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When the price of gas goes up, people switch from premium to regular. They don’t switch from Tropicana to private label orange juice. That’s the very narrow takeaway from Justine Hastings and Jesse Shapiro’s paper on how gas price changes affect other consumer purchases.

The larger takeaway is that consumers use various mental accounts to keep track of different purchases. When the price in one mental account increases, consumers don’t ease the pain of that loss by shifting purchases across a variety of other budgets. Instead they make more dramatic changes in their purchasing choices in the category with the price increase – hence, they switch gas grades. They end up acting as if they are poorer than they really are. That’s where the orange juice comes in.

Does this behavior go beyond the pump? Because some customers held retailer loyalty cards with the grocery store, Hastings and Shapiro were able to track other purchases. They looked at sales of half-gallon cartons of orange juice. They found that while customers were drastically scaling back from premium to regular gasoline, this behavior did not spill over into drastically different orange juice purchases. Gasoline prices affect orange juice purchases in the same way that changes in income do.

A pdf of paper is here. A link to summary of research is here.

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Take a look at the above fuel efficiency label? Can you understand it? Do you think other people can?

Last week, the Environmental Protection Agency released two options for replacing the current fuel efficiency stickers displayed on new car windows. Before releasing these options, the EPA conducted an online survey and sixteen focus groups held around the country, the results of which the Nudge blog has been looking through.

Hopefully, you first noticed the two numbers at the bottom of the label, 4.5 and 3.3. Unless you’re buying a Ferrari, those probably seem too low for a standard miles-per-gallon statistic, right? You look closer and notice that they aren’t MPG numbers at all; they are GPM (gallons per mile) numbers.

GPM is a statistic in the news, thanks to work on the MPG Illusion, which shows that people misunderstand the non-linear relationship between gallons of gas consumed and distance traveled. One of the major implications of this research is that it obscures the value of improvements as fuel efficiency improves. People tend to undervalue small mpg improvements on inefficient gas guzzlers, and overvalue large jumps between two fuel sippers, like a Honda Civic and a Toyota Prius.

There have been many proponents of a new GPM metric, and the New York State Senate recently passed a law requiring it in car dealership showrooms. As part of its research, the EPA investigated consumer response to the concept. For the moment, the EPA found that consumers struggle with the MPG illusion, even when it is explained to them. For those who were able to understand the concept, they still expressed a preference for MPG over GPM because they were used to thinking in MPG terms. The EPA concluded:

It may be said that understanding the MPG illusion is extremely difficult to achieve and does not necessarily lead people to switch to a different type of vehicle nor does it make them prefer gallons per 100 miles over MPG. In essence, people prefer familiarity over facts.

Focus group respondents found the label shown above particularly confusing, not just because of the GPM statistic, but because it is presented in the slider in the upper right-hand corner with a range of 2 (best) to 10 (worst). Without a general knowledge of gas guzzler and hybrid GPMs, the scale made little sense. In the end, the EPA decided to continue using MPG estimates as the primary fuel consumption statistic. “If there is a desire to introduce ‘gallons per 100 miles’ estimates,” the agency concluded, “do so in a way that positions it as additional information and use the same font size for presenting the MPG and gallons per 100 miles information.”

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You’re in a car dealership looking to buy a new car. Chances are, you’re going to look at the sticker in the backseat window. You know, the one with the fuel efficiency numbers. But you won’t look for too long. Say 20-30 seconds, tops. Of the following two labels, which one is going to help you figure out the fuel tank’s consequences for the environment and your wallet?

The Environmental Protection Agency hopes you said the first one, which tries to highlight the pocketbook impact better, and adds new details about environmental friendliness. As part of window sticker requirements starting in 2012, the agency is looking to make some changes. The agency is considering swapping the bottom sticker for the top one.

Now consider this sticker, which the EPA is also considering.

The same information that’s on the first label is all there, but of course, there’s now that giant letter grade that’s supposed to sum up fuel and environmental specs for the car in comparison to all other models (cars, trucks, and SUVS) on the market. Reports the NYT:

The highest grade, A+, with fuel economy rated as equivalent to 117 miles per gallon and up, would be for “zero emission” electric cars. Plug-in hybrid electric cars (59 to 116 m.p.g. equivalent) would get an A, and some conventional hybrids, like the Toyota Prius and Ford Fusion, would get an A-. Other hybrids, like the Nissan Altima, Ford Escape and Toyota Camry, would receive a B+.

On the positive side, a school-like grading system is one that everyone is intimately familiar with and, therefore, requires no additional explanation (no grade inflation jokes, please). On the negative side, because grades are so closely tied to education, interpreting them with automobiles is more complicated. In school, everyone wants an A. In a showroom, everyone probably doesn’t want an A. Fuel consumption and environmental friendliness are only two of a host of dimensions buyers will consider. Maybe fuel efficiency is my top priority. Or maybe my top priority is actually a car with lots of towing power, although I’m happy to get the one that sips the least gas. Since the sticker only comes with a grade, and not pictures (or even names would be ok) of other cars with similar grades, I don’t know how heavily to factor it in my decision. Yes, a shopper can go dig up the kinds of details about A+ vs. B+ cars as reported in the New York Times, but the point is if it’s not on the sticker, it’s likely to be ignored.

The EPA hasn’t decided which sticker to have automakers adopt. If you have thoughts, you can let the EPA know here. Hat tip: Colin Manuel.

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A new fuel efficiency bill passed by the New York State Senate includes a provision for helping drivers think in “gallons per 1,000 miles” (GPM) instead of the traditional miles per gallon (MPG).

The idea is originally the brain child of Richard Larrick and Jack Soll who blogged about it earlier. Larrick and Soll’s original proposal called for gallons per 100 miles driven, but they fully endorse the New York Senate bill, which would require car dealers to put up a poster in their showrooms with a conversion chart showing consumers how to calculate GPM.

1. 1,000 miles is roughly what the average American drives in a month, so it is a meaningful number

2. It allows easy estimation of yearly consumption (multiply by 10, roughly)

3. It avoids the problem of seemingly small differences in efficiency that occurs when comparing “gallons per 100 miles”

In New York, the heavy lifting on the bill, the first of its kind in the U.S., was done by Senator Daniel Squadron. Reached by phone after the bill passed 35-26, Squadron said he was laughed at on the floor of the Senate by some opponents. “Folks had a difficult time telling why this is necessary,” he said. “They said this (gas mileage) information already exists, why would anyone need it? They can do the conversion themselves.”

Apparently, there are many assembly members who think New York state is full of Econs.

A similar bill exists in the state’s Assembly. Squadron said there is some momentum for it, but that lots of work still needs to be done. “We’re hopeful,” he said.

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Rick Larrick, who blogged about the MPG Illusion, has created a new calculator that lets you check out the gallons per mile for your vehicle, or any other for that matter. You can also compare gallons per mile information for all 2009 vehicles. The calculator is here.

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Last month USA Today said gas stations were bringing back the cash discount. Indeed they were. The Nudge blog shot this picture at a Shell station in northern Virginia today.

The regular price was $3.99 a gallon. USA Today makes no mention of why gas stations are advertising a cash discount instead of a credit card surcharge – an old retailing trick – but good behavioral economists know the answer. Humans view discounts differently from surcharges. The first is an opportunity cost; the second a cost outlay. In Toward a Positive Theory of Consumer Choice, Thaler wrote:

Until recently, credit card companies banned their affiliated stores from charging higher prices to credit card users. A bill to outlaw such agreements was presented to Congress. When it appeared likely that some kind of bill would pass, the credit card lobby turned its attention to form rather than substance. Specifically, it preferred that any difference between cash and credit card customers take the form of a cash discount rather than a credit card surcharge. This preference makes sense if consumers would view the cash discount as an opportunity cost of using the credit card but the surcharge as an out-of-pocket cost.

In Choices, Values, and Frames, Kahneman and Tversky argued that the distinction is one of framing. The discount is seen as a gain while the surcharge is seen as a loss. Since humans are loss averse, we are more likely to give up the discount (the gain) than accept the surcharge (the loss).

The fact that the cash discount is applied to gas provides an interesting wrinkle to the original credit card discussion which ignored the good itself. The sharp increase in the price of is especially painful to loss averse humans whose purchasing power at the pump has slipped considerably. Filling up anywhere, with cash or credit, feels like a raw deal. On a good like this, does the gap between those who forgo the discount and those who pass shrink? In other words, if a pair of a jeans and a gallon of gas both have the same cash discount on a percentage basis, would the number of people taking each be similar?

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With high gas prices, you might have noticed promotions for free prepaid gas cards when you buy some product. Like a Callaway golf club. A Comfort Inn hotel room stay, a lodge stay on Big Bear Lake, or one booked through Expedia. Or a new Chrysler car with of three years of gas guaranteed at $2.99. Assuming these prepaid cards aren’t coming at a massive wholesale discount, companies could just offer a simple cash reward, or even a free prepaid generic Mastercard  or Visa that would be good anywhere, not just at gas stations. So why play up gas?

It’s a classic mental accounting trick. Most Americans have a transportation budget, which has been blown over the past year by $4 a gallon gas. People have a hard time moving money from one mental account to the other, say from clothing or dining out to gas. The prepaid cards give them a way to restore the solvency of the transportation account without upsetting their other budgets. Straight cash would be more fungible physically, but less fungible mentally.

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Richard Larrick, who guest blogged for us, points to a graph from The Green Grok showing gas money savings for mpg improvements over 1,000 miles at three fuel efficiency levels. They equate to driving a Jeep SUV (red), a Camry (blue), and a Civic (green). The figure assumes $4 per gallon gas.

You can also watch Larrick and co-author Jack Soll in this spot produced by Duke University.

[youtube="http://youtube.com/watch?v=K2XSuw02vKA"]

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Tom Vanderbilt of How We Drive picks up on a Thaler classic from mental accounting. People irrationally say they will drive across town to save $5 on a lousy $10 calculator, but won’t do the same for $5 off a nice $125 jacket. Vanderbilt says his car’s navigation system shows him real time prices at nearby gas stations, allowing him to rationally calculate when it’s worth driving across town or even down the street for a better deal.

Interestingly, there was a 36 cents a gallon difference between the closest station and one an additional .3 miles away. So, on a 11 gallon fill-up, i could save nearly $4, with a minimal amount of driving. Doesn’t seem so irrational…But the next three stations, all located near each other, were charging the same price. I’ve actually used that more expensive station before, for the odd reason that there’s hardly ever a line (perhaps precisely because it’s more expensive). But I’ll be curious to see what long-term effects will be on gas-station pricing transparency as more drivers have these devices; will prices flatten out, or will there be more volatility as individual stations advertise particular deals, luring drivers who wouldn’t have considered those stations before?

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