New CAFE standards

The Obama Administration is increasing substantially fuel economy standards for auto makers.  An article can be found here.  The current rules are 29 miles per gallon for the corporate average fuel economy (CAFE); they are to increase to 35.5 mpg by 2016 and 54.5 mpg by 2025. How are they to do this?  Increase development of electrified vehicles and generate more fuel efficiency through engine improvements and lighter car bodies.  A hidden cost in this is that injury and death rates are higher in smaller, lighter cars.

According to the article, the administration estimated that Americans would reduce oil consumption by about 12 billion barrels over the course of the program.  Transportation Secretary LaHood said the standards would save Americans $1.7 trillion in fuel costs, or an average of more than $8000 a vehicle by 2025.  Environmental groups applaud the standards.

What are the problems?  First, auto prices will be higher.  Mr. LaHood agreed prices would increase but only by a fraction of what is saved in gas. I have no idea how he knows this.  Economic theory suggests that prices will increase by the present value of the expected savings on fuel costs.  This will also depend on what fuel prices are in 2020 or 2025.  As noted in the article, GM is shutting down production for while on the Chevrolet Volt hybrid becase of a backlog of inventory.  People aren't buying the vehicle.  It also will negatively impact poorer people. We are likely to see older, less efficient vehicles stay on the road longer because these would be the cars poorer families could afford to drive.

Another problem is that compliance is not determined by what the companies produce but by what they sell. This means that the firms may have to lower prices on the more fuel-efficient cars if people aren't buying them in order to be compliant.  Some have argued that an important part of the difficulties GM had that led to its bankruptcy were due to CAFE.  To meet the standards, GM sold the most efficient cars at a loss, counting on profits on the larger vehicles such as SUVs to nake up for the losses.

This is another example of the government trying to achieve a goal through regulations instead of prices.  If the problem is too much oil consumption, then raise the price of oil and gasoline.  Then people decide whether they want to conserve through more fuel efficient cars, use mass transit more, or other means. It also provides incentives for people to come up with more fuel-efficient autors. But consumers and taxpayers would see the higher cost of gasoline as due to congressional action.  When car prices rise over time, those same consumers and taxpayers may blame the "greedy" auto makers for the higher prices.

Quo Vadis?

Two articles in yesterday's Wall Street Journal relate to concerns I have raised in this blog before. The first article talks about the federal government through the Department of Energy becoming the largest "venture capitalist" in the country. A small automotive firm, Fisker Automotice, Inc., ran into financing difficulties with plans to build a plant in Finland. With the help of the U.S. government, and Vice-President Biden, the company received funds and set up the plant in Delaware. (Evidently, VP Biden still is a senator from Delaware.) According to the article, the DOE will lend or give out more than $40 billion to businesses that work in "clean" technology.

The second article describes how Edward Montgomery, the auto-communities recovery czar, is able to cut through red tape to help auto firms redevelop abandoned auto sites. In particular, he has been able to get the EPA to expedite and alter its brownfied site-assessment program. Perhaps it is a coincidence, but the auto industry, in which the federal govenrment now has ownership stakes in two of the leading auto makers, is the main beneficiary of the czar's activities.

We are moving from an economic system that relied on private firms and initiatives to one that is becoming more dependent on government. Of course, we did not have a "free-enterprise economy" before January 2009--there has always been a lot of government involvement in the economy. But there still seems to be a difference now. I suspect government officials argue much of it is due to the recession. The same thing happened during the Great Depression, and much of the government involvement persists to today. Are we in for another ratcheting up of government guidance (control?) of the economy?

What Did People Expect?

The headline for an article in yesterday's Wall Street Journal is "Cruel September for Car Makers." Car sales fell 23% in September. But in the preceeding couple of months, the government's "Cash for Clunkers" program was in effect. The auto industry had used incentives in the past to boost sales, and usually found that the boost in sales came at the cost of sales in other months. The government's program was the same type of thing. The big question is whether it generated a net increase in car sales or merely changed the timing of the sales. Given it included a sizeable subsidy for new car buyers who had a "clunker" and bought a more fuel-efficient car, it is likely it stimulated demand from what it would have been rather than merely transfer sales from the end of the year to the late summer months. But it is hard to see a reason to expect improved sales for the rest of the year.

It is interesting to see that Ford continues to increase market share while GM and Chrysler are losing market share. Ford is the firm that did not get direct aid from the federal government and now faces competition from government-aided firms, yet is gaining market share at their expense. Apparently, producing cars people want matters more than government support.

Most Government Involvement Since the Great Depression

Rick Wagoner, the chairman at General Motors, has resigned, apparently forced out by the Obama Administration. According to a New York Times article, the decision caught both Detroit and Washington by surprise and also indicated , "...a level of government involvement in business not seen since the Great Depression."
My first blog posting had to do with all the times we hear today about the "worst since the Great Depression." We may now get other phrases in connection with the last part--since the Great Depression. It seems clear that the new administration wants government involvement at greater levels that we have seen, at least since Reagan's election. (Robert Reich had a recent opinion piece in which he argues that Obamanomics isn't about big government, but I don't find his arguments persuasive.)
A question remains as to how involved the government will be in operations and strategies of GM given that GM has asked for and received federal money. To hear some politicians, including Obama while a candidate and Rep. Pelosi on numerous occasions, the auto firms just need to become more green and profits will return. How to do so remains a bit of a mystery. Ronald Coase, a Noble-winning economist, described how as a student he and classmates were discussing policy in the oil industry, and how wasteful American oil firms were. (This was in 1930). Arnold Plant, the professor of the class, led them through a discussion that implied that the government knew more about running an oil firm than the executives of the oil firms, and further, that they as students knew more about running oil firms than the executives knew. Coase notes that the foolishness of the implications were obvious at that point. (See R. H. Coase, "The Nature of the Firm: Origin," Journal of Law, Economics, & Organization, 4 (Spring 1988), p. 6.)
GM has made a lot of mistakes, and perhaps it deserves to fail. But if GM had followed the path Pelosi or other politicians opt for, that failure would have come even sooner.