Dynamic heterogeneity: rational habits and the heterogeneity of household responses to gasoline prices

The heterogeneity of household response to gasoline prices has key implications for the distributional impacts of gasoline taxation. However, this heterogeneity has mostly been assessed in a static framework, which ignores the dynamic nature of gasoline consumption. I contribute to this debate by developing a simple rational habits model of gasoline consumption, which allows to assess both rigidities on households' response to contemporaneous gasoline prices and forward-looking behavior vis-à-vis future gasoline prices. The parsimonious nature of this model makes it amenable to estimation on long-run household panel data, which allows the analysis of long-term responses. Estimation on the PSID panel dataset for the period 1999-2015 yields a long-term price elasticity of-0.88. Interactions with quintiles of income reveals significant heterogeneity in households long-term response across the income distribution: poorer households' gasoline consumption exhibits stronger habits, while richer households are more forward-looking. These findings suggest that policies fostering gasoline price increases should be complemented with measures facilitating the adaptation of poorer households' gasoline demand.