Monday, August 03, 2009

What have we learned from the Cash for Clunkers program?

The first major lesson is that incentives work. This is a basic lesson of introductory economics and it's always pleasant to see that congressmen have a tenuous grasp on such concepts. Of course, they don't seem to grasp the further lesson that, if employers have to pay lots of money to give their employees health insurance but have to pay a much smaller fee if they don't insure them and let the government do it instead, those employers will shut down their insurance programs and let the federal government do it for them. That is why Obama's promise that we can keep our insurance and doctors is so fatuous. He's ignoring the role of incentives.

is pondering what the lesson is from the Cash for Clunkers program.
The buying spree is good for the car companies, if only for the short term and for certain car models. It’s good, too, for folks who’ve been sitting on an older car or truck but weren’t sure they had the cash to trade it in for something new. Now they get a taxpayer subsidy of up to $4,500, which on some models can be 25% of the purchase price. It’s hardly surprising that Peter is willing to use a donation from his neighbor Paul, midwifed by Uncle Sugar, to class up his driveway.

On the other hand, this is crackpot economics. The subsidy won’t add to net national wealth, since it merely transfers money to one taxpayer’s pocket from someone else’s, and merely pays that taxpayer to destroy a perfectly serviceable asset in return for something he might have bought anyway. By this logic, everyone should burn the sofa and dining room set and refurnish the homestead every couple of years.

It isn’t clear this will even lead to more auto production over time, since the clunker cash may simply cause buyers to move their purchases forward. GDP will get a fillip in the third and perhaps fourth quarters, which will please the Obama Administration. But the test will be if auto sales hold up next year and into the future once the clunker checks go away. The debate over the subsidy may even have prolonged this year’s auto slump as buyers delayed their purchases waiting for the free lunch.
And then they wonder why, if this idea is so great, we don't offer cash for all sorts of things.
And since money is no object, let’s give everyone a $4,500 voucher for other consumer goods. Let’s have taxpayers subsidize the purchase of kitchen appliances, women’s clothing, the latest Big Bertha driver—our Taylor-made is certainly a clunker—and new fishing boats. These are hardly less deserving of subsidies than cars, and as long as everyone thinks we can conjure wealth out of $4,500 giveaways, let’s go all the way.
And if giving out free money for people to make their own choices is so great, how about vouchers for education? What about that District of Columbia program that the Obama administration and Democrats are eliminating?

And it isn't at all clear that this program has increased car purchases. The evidence seems, as Jeremy Anwyl writes today in the WSJ, that all we're seeing is that customers postponed their purchases waiting for the program to go into effect. We've just shifted the timing of their purchases.
First, it’s not clear that cash for clunkers actually increased sales. noted recently that over 100,000 buyers put their purchases on hold waiting for the program to launch. Once consumers could start cashing in on July 24, showrooms were flooded and government servers were overwhelmed as the backlog of buyers finalized their purchases.

Secondly, on July 27, published an analysis showing that in any given month 60,000 to 70,000 “clunker-like” deals happen with no government program in place. The 200,000-plus deals the government was originally prepared to fund through the program’s Nov. 1 end date were about the “natural” clunker trade-in rate.

Clearly, cash for clunkers was underfunded from the start. Consumers quickly figured that out and rushed to take advantage before funding ran out.

This sales frenzy was inevitable. We have crammed three to four months of normal activity into just a few days.
If these geniuses are so sure they know how to operate 1/6 of the economy, how come they couldn't even predict how many people would like a free $4500 to trade their car in would be able to make the delicate adjustments to figure out which drugs to approve and which patients to allow payment for their doctor's recommended surgeries if we give the government control over the health industry. And then add in their similar ambitions to figure out the whole energy industry and regulate supply and demand there. Do you have confidence in the government's ability to manage all these industries?

Michael Barone is also pondering the lessons from the Cash for Clunkers program and sees the unintended consequences from such ideas. He tells us of an earlier program built along the same lines in Arizona.
Cash for Clunkers is a prime example of the unanticipated consequences of hastily drafted legislation. The House voted hurriedly Friday to transfer $2 billion of stimulus funds to Cash for Clunkers, and the Senate will probably agree next week. But who thinks Congress will stop there? There will still be plenty of clunkers on the road.

This brings to mind a similarly well-intentioned 2000 Arizona law that paid $22,000 per vehicle to owners of cars operable with alternative fuels. SUV owners began installing small propane tanks and pocketing the money; the law didn't say they actually had to use the propane. A program estimated to cost $5 million ballooned to $500 million, one-tenth the state budget. The Arizona legislature, unable to print money, repealed the law. Congress is not similarly constrained.
He also notes that, in typical government fashion, the auto dealers have to wait for the federal government to sort out the paperwork.
Mind you, the government hasn't yet shelled out the $1 billion authorized for Cash for Clunkers. Dealers reduce the buyers' prices and have to apply to the National Highway Traffic Safety Administration for the rebates and NHTSA -- surprise, surprise -- has only managed to process 23,000 of an estimated 250,000 applications. The checks, we are told, will be in the mail.
And what, asks Barone, about the unintended consequences from such policies and how do those lessons apply to the health care plans put forth by the Democrats?
If such simple laws can have such huge unanticipated consequences, what should we expect from the 1,000-plus-page laws congressional Democrats have been trying to write that would regulate the provision and financing of health care, one-sixth of our total economy?

Ballooning costs, for one thing. Not many members of Congress -- maybe not any -- have had the time or motivation to read through 1,000-page bills to figure out how someone could game the system to bring in great gushers of government money. But some nontrivial number of 307,000,000 Americans will do so. And some will figure out how to tap the federal treasury to their advantage.

More important, any health care legislation will inevitably affect medical treatment and care. Under the Democrats' bills, the government will regulate the terms and conditions of health-insurance plans to reduce choice and discourage treatments that some centralized experts decide aren't cost effective. Never mind that experts currently differ on these matters, and constantly revise their assessments based on new information; certain procedures will be frozen into place.
UPDATE: Econbrowser adds in this history analogy.
One of the more embarrassing features of the New Deal was the Agricultural Adjustment Act of 1933, which paid farmers to slaughter livestock and plow up good crops, as if destroying useful goods could somehow make the nation wealthier. And yet here we are again, with the cash for clunkers program insisting that working vehicles must be junked to qualify for the subsidy
Econbrowser then links to Bradford Plumer of The New Republic who doubts that we're actually going to see any environmental benefits from the program.
Now, as we've noted before, the actual environmental benefits of this program may well prove modest. The fuel-economy requirements for the new car were, after all, fairly lax: You could in theory trade in a Hummer that got 14 mpg and get $3,500 toward a brand new 18 mpg SUV. That's still an upgrade (and, in fact, that trade would actually save more gas than upgrading a 30 mpg sedan to a 35 mpg vehicle), but it's a meager one. And if the upgrades are, in fact, all meager, they could end up being dwarfed by the energy required to manufacture new vehicles (particularly since dealers have to scrap the "clunkers" that get traded in—many of which are perfectly good, albeit inefficient, cars).
And, of course, any benefit would be beyond minuscule compared to what is being done in China and India. But that's a totally different question.