we use the "state-dependent framework" to build our model. In this state- dependent framework, a consumer will first identify a subset of goods and services that is relevant to his or her choice in his or her given state from all available alternatives. The consumer will then establish a preference ordering over the relevant alternatives before a choice is made ( Lee and Lin, 1996). In this chapter, we use transportation and automobiles as one of the examples to demonstrate how the state-dependent framework can be applied to explain many economic issues.
Transportation is an integral part of almost all human activities, involved in employment, education, social activities, vacations, obtaining goods and services and so on. Thus, the flows of transportation are derived from the flows of other human activities. In fact, transportation is required to facilitate efficient production of other human activities. A requirement of this type is functional in nature and is therefore called a functional requirement. For example, there is a functional requirement for transportation associated with an individual's employment. This requirement can be quantified by the frequency of trips and the travel distance between the individual's residence and one's work place. If the travel distance is 7.5 miles, then the functional requirement for transportation to and from work is 15 miles each day.
How the functional requirements for transportation are satisfied depend on the means that are available. These can include public transportation, driving and/or by using one's own feet; in the United States, the primary method is driving. The functional requirement for transportation will thus in turn give rise to a requirement for gasoline. However, given an individual's functional requirement for transportation, the need for gasoline further depends on the type of car one is driving. Therefore, functional requirements for transportation and technical constraints imposed by the available cars jointly limit the alternatives about gasoline which are relevant to one's choices. These alternatives are called the state-dependent consumption set for gasoline.
In the event of gasoline price increase, a small car will make it possible for the individual to satisfy his or her functional requirements for transportation. Small cars are therefore one alternative that a consumer will consider when the gasoline price is increased to the extent that his or her allocated budget is not sufficient for meeting gasoline requirement with a large car. In the 1960s, when Japanese producers first entered the U.S. market, they entered as niche players. Meanwhile, developments in the U.S. had opened a window of opportunity for Japanese producers to become major suppliers. These include the rising inflationary pressure in the late 1960s and the sharp increase in the gasoline price resulted from the oil embargo imposed by OPEC in 1973. 5 Inflationary pressure had caused consumers to search for lower priced products while the increase in gasoline prices caused more consumers to shift their demand from large to small cars. However, the domestically produced small cars in the U.S. not only were inadequately supplied at the time but also fuel inefficient. In fact, Volkswagen was the only small car producer who had an established position in the U.S. market at that time. 6 The window of