The MPG Illusion

Couple days ago I came across an interesting video on YouTube called “The MPG Illusion” by Duke University-Fuqua School of Business. Rick Larrick and Jack Soll in the video posed an interesting question: Will it be better to upgrade a car from 10mpg to 20mpg than 25mpg to 50mpg? Most people will answer no. Most people assume there is a linear improvement in mpg, the bigger the improvement the better. However, with some simple math tells us otherwise.

(The researcher: Rick Larrick and Jack Soll also post a news release on Duke's Fuqua Business web)

Over a distance of 100miles, 10 gallons of gas will be used by a 10mpg car will use, 5 gallons for a 20mpg car, 4 gallons for a 25mpg car, 2 gallons for a 50mpg car. Hence, upgrading a 10mpg car to 20mpg car will save 5 gallons of gas every 100miles, versus 2 gallons for the other situation. If we plot this problem into a graph as below, we can see there is a diminishing return on gas usage as the mpg increases. Though another question arises: Is it worth it to switch your old car to a new more fuel efficient one?

RIP George Carlin.

George Carlin, a legendary comedian, died Sunday at age 71 from heart failure. For those who love comedy, George Carlin needs no introduction. His work has brought joy and laughter to millions. In his Inside the Actors Studio with James Lipton, Carlin separates his work into three categories: language, the big world (business, religion, race, consumerism, etc), and the little world (dog, cats, and little things that all we know).

In his “Owners of America” sketch in Life is Worth Losing HBO special,

“Be happy with what you got. The owners of this country don’t want that. I’m talking about the real owners now. The big wealth business interest that control things and make all the important of decisions. Forget the politicians. They are irrelevant. Politicians are put there to give you the idea that you have freedom of choice, you don’t. You have no choice. You have owners. They owned you. They owned everything.”

Personally, I understand why he felt this way. Life is a zero sum game is a “common knowledge” to most people. There is always a clear winner and a clear loser which creates drama and entertainment. However, in most cases life is not a zero sum game, often enough both (the winner and loser) are better off. European farmers are better off working in the factories during the industrial revolution and same as the Chinese and Indian farmers are better off working in factories. Most American families are better off with cheaper goods and services from China and India.

The current problem is people always wait for a new messiah to lead them towards this imaginary utopia where we work few hours a weeks and enjoy every luxury possible. The People gradually lose their freedom and liberty when they hand it to politicians to choose for them. The People have to stand up and fight for their rights as individuals instead of becoming sheep that follows and fight for someone else agenda.

23 mpg highway, surprisingly efficient!

Today, I saw an interesting Honda car ad while watching Studio 60 of the Sunset Strip on Hulu.com. A great show that I regret missing when it’s on. The ad begins with a group of people stuck on the highway and suddenly a stunning 2009 Honda Pilot drives by and saves the day. The ad end by the driver saying, “This car gets 23 mpg on highway, surprisingly efficient!”

There are two interesting things about the ad. First, at a high gas price most of us automatically pulled our anger lever and began to drop F-bombs on Big Oil. As if Big Oil is greedy criminal scums that stole from the poor. Yet from my personally experience, very few bought more efficient cars or moved closer to work, because they have/need to live 80 miles away from school (work) or drive a car with low fuel economy. Besides, when you imply you have/need something means you will purchase it with any price, because you can’t survive without it. Simply, you just want it and choose to get it. A vertical demand curve does not exist in this situation. There are plenty of substitutes.

Second, is 23 mpg highway efficient? According to National Highway Traffic Safety Administration estimates our national fuel economy averaged 26.6 mpg. At Carsdirest.com out of 36 mid-size SUV, including the 2009 Honda pilot, coming out this year averaged 21.89 mpg highway. Although, the 2009 Honda Pilot is 1.11mpg more efficient among its peer group, but there are 9 out of those 36 mid-size SUV with better fuel economy. Furthermore, the 2009 Honda Pilot is below the national average when fuel economy becomes your major concern. There are plenty better alternatives and no one needs a SUV to survive.

When life gives you lemon, you make lemonade.

“When life gives you lemon, you make lemonade,” becomes a common saying in these troublesome times. The future is uncertain yet grim. Drivers suffers from the never ending gas price increase, consumer noticeably changed their spending habits, employees anxious about another layoffs, even the cheerful ones who used to light up our days becomes a nearly extinct species. As of I have sent over dozens of summer job/internship applications, but no cigar; nonetheless, it is not the end of the world.

Maybe youth has misled me to become short sighted or pride has overclouded my views towards my flaws, then again optimism and skepticism is the only two things left in my possessions. After all there is nothing to do or anything to lose. Hopefully, some will join this new journey and “make lemonade” during the process.

Now enough with this nonsense, let’s attempt to discuss something related to Economics.

As of last Friday oil has gone crazy, as if it hasn’t already, and shot up $10.75 to $138.54. Instead of bring our torches and pitchforks to Big Oil, we should set our emotions behind and think rationally. Currently, there are two separate explanations for the crazy oil price: weak dollar or Peak Oil.

The first explanation basically boils down to a weak economy, then Fed cut rates; weaken the dollar and oil speculators buy tons of oil to hedge against the dollar, hence the crazy high oil price. This explanation became a norm since Ron Paul presidency run. The second explanation explains the oil industry underestimated oil demand and overestimated oil supply, plus “peak oil” drives oil speculators to stock up on oil before it ran out.

If the first explanation is true, oil is overvalued in a sense that when the dollar/economy strengths, the bubble will pop and oil will be cheaper. Conversely, if the second explanation is true, oil is undervalued and it will increase at an increasing speed.

In the name of good Economics, I will read and research both explanation, and hopefully, finding the true answer in this summer.

(Extra) March Rate Cut

March has been troublesome month in an unstable time. Several negative economic indicators, the fall of Bear Stern, and 74% American believe the nation is now in recession. Many have expected at least a 75 basis points cut from the Federal Reserve to boost the economy. Nonetheless, the previous Uncle Sam $200billion package only stimulates the market for a day. So what can 75 basis points really do?

The internal dispute news from the Fed leads me to guess the possibility of the two contrary options in today’s meetings: 1) catching the knife with their bare hands, 2) letting go of the falling knife. For option one a huge rate cut is a must, but for option two the Fed may only cut 50 basis points or less. It will be interesting if the Fed take a bolder move and increase rate. Of course the former option is much more possible than the latter. Either way the Fed is trying to catch falling knives. However, a huge rate cut leaves less wiggle room for the Fed and creates more inflation which might lead US towards the same track of Japan in the early 90s.

The $110 barrel of oil

This week a barrel of crude oil (hereafter I’ll use oil instead of crude oil) has reached $110 where it was only $60 a year ago. Many claimed (and hoped) $100+ barrel is temporary and soon enough it will fall back to the good old days. Being a buzz-kill I have to disagree. Even though we have self-claimed oil producers, but most of them are oil extractors. We can only produce oil with high pressure or bacteria, but currently these methods will use more energy than it produces. Hence the phrase oil is a non-renewable energy.

By using simple human logic, if something gets rare it will become more valuable (or expensive). So why should oil price remain constant? It shouldn’t. The other question will be what drives the price to almost double in 07, instead of a steady rate of increase which never actually happen to America?

Texas Senator Ron Paul, an Austrian Economist, explains it is all because of the weak dollar. The Dollar has devalued 30% based on gold, causes goods and services 30% more expensive.

Then what caused the other 70%? The rest is more of a Keynesian demand-pull inflation. Our fellow average Joe and Jane have used more oil to fill their tanks and heat their houses. Wars have been using lots of oil. Also, China and India has consumed more oil to produce more products and fill their gas tank. Hence, about 2 years ago Time Magazine made a satire cartoon where you saved $2 on a pair of sneakers made in China and spent it back on the gas pump.

Next: A few suggestions to slow down the oil price increase

Buying a House now?

This week when I was reading CNN headlines, one particular one shocked me. According to CNN now is the best time to buy houses (in 4 years). Most people do believe “buying property is always better than renting”, because renting is just throwing your money away and help the owner pay his mortgage. Buying a house is also a good investment and you can get foreclosed houses at a bargain price.

Well, the statement is true to some extend. However, there are a couple points new home owner tend to ignored. And I personally doubt this is the rock bottom of the "sub-prime mortgage".

1. Interest adds up even at 6%:

$100 compounded at 6% for 30years equals $574. So taking a huge long term loan you will be paying interest half of the time.

2. Try to save up 20% down.

0%, 5% or 10% down will only make you pay more interest.

3. You don’t need a 5 bedroom house with front & back garden and a swimming pool.

Again, huge long term loan is a no brainier. Be realistic with what you need and know what you can afford.

4. Can you pay your mortgage for half a year with your emergency fund?

In uncertainty times like theses, companies will layoff staffs to cut cost. Also, it will be tough to find a job, or sell your house.

5. Foreclosed houses tend to need heavy maintenance.

Think about it. You’re fire, can’t pay your mortgage, bank foreclosed your house. You might break a wall or two, or at least trash your house before you leave.