US Insights

A drop at a time

J. Walker Smith

Executive Chairman, Kantar Futures

Economy 02.18.2015 / 20:45

credit card and gas pump

Predicting a positive yet modest spending impact for business in cheaper gas

For many companies, the big question of the moment is what cheaper gas means for consumer spending. Five elements frame the answer:

#1  How much additional money will consumers have?

#2  What sort of spending power does this amount provide?

#3  How willing are consumers to spend?

#4  What will consumers buy more of?

#5  What does this mean for my category or brand?

The bottom line: for most categories, the near-term impact will be positive yet modest. Even so, the upside potential is enough to warrant marketing support to ensure it is realized. Let's examine these questions one by one (you can find the entire overview here).

#1 How much additional money will consumers have?  The savings from cheaper gas depend largely on how far prices fall, because gasoline demand itself is fairly inelastic. The typical household purchases about 1,200 gallons annually. Year to date, the AAA's Fuel Gauge Report finds prices nationally across all grades of fuel about $1.00 less than a year ago, with some days as high as $1.20. Assuming prices stay low and accounting for the fact that year-ago differences will be much smaller in the second half of 2015, back-of-the-envelope math yields a little under $1,000 this year in after-tax money saved.

#2 What sort of spending power does this amount provide?  In aggregate, the savings from cheap gas are a huge number. There are many estimates, but with over 117 million US households, $1,000 per household roughly equals $117 billion in savings. One estimate is $1.4 billion saved for every penny less in gas prices sustained for a full 12 months, which yields approximately the same figure for aggregate savings as $1,000 per household when applied with similar assumptions about price differentials between this year and last year.

However big the aggregate number, though, consumers are not getting these savings all at once in one lump sum. Mostly, individuals who spend the savings from cheap gas will do so in small amounts across many occasions over the course of a year.

What this $1,000 means for a particular category or brand is not readily apparent. Some categories will get a bigger share of the next dollar spent, crowding out other categories. Some categories are bigger-ticket purchases for which $1,000 a little bit at a time won't be enough to boost spending. Some categories have low penetration so a little bit of spending by a smaller number of people won't be very much in total. Plus, consumers must be willing to spend the savings from cheaper gas.

#3 How willing are consumers to spend?  The New York Times concluded a recent story that was headlined, "Lower Oil Prices Provide Benefits to US Workers," with a closing quote that bracketed the upbeat report with a strong caveat of caution. April Smith, a home health aide from Lewiston, Maine, was quoted as saying, "Us small people, we just see [gas prices] go up and down, up and down. We throw a party when it's down-but not too much of a party because we know it's going up."

The watchfulness evident in this quote was echoed in a recent McKinsey report that counseled, "[I]t's important to understand consumers' still risk-averse mindset … For many consumers, the 2008-2012 recession isn't over yet."

While initial data on 2014 year-end spending are consistent with this prudent view of consumers, consumer sentiment is improving. If gas prices stay low, confidence should build on itself and loosen purse strings. But this will need to be closely monitored. Gas prices appear to have bottomed out and are creeping back up.

Cheaper gas is welcome, but it is not a panacea for the enduring and difficult financial challenges facing middle-class consumers. The elephant in the room is wage stagnation, a knotty problem for which cheaper gas is no remedy or equalizer.

#4 What will consumers buy more of?  While many consumers remain cautious, spending has improved for some categories. The ITG survey found that of the 31% spending more, 29% spent the money dining out and 21% bought clothes. Similarly, the Visa survey found that groceries and fast food were the biggest beneficiaries of the one-quarter of savings that has been spent.

An analysis of spending data by Cardlytics (and reported by CNBC) found that the biggest winners on a percentage basis were e-commerce and foodservice, while on a dollar basis, it was home and garden, auto service, grocery products and e-commerce.

When times are tough, consumers give up indulgences (large first, then small), gift-giving and big-ticket items. If hard times persist, consumers trade down on, or postpone essentials. When times improve, long-postponed essentials are the first things to rebound, followed by indulgences and big-ticket items. So it's no surprise that the ITG and Visa surveys found more spending on groceries, clothes and dining out.

A view of cheaper gas as an "up and down" thing, to borrow the words of April Smith in The New York Times article, implies that the money saved will be spent more like a one-time windfall and less like ongoing income. This means saving much of it, of course, but it also means catching up with necessities and splurging on small indulgences. Additionally, some consumers will be disciplined with this extra money, setting it aside for lump-sum purchases like products requiring a down payment or a big, one-time payment. Home renovations, furnishings, automobiles, high-end consumer electronics and luxury items like jewelry could benefit from cheap gas.

#5 What does this mean for my category or brand?  The best way to assess the upside potential from cheaper gas is to start from the household perspective, not the macroeconomic view.

The most recent government data for household spending is the 2012 BLS annual consumer expenditure report and it shows that total household spending averaged $51,442. Every category is some portion of that. Dividing the average household spending for a particular category by total spending yields a percentage, and that percentage multiplied by $1,000 is the "fair share" amount for that category.

For example, if a category commands 10% of the average annual household spending of $51,442 (which is over $5,000 per year-a big amount not typical of most categories), then its fair share is 10% of the $1,000 savings, which is $100 over the course of 12 months. Aggregated across millions of consumers, this is a large amount

But three caveats apply. The first is that this amount assumes all of the $1,000 is spent. But if half is saved, then the fair share amount is much less. The second is that not everyone will spend this money, so any calculation has to factor down the amount spent by a proportion of consumers. The final caveat is that this money is spread over 12 months, which in this example is less than $10 per month. Savings from cheaper gas cascade through the economy from the bottom up in small amounts. If a category or brand doesn't fit the particulars of these parameters, then it won't see much upside from cheaper gas.

Promising or not, hypothetical figures such as these can be thin soup for business planning, mainly because so many factors in the marketplace weigh against any literal application of past patterns to estimate the volume impact of cheap gas.

Ultimately, it's up to marketers to stoke and channel demand. Too much is up in the air to treat cheaper gas as a guaranteed boost in growth. Consumers see these savings as a windfall, so this is the best way to motivate them. It's special money to be spent in a special way. Marketers must step up and show consumers how to make special use of it.

Source: Kantar Futures

Editor's Notes

For the author's entire overview and sourcing, click here. To speak with the author, contact us. Follow @Kantar and sign up for our insight alerts.

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