environmental impacts.