Don't Sell That SUV; You May Be Living In It

Now that the world has decided to release much of its oil reserves, the price of gas in the U.S. has begun to retreat somewhat. As a side note, I find it curious that every gas company claims that the current high price is based on shortages due to the war in Iraq, increased demand by foreign nations, and, most recently, Hurricane Katrina. However, the oil that was used to produce the gas that we're all pumping into our vehicles this week was purchased loooong before Katrina's first storm cloud ever formed. Similarly, the oil purchased today won't show up as gas in the station's tanks for some time to come. It is nothing but the perceived shortage of gas that's causing the price to skyrocket, precipitated by traders and speculators in gasoline and oil futures. Yet everyone from our government to the major oil companies would have us believe that all consumers of oil products are being forced to raise prices by similar amounts. But this dollar for dollar price passing is deceptive because while a 25% increase in costs for the oil companies does result in a 25% increase for consumers, the oil company's 25% includes profit margin. Therefore it should be no surprise that oil companies have historically reported record profits when gas prices experience a sustained increase. Anyone want to predict what they will all be saying come the end of their current fiscal year? I know some CEOs who will be receiving multi-million dollar bonuses this year.

As a result of all this I'm not convinced that they have no control over the price increase or that they are merely passing on a dollar for dollar increase that they incur; not after witnessing how the two stations closest to my house reacted to the price increase. They sit on opposite corners of the same intersection. One is a Mobil; the other Exxon, which if memory serves is the same company. In the year or so I've lived here these two stations have charged virtually identical prices, every so often varying by a penny. Prior to the hurricane, they were both charging $2.54. During the post-Katrina spike, however, the Mobil station topped out at $3.45 a gallon whereas the Exxon station across the street never rose above $3.19. If all these increases were supply driven, how did the Exxon station remain so much lower than the Mobil station right across the street? Especially considering they are part of the same oil company.

This morning I noticed, as I passed all the stations during my morning commute, that they all seem to have retreated to $3.19 a gallon range. But before everyone begins thinking this means gas is going to retreat to it's previous level, ask a question: What do you consider cheap? $2.75? $2.50? $2.35? What if we all remember that at this time last year a gallon of regular in my area was going for $1.79? The sad fact is that once we normalize paying these inflated prices, the market won't allow the price to drop to historical levels. In other words, gas will never again be below $2 a gallon. The longer it remains over $3, the more we become used to paying that amount, so when this perceived shortage is over and supply resumes, it'll drop to, say, $2.50 or so, but never to the below $2 level it was before.

If you're an oil company it makes perfect sense. You can claim that you're only charging what people are willing to pay and besides, the prices are ultimately set by futures traders on the world market. If people are used to paying more than $3 a gallon, dropping it to $2.25 will seem like a real bargain. Never mind that at $2.25 it would still be more than 40 cents higher than it was before this all began.

I make the same comment about house prices. In many areas of the country a modest, single family starter home is selling for $300,000. If you're lucky enough to be in the market for a custom home in my area of the country, you'd better be willing to shell out a minimum of $450,000; and that's if you forego many of the usual upgrades custom home buyers typically select.

When we lived in L.A. we had a modest but nice - and nearly new - home that just by luck happened to be listed for far less than comparable homes. Three years later we sold that same house, having done absolutely nothing to it to improve its value, for nearly $80,000 more than we paid. I'm now told that that same house is worth a further $70,000.

If you're a young couple just starting out, how exactly are you supposed to afford even a modest home? Paying more than $350,000 for a 1,700 square foot tract home is all fine and dandy if you're also selling a home in which you've got $200,000 in equity. But what if you're just starting out? What if you don't have the $150,000 to $200,000 required to make the payments possible? I've been told that the housing market is the 00's internet market, that is to say the housing market today is experiencing the same kind of explosive gains that internet stocks did in the 90's and that when the bubble bursts there's going to be hell to pay for all those people paying a third of a million dollars for a Gran Turino on blocks. I don't think that's possible for the same reasons I don't think gas will ever be "cheap" again.

People have grown used to paying inflated prices for homes in these areas and as such they'll jump at a chance to purchase for $250,000 a house that was previously listed for $375,000. But what if that house historically went for $180,000? If pricing homes nearly $200,000 over historical levels is a problem, a decline that makes it only $70,000 over priced isn't much of a solution. It's still over-priced.

And don't even start trying to insist that homes in these areas are so pricey because of the cost to build them. Developers are making a mint on new home sales in places like New Jersey and California. It seems to me that they'd have to be. After all, they're using timber from the same sources, largely, as those building homes in the south. If the increase in price were due to cost of production, you'd expect home prices in Houston to be somewhat on par with those in Los Angeles. But a 1,700 square foot, 50 year old, starter home in a moderate neighborhood in L.A. will cost you at least $250,000. But for only $150,000 you can buy a 2,800 square foot new home, with a good sized yard, in a nice neighborhood in Houston.

Prices in general inch upward over time. We all expect it. And as long as it happens slowly we don't give it a second thought. But every so often something happens to jerk prices upward dramatically. This leaves most of us upset and dismayed, but we still adapt. It's that adaptation that causes the problem going forward because, while absolutely necessary, it makes us change our paradigm for what "normal" prices should be, in turn adjusting upward our definition of a bargain.

When wages are only increasing at single-digit rates (provided you've got a job that isn't being sent overseas), yet standards like housing and fuel are increasing at double digit rates, how long do we think it's gong to take before a vast swath of this country can no longer afford housing or transportation? Or worse, they're affording them by spending less on other things like food, college, or retirement?