collage of money, charts, student working and graduating

A Little (More) Economics Goes a Long Way

Back in April 2010, we published a piece on Mr. Antoine Cournot, a 19th Century French economist, mathematician, and philosopher.  Specifically, we used Cournot aggregation, to make the point that the more you spend on a good, the greater price increases in that good will reduce your consumption.  Similarly, price decreases will increase your average consumption by more, the more you spend on that good.

Category of Expenditure

Rate of Change March 2008 – March 2009

Rate of Change March 2009 – March 2010

Rate of Change March 2010 – March 2011

Rate of Change March 2008 – March 2011

All Goods

-0.4%

2.3%

2.7%

4.64%

Food and Beverages

4.3%

0.3%

2.8%

7.54%

Food

4.4%

0.2%

2.9%

7.64%

Food at Home

4.3%

-0.7%

3.6%

7.30%

Food away from Home

4.6%

1.2%

1.9%

7.87%

Alcoholic Beverages

3.6%

1.1%

1.4%

6.21%

Housing

1.4%

-0.6%

0.8%

1.60%

Fuels and Utilities

0.6%

0.9%

2.1%

3.64%

Household furnishings

1.8%

-2.3%

-1.6%

-2.13%

Apparel

1.4%

-0.4%

-0.6%

 

0.39%

Transportation

-13.1%

13.3%

9.8%

8.11%

Private Transportation

-13.6%

13.8%

9.8%

7.96%

Motor Fuel

-39.6%

41.1%

27.7%

8.83%

Public Transportation

-5.0%

6.1%

10.5%

11.38%

Medical Care

2.8%

3.7%

2.7%

9.48%

Recreation

1.7%

-1.1%

-0.1%

0.48%

Sporting Goods

3.2%

-1.2%

-0.2%

1.76%

Other Recreation Goods

-3.5%

-3.1%

-4.6%

-10.79%

Recreation Services

2.4%

-1.2%

1.0%

2.18%

Education

5.6%

4.9%

4.0%

15.21%

College Tuition

5.8%

6.0%

4.5%

17.19%

Communication

1.7%

0.0%

-1.4%

0.28%

Other Goods & Services

5.7%

4.9%

1.8%

12.88%

Tobacco

18.1%

15.9%

5.5%

44.41%

Personal Care

2.1%

1.2%

0.6%

3.95%

The following is a table of the rate of price changes for broad categories of goods that we purchase (for more information: Bureau of Labor Statistics).  The second column is the percentage change in prices between March 2008 and March 2009, the third column is the percentage change in prices between March 2009 and March 2010, the fourth is the change in prices between March 2010 and March 2011, while the fifth column is the combined rate of inflation over the three years 2008-2011.  We have taken the liberty to highlight double-digit increases in prices in blue and any decrease in prices in red.  As you can see, the price changes are not uniform across categories.  Take, for example, prices, from 2008 to 2011, for “Other Recreation Goods” went down every year, while “Motor Fuel”, on average went up 8.83% across the three years.  What is starling is that these changes were wide with prices decreasing by nearly 40%, in 2008-09, while increasing by 41% and 28% in 2009-10 and 2010-11, respectively.  Yet, in total, prices of “All Goods” increased a mere 4.64% over this thirty-six month period.

Now, look at what happened to motor fuel prices and public transportation between 2010 and 2011.  You will note that while prices for fuel fell from March 2008 to 2009, it increased from 2009 to 2010 and from 2010 to 2011, resulting in motor fuel costing 8.83% more in 2011 than in 2008.  (Here’s the math: If gas cost a $1 in 2008, it would fall to $0.604 in 2009, with a 39.6% decrease.  Then, if the $0.604 price increases by 41.1%, we have $0.852.  If the $0.852 increases by 27.7% between 2010 and 2011, the gallon of gas now costs $1.0883.)  The change has been erratic and we can’t help but think that some consumers, who bought gas guzzling cars after witnessing the near 40% decrease in fuel prices in 2008 through 2009, are feeling the pain of motor fuel price increase of 80.1% from the 2009 price of $0.604 in our example!

Another case to consider is the case of college students.  They are often large consumers of tuition, education, public transportation, and food.  Each of these increased in price by more than the rate of inflation of “All Goods”, across the period.  We don’t need to remind them of the costs and consumption sacrifices they are making while they are investing in themselves for our futures.

Look back at the Financial Tip from the last week of January 2010: Are You Middle Class?.  In it you will see the proportion of the average household budget spent on various categories of goods.  The table tells us that housing takes up the largest proportion of the average budget.  Thus, when the price of housing decreases, assuming you didn’t previously purchase the now over-priced home, the total effect on you is an increase in consumption of other goods, including savings.  On the other hand, if you are working part-time while you are going to school and much of your income purchases college tuition, you notice the decrease in your consumption of everything else, as college tuition rose, on average, by 17.19% over the past three years.  Interestingly, the increase in the price of tobacco, 44.4% over the three years, did not matter to you if you do not smoke as the average effect is 0, if you don’t purchase tobacco.

The lesson of 2010 bears repeating in 2011.  The lesson is simple and not widely practiced. Moreover, it is difficult to practice during the “gift” season.  The lesson is to encourage you to be modest in your expenditures and maintain them at a reasonable level, relative to your income.  Save 10% of your income and have adequate reserves to provide liquidity in the case of an emergency.  If you do these, you are a financial success.

Happy Holidays!