The average price of gasoline in the US hit $4 a gallon for the first time Sunday the 8th of June, announced by Auto Club AAA. This news came following Friday’s near $11 surge in oil prices to a record $138.54 USD a barrel, the worst energy-price shock Americans have faced for a generation.

Gasoline prices, which have risen 29% over the past year, have been high for months, and in some states such as California and Alaska, consumers have been paying more than $4 a gallon at the pump for weeks. But the latest increase at a national level has led consumers to change their spending habits.

 “What we are seeing here is a lot of additional pressure on a consumer sector that was soft to begin with,” said Alliance Bernstein economist Joseph Carson. “Is it a tipping point by itself? It is close.”

According to Mr. Carson, “the current drain on consumer’s income from rising fuel prices is greater than it was during most of the worst energy price run-ups of the past. Spending on fuel has reached above 6%. That exceeds the percentage seen during the 1974-75 and 1990-91 oil-price shocks and approaches the 7% to 8% seen during the 1980-81 price surge.”

As the gasoline prices climb, consumers are cutting spending in areas such as appliances, movie tickets or vacations. That could force businesses hit by less consumer demand to reduce operations and therefore to cut jobs in an already weakened labor market. The government reported that the unemployment rate jumped to 5.5% in May from 5% in April as employers cut 49,000 jobs last month.

If oil stays above $135 a barrel and gasoline keeps rising into the Fall, businesses that rely on oil could be hit significantly, such as automakers, airlines and chemical companies, to name a few.

Automakers, for instance, have been offering big discounts on SUVs and other gas guzzling vehicles piled up on dealership lots. General Motors Corp. announced it would officially close four of its pick-up truck and SUV plants to focus on more full-efficient small cars. 

The Automaker said it would shut down factories in Janesville, Wisconsin; Oshawa, Ontario; Moraine, Ohio; and Toluca, Mexico. As a result, the shut downs will initiate a cut of about 2,900 jobs in Janesville, 2,400 in Moraine and about 250 in Toluca, according to the GM Spokesman Tom Wilkinson.

GM aims at reducing production of pickups and large SUVs by about 35 % to save the company $1 billion per year and meet the actual consumer demand.

In the meantime, the demand for fuel-efficient hybrid cars keeps increasing at a record high. Dealers show endless waiting lists, ranging from few weeks to several months, for the Toyota Prius, Honda Civic, and Ford Escape Hybrids. Some customers are even waiting up to six months for the Toyota Prius, the first hybrid to enter the US market.

Toyota Motor Corp. plans to ship between 170,000 and 180,000 Priuses to the US this year, the same number as last year, but still not enough to meet demand. The current economic outlook deeply amplifies pessimism among consumers, initiating a drastic change in their spending patterns.

The airline industry is also following the same trend by shutting down routes, grounding airplanes, and reducing the number of flights they offer for sale. Cutting the number of seats seems to be the favored option in order to contain expenses, generated by exorbitant fuel costs, as it allows airlines to significantly raise prices.

If airlines offer fewer seats they can not only raise prices but also sell fewer seats at discounted prices. Demand for seats will thus drop since there would not be many cheap seats, but the planes that fly should generate more revenue with less passengers.

Most of the cutbacks will appear after the busy summer. American Airlines already said it would end its daily service between New York and London’s Stansted Airport. United Airlines has already reduced the frequency of its Los Angeles - Hong Kong route and has discontinued its low-cost carrier, Ted Airline. Domestically, airlines will reduce their traffic rather than abandon cities completely.

Mike Boyd, who heads the Boyd Group aviation consultancy, said, “at $125 a barrel of oil, we don’t have a system that can meet the demand and make profit, so we have to thin it out. Instead of nine flights, you’ll have eight flights in a market. I think we’ll see more of that. We have to, only because we can’t carry as many people as we used to at the fare we used to have. Fares have to go up.” 

Unfortunately, this trend goes beyond the suppression of aircraft or reduction in traffic, it also entails job cuts, which will exacerbate an already weakened labor market.

Continental Airlines, which has also undergone capacity reductions, will cut 3,000 jobs, including management positions. United’s reductions also extend beyond aircraft. The carrier expects to reduce “salaried and management employees and contractors” by up to 1,600 people, which includes 500 previously announced job cuts.

American Airlines said its reductions in capacity would result in job losses, though the carrier at press time was “assessing the scope and location-specific impact on any workforce reductions resulting from the capacity reductions.”

In a nutshell, airlines that can fly at lower costs, such as Southwest Airlines, will gain in this financially challenging environment, and higher-cost carriers will continue a cost-cutting contraction as they are very much in a survival mode.

As mentioned previously, gasoline prices hit $4 a gallon nationally and threaten to further affect the confidence of consumers whose spending makes up more than two thirds of the economy. Growing concern about the job and housing markets as well as inflation have also helped push the consumer sentiment to its lowest.

The Conference Board Consumer Confidence index continues its downward trend in May. The index now stands at 57.2, down from 62.8 in April. Data also shows that the index of expectations is also at its lowest at 45.7, down from 50.0 in April.

Lynn Franco, Director of the Conference Board Consumer Research Center notes, “The Consumer Confidence Index now stands at a 16-year low. Weakening businesses and job conditions coupled with growing pessimism about the short-term future have further depleted consumers’ confidence in the overall state of the economy.” 

An important factor contributing to this pessimism is that American’s wealth is decreasing as gas prices climb. House prices in suburbs and exurbs have plunged as commuting expenses have sharply increased. The entire economy reflects the high costs of energy from the cars consumers drive to the house they live in. It depresses also demand as homeowners save more and spend less.

Nationally, Americans saw their net worth decrease by $1.7 trillion in the first quarter, the biggest drop since 2002, as declines in home values and the stock market affected their holdings.

As house values drop, the amount of equity Americans have in their homes fell to 46.2%, the lowest level on record. In addition, the net worth of US Households fell 3% to $56 trillion at the end of March, according to the Federal Reserve’s flow of funds report, released on Thursday.

Americans are spending everything they have because of the rising energy price, decreasing significantly their wealth. Consumer credit, which includes credit cards, rose at an annual rate of 5.75%.

This highlights perfectly the alarming difficulties Americans are facing. Consumers continue to borrow money against their homes, even as they decline in value.

Record gasoline prices are causing challenges and adding more pressure on everyone - consumers and businesses.