[fielderLS3]

In general, your best fuel economy will happen in the highest possible gear. It takes very little power to cruise at 35 mph, so even at a higher gear at lower RPM, you are not really lugging the engine at say 1500RPM or so. My Alero can go into OD at 38 and maintain that just fine at 1100 RPM.

Under a very light load with the throttle almost closed, the engine is only able to pull in a small amount of air past the throttle. With only a very small amount of air available, it becomes very inefficient thermodynamically at higher RPMs, as very little air gets into the cylinders at any given time, thus very little compression actually happens.

Under such a light load, the engine will be more efficient at lower RPMs, as the same limited amount of air coming through the nearly closed throttle will get spread out over fewer firings, i.e. more air will get into the cylinders for each individual firing, increasing thermodynamic efficiency by allowing for better compression. This is basically the idea behind cylinder deactivation as well. Concentrate the limited amount of air into fewer firings so that each individual firing happens at higher pressures/temperatures.

The transition between lugging and not depends on whether or not more RPMs results in significantly more air flow or not. Basically, if the throttle is the limiting factor for how much air the engine can draw in, it is not lugging. If the throttle is open enough that the engine RPM is the limiting factor for airflow (i.e. the engine is running slow enough that the rate of air it is capable of pumping is less than what could come through the throttle given how open it is) then you are lugging and more RPMs would be better.

The best way to tell if you are lugging or not is whether the engine responds to throttle changes. If you give it a little more gas, and the engine responds, you are not lugging it. If you find yourself pushing down more and more on the gas pedal, and the engine is not responding at all to the increase in throttle, that's an indication the the engine is already maxed out for the given RPM you are running at, so more throttle changes nothing.