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Friday, 26 October 2012

What Happen When Gasoline Price Increase?



Based on the article edited by Wallace in Thomson Reuter, MasterCard’s SpendingPulse reported on 7 August 2012, U.S. gasoline demand fall as the price rise due to oil leakage of more than 1000 barrels of oil at Midwest's largest refineries and a crude oil artery in Wisconsin. However, the yearly gasoline consumption is still lower than previous year.

In my opinion, the shortage of gasoline demand will cause the price to increase because when there is a limited supply of gasoline that the producer or patrol station can offer to consumer, consumer will be desperate for gasoline. However, they are unable to force the producer to produce more than they plan. Therefore, some producer will take advantage of the situation by not increasing their output unless the price increases. Here, a strong market force enters to increase the price (from P1 to P2) while reducing the shortage (from Q2 to Q3) because it decreases the quantity demanded and increases the quantity supplied. This is because when the gasoline price increases, people tend to buy or use less gasoline; however, producers are more than willing to produce gasoline when the price is high. Hence, the market force will pushes the price higher until it reach a point where both buyers and producers are willing and able to buy and produce the amount of gasoline demanded, which is also called the equilibrium price [point (Q2, P2)], as showed in Diagram 1
Furthermore, I believe that gasoline is a relatively inelastic good. This is because consumers only show slight response towards the change in price of gasoline. This means that the percentage change in the quantity demanded is less than the percentage change in price of gasoline. So, the consumers are less price sensitive toward the change of gasoline price. Gasoline is goods that are required by everyone in every day in order for them to reach their respective destination. However, consumers are not totally unaffected at all by the gasoline price. This is to say, consumers might want to change their way of using the gasoline; in term of using it more wisely when the price rises. Therefore, consumers who are more sensitive toward the gasoline price increment may change the way they reach their destination.

Some people may decide to change their car into a more fuel-efficient car such as hybrid car while others may decide to travel less by car, either by using alternative transport mode or traveling less in general.  When the gasoline price increases, people might want to reduce the amount of driving and increase the fuel efficiency of driving such as changing their driving behaviour by slower acceleration or reduce vehicle speed so that the vehicle will not take up too much gasoline while driving. Some people might also decide to use alternative public transport such as bus and LRT instead of personal transport so that they do not have to spend too much on gasoline cost. Other than that, some people might even want to change their car permanently into a fuel efficient vehicle which is the hybrid car. Hybrid cars are created in a concept where it is powered by battery power engine in order to reduce the carbon dioxide release to the atmosphere as less gasoline burned. Furthermore, hybrid car user can minimize the gasoline consumption if they travel without exist the power limit by the battery.

However, of all the factors that might affect the elasticity of gasoline demand, income has the highest probability that will affect consumer’s price sensitivity towards the change of gasoline price. High income people tend to be less price sensitive than low income people. This is because when people have higher income, their purchasing power increase, they will be less concern of whether the gasoline price increases or not as it will not affect them. For them, gasoline may be necessity goods. So, the income elasticity of gasoline demand is inelastic as income increase. On the other hand, for low income people, gasoline may be a luxury good. When the price of gasoline increase while other influences remain unchanged, people will feel poorer, they will not be able to purchase the same amount of gasoline as they previously do. They will be more price sensitive and reduce the use of gasoline or change their driving behaviour to reduce the gasoline cost. Therefore, income elasticity of gasoline demand is elastic for lower income people.

The increment of gasoline price benefits the environment as the quantity demanded of gasoline (gasoline consumption) decreases. When gasoline price increase, the quantity demand for its complement goods which is convenient car will decrease. This is because people will prefer to use public transports or even change their car into a fuel efficient car in order to curb the constant increment of gasoline price. This in turn safe guards the environment from air pollution.

In conclusion, the increment of gasoline price is due to shortage, where quantity demanded is less than quantity supplied. This caused the market forces to push the price higher to reach the market equilibrium. Though, gasoline may be relatively inelastic, but consumers may still make slight changes in term of the ways they of use gasoline, such as changing personal car into a fuel efficient car, use public transport and change their driving behaviour to reduce gasoline consumption. It is also identified that level of income has huge impact on income elasticity of gasoline demand, where gasoline is income inelastic for high income people and income elastic for low income people.
Source from : http://www.reuters.com/article/2012/08/07/us-usa-gasoline-demand-idUSBRE87616320120807
Written by : Chong Li Min

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