In a saving grace of productivity downturns, gas prices are falling dramatically, as much as $1 lower than a month ago. Fabulous news! This eases the tremendous pressure on airlines faced with declining ticketing, car dealerships with tight credit standards, and consumers who confront a recessionary environment. Everyone these days is cheering the lower prices, and especially gas station owners.
Why would station owners be happy? I was speaking with a gas-station owner this morning, a man who was greatly relieved at the declining price. Contrary to what people think, he pointed out that they make very little money when prices are rising. Consumers are more reluctant to pay and become intensely focused on small price differentials. They are quick flee to others. Rather than face a loss of a loyal base, stations absorb the cost of gas rather than trying to jack up the price at higher margins.
So much for the complaints about gouging! The gas retailers are greatly relieved at lower costs so that they can lower the price, usually at a slower rate and higher profit margins than they raised them. This is because consumers become less price conscious and the retailers are anxious to make up the difference in the profits lost during the upward price period.
What people often forget is that profits are not necessarily related to price trends or even the size of the enterprise but to the margins between income and revenue. A lemonade stand can have higher profit margins than a large and established car manufacturer. Margins, not total revenue, are what matter.
Interestingly, those people who imagine that gas stations could “gouge” people last month don’t seem to notice that these same stations aren’t gouging people now. Why not? After all, if it is simply a matter of taking advantage of hysteria and raising prices as much as possible, why wouldn’t they do this year round? As Art Carden asks, did they get less greedy over the last few days?
Why ever lower the price at all?
Well, it turns out that some people still aren’t happy. Chuck Schumer has denounced gas sellers for failing to lower prices to the exact same extent that the price of oil has fallen! So let’s imagine that they do, and they keep pushing them lower. Perhaps they could be accused to charging a low price, a wicked tactic to drive others out of business.
In general, however, most people are happy about low prices for gasoline. This is a model we should use for understanding price trends in the economy at large. Gloriously, the prices of oil reflect commodity prices in general, which continue on a downward trend that began in July. Yes, the price declines probably reflect a slowing economy. No, there is nothing wrong with this, contrary to Bernanke. Falling prices are a boon for consumers, a port in a storm. The worst mistake the government could make today would be to attempt to reverse this.