$15 per Gallon Gasoline?

How much is a gallon of gasoline worth?  At the station down the street it is priced at $1.40.   But even classical economics recognizes that products can have unpriced externalities, the costs of which are born by society in other ways.  It isn’t news to any of us that burning gasoline in our cars creates numerous costly externalities, including air pollution and global climate change.  A ten-year old study (http://cli.gs/hA6tRV) estimated the true price of a gallon of gasoline to be between $5.60 and $15.14.  The higher estimate included defense expenditures related to oil supply security — and that was before the invasion of Iraq.

But whether the true “price” of a gallon of gasoline is $1.40 or $15.14, what is it worth?   Specifically, what is it worth not in terms of dollars, but in terms of energy value — in terms of what it can do for us?  A gallon of gasoline contains 131 M Joules of energy.  That is equivalent to 31,000 kcalories; if you could eat gasoline a gallon would sustain you for three weeks.  Or, with a perfectly efficient engine and hoist, a gallon of gasoline could raise 10,000 Kg (22,000 lbs) 1336 meters into the air (8/10 mile).

If gasoline is cheap ($1.40/gallon), I will use it without much thought to move my 4600 lb Toyota Highlander Hybrid from Palo Alto to San Francisco and back, just so that my 180 lbs can go along for the ride.   If gasoline were $15.14/gal, I might give it more thought, but I’ve spent that much for parking in a parking garage for a few hours, so I don’t think it would stop me if I had a good reason to go.  If gasoline were $150/gallon, I’m sure I would take the train or a bus.

But what if I were manufacturing in Palo Alto and wanted to send a truck loaded with product to San Francisco?  Setting aside the differences between diesel fuel and gasoline, and assuming a conservative 5 mpg, that would require 8 gallons.  At $15 per gallon that would cost me $120 for the round trip.  Probably not a deal killer unless I’m dealing in a commodity and a competitor is in South SF.  I might think twice about sending a partially loaded truck, though.  At $150/gallon, the $1200 fuel cost would be a killer for most products, but if it were a high value, highly differentiated product, it wouldn’t be impossible.

Gregor MacDonald made a potent observation in his blog post “The Restructuring of Global Oil Demand (http://cli.gs/L2EmZL)”.  The United States and, to a lesser degree, other highly developed economies, frame the “worth” of oil in terms of the past.  We are used to cheap oil and inefficient consumption, so we have trouble seeing a higher value in that gallon of gasoline.  We think gasoline should be cheap because it has been cheap, and because it ha been cheap we have come to see rolling down the road in an SUV as a personal right in our pursuit of happiness.  Entrepreneurs and consumers in developing economies better see the life-changing value in that gallon of gasoline; they frame the “worth” in terms of the present and the future.  A cheap, high-mileage minicar may not be as comfortable as my SUV, but it sure beats piling a family of four on a cheap motorbike.  For the developing world, carpooling could be a big improvement compared to overcrowded, unreliable buses.  Car-share programs, coupled with train commuting, there seem a dreamed-for convenience, while we see them as an undesirable inconvenience.

What will this mean?  As incomes increase in developing countries, producers and consumers there will be tuned to efficiency:  to getting the maximum value out of a gallon of gasoline.  We see a 25 mile road trip.  They see 131 MJoules of energy.