Sep 8, 2012

"Mental budgeting" (Ref.: Gasoline)

Using aggregate data from the Energy Information Administration covering the period 1990-2009, as well as data on households’ purchases of gasoline from a large grocery retailer over the period 2006-9, Justine Hastings and Jesse Shapiro find that when gasoline prices rise, consumers substitute to lower octane gasoline. A $1 increase in the price of a gallon of gasoline increases a typical household’s propensity to purchase regular gasoline by 1.4 percentage points.
Source: NBER. The paper is here [the abstract in the paper is different from the description above, done by the NBER]. 
The key point however is the theme of "mental budgeting," the authors conclude:
A significant body of experimental and laboratory evidence shows that households maintain separate mental budgets for different categories. In contrast to standard utility models, mental budgeting predicts excess sensitivity to small income shocks induced by category-level price changes.

We test for this form of excess sensitivity in rich panel data on household gasoline purchases. Households substitute from higher to lower octane levels when gasoline prices rise. The substitution we observe cannot be explained by income effects, compositional changes, or changes in the price differences between grades.
[In a different issue, it is interesting that the NBER has to rewrite some of the abstracts, and probably most of them].

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