Sunday, August 30, 2009

Cash for Clunkers: the autopsy, and an answer for Dana

I said earlier that I would examine this paragraph by Dana Garrett in the light of the success of Cash for Clunkers:

Great news all around, right? But, reader, if you hear a note of weeping in the national celebration of this program's success, it's those economic conservatives who, for entirely doctrinaire reasons, simply cannot admit they were wrong. A government stimulus program worked—in fact, it exceeded expectations—and that must be denied at all costs. You see, if they admit that a government stimulus program worked here, then they'll have to admit that such programs might work in other aspects of the economy as well. Too bad for them. Reality is rarely kind to dogmatists.

A couple caveats first:

1) I would dispute Dana's assertion that economic conservatives reject the idea of government stimulus. The whole argument over the stimulus package found the GOPers arguing for stimulus in the form of tax cuts or payroll tax holidays, which everyone from Peter Orzag to Mark Zandi to Paul Krugman admits is a form of government stimulus; they just do not think it is the most effective form. What I think Dana means here [and this is always a dangerous speculation, for which he often spanks the unwary] is direct, targeted government stimulus that does not involve tax rebates. In other words, the classic big government spending.

2) I think that Dana is really taking more issue with Libertarians and other small government types than with economic conservatives, because God [or the Flying Spaghetti Monster] knows that 2000-2008 proved that so-called economic conservatives had few qualms about passing out wads of government money to their favored industries and causes. The line, if they admit that a government stimulus program worked here, then they'll have to admit that such programs might work in other aspects of the economy as well, seems more directed at Libertarians who generally criticize the State for not being able to do much of anything right.

So, with that in mind, let's think about Dana's logic:

1) Cash for Clunkers, a direct, targeted government stimulus program, worked. The metric Dana employs is that the program can be credited with nearly 700,000 new car sales, saving 42,000 jobs in the auto industry, and reaping at least a modest ecological benefit [Dana does not quantify that one, but Tommywonk does, so I will use him here as a suitable stand-in].

2) Because Cash for Clunkers worked, we should immediately consider moving the government into other such targeted stimulus programs: Cash for Refridgerators comes to mind, and should regularly make them a part of our managerial repertoire.

3) People who deny (1), or that (1) leads to (2) are economic dogmatists who put their belief system ahead of real results.

Except, Dana, Libertarians have never claimed that State actions cannot or do not have an impact on the economy. Far from it: Libertarians think State actions usually have a significant impact on the economy, but that such actions are almost always (a) less effective in accomplishing specified ends than the free market would be; (b) accompanied by unintended consequences that are sometimes worse than the problem under attack; and (c) deliver preferential benefits to certain segments of the population at the direct expense of others via Statist fiat.

Does that equation hold here? Let's look.

1) It is actually an almost unsupportable claim that CFC was responsible for saving 42,000 jobs and selling 700,000 cars, unless you look at CFC in the context of the tens of billions of dollars already thrown to the automobile industry over the fall and winter. That, in particular, Chrysler and GM actually even had workers left or cars to sell was a direct function of being kept on life support by the State. But when even that proved insufficient, the State had to bribe people to purchase the vehicles. CFC's $2.8 billion infusion of [almost] direct stimulus money to taxpayers should realistically be considered the last of more than $20 billion spent in auto industry bail-outs this year, bail-outs unable to prevent the bankruptcy of Chrysler and General Motors, and bailouts--by the way--which required the elmination of tens of thousands of jobs through plant and dealership closings.

Equally important is the point that 41% of the benefits of CFC went to Honda, Nissan, and Toyota, with Ford, Chrysler and GM accounting for only 39%. Dana points out that this is immaterial from one perspective, because the Japanese cars bought with CFC funds are pretty much all manufactured in the US, and thus the jobs saved are American ones.

But the reality is that the American automobile market is shrinking, and has been shrinking for some time. There are simply not enough people out there--especially in the current recession--to keep six major automakers (Ford, GM, Chrysler, Honda, Nissan, and Toyota) as well as a whole secondary tier (Kia, Hyundai, Volkswagen, Mercedes, etc.) in business. The automobile market is contracting in the US, and all the State is accomplishing by keeping Chrysler and GM on life support is to prolong the agony of the necessary transition into a different kind of transportation economy that the world market is already undergoing, and to jeopardize America's competitiveness in that new market.

This falls under Category (2): uintended consequences.

Here are some others: the small ecological savings [and tiny reduction in foreign oil dependence] generated by CFC can only be asserted if one leaves out the energy costs associated with producing those 700,000 vehicles. While a gain of slightly more than 9 mile per gallon in the new cars will reduce some emissions, how much energy was required to construct and deliver those cars in the first place. What you never see anywhere is the break-even point between total energy consumption required for the new car versus the energy consumption for just keeping the old one on the road.

The same is true of the savings accrued to drivers: Tommywonk calculates that the reduction in fuel costs will save about $150 million per year to the drivers. Amortized across 700,000 vehicles, however, that's only about $215 each year for each vehicle. Let's see: I purchase a $25,000 new car. The government gives me $4,500 in rebates; the car company probably adds another $3,000 or so. That means I am paying about $17,500. Let's even assume that I have been thrifty enough to put about $2,500 cash down, so I am only financing $15,000 over five years. For most folks, that's going to give them a monthly payment in the neighborhood of $325, maybe a little more or a little less. The car I traded in was paid for a long time ago--otherwise it would not be a clunker. So I have gone from having no car payments to saving $215 a year on gas while assuming about $4,000 a year in new payments. Even minus the expected $1,500-$2,000 or so I would pay each year in repairs and upkeep on an older vehicle, here's the ugly truth: the program has not saved me money. It has left me with a new car, more debt, and larger cash outflow every month for the next five years.

[Oh, and let's not forget that most of these new car owners could have saved that $215 in energy costs next year by investing in a tire pressure gauge, an engine tune-up, new points and plugs, and a front-end alignment. Total cost: maybe $500 rather than a $2,500 downpayment and $15,000 worth of debt.]

Then there's Category (3): the preferential transfer of wealth. People who purchased under CFCs benefitted [although, when their tax bills come due, they may find out they did not do so well as they thought], but who lost? Let's count the folks who got shafted:

A) Independent auto mechanics; 700,000 fewer old cars on the road needing repairs and service, replaced by 700,000 new cars for whom repairs and service are now tied up under warranty terms at dealerships for the next three years.

B) The used car market: if you don't imagine that a good portion of those 700,000 new car buyers under CFC had not been contemplating a low-mileage former leased vehicle that would have sold for about the same discounted price or slightly less, you haven't been paying attention to the pre-owned car market, which has just taken a major hit.

C) The used car parts market: again, an unlovely but very real truth: there is a large used parts market in America, in which most of those clunkers would have ended up. Now the engines of those vehicles have been destroyed beyond any use.

What do the folks in categories (a), (b), and (c) have in common? How about the lack of corporate and union lobbyists to spend tens of millions of dollars looking after their interests?

So, yes, as government programs go, Cash for Clunkers was fairly benign. It achieved its stated shirt-term goal of propping up an industry in need of restructuring by market forces and gave a boost to short-term economic indicators, while saddling 700,000 people with about $10.5 billion in new debt [you do the math; my figures are arguably low by a factor of two], and creating negligable energy savings once production costs are factored into the mix.

But it made a lot of people feel better and it didn't actually cost too many other people (those auto mechanics) their jobs, so it passes as a rousing success as transfers of wealth go.

Assuming that there are about 100 million taxpayers in the US, this works out to a per capita cost of only $28 for each of us, which sounds like one hell of a deal, until you realize that the $28 in question only supported a tiny $2.8 billion-dollar program in a nation that is busy racking up a $1.7 Trillion deficit just this year.

Too many more successes like CFC might be more good news than we could stand.

For the record, I am not among those who believe the government should have done absolutely nothing in the face of the Great Meltdown, and I said so at the time. If you start here, you can work back through the specific prescriptions that I advocated [assuming that anybody actually cares].

Point being: State actions DO have an impact on the economy, and sometime (I call it the blind squirrel phenomenon) those impacts are actually advantageous to a few or even a lot of people. But most metrics applied by the advocates are short-term, leave out unintended consequences, and are frankly more politically self-serving than economically sound.

The best, and simplest, approach to the automobile industry's problem would have been to allow one or both General Motors and Chrysler to go belly up, strengthening the market position of their better organized competitors and releasing their capital, their trained personnel, and their physical plant for other uses. If the government had done that and then spent $2-3 billion on unemployment, health benefits, and vouchers for retraining for the displaced workers, not being a purist, I wouldn't have objected at all.


Miko said...

An excellent analysis, as always, Steve.

I would argue that the environmental benefit is even smaller than you state, a la Bastiat's broken window: the money that we spent on this program didn't come from thin air (inflationary issues aside). In addition to looking at the environmental gains from the program, we need to factor in the environmental losses from not using that money on other projects. When we look at the cost-to-benefit ratio of different environmental projects, it becomes pretty clear that taking money away from (say) building wind turbines in order to buy some people new cars and destroy their old ones most likely actually had a negative environmental impact.

Also, I think it's worth noting that the damage to the used car markets was not an unintended consequence, but a key feature of this program. The actual cars replaced via CFC were (for the most part) cars that would have been replaced over the next few years anyway: the real 'stimulus' benefit will come when poorer and new drivers who had intended to buy used cars are forced to buy new cars instead (or, in some/many cases, to go without a car). In the end, the program wasn't just about redistributing wealth from the poor to the rich, but also about controlling the market in order to fix prices.

tom said...

You were too kind Steve. CFC was a shameless transfer of wealth from the taxpayers, especially those who "benefited" from the subsidy to auto-makers, insurance companies and banks. And that is only the intended consequences.

That $28 per household, is not distributed evenly. It will hit the middle class and the low-end wealthy the hardest (since the high-end wealthy have become experts at hiding their assets and using every deduction and loophole available). The poor will not be affected, except for those who took "advantage" of the subsidy and now due to the extra $4500 of AGI must pay income tax, or pay at a higher marginal rate.

You did not account for the effects of interest (hence the subsidy to banks), or the fact that it is front-loaded, so banks will get the majority of the benefits for the first few years and auto-makers get the majority of their payments toward the end of the loan terms.

Nor did you account for the effects of car insurance payments. Many of those clunkers were not being driven and probably weren't insured, the remainder had very low premiums compared to a new car with its 4-10 times greater market value, and full coverage requirements.

And the alleged fuel savings are probably even further reduced because, as you mentioned in a previous post, many of those clunkers weren't being driven.

Anonymous said...

Another outstanding article.

John Galt

Anonymous said...

Just to clarify Tom, to trade your "clunker", you had to verify that it had been tagged and insured for the previous year.

tom said...

I was not aware of that. But in any case your insurance payment would still increase substantially, as I said.

Tyler Nixon said...

Dana's take was so narrow, compartmemtalized, doctrinaire, ideologically-driven and rendered in such a fiscal vacuum as to be not worthy of response.

It was certainly a worthy effort though, Steve.