Thursday, March 20, 2008

Compression, Distance and Gas Prices

Transportation and distance can be translated in economics in several different forms. The most common is to draw iso-time and iso-cost lines so that all points on the line are equally costly or equally time consuming to traverse from that point to a common central point. Decreasing costs or increasing velocity allows for regions that were previously marginally unattractive for certain economic activity to now become attractive and feasible for a given economic activity.

For instance, reliable overnight air transport has made the proliferation of high end seafood restaurants in Pittsburgh, St. Louis and Chicago feasible as fresh supplies can cheaply be brought in while fifty years ago, the radius of fresh delivery off the docks was limited to a half day worth of driving, or maybe three hundred miles. Anything else had to be frozen and then shipped. Now the fresh off the docks time is still half a day, but that means that all metro areas served by large airports are now within the economically feasible radius.

Menzie Chinn at Econbrowser is looking at the increasing price of transportation and is advancing the idea that international trade flows will slow down or potentially decrease as the iso-cost lines are shrinking.

Several implications flow from these musings. First, more goods will now be "nontraded". This would lend more "home bias" to US consumption (and more home bias to each other countries' consumption, as well). Second, one might think that as transport costs rise, foreign and domestic goods would become less substitutable, holding all else constant...

To the extent that the development of cross border supply chains relied upon low trade costs and rapid transport, higher oil prices should be expected to retard this process.

I think we can expand this analysis to intra-national, regional analysis. The most common distance as cost trade-off people make is where they live within a metropolitan area. Shorter commutes tend to lead to location premiums/higher property prices, while living on the periphery leads to lower property prices, but higher commuting costs (both on a cash and implicit time basis). The dominant trend in the United States over the past fifty years has been to sprawl towards cheaper lands on the periphery and accepting the higher commute times and costs, partially mitigated by a trend decrease in automobile usage costs. That trade-off may be breaking down.

CNN Money is running a series of vignettes on the middle class squeeze, and the first one features a couple from my hometown of Lowell, Massachusetts. Lowell is an old cotton mill town whose mills left in the 1960s, and it has become a combination of high tech manufacturing, high tech software support, skilled craftsmen, comparatively cheap housing for people leaving the inner Boston suburbs but want to stay within the Boston city region, and a massive immigrant community with great food. It is an interesting place, and it is still comparatively 'cheap' compared to any place ten miles closer to Boston.

I work in Belmont, MA, which is in the Cambridge area. I am in LOVE with what I do....'

Sadly, my husband and I were priced out of this community when we decided to buy our first home almost two years ago. We decided to move to Lowell, about 10 minutes shy of the New Hampshire border....

I will most likely need to leave my wonderful job as program coordinator due to the rising cost of gas. It costs me about $250 a month to commute to work,

As transportation within regions gets more expensive, less movement will occur. The trade-offs are becoming more pronounced, and the value of savings on property versus the direct and indirect commuting costs may have been worth it when annual commuting costs for this individual was only $1,500/year but the trade-off reverses itself when cash commuting costs come out at $3,000/year. Depending on one's assumptions, the increase in gas costs has led to a devaluation of the Lowell property to this family of $20,000 (interest rate and amortization schedule sensisitive of course).

If we continue to see higher gas prices, which I think is likely, the peripheral and outer ring suburbs (which Lowell is one within the Boston economic region) will see a further acceleration of home price declines as people will try to move closer to their jobs and closer to the center of their economic regions (assuming job density is higher towards the center). Shorter trips and better substitution of trip modes will occur as the alternatives to driving increase in higher density places.

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