This is a presentation given by Professor John Godek to Lynnwood Rotary Club on June 16, 2011. Archived video of the presentation is available at www.youtube.com/users/lynnwoodrotary

1. Effects of Spikes in the Price of Gasoline on Behavioral Intentions: A Mental Accounting Explanation Forthcoming in Journal of Behavioral Decision Making John Godek, PhD Assistant Director, Business Development Center University of Washington Bothell Kyle B. Murray, PhD Associate Professor University of Alberta June 16, 2011

2. Looking for a new car . . . . . . but gas prices were going up

3. Weekly Gas Prices As of 6/13/2011

4. Weekly Gas Prices As of 6/13/2011

5. Rollercoaster of Spikes Over the past 6 years gas prices have spiked in the Summer, usually recovering somewhat within weeks or months When prices do spike, consumers react strongly

6. Reaction to Gas Spikes

7. Decreased Overall Spending The National Retail Federation Found: 75% of American consumers report high gas prices have cut into their discretionary spending 37% of Americans decreased vacation spending to combat higher gas prices 36% cut back on dining out

8. Less Driving and More Efficiency Changes in lifestyles More people biking to work and using mass transit People moving closer to work AAA reports that nearly half of all Americans drive less, take fewer and shorter trips to combat high gas prices Consumer Reports found that: 55% consider purchasing a small car 38% are considering either flexible-fuel or diesel vehicles 50% of consumers consider purchasing a hybrid

9. Less Driving and More Efficiency Changes in lifestyles More people biking to work and using mass transit People moving closer to work AAA reports that nearly half of all Americans drive less, take fewer and shorter trips to combat high gas prices Consumer Reports found that: 55% consider purchasing a small car 38% are considering either flexible-fuel or diesel vehicles 50% of consumers consider purchasing a hybrid

10. Sample Hybrid Comparisons (From Edmonds.com) *Based on 15,000 Annual Miles, $3.67 per gal

11. Sample Hybrid Comparisons (From Edmonds.com) *Based on 15,000 Annual Miles, $3.67 per gal

12. Short Term Spikes – Long Term Decisions Summer of 2008, sales of SUVs were dead. By Fall 2008 sales picking up again (Krause 2008; White 2008) Even with tax breaks, hybrids can be expensive, often with 6+ years to payback Even for long trips, gas spikes don’t add that much cost Average fuel economy is 20-25 mpg (passenger cars and light trucks; Bureau of Transportation Statistics) Average America drives 13,476 miles per year (April 2011, Federal Highway Administration); Average fuel consumption per week is approximately 10 gals.

13. Consumer Overreactions So even though gas spikes are usually relatively short lived: Consumers react as if they are long term Consumers’ decisions don’t always make economic sense Why? We propose framing of price increases as per gallon causes consumers to account for spikes differently If price increase were framed for specific situation instead, consumers might not react as strongly (e.g., gas goes up $1 per gallon or the cost of a planned 500 mile trip increases by $25).

14. Mental Accounting Mental accounting is a set of cognitive processes used by individuals to organize, evaluate, and keep track of various financial activities (Thaler, 1999). Consumers create “mental budgets” to track expenditures. As expenses are incurred for a particular account, consumers change how much they feel they have to spend in that area (Heath & Soll, 1996). Several types of mental accounts (Kahneman and Tversky, 1984): Topical – individual accounts used for tracking specific expenditures (e.g., entertainment, groceries, travel, etc.) Comprehensive –Includes overall spending and income for both current and future periods.

15. Gas Prices and Mental Accounts Gasoline is used in many different situations Difficult to assign price per gallon increase to all relevant topical accounts Instead consumers deal with increase generally by allocating to comprehensive account

16. Experiment 1 Goal: See if differences in framing gas price increases leads to different choices Design: Scenario for a 1000 mile vacation trip, two functionally equivalent conditions, gas prices spike PPG Framing: Gas price increases .97 per gallon PPT Framing: Gas price increases cost of trip by $50 (Trip should take 20 gallons on average each way on average) DV = “If you were to encounter the previously described situation, how likely would you be to cancel the trip?” N = 63

17. Experiment 1 Scenario “Imagine that you are planning a trip from Eugene to San Francisco (approximately 500 miles each way) in a couple weeks to visit friends and family.” PPG Condition “A couple days before you are actually going to depart for San Francisco, gas prices jump up from an average of $2.63 a gallon to an average of nearly $3.60 a gallon. You read in the newspaper that this sudden rise in gas prices is due to problems with oil production in the hurricane ravaged Southeastern U.S., combined with instability in Iraq and the rest of the Middle East.” PPT Condition “A couple days before you are actually going to depart for San Francisco, gas prices jump up and increase the cost of your trip around $25 each way.You read in the newspaper that this sudden rise in gas prices is due to problems with oil production in the hurricane ravaged Southeastern U.S., combined with instability in Iraq and the rest of the Middle East.”

18. Experiment 1 Results Main effect significant, p < .001

19. Experiment 2 Goal: Determine if permanency of gas price increase moderates main effects Design: 2 (PPT vs PPG) x 2(temporary vs. non-temporary price increase) DV = Same as in Experiment 1 N = 151

20. Experiment 2 Scenario Same introduction and manipulation used in Experiment 1 Added temporary and non-temporary conditions: Temporary: “Energy experts forecast that the rise in fuel costs is only temporary, and that gas prices should fall back down within a month.” Non-temporary: “Energy experts forecast that the rise in fuel costs is not temporary, and that gas prices should climb again within a month.”

22. When price increase temporary, no difference between PPG & PPT

24. Experiment 3 Results Interaction, p = .035 Replicated Experiment 1 and Experiment 2 With comprehensive framing, PPG-PPT difference not significant (p = .120) For PPT conditions, comprehensive framing participants cancelled more than those without comprehensive instructions (p = .036), making PPT participants act more like the PPG participants

26. Implications Managerial and Policy Implications: Our research suggests that if firms or policy makers want to minimize the effects of price increases on consumer spending, then prices increases should be framed to invoke use topical vs. comprehensive mental accounts. On the other hand, for those wishing to encourage conservation and reduced fuel consumption, it makes sense to encourage consumers to think comprehensively. General Implications: This research suggests that topical vs. comprehensive mental accounting is an important, and somewhat overlooked, factor in consumer responses to prices and price increases.

27. Thank You!