David R. Henderson  

Jenkins on CAFE and GM

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Holman Jenkins has hit a home run with his analysis in today's Wall Street Journal of the CAFE (Corporate Average Fuel Economy) mess. It's titled "GM Faces Its Own Regulatory Cliff." I've written about this here, here, here, and here.

Some excerpts:

The most surprising thing about a new House Oversight Committee report on the drafting of the Obama administration fuel-economy targets is the spittle figuratively flying off every page. What exactly did the drafters--including the committee's GOP chairman, the relentless Darrell Issa--expect?

That the administration's 54.5 miles per gallon mandate for 2025 was based on science and engineering, rather than a quest for an impressive-sounding "headline number?"

That the mandate wouldn't be rife with "flexibility factor" fudge to encourage car makers to subsidize money-losing electric cars to fulfill a throwaway line in an Obama speech? (NPR, calling a spade and spade, said the mileage rules were an "electric vehicle mandate.")


And:
As the Issa report makes clear, the fuel-mileage negotiations were run out of the White House's hip pocket, in defiance of the Administrative Procedure Act, the Federal Advisory Committee Act and the Negotiated Rulemaking Act, which are supposed to keep the regulatory state honest. Five minutes after Mr. Obama leaves town at the end of a second term, a "midterm review" will revisit whether the impractical out-year targets are, you know, impractical.

And:
A perfectly good mechanism already exists to help Americans decide which cars to buy and how highly to value fuel efficiency. It's called the price of gasoline. Not well-remembered nowadays, the U.S. began regulating fuel efficiency only when it denied itself this useful mechanism during a disastrous experiment with gasoline price controls in the 1970s. The corporate average fuel economy rules (aka CAFE), though now fully institutionalized, stopped making sense as soon we stopped trying to fix the price of gasoline below market levels.

And finally:
Mr. Woodhill dwelled on the shortcomings of the 2013 Chevy Malibu, a car that goes up against the Accord, Camry, VW Passat and a near-infinity of others in the crowded market for family sedans. But the real reason to worry about GM is that it's making a Malibu at all. No logic under the sun, or under Harvard Business School, tells a company to play to its weakness, to prefer low-margin opportunities to high-margin-opportunities, to plan and execute large investments designed to lose money.

Detroit's labor costs, brand aura and design knack long ago should have told GM to focus on vehicles with low labor content relative to price and profit margin, such as pickups and SUVs. It's only because of CAFE that GM invests billions in small-car technology without payback, including the electric Chevy Volt. It's only because of CAFE that GM saddled itself with the money pit known as Opel, to keep up with small-car technology and markets in Europe.


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COMMENTS (14 to date)
KLO writes:

The major argument of the WSJ piece, that GM would do better if it focused only on products it can currently sell at high margin which are trucks and SUVs, is ideological claptrap. Doing this would tie GM's fate to public whim and gas prices to an intolerable degree. If public interest in pickups or SUVs were to wane, GM would collapse. Likewise, if gas prices surged, even temporarily, GM would be in major trouble. We know the latter is true, because, well, it happened. Can you imagine how badly off GM would have been if it only sold high margin large trucks and SUVs during the recent surges in gas prices? As it was, GM's weak car lineup made it difficult for it to offset losses from its trucks and SUVs with sales from smaller cars. The problem would have been that much worse had it sold no cars at all.

Jardinero1 writes:

KLO,

Then do you believe that a strategy of focusing on low margin products is a better strategy than focusing on high margin products?

GM's collapse was not attributable to a change in demand from, pickups and SUV's, to higher MPG vehicles. Rather the collapse of GM is attributable to a long run rise in North American labor costs, particularly benefits, and a fall in demand for all autos, across the board. The demand for particular vehicle types has changed very little in spite of the run up in gas prices.

Yancey Ward writes:

KLO,

Even with CAFE forcing GM to make a wider range of autos, they still collapsed in 2009, and are made more likely to do so in the future by the tightening of CAFE standards that will force them increasingly into the lower (negative in a lot of their lines) margin vehicles.

The point is this, and I don't see how one can argue with it given the financials: GM and Ford wouldn't even be viable companies today if they couldn't sell trucks and SUVs. A policy that forces them to manufacture fewer of those and more of vehicles they can't make profitably is just simply asinine.

dave smith writes:

KLO...your comment makes no sense. Many, many businesses operate at the whim of their consumers and are vulnerable to price movements in their products complements and substitutes. This is a really good thing as it causes companies to think and plan carefully about what products they offer to the public as their profits (and losses) depend on their decisions. This is a feature in the lives of firms in a free market economy, not a bug.

Insight writes:

If something like CAFE makes sense at all, it should be tradable. If a company is better at making small cars it should be able to sell those credits to another company better at making large cars (which should in turn be able to focus on large cars by buying the credits).

KLO writes:

Everyone thinks I am crazy and yet every high-volume auto manufacturer in the entire world offers a broad range of products from small cars to light trucks. True, some of the car manufactuers rely on others to supply vehicles to fill holes in their lineup, but the very fact auto manufactuers feel the need to do this shows that there is value in covering all of your bases in a given market. Were it otherwise, wouldn't we expect to see much more specialization? In fact, there is essentially no specialization at all. Heck, even Honda, which has long been known for efficient small cars, has tried to build trucks. Despite being completely and totally unsuccessful with the Ridgeline, Honda is bringing a compact truck here to replace it in 2013. What explains this behavior? Certainly it has nothing to do with CAFE.

Yancey Ward writes:

KLO,

If GM had the line up it has today in the absence of CAFE, then your point might be relevant. However, that is demonstrably not the case, as even the company itself will tell you. To sell some profitable, lower MPG cars, it is forced by law to manufacture and sell some higher/MPG cars to get the mandated overall fleet standard. CAFE makes the company less financially stable, not more.

KLO writes:

Yancey Ward,

Even in the absence of CAFE, GM would sell a broad range of cars and trucks at various price points and with different levels of power and fuel economy. Every global, high-volume manufacturer does this. The question for all of the auto industry genuises on this board is why. If specialization in the different market segments makes so much sense, why do we see so little of it? In the U.S., you can buy pickup trucks from Ford, GM, Fiat/Chrysler, Honda, Toyota and Nissan. Not surprisingly, these are the five largest manufacturers in terms of auto sales in the U.S. Hyundai/KIA is sixth in terms of sales and does not have a pickup. It is, however, contemplating one despite: (a) not being known for light trucks and (b) the high cost of developing a vehicle from scratch that can only be sold in volume in the U.S. Does this tell you anything?

Glen Smith writes:

GM should be sophisticated enough to understand that welfare isn't free.

Jardinero1 writes:

KLO,

You suggest in your comments that GM did not have a diversified lineup. In fact, GM had a highly diversified lineup of cars prior to it failure and subsequent bailout. It already produced many high MPG cars, both domestically and globally in 2008. It didn't stop the company from failing.

Mm writes:

The mst disturbing point about the new CAFE standards adopted by the the Obama administrations is that they purposely choose the maximal obtainable fuel effeciency NOT the maximal society benefit as the target. In other worse they chose a level that will depress jobs, GDP etc. The previous CAFE target was picked as the max. Overall benefit, but the administration ignored the "science" to kowtow to the extremists. The damage to he auto industry mat doom GM.

Yancey Ward writes:

KLO,

GM would make a different set of vehicles if not for CAFE. Specifically, they wouldn't be making too many vehicles on which they lose money year after year whose only purpose is to meet fleet averages mandated in the law.

As for the other companies, they face the same burden of regulations in the US, but most of them make trucks and SUVs for the US market for the same reason GM and Ford do- they are higher margin vehicles. However, they also, in general, can command higher margins in the other lines than GM, for example. But they, too, would likely bring a different lineup of cars if not for CAFE regulation.

CAFE hasn't "helped" make GM financially stable- it has made it less so, unless you actually do think GM would have screwed up even worse without CAFE, at which point I have to just through the "ideological claptrap" complaint your way.

KLO writes:

I am not suggesting that CAFE has no impact on the choices that auto companies make. What I am saying is that the specialization strategy that Holman Jenkins argues GM would pursue in the absence of CAFE does not make sense and that, broadly speaking, GM would have a diversified lineup of cars CAFE or not. Of course, a diverse lineup of cars does not guarantee success nor did I ever suggest it did. But it does make success over the long haul much more likely and that -- and not CAFE -- explains why every major manufacturer strives to have a complete car and truck lineup. You are free to disagree with the "vehicle for every need" strategy that the major auto manufacturers pursue in all large markets, but it is disingenuous to claim that this strategy, which existed in the U.S. prior to CAFE and exists in other major markets that lack CAFE-like regulations, is entirely driven by CAFE.

Floccina writes:

From what I understand Damler pays the fines rather than meet the CAFE standards.
http://www.autoblog.com/tag/daimler+cafe/
According to the NHTSA, more than $37 million in fines were collected last year for cars sold in 2007 from manufacturers that failed to meet current CAFE standards. Of the six manufacturers that paid fines, Mercedes-Benz was hit the hardest, racking up an astounding $28.9 million bill that was paid ...

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