Oil, SUVs, and other related considerations. (Insight).

As of the time of this writing, oil prices have spiked to near $40 per barrel, gasoline is selling at over $2.00 per gallon in many locations, and SUVs have been selling just fine. Is there some sort of disconnect from reality here? After all, during the Gulf War, sales of large gas-consuming vehicles literally tanked.

One of the reasons car and truck buyers are showing little Fear is that gasoline is still cheap. Here in the U.S., even considering the recent price increase due to the looming Iraq conflict and the strike in Venezuela, gas is no more expensive today in relative terms than it was in 1967. Except For the temporary price increase during the second half of 1990 and early 1991, consumers have paid, inflation adjusted, about 10% less to fill their tanks than they did 35 years ago.

To be sure, the psychological impact of higher gas prices has some effect, but it is also a Fact that households spend less of their budgets on gasoline and motor oil today than at any time since the 1940s, This is true even when you consider that cars and trucks are driven more miles and families own more vehicles.

It is clear that there is only weak economic incentive to buy high-mileage vehicles. Of the 16.8 million light vehicles sold in the U.S. last year, only about 35,000 were ultra-high mileage hybrids.

It is also understood that few Americans buy cars and trucks simply for transportation. Why bother to build a Lincoln Navigator or a Cadillac CTS when a Honda Civic will get you from one place to another? Consumers are signaling carmakers with their pocketbooks that they want better performance (i.e., higher horsepower), more comfort and entertainment features, a prestige or sporty image, and greater personal safety in their automobiles. Carmakers have answered the call from buyers wanting their vehicles to reflect and enhance their lifestyles. If that means the "soccer mom" feels she needs a Suburban and can afford to buy one, who is going to tell her she can't have it?

How will high oil prices affect vehicle sales this time?

From the start of the Gulf hostilities on August 2, 1990, it took less than a year for oil prices to decline to the low $20s after touching $41.15 for a short time in October. Some analysts are predicting prices will soar even higher this time around. Most agree, however, that the current run-up in fuel prices will also be transitory. A barrel of oil will fall to the mid-$20 range once it is clear the situation in the Middle East has stabilized. The transition to lower prices will take more time than following the Gulf War, however, due to the unusually low inventories of crude oil ready for the refinery. Oil companies are reluctant to replenish stocks given the expectation that prices will fall soon.

Prospective vehicle buyers also appear to be counting on a similar recovery. There is less uncertainty this time. At the time of the Gulf War, a quick victory was by no means a foregone conclusion. Most have greater confidence in our military today going up against a weakened Iraq. In view of the heavy incentives and low interest rates, there seems to be little reluctance to buy now. The largest market for vehicles in the U.S., the Baby Boomers, are nearly 13 years older today then they were during the last Gulf War. They have greater wealth, relatively higher incomes, and are less likely to lose their jobs. All this points to their propensity to purchase vehicles being less sensitive to the economy.

The toughest part of trying to nail down how much vehicle sales will be hit is to separate the effects of the economy in general from oil and gasoline prices specifically. There is also the point that rising oil prices negatively affect economic growth, exacerbating the difficulty in separating the direct effects.

Light vehicle sales had been declining for over a year with gas prices at relatively low levels even before the summer of 1990. Official dating of the beginning of the recession by the National Bureau of Economic Research puts the downturn in the U.S. economy beginning one month before the August 2 attack.

Similarly, we have been struggling today to come out of a recession that officially began in March 2001, accompanied by very mild declines in sales, down 1.4% in 2000 and 1.8% in 2002. At their low point following the Gulf War, total U.S. light vehicle sales declined 15.1% below 1989's level. The greatest declines, however, were incurred by imports, down 22.8%, and the domestic Big Three, down 18.1%. The new domestic manufacturers (transplants) escaped relatively unscathed, although their growth slowed for a time.

Because of other factors contributing to the relative stability of vehicle sales during the last few years, drawing a direct comparison to the Gulf War period makes more sense as a worst case scenario versus a mainstream forecast. A modest decline for 2003 to approximately 16 million, or a 5% drop, seems far more likely.

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33 Years of Improved Mileage

                                   1967    2000  % Chg

Vehicle Miles - Passenger car     9,849  11,988    22%
Vehicle Miles - Light Truck       7,877  11,684    48%
Vehicle Miles - Total             9,751  12,177    25%
Fuel Gallons Per Vehicle - Pass.    699     546   -22%
 Car
Fuel Gallons Per Vehicle - Lt.      801     668   -17%
 Truck
Fuel Gallons Per Vehicle - Total    786     719    -9%
MPG - Passenger Car                14.1      22    56%
MPG - Light Truck                   9.8    17.5    79%
MPG - Total                        12.4    16.9    36%

Note: Totals include heavy and medium trucks

Source: USDOE