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Revisiting income and price elasticity of gasoline demand in India: new evidence from cointegration tests

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Abstract

This study investigates cointegration among gasoline demand, real price of gasoline and real GDP for India for the period 1971–1972 to 2012–2013. It also estimates short-run and long-run elasticity of gasoline demand with respect to its price and GDP. Johansen–Juselius and ARDL bounds test methods establish that gasoline demand, gasoline price and GDP are cointegrated. Regime shift cointegration tests with endogenous structural breaks, on the other hand, ascertain cointegration between gasoline demand and GDP. Gasoline demand is found to be highly elastic with respect to real income and real price in the long-run. However, in the short-run, price is inelastic. The study deviates from previous studies in two important aspects. First, price is found to be elastic in the long-run as opposed to being inelastic in both short term and long term as established in the previous studies. Second, income elasticity has declined in magnitude. These findings are quite intriguing and are consistent with policy changes in the Indian economy. The Toda–Yamamoto version of Granger causality tests establishes long-term unidirectional causality from real income to gasoline consumption. The study discusses possible reasons behind the empirical findings, and finally, a set of policy prescriptions are suggested to reduce the consumption of gasoline, which should have no adverse impact on economy in the long-run.

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Notes

  1. Liddle (2009) shows that the fuel standard programme was effective in improving the fuel economy of US vehicle fleet.

  2. For example, if there is unidirectional Granger causality running from gasoline consumption to economic growth, then reducing gasoline consumption could lead to a fall in national income. On the other hand, the presence of unidirectional Granger causality running from economic growth to gasoline consumption means that reducing consumption through energy conservation and demand side measures would not affect the economic growth.

  3. If there are n variables which all have unit roots, there are at most \(n-1\) cointegrating vectors. The number of cointegrating vectors is less than or equal to the number of variables n and strictly less than n if the variables have unit roots. However, if there are n variables and there are n cointegrating vectors, then the variables do not have unit roots as the cointegrating vectors can be written as scalar multiples of each of the variables alone, which implies that the variables do not have unit roots (Lütkepohl 1993; Dwyer 2015).

  4. If \(\lambda _{1} = 0\), then the rank of \(\varPi ^*\) is zero and there are no cointegrating vectors. If \(\lambda _{1}\ne 0\), then the rank of \(\varPi ^*\) is greater than or equal to one and there is at least one cointegrating vector. In that case, the test continues by moving on to \(\lambda _{2}\le \lambda _{1}\). If \(\lambda _{2}= 0\), then the rank of \(\varPi ^*\) is one and there is one cointegrating vector. If \(\lambda _{2}\ne 0\), then the rank of \(\varPi ^*\) is at least two and there are two or more cointegrating vectors.

  5. The asymptotic distribution of the trace test is the trace of a matrix based on functions of Brownian motion or standard Wiener processes (Johansen 1991, p. 1555). Neither of the J–J tests statistics follows a Chi-square distribution in general; asymptotic critical values can be found in Johansen and Juselius (1990) and are also given by most econometric software packages.

  6. We use the GAUSS 9.0 software to test regime shift cointegration proposed by GH and HJ. The code for GH test is taken from Bruce Hansen’s website (http://www.ssc.wisc.edu/~bhansen/). The Gauss code for HJ test is obtained from Hatemi J. A.

  7. Gasoline price in India has officially been deregulated in June, 2010. So, in the data span of 41 years under study (1971–1972 to 2012–2013), gasoline price has been exposed to any external shocks or regime changing phenomenon for a very short span of time unlike the other two variables in the system which have undergone and witnessed many economic policy changes, which could potentially create regime changing behaviour changing the pattern of long-run relationship. Concluding section contains further explanations on this issue.

  8. GH and HJ cointegration techniques with structural breaks have also been deployed to investigate the cointegration between Lgaso, Lgdp and Lpr for the time span of the studies by Ramanathan (1999) and Sentenac-Chemin (2012). Results suggest the absence of regime shift cointegration for Ramanathan’s study, whereas a regime shift cointegration is found to be present for Sentenac-Chemin’s time span. This justifies the use of regime shift cointegration techniques for our study. J–J and ARDL bounds tests cointegration approach also confirm the absence of cointegration for Lgaso, Lgdp and Lpr for both earlier studies.

  9. An asymmetric causality test proposed by Hatemi-J (2012) has also been deployed. Results find no asymmetric effect of price and income on gasoline consumptions. This goes in line with the study of Sentenac-Chemin (2012). Results are available on request.

  10. The difference in income elasticities between the current study and the one obtained by Ramanathan (1999) is found to be statistically different.

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Authors and Affiliations

  1. Qualitative Techniques and Operations, International Management Institute (IMI), Room No. 501, B-10, Qutab Institutional Area, Tara Crescent, New Delhi, 110016, India

    Kakali Kanjilal

  2. Economics, Management Development Institute (MDI), Room No. C-10, Scholar Building, Mehrauli Road, Sukhrali, Gurgaon, 122001, India

    Sajal Ghosh

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  1. Kakali Kanjilal
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  2. Sajal Ghosh
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Correspondence to Sajal Ghosh.

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Kanjilal, K., Ghosh, S. Revisiting income and price elasticity of gasoline demand in India: new evidence from cointegration tests. Empir Econ 55, 1869–1888 (2018). https://doi.org/10.1007/s00181-017-1334-2

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