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See Inside February 2009

Transforming the Auto Industry [Extended Version]

Only a partnership between the public and private sectors can help the Big Three roll into the future



Matt Collins

The debate about the future of the U.S. automobile industry exemplifies the shortcomings of U.S. public discussion about large-scale technological change. The auto industry has been widely vilified in recent months, with public opinion running strongly against government financial support for it. There has been an insistence on “letting free markets work” despite the fact that financial markets have collapsed in the worst crisis since the Great Depression. Environmentalist critics of the industry have understandably criticized the poor performance of the Big 3 automakers yet have not acknowledged the missing role of public policy and public finance in any lasting solution.

The critics have no doubt felt their frustrations building—justifiably—for decades. The industry fell into a trap of high costs, including unaffordable benefits and a morass of regulatory and contractual obligations (for example, related to dealerships) that enabled foreign producers to take a growing share of the U.S. market. Worse, the Big Three (Chrysler, Ford, and General Motors) continued to promote gas-guzzling SUVs while the risks to the climate and to U.S. energy security mounted. To some extent the industry is also paying the price for spiraling national health costs, which should be under better public control (and on the public budget), and for the nation’s inadequate fuel-efficiency policies and low gasoline taxes in comparison with Europe and Asia, which facilitated consumer demand for large vehicles. Yet many of the industry’s problems indeed result from its own strategic miscalculations.

Still, the scorn for the industry misses four crucial points. First, a collapse of the Big Three in the coming months would add another economic calamity to the crisis-roiled economy. Millions of jobs would be lost in places with very high unemployment and no offsetting job creation. Second, the automakers’ dire state is the result of the dramatic collapse of all domestic vehicle sales rather than the declining share of the U.S. industry in those sales. The Big Three were financially weak, to be sure, but they would not be at the precipice of bankruptcy were it not for the worst recession since the Great Depression. Conversely, with an overall economic recovery, the Big Three can be viable. Third, the public and political leadership bear huge co-responsibility with industry for the misguided SUV era, with its flagrant neglect of energy security, climate risks and unsustainable household borrowing.

Fourth, and most crucially, the changeover to high-mileage automobiles must be a public-private effort. To wait for the “free market” to bring it about is to wait forever. Major technological change, such as from internal combustion engines to electric vehicles recharged on a clean power grid or with hydrogen fuel cells, requires a massive infusion of public policy and public funding. Research and development depend on huge outlays, and many of the fruits of R&D should and in any event will become public goods rather than private intellectual property. That’s why public financing for R&D is so vital, and has been widely recognized and practiced by the U.S. government for a century in many industries, including aviation, computers, telephony, the Internet, drug development, advanced plant breeding, satellites, GPS and much, much more.

To sit back and bemoan the fact that the forthcoming Chevy Volt plug-in hybrid will have a first-year price tag of $40,000 is to miss the point. The costs of early-stage development and deployment are inevitably far above those that companies can realize in the long run. Public policy should help to promote this transition through such measures as the public-sector procurement of early models for official vehicle fleets, special tax and financing incentives for early purchasers and higher gasoline taxes that internalize the costs of climate change and oil import dependence.

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