Tesla versus the Rent Seekers

by on March 18, 2014 at 12:26 pm in Current Affairs, Economics, History, Law, Political Science | Permalink

The NYTimes has a very bad article on Tesla and auto dealer franchise laws. The worst bit is this mind blowing contradiction:

…most states have some limits on direct sales by auto manufacturers…These rules are generally meant to ensure competition, so that buyers can shop around for discounts from independent dealers, and to protect car dealers and franchises from being undercut by the automakers.

So there you have it, limits on direct sales ensure competition and protect car dealers from being undercut by the automakers. Sorry, but you can’t have it both ways. Which view is correct? Let’s begin with some background (drawing on a great article by LaFontaine and Morton).

Franchising arose early on in the history of the auto industry because, as in other industries, franchising can take advantage of local knowledge and at the same time control agency costs. Franchising rules evolved in Coasean fashion so that manufacturers could not expropriate dealers and dealers could not expropriate manufacturers. To encourage dealers to invest in a knowledgeable sales and repair staff, for example, manufactures promised dealers exclusive franchise (i.e. they would not license a competitor next door). But with exclusive franchises dealers would have an incentive to take advantage of their monopoly power and increase profits by selling fewer units at higher profits. Selling fewer units, however, works to the detriment of the manufacturer and the public (ala the double marginalization problem (video)). Thus the manufactures required dealers buy and sell a minimum quantity of cars, so-called quantity forcing. Selling more units is exactly what we want a monopoly to do, so these restrictions benefited manufactures and consumers.

Politics, however, began to intrude into this Coasean world in the 1940s and 1950s. Auto sales accounts for some 20% of sales taxes and auto dealers employ a lot of people so when it came to a battle in the state legislatures the auto dealers trumped the manufacturers. The result was franchise laws that were increasingly biased towards dealers. In essence, exclusive franchises became locked into place, manufactures lost the right to add dealers even with population expansion, quantity forcing became illegal and dealer termination became all but impossible.

The result of dealer rent seeking has been higher auto prices for consumers, about 6% higher according to one (older) study by the FTC. Consumers have been stiffed in other ways as well. In some states, for example, manufacturers were required to reimburse dealers for a repair under warranty whatever amount the dealers would have charged consumers for the same repair not under warranty. As a result, dealers had an incentive to increase their price to consumers because that increased what they would be reimbursed for repairs under warranty. The franchise laws have also resulted in a highly inefficient distribution of dealers as populations have moved but dealers have been frozen into place. The inability to close, move or consolidate dealers has impacted the big-3 American firms especially because they have older networks. As a result, a typical GM dealer sells 377 cars a year while a typical Honda dealer sells 1,062 and a Toyota dealer 1,488.

Tesla wants to sell directly to the public but more generally what we need is to restore the Coasean balance, put dealers and manufacturers back on a equal footing and let the market decide the most efficient means of retailing and distributing automobiles.

Addendum: Dan Crane and Lynne Kiesling have further posts on this topic.

CMOT March 18, 2014 at 12:45 pm

Tesla is also a rent seeker, so this post is really about “Tesla and the Disintermediation of Rent Seeking”.

Rationalist March 18, 2014 at 1:44 pm

I thought Tesla were the good guys. In what way are they rent-seeking?

Mogden March 18, 2014 at 1:49 pm

Ill-gotten gains through enormous taxpayer subsidies.

Zephyrus March 18, 2014 at 3:40 pm

By the same token, fossil fuel companies and regular car companies are receiving a far larger, multi-trillion dollar subsidy in taking advantage of a government tax breaks to subsidize/forgive their massive carbon emissions.

Doug March 18, 2014 at 5:37 pm

Even though the magnitude of the implicit subsidy may be larger, that’s because far more fossil fuel cars are sold than electric car. Per vehicle the electric car subsidy is far larger.

byomtov March 18, 2014 at 7:24 pm

Maybe, but that’s not a great way to measure it. I don’t think the Tesla subsidies go up as sales increase, so per car is a distortion.

Floccina March 19, 2014 at 10:19 am

By the same token, fossil fuel companies and regular car companies are receiving a far larger, multi-trillion dollar subsidy in taking advantage of a government tax breaks to subsidize/forgive their massive carbon emissions.

And of course most of that subsidy is captured by drivers who actually consume the fuel and put put the CO2. BTW I think that CO2 to reach balance would be rather modest like maybe $.50/gallon. I do not think would keep many people from buying ICE vehicles.

Dave Anthony March 20, 2014 at 10:20 am

“I don’t think the Tesla subsidies go up as sales increase, so per car is a distortion.”

There is a $7,500 federal tax subsidy on the hood of every Tesla vehicle sold.

engineer March 20, 2014 at 1:32 pm

“a far larger, multi-trillion dollar subsidy in taking advantage of a government tax breaks to subsidize/forgive their massive carbon emissions.”

This sentence has so many logical fallacies packed into it that it boggles the mind. Let’s try to unpack them all.
First off, a “tax break” means that less money is stolen from a company. Making a crime less is not the same as giving someone something. You wouldn’t go around claiming that every guy who hasn’t been mugged today is benefiting from a “lack of mugging subsidy”.

A tax break has nothing to do with carbon emissions.

Carbon emissions don’t need to be “forgiven”. The entire “carbon dioxide is causing global warming” theory has been disproven, and this happened in the 1980s. (The IR absorption of CO2 is less than that of water vapor. If you know enough to talk about AGW then that disproves it, if it doesn’t disprove it then you’re just parroting political propaganda you have heard and think is “science”.)

Fuel companies and car companies are not the ones emitting CO2 anyway, it’s the end user. IF you could make a moral case for taxing such emissions they are not the ones who should pay.

Further, even if CO2 were bad, you can’t make a case for taxing it to “punish” the “crime”.

If a man rapes a woman, the man being forced to pay the state a “fine” for the crime is not moral. It is, itself another crime, because it reduces the money the man has to pay the woman– the actual victim– compensation for the crime. His debt is to the woman, not “society”.

What this all boils down to is that you feel you have the right to steal from people who you don’t like, and you’re trying to rationalize it.

Thinking people are not falling for it.

Andrew March 18, 2014 at 9:09 pm

Its not like other companies who sell electric vehicles don’t get subsidies. Subsidies are there to accelerate the electric vehicle market. It is the government choosing to promote technologies that move us away from fossil fuel dependence. How is that a bad thing? Tesla doesn’t get special treatment. It is true that California gives subsidies to Tesla that other companies don’t get but that is because Tesla is the only major auto manufacturer in California. If California continues to promote these technologies I am sure they will see financial returns as well. These tax laws convince companies to move to California and help the economy there.

Also these subsidies are supported by the majority of California and federal subsidies for alternative energy/energy consumption technologies have a ton of support across the nation. You act like they are stealing money from taxpayers. Just because you are not in the majority does not mean your money is being stolen; that’s just how democracy works.

Rahul March 19, 2014 at 1:17 am

The bigger question is if you are for subsidies do you have a good argument against other market interventions? (e.g. restricting sales channels etc.)

Jordan March 19, 2014 at 11:15 am

“Just because you are not in the majority does not mean your money is being stolen; that’s just how democracy works.”

Theft is theft. There is no magical ethical distinction that makes theft legitimate when 50.1% of people vote for it rather than 49.9%. This is indeed how 100% democracy works, which shows its poverty.

lippydoo March 18, 2014 at 9:44 pm

“taxpayer subsidies”

You know Tesla’s ZEV credits come not from the taxpayers but from _other automakers_ (specifically the ones selling the dirtiest cars), right?

dan1111 March 19, 2014 at 4:00 am

Automakers are themselves taxpayers, and they pass these costs on to other taxpayers in the form of higher prices on their cars.

lippydoo March 19, 2014 at 6:14 pm

@dan1111: By your logic, all businesses are “taxpayer subsidized”. That phrase has a meaning, and that ain’t it. ;)

Bagehot99 March 20, 2014 at 10:41 am

“You know Tesla’s ZEV credits come not from the taxpayers but from _other automakers_ (specifically the ones selling the dirtiest cars), right?”

You can’t possibly think the ‘other’ vehicle manufacturers have a pot of money with which to pay subsidies that didn’t come from their customers, right? Because only a small child or a socialist believes such codswallop.

engineer March 20, 2014 at 1:33 pm

Theft is theft, it is not made moral by demonizing the victim.

A jones March 21, 2014 at 11:20 am

Theft is theft and labels are labels. Neither make for very compelling arguments.

Sbard March 18, 2014 at 1:50 pm

A significant portion of their profits come from selling zero-emission vehicle credits.

Jay March 18, 2014 at 2:12 pm

Did they lobby for their passage or merely take advantage of them? I’m not trying to make a point, I really don’t know.

ummm March 18, 2014 at 2:22 pm

many electric cars failed before tsla. tesla finally got it right and is a great American success story. Tax subsidies are just a small part of the sticker price, or about 10-5%.

Jay March 18, 2014 at 3:48 pm

I’m not saying it does in this case, but 5-10% can easily make or break a business in a sector with an average of 8-9% profit margins.

raffi12 March 18, 2014 at 11:09 pm

Tesla profit margins are about 25% on the Model S, expected to reach 28% this year. They’ve said many times on earnings reports that they expect to remain profitable without selling EV credits.

Jay March 19, 2014 at 9:50 am

A lot of early companies margins are that high, they’re almost always, without question, not sustainable. I was quoting margins for the transport sector of the S&P which regrettably contains many non-car manufacturers but I think it is more inline with long term margins Tesla will see. They won’t have the market for luxury zero-emissions forever. Even if your number holds, 5-10 points cut off 25 is still a third of their margins. See what the stock price of Google or Apple does if they report a 33% drop in margins this quarter.

Andrew M March 18, 2014 at 3:17 pm

If the emission credits are pricing in an externality than this is not rent seeking.

A narrow view of rent seeking is the public choice theory version in wikipedia that deals just with the political lobbying aspects of it. This is an important component of rent seeking but it is not the entirety of how that term is used in economics and it’s not the only aspect of rent-seeking that is relevant here.
A more general definition of rent seeking is deriving profit without producing social value. This leaves room to include firms taking advantage of already existing laws (as opposed to lobbying to create them), natural monopolies, etc.

This distinction is relevant here. Even if it is the case that Tesla successfully lobbied to have emission credits put in place (although I believe this isn’t the case) if one believes that emission credits are appropriately pricing in an externality then the credits and subsequent profits by Tesla are not rent seeking because they are producing something of social value.

Rationalist March 18, 2014 at 4:53 pm

“if one believes that emission credits are appropriately pricing in an externality”

– i.e. if you like

(a) clean air
(b) not being dependent on politically unstable/hostile middle eastern countries for oil
(c) solving the problems associated with greenhouse gasses

then how could you possibly be against Tesla? Sorry, I realize I must sound like a bit of a Tesla zealot here, but I really cannot see any rational argument against what they are doing..

Jay March 18, 2014 at 5:26 pm

(a) Zero emission versus gasoline cars have relatively little to do with this

(b) We aren’t, please check our sources of oil.

(c) You sound like an Al Gore pamphlet, see the reply to (a) with one additional word…China.

Nobody is saying they’re “against” Tesla whatever that means, they just don’t think someone buying a 140,000 dollar car should receive a government check nor should the company selling luxury cars receive a government backed loan that other companies aren’t privy to.

jdm March 18, 2014 at 6:36 pm

The car doesn’t cost 140k. Getting the largest battery and pretty much every other moderately interesting option, my total was around 90k. This includes all IL taxes and fees but is before the state and federal tax rebate. If you get the 60kwh battery, which is more than sufficient for most commutes, it costs 10k less than that.

byomtov March 18, 2014 at 9:41 pm

We aren’t, please check our sources of oil.

Our sources don’t matter. Please understand that the oil market is global.

An interruption of Middle East oil supplies will hurt us dramatically even if we don’t currently buy a drop from the Middle East.

Rationalist March 19, 2014 at 4:07 am

@Jay: clearly car exhaust affects air quality – I do not have the exact details to hand but France has recently had to start banning cars with odd/even number plates on alternate days because of air quality.

With regards to oil, this is an economics blog so we should probably give a nod to the laws of supply and demand: if politically unstable or hostile countries control a lot of oil, then they can push the global price up and down. An Iranian blockade of the straits of Hormuz would definitely hurt western economies, and that would mostly be because of oil used for transportation fuels.

With regards to climate change, I don’t really see what your argument is. Can you expand on why cars that emit huge amounts of greenhouse gasses have little to do with climate change? Are you saying that the problem is that a small number of luxury cars going clean won’t make enough of a dent? But then the subsidy is clearly designed to encourage innovation to get to a low price point where electric cars will make a difference; in fact this is the entire purpose of Tesla …

Jay March 19, 2014 at 9:58 am

@Rationalist

I’m saying cars don’t contribute the majority to greenhouse gas emissions, so unless we expect every combustion vehicle (int he world, not just the U.S.) to be replaced with a zero-emission one, it is almost not worth mentioning. I’m not living in a fantasy world where we can simply wish away the evil polluting cars, the fact that the government has been giving away a VERY generous subsidy to buyers and the cars still haven’t made close to a dent in market share is very telling on how easy it is to get away from oil anytime soon.

@byomtov

Yes, I’m not a child, I know that. He was saying we are dependent on them for oil, not that we’re price sensitive to current events there. I’m not as fearful that one will irrationally close the Suez or Hormuz anytime soon since we’ve had a lot crazier people in power there and it either hasn’t happened or has been a short lived interruption when it has. Remember, their economies are a lot more dependent on it than we are.

Rationalist March 20, 2014 at 6:30 am

@Jay “I’m saying cars don’t contribute the majority to greenhouse gas”

From what I can see, road transport contributes about 20% of global CO2 emissions. That’s a lot! Heat and power account for slightly more, but we already have a solution to that (renewables and nuclear). The remainder is a bunch of weird categories like deforestation and farming.

And I DO expect every vehicle in the world to be replaced by an electric vehicle. The question is simply how long it will take.

A huge dent has been made in the market for EVs. Tesla model S is outselling all other luxury cars, and in Norway it was the best selling car for some peroid last year. Compare that to 10 years ago when you couldn’t buy one at all! What are you expecting that would be more impressive than this?

I don’t really understand your arguments regarding greenhouse gasses and EVs. You accept that GHGs are a problem. You presumably accept that road transport is a source of a large chunk of the problem (and to boot it is one of the hardest chunks to solve). You accept the massive increase in sales for EVs compared to literally 0 a decade ago. You accept that this is because of the subsidies. Yet you think the subsidies are a bad idea..

Perhaps our real disagreement is that you think that EVs will never scale to replace petrol and diesel everywhere, whereas I believe they will.

Rationalist March 18, 2014 at 4:49 pm

What is wrong with the government subsidizing zero emissions vehicles?

I mean even if you think that human-caused global warming is untrue, surely reducing dependence on fossil fuels is a good thing? Surely cleaning up air quality is a good thing?

Govco March 18, 2014 at 5:13 pm

Not just credits, the government hands out $7500 checks to those needy souls that buy $140,000 Teslas, it lost money on Fisker and it forced GM to lose 10s of billions on Volts.

And if you think that using less oil in California means less CO2 in the world (or a reduction in worldwide oil usage), stick around.

Tesla et al are a different kind of rent seeker, the principle difference being that you like ‘em.

mulp March 19, 2014 at 12:12 am

The tax subsidies for Hummers and other vanity gas guzzlers was a lot worse back when Bush was president and Republicans were trying to prop up the car companies to create jobs.

At least the Tesla Roadsters were both cool and limited editions.

The Tesla Model S is much cheaper and has already passed the 2500 total ever for all the Roadsters to be produced on the Lotus chassis.

And as for the subsidies for cars, the gas tax is too low to maintain the highways with at least a trillion in depreciation that has turned into near dire required investment to keep the road system functional. Electric cars only make it clear that a new method of pricing and collecting revenue for road use is long over due, but that solution will be opposed by conservatives even more than they opposed health reform. That is a debt of about $3000 per person, drivers and passengers.

engineer March 20, 2014 at 1:37 pm

There are lots of good things, but violence is not one of them.

Government using violence to steal from some people and give a fraction of it to other people is not a good thing.

“Cleaning up air quality” is rich when you’re talking about the greatest polluter in history- the US government.

These are just rationalizations to justify the crime.

John Thacker March 18, 2014 at 3:13 pm

“Good guys” and “bad guys” is simplistic. Tesla fights against regulations and government actions that hurt them, good or bad, and supports regulations and government actions that help them, good or bad. Some of their actions I applaud, some I decry.

John March 20, 2014 at 2:43 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense! – See more at: http://marginalrevolution.com/marginalrevolution/2014/03/tesla-versus-the-rent-seekers.html#sthash.1Uug1fCS.dpuf

Jeff March 18, 2014 at 3:22 pm

I’d hardly call Tesla a rent-seeker. Are they seeking government legislation to impede innovation? Are they spending money or other resources to extract a higher than otherwise market share without creating new, innovative products? The answer to both is “no”.

It’s true that Tesla got a loan from the federal government, but it was through a DOE program for promising automotive companies; they didn’t court politicians to get special legislation or status. They won they bid because they showed promise by offering innovation and growth in an ailing economy.

That’s not rent seeking. That’s government investment done right.

John Thacker March 18, 2014 at 4:42 pm

Well, they do look around for state economic incentives, playing states against each other, before locating a factory. Though, well, every large company does that. (One reason why the corporate income tax incidence isn’t on capital much, that ease of relocating.)

crudite March 18, 2014 at 5:27 pm

I do not know that Tesla seeks these rents through lobbying etc, but they definitely profit from legislative rents. A little histrionic, but here’s this from 2013:

Tesla didn’t generate a profit by selling sexy cars, but rather by selling … emissions “credits,” mandated by the state of California’s electric vehicle requirements. The competition, like Honda, doesn’t have a mass market plug-in to meet the mandate and therefore must buy the credits from Tesla, the only company that does. The bill for last quarter was $68 million. Absent this shakedown of potential car buyers, Tesla would have lost $57 million, or $11,400 per car. As the company sold 5,000 cars in the quarter, though, $13,600 per car was paid by other manufacturers, who are going to pass at least some of that cost on to buyers of their products. Folks in the new car market are likely paying a bit more than simply the direct tax subsidy.

And this is an offensive rentier, where poor folk (who buy the cheapest baseline car models) subsdize the fabulously wealthy (who can afford a Tesla-Toy as a second car since it’s not suitable as a sole family car).

Andrew March 18, 2014 at 9:18 pm

IMO these subsidies are one of the smartest investments that California has made. They are supporting a company that is changing how people view electric cars. This company is also promising to provide more mass accessible cars and is moving forward at very fast rates because of the government aid.

These subsidies keep Tesla in California as well as accelerate their growth. You could claim that Tesla is some cash grab by some wealthy CEO but the truth is that there are not massive profit margins and almost all profits get reinvested into the company. The CEO is salaried at $1 a year. This is another reason their stock price is so high. Private investors think this company is going to be big. If you want mass adoption of electric vehicles (like most Californians do) supporting Tesla seems like the best way to do it. Even with their model X that is coming out next year they are making cars for the middle class. With the model E they will be making cars as cheap as a Prius.

Rahul March 19, 2014 at 1:23 am

The point I don’t get is what’s the value, in the long run, of keeping Tesla in California? Agreed it’s a “cool” business, so to that extent great, as a PR move.

But the jury’s still out whether Tesla, or even electric cars themselves, will thrive in the long run. Sure, as a niche it might, but will it ever grab a significant market share? Once the initial novelty, subsidies, etc. disappear.

To that extent, it makes sense for California to support Tesla as it would support any other startup, but to go beyond that may or may not pay off. We can’t say yet.

Rationalist March 19, 2014 at 4:16 am

But what the “poor folk” are really subsidizing is technological investments to moce the whole world away from fossil fuels. I don’t think there is anything wrong with charging people who pollute to fund the technology to clean up. The rich people getting their Tesla “toys” are doing the world a massive favour by being early adopters of a transformational technology.

You could argue that money to fund the vehicle emmussion credits should come from elsewhere – e.g. taxes on the super rich. And I would probably agree, and I bet Tesla would agree too – but they didn’t make that choice.

Dan Lavatan March 19, 2014 at 1:28 am

Tesla is a rent-seeker because they proposed changes to the law that favored them. Instead of liberating the population they only wanted to exempt electric car manufacturers from the requirement to sell through a dealer. So they managed to annoy both camps. The best that could be said for them, is eventually all manufacturers might be all electric and we will be free of dealer scum.

Until then never buy a new car, and take your old car to a million plus miles.

John March 20, 2014 at 2:44 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense!

charlie March 18, 2014 at 12:48 pm

Isn’t this just an outgrowth of antitrust? We’d rather have 200+ small dealers selling us product than one walmart?

Nobody likes car dealers, and I can’t say I blame them. The price isn’t really the problem, however.

That being said, killing the “transport fee” would help.

Jay March 18, 2014 at 2:15 pm

Nope, it is one thousand percent protectionism and rent-seeking with the consumer, as usual, on the losing side.

Judging by Walmart’s sales, no we’d rather not have 200+ higher-priced small dealers versus Walmart.

John March 20, 2014 at 2:46 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense!

John Thacker March 18, 2014 at 3:15 pm

It’s an outgrowth of antitrust mindset, yes, but, unlike Europe, American antitrust usually somewhat more analyzes on the basis of the consumer rather than the small shopkeeper.

That said, plenty of US laws are designed to protect the small shopkeeper and franchisee from the big company. For example, it’s basically illegal to terminate or fail to renew a gas station franchise, including post merger when there’s multiple gas stations with the same brand name, (Petroleum Marketing Practices Act.)

Bill March 18, 2014 at 8:53 pm

actually its not antitrust. a manufactuer can deal, or not deal, with anyone he wants, and can vertically integrate downstream. it is, however, statutory dealer protectionism by state legislatures.

Keith March 18, 2014 at 12:49 pm

Thanks for this post. I always wondered how this system came about.

I think the Tesla model of online sales will win out. If some people need to drive a car before they buy it, I think Tesla should just travel from city to city in the states that have blocked them and hold a ‘drivefest’ where they show up in a large parking lot, have a band, and let people drive their cars.

Better yet, they could just sell Teslas to the local car rental companies, and hand out gift cards to allow people to test them out.

Chris S March 18, 2014 at 8:04 pm

It is a less-known practice, but all of the big auto companies do essentially sell online. You can configure your exact car online, but get referred to a local dealer. The dealer may even deliver the car to your driveway, particularly in you have your own financing. Of course, the dealer keeps the surplus.

You can do this as well with the used car market. You wind up with the “internet price” which is rock-bottom and would take hours of negotiation to achieve with a real salesmen. The salesmen hate the internet department.

Rahul March 19, 2014 at 1:34 am

I’m all for letting Tesla sell direct. But let everyone else sell direct too then. Let’s even the playing field.

TallDave March 18, 2014 at 12:49 pm

The final irony is that Tesla itself can’t exist without massive subsidies.

Finch March 18, 2014 at 2:07 pm

While the subsidies are stupid and evil, I don’t think this is correct.

They’re small relative to the price of the car – the guy comparison shopping an M5 is not that concerned about a piddly tax credit and some loans to the company (for that matter, he’s irrational if he’s concerned about fuel economy).

Also, there’s a decent argument that it’s the best car in the world.

Furthermore, it’s possible for the subsidies to be wrong _and_ the laws protecting dealers from competition to be wrong.

jdd March 18, 2014 at 2:39 pm

the subsidies are something like 10k on an 80k car CA, Norway, in addition to the credits they’ve sold. Their margin over COGS is only like 25%. And that is predicated upon their accounting for leases that isn’t GAAP. If those subsidies went away, TSLA may have no margin at all.

Finch March 18, 2014 at 2:47 pm

You assume that if the subsidies went away or never existed, nothing else would change. The company isn’t run by morons. A static analysis is inappropriate.

Also, the subsidy is split between the buyer and the seller. It doesn’t all go to the seller.

Rahul March 19, 2014 at 1:36 am

I say, let’s pull the subsidy then. Only way to test.

Finch March 19, 2014 at 10:54 am

> I say, let’s pull the subsidy then. Only way to test.

I agree with you. Well, I agree that pulling the subsidies is the right thing to do. If you are an investor, you can’t run that experiment, and you need a way to estimate what will happen. The subsidy is per-car, so without it, Tesla would design and sell more expensive cars in smaller numbers to different customers. Tesla pricing is set cognizant of the subsidy. Without subsidy prices would fall, but not by the full amount of the subsidy, only by a fraction of that amount. There are private funding alternatives to the government loans. The alternative isn’t “no funding,” it’s “slightly more expensive funding.” A world without tradable emissions credits would be a world with carmakers more desperate to buy Tesla technology.

Doing freshman accounting level analysis is not the way to arrive at a reliable answer, and the company appears to be run by smart people. Tesla without subsidies would be a different business, but it looks to me like it would be quite a successful business. It’s important to remember that the subsidy isn’t just distortionary for some abstract market – it’s distortionary for Tesla itself. You can’t analyze this like some kid in his first accounting class.

I say that as someone who thinks the subsidies are wrong and misguided and not a sensible way to address global warming, especially if you are actually worried about global warming.

Jeff March 18, 2014 at 3:27 pm

Not to mention that they’re deserving of subsidies given the positive environmental impact granted by a 0 emissions car.

Jay March 18, 2014 at 5:32 pm

Is this supposed to be an absolute? Are we really happy with people who can afford an 140,000 dollar car (or a company selling one) are receiving a government check for it? Can we really not design a better policy than that to use scarce tax money?

100% Mountain Spring Water March 18, 2014 at 5:32 pm

No, we should give that all to the real deserving people who walk, bike, ride horses and carriages and sail.

All that plastic, metal, glass and rare earth metals in a Tesla are killing the planet.

ummm March 18, 2014 at 3:56 pm

yea. ppl are buying tesla because it’s a great car, not because of the subsidy. Consumer reports gave it its highest rating ever. This is like the tail wagging the dog. If Tesla failed would there be as much outrage? no, because those same people would say they deserved it. Tesla is an easy target because it’s doing so well

Jay March 18, 2014 at 5:30 pm

That in no way makes the subsidy defensible which was the subject being discussed.

Zephyrus March 18, 2014 at 3:41 pm

What about the subsidies involved when the government grants fossil fuel companies trillions of dollars worth of carbon pollution credits?

Govco March 18, 2014 at 5:29 pm

What?

Chris S March 18, 2014 at 8:08 pm

Actually one could say the government is granting everyone an infinite amount of pollution credits, since the cost is socialized.

mulp March 19, 2014 at 12:25 am

But the government is us.

I love it that in West Virginia, Virginia, and North Caroline, Louisiana, et al voters have supported the pro-pollution politicians, mostly GOP, but now that the voters are faced with the fear of drinking the pollution they voted fpr, they want the government to protect them. But hey, the voters are the government, and voting GOP means you want your water and air to be polluted.

Of course, the total US us has paid a lot to help out the local us who voted for pollution but fear drinking it and demanded protection, with FEMA providing food and water on a temporary basis until the local could start blaming each other.

Chris S March 18, 2014 at 8:07 pm

Ideally the externalities of pollution, military security to protect oil supplies etc. would be priced into the cost of gasoline and consumers could make a rational choice based on complete signals embedded in the total-cost-of-ownership numbers. Then Tesla would not need subsidies because they would have to pay none of those…

…of course owners of Teslas pollute, just at the power plant instead of the tailpipe. Arguably the power plant has less pollution per unit of energy than a gasoline engine, but that depends on source.

Jay March 19, 2014 at 10:03 am

Zero-emissions sounds sexier, don’t mess that up with facts. Though I agree, I believe even with coal burning, the pollution per mile is still less than combustion engines but it isn’t nearly as big a gap to warrant one being totally green and the other people evil.

Finch March 19, 2014 at 11:01 am

This is a good point, and I think it’s generally true. One criticism of the studies that argue the gap is small that I haven’t seen made is that they usually compare the Tesla Model S with a normal vehicle.

But the alternative vehicle for Tesla buyers isn’t a junky Accord, it’s an S Class, or a 7 Series, or something like that. So the gap is wider than the lowest estimates.

Silas Barta March 18, 2014 at 1:25 pm

Good point about “good for consumers *and* raises prices”. Kind of reminds me of the time an elitist economist complained that Amazon art sales would be bad because they would overcharge, AND because they would undercharge. Oh, wait, that was you!

Alex Tabarrok March 18, 2014 at 1:35 pm

Wrong on both counts.

Don March 18, 2014 at 2:13 pm
Silas Barta March 18, 2014 at 2:50 pm

That was deliberate: I thought it would be funny to see Alex_Tabarrok distance himself from Tyler_Cowen (in this context), but that failed too :-/

KLO March 18, 2014 at 1:28 pm

I also think that established auto manufacturers have not resisted franchise laws that protect dealerships, because these laws advantage established manufacturers with large dealership networks. As Tesla itself shows, building a dealer network from scratch is complex, slow and expensive. This blocks new entrants to the lucrative US market. Indeed, most recent efforts by manufacturers have failed I large part due to problems establishing dealer networks. And, even somewhat established players such as VW, with relatively small dealership networks have difficulty adding dealerships, thus affecting their reach and ultimately their sales.

spencer March 18, 2014 at 2:44 pm

If the laws blocks new entrants where did all the Japanese, Korean and German dealerships come from?

KLO March 18, 2014 at 2:56 pm

In the case of Japanese and Korean companies, they came from countries that provided massive subsidies to their domestic producers in the form of protective trade laws and export subsidies.

No German manufacturer has large marketshare in the US. The high-end manufacturers focus on the low-volume, high margin portion of the market and do not require large dealer networks. The only other German manufacturer that tries to compete is VW, which is very much hamstrung by a small, low quality dealer network. VW sells more cars outside the US than anyone else, but, in the US, it has a very limited presence.

Aaron Gott March 18, 2014 at 5:01 pm

One has in litigation, unsuccessfully. See Ford Motor Co. v. Texas Dep’t of Transp., 264 F.3d 493 (5th Cir. 2001).

Dan Lavatan March 19, 2014 at 1:31 am

If the laws weren’t so awful and dealerships were actually useful, Wal-Mart would sell every vehicle and the problem would be solved overnight.

ummm March 18, 2014 at 1:40 pm

the liberal NYT has been smearing Tesla for years, most notably when reporter John Brody, during a test drive, ran the Model S battery down to nothing and proceeded to write a excoriating review, blaming tesla instead of his own malice/incompetence. (leaning towards malice) Nonetheless, the stock has surged 400% since the story.

Brad_sk March 18, 2014 at 2:45 pm

Really? Its liberal fault now? Is that why tea party (RINO) govts in Texas, NC, etc have rules protecting dealerships and barring Tesla to sell directly. CA allows Tesla sales, btw.

John Thacker March 18, 2014 at 3:20 pm

Most states don’t, it’s not the fault of either dominant political coalition. (In theory conservatives seem to criticize this a little bit more, perhaps, but in practical politics terms little difference.)

CA allowing direct Tesla sales is a direct exception that proves the rule. They’re the homebase of Tesla, so they’re one place where Tesla has more clout instead of being some “out of state company versus our good local businessmen.” If Tesla locates their battery plant in TX in exchange for changing this law, why, that would only be more proof.

Brad_sk March 18, 2014 at 3:36 pm

But you have to note that its tea party govt’s who are introducing new regulations as soon as they realize Tesla might open a direct store in their state (eg: NC). Dems or even honest conservatives have just left legacy policies as is. Car dealerships are huge donors to primarily to repubs/tea party.

mofo. March 18, 2014 at 3:47 pm

Are you using ‘tea party’ as a synonym for ‘people you I dont like”?

Jay March 18, 2014 at 3:52 pm

Judging by the amusing conflation of tea party with RINO and then following with calling the governments of TX and NC this, yes I think he is.

John Thacker March 18, 2014 at 4:47 pm

Most states already have laws against this sort of thing, or at least laws that can be interpreted that way, which is why the NYT articles mentions lawsuits in New York, Massachusetts, Minnesota, and so on. In most of the current cases, the laws already seem to ban direct sales, Tesla was trying to skirt around the laws, and regulators slapped them down, just like regulators slap down Uber and Lyft for seeking loopholes in the laws. I say this supporting all of those disruptive companies.

North Carolina’s “tea party dominated legislature” voted against the bill in question after it got public scrutiny– although the original bill was passed unanimously by the State Senate.

So, no, your political reading makes absolutely no sense.

Rationalist March 18, 2014 at 1:42 pm

Why do we even need dealers at all? What do they accomplish apart from leeching off consumers (who pay for cars with hard-earned cash) and car manufacturers (who do the incredibly useful job of actually making cars). Maybe in the days before the internet they performed a useful task (informing customers)?

Just get rid of all dealer protection legislation and let car companies sell direct to consumers.

Benny Lava March 18, 2014 at 2:12 pm

Yes exactly. Tesla is not my cup of tea but they are so right about the dealer networks being parasites. In the age of the internet and Amazon why would anyone want to go through a dealer?

CD March 18, 2014 at 6:16 pm

+1. I used a broker to buy my last car, in order to *avoid* interacting with a dealer.

Keith March 18, 2014 at 2:39 pm

Some people really want to drive a car before they buy it. There are other ways to do that such as renting one, but still. The other thing that comes to mind is some people don’t want to wait for delivery; they want to drive it off the lot.

Both aren’t important to me, but important to some people.

jdm March 18, 2014 at 3:30 pm

You can test drive at a Tesla showroom, at least in states which haven’t shut them down. I did this more than a year ago before finalizing my reservation for a Model S. It was a very pleasant experience, in marked contrast to my previous experiences at auto dealers.

Dan Lavatan March 19, 2014 at 1:32 am

They everyone should be able to be a dealer and you could get a new car at Wal-Mart or Sears.

Rationalist March 19, 2014 at 4:33 am

If some people want to drive a car before they buy, then they should pay to do so rather than using the law to impose that cost on those of us who don’t want to.

Badically we need to end protection for dealer networks, allow people to buy direct and if the dealers want to survive they will have to charge people for a test drive (because as others are pointing out lower down in the thread, if dealers give away test drives then consumers will take the free test drive then buy direct from the manufacturer to save money)

Z March 18, 2014 at 2:51 pm

Saturn tried this, IIRC, and it was a flop. it has been tried in other places and other industries. Mostly what happens is the supplier cannibalizes the supply chain for short term profit. Sales collapse and they start rebuilding their dealer network again. It is axiomatic that you cannot have direct sales and channel sales. You either have one or the other.

John Thacker March 18, 2014 at 3:16 pm

Google and Apple seem to have both direct sales and channel sales for their phones. But perhaps that too is a disaster waiting to happen?

Z March 18, 2014 at 3:37 pm

That’s not really the same. Google and Apple do not control mobile networks so they have to partner with the carriers. The car analogy would be if the dealers own the roads and included free tolls as a part of the car you bought at their shop.

What always happens when you have direct sales with a channel is the customer plays one against the other. The trouble is the dealer exists to leverage local knowledge and provide the familiar face to the customer. One of you wankers think you’re so clever because you squeezed a few bucks out of the deal by going direct to Toyota. When it comes time to fix your car, the dealer rapes you. You complain and the dealer tells you to call the guy who sold you the car.

Everyone loses because not only is the customer not always right, he is often a douche who needs to be protected from himself. That’s why we have government.

mofo. March 18, 2014 at 3:56 pm

You dont have to go to a dealership to fix a car. AFAIK, all car work and billing is more or less standardized.

John Thacker March 18, 2014 at 4:52 pm

Doesn’t seem like an insurmountable problem. It doesn’t seem any worse than the problem of having multiple dealers played off one another by customers, where one dealer can offer a cheaper deal by a few bucks by being crappy on service, and then the customer gets “raped” in your words by having to go to another dealer.

Yes, that’s why the car company standardizes dealer certification and so forth (and manufacturers can have resale price maintenance now), but surely the car company could apply those rules to its own direct sales even more easily than it could referee dealers to make sure that all behave well.

Your explanation seems utterly unconvincing. In fact, I was unsure before, but your argument has reduced the probability I assign to you being correct.

Z March 18, 2014 at 5:04 pm

I suspect that was inevitable, John.

John Thacker March 18, 2014 at 5:17 pm

Inevitable only because your argument was so bad.

There easily could be a business explanation for why a central channel selling alongside dealers wouldn’t work. I’m a little bit skeptical, since couldn’t the company always price direct sales higher than the dealers as a last resort, just to make it available for people who can’t get it in their area? That’s what lots of regional food products do– if I want to get Duke’s mayonnaise or Blenheim ginger ale in a place that doesn’t have local grocery stores and supermarkets that stock them, I can buy them direct, but at a premium (largely I think because shipping is so inefficient.)

If you don’t like the phone analogy, what about that analogy of food products? It seems to me that there are plenty of examples of mixed central channel and franchise dealers, especially when you talk about some companies that have mixed owned-and-operated stores with franchise stores. (From TV networks like CBS to restaurants.) The coordination problem of some dealers undercutting on price and not providing good service seems even worse to manage among multiple dealers. So there still might be a good explanation, but you certainly haven’t given a convincing one.

Z March 18, 2014 at 5:39 pm

John, you seem confused. Let me help. The reason it is axiomatic that direct sales cannot play nice with channel sales is two-fold. One, it has been tried in a million places and failed every time, including car sales. Second, it is not an equal relationship and inevitably, the more powerful “partner” will seek to exploit his advantage at the expense of the other, in this case the dealer.

Your mobile phone comparison only served to tell me you don’t know anything about that business, in addition to not knowing anything about the car business. The example of food retailers mixing company stores with franchises is equally daft. No one is going across town to save ten percent on a burger. They will go across town to save ten percent on a car.

If it makes you feel better, I’ll amend my statement to read, “it is axiomatic that you cannot have direct sales and channel sales in the same markets.”

Chris S March 18, 2014 at 8:21 pm

Z- I agree that a single manufacturer must protect its channel partners by not also selling direct.

But why can’t an insurgent use a different channel strategy?

Of course they can, which is why the entrenched interests are using a legal strategy – they would fail (or at least be disrupted) through pure market competition.

Referring to some comments above in this thread, there are lots of people who want to use a dealer to buy a car. Test drives, expert advice, service relationship. I agree it costs more, but my mom doesn’t care – she has no desire to learn much about cars, so basically hires these guys to do the legwork.

Maybe dealers could exist as an arms-length channel partner, and subsidize their service through volume discounts. And, drop exclusivity to gain negotiating power.

Maybe some enterprising individuals would open a chain of dealers that charge a fee ($500?) and promise that they will get you exactly the car you want, from any manufacturer, and save you X+1 ($600?) over that manufacturer’s direct price? Plus have comfortable lounges, attractive sales staff, free gourmet coffee…

But that would negatively impact the ne’er-do-wells* at Don’s Dodge that intimidate you into buying the car they want to sell you, not the car you want.

*I have never written “ne’er-do-wells” before, maybe jerks or cretins is better.

mofo. March 18, 2014 at 8:28 pm

Z, even if we accept your premise that you cant have direct sales and a channel as well, why should the government need to intervene at all? There are lots of business models that dont work that arent forbidden by law, why should car sales be any different?

Rahul March 19, 2014 at 1:51 am

@Z

It is axiomatic that you cannot have direct sales and channel sales in the same markets.”

Very often, they are not identical markets. The older generation is not likely to visit a website & shop for a new car.

This doesn’t imply that in the long run one of the two modes of sales won’t supplant the other. But that’s the whole point. You end up with the better sales channel.

I agree with @John Thacker. Direct & channel sales can indeed co-exist. It just takes a bit of careful tweaking by the company to set relative prices & margins such that it doesn’t make any one channel impossible to survive.

Done right it can not only expand sales but also allow you to price discriminate & segment your markets.

Rationalist March 19, 2014 at 4:24 am

The point I am making is that I have no desire to pay a 6% premium on the price of a car so I can look at the dealer’s nice, pretty face. And current US laws would mean that I would have to pay this premium just because some people want it.

Rationalist March 19, 2014 at 4:41 am

@Z: I agree with you that direct sales will kill dealers, but I don’t see why this is bad.

You say dealers exist to “leverage local knowledge”. What does this mean? If I am buying a car, what is this “local knowledge” that I need from the dealer? Can’t I just go to the internet, read reviews and buy the best car for my needs?

Also again, WTF do I need the dealer’s “friendly face” for? For a $2000-$3000 premium on an average car price, I would quite like to take my fist and make the dealer’s face less friendly looking..

Benny Lava March 18, 2014 at 5:27 pm

Sure, the problem with Saturn was the lack of traditional dealer networks. Sigh…better trolls please.

Steve Sailer March 18, 2014 at 2:17 pm

Here in my Southern California neighborhood, the dominant Toyota dealer is unbelievably predatory toward the largely Hispanic population:

http://www.edmunds.com/car-buying/confessions-of-a-car-salesman.html

It’s shocking how bad the dealers of a quality brand name like Toyota are. My understanding is that Toyota, to get its foot in the door generations ago, had to sign perpetual contracts with existing dealers in America, so they have little incentive to do better by customers. Thus, in John Updike’s classic 1981 novel “Rabbit Is Rich,” Rabbit is rich because he has inherited his father-in-law’s Toyota dealership.

Z March 18, 2014 at 2:48 pm

Yet if you know someone who owns a Toyota dealership, you hear very different stories. Car makers make organized crime look pleasant by comparison.

The problem I have with all of this is the demand from fanatics that we re-run every human experiment until we get a result they like. The car distribution model is not perfect, but it is good enough. If the guy making electric dildos shaped like sports cars is unhappy about it, who cares? Perhaps who should remove his own lips from the public teet for a while before bemoaning others doing it better.

mofo. March 18, 2014 at 4:03 pm

You sound like someone who is trying to sound like they know what they are talking about, but doesnt. This isnt some highly theoretical problem, and the complaints arent based on some esoteric concern. Why should car distribution and sales be any different than anything else? Why special rules for cars but not TVs or computers or any other consumer good?

Z March 18, 2014 at 4:18 pm

I’ve forgotten more about the car business than you will ever know. That’s not impressive since you are an imbecile.

Car dealers have significant investments in their dealerships. They have on-going investments in those dealerships. Like all property holders, they expect government to protect their property. Unlike the libertarian fantasy land many here dream of, earthbound reality means the local government is going to defend their folks from predatory car makers.

That’s reality champ.

mofo. March 18, 2014 at 4:26 pm

Your response is clownish. The government doesnt exist to protect any one person or group of persons existing business model. What you are talking about is virtually the definition of rent seeking.

Dell sells computers directly. Dell sells computers to Best Buy to resell. Dell sells computers to Frys to resell. Somehow in all of that the world did not come to an end. Cars are no different. Id say if you have “forgotten more about the car business than you will ever know” its because you are in the car business and would very much like the government to continue to protect your monopoly. I see no justification for the govt to do that and your responses here only reinforce that view.

John Thacker March 18, 2014 at 4:54 pm

Well, at least you’re admitting that it has nothing to do with justice or what the market will bear, but simply naked power on behalf of the predator car dealers, Z. (No more than restaurant owners against food trucks, or taxi medallion owners against Uber.)

Z March 18, 2014 at 5:10 pm

John, “justice” never has anything to do with it. The reason is justice, like fairness, exists only in the abstract. Yeah, I’d love a frictionless market for cars. That’s not an option on the menu. The one option is predatory car makers buying off local pols for the privileged of raping the consumer. The other is local dealers buying off pols so they can rape the consumer. At least the local guy has to live with the people he rapes, this providing some limit on rape.

elon March 18, 2014 at 6:18 pm

Let’s all shed a tear for the reliance interests of rent seekers everywhere.

Willitts March 18, 2014 at 7:15 pm

Where there is natural monopoly, there will be rent seeking.

You can banish local government awards of monopoly franchises, but you can’t make the market perfectly competitive. That is the definition of “market failure” of which one type is natural monopoly.

If government doesnt preserve the monopoly franchise, you have an unstable equilibrium with firms quickly entering and exiting the market or not at all. The net effect is that you end up, most of the time, with no car dealerships.

By auctioning the franchise, government can extract some but not all of the monopoly rents. Unfortunately, what they spend the auction proceeds on is another problem.

Chris S March 18, 2014 at 8:28 pm

Okay Z, I will stipulate that you are the resident expert in the car business. I will neglect to mention that I was born in Detroit, well over 50% of my adult relatives work/worked for the (once upon a time) Big 3, and many of my college friends still do. That’s easy, because frankly I ran from the car business to the software business as soon as I could.

That said, if the exclusive dealer network is the best possible arrangement, why the need to defend it in the courts and legislatures? Why not let some young upstart like Tesla do their direct sales, screw over a bunch of people who can afford a ~$100k car, then spectacularly crash and burn? That would be more credible than any backroom legislative deal.

mofo. March 18, 2014 at 8:31 pm

So car makers and car dealers are somehow radically different than every other type of manufacturer and distributer? Why do cars have special laws concerning their sale when computers dont? Or detergent? Or concrete? Or anything else? Nothing you said justifies special treatment from the govt.

John March 20, 2014 at 2:55 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense!

revver March 18, 2014 at 4:23 pm

WIIFM (What’s in it for me?), Americas no.1 radio station

Steve Sailer March 18, 2014 at 7:15 pm

By the way, the same dealer’s Hyundai lot right down the street wasn’t bad at all.

Dan Lavatan March 19, 2014 at 1:38 am

Perpetual contracts are not lawful in common-law jurisdictions.

Eric Falkenstein March 18, 2014 at 2:32 pm

solution is simple: we need more and better regulators! :>

Z March 18, 2014 at 2:48 pm

Perhaps robot regulators!

Chris S March 18, 2014 at 8:29 pm

Now you’re on to something.

Mo March 18, 2014 at 2:34 pm

One of the understated problems with the auto industry are wholly related to the dealer networks. Auto manufacturers can’t sell made-to-order direct to consumer because of them, they can’t kill old, obsolete badges because of them and they can’t move to flat no haggle pricing that would make everyone (except for dealerships) happy. Much like how the UAW kills the car companies on the left, dealerships kill them on the right and prevent them from making necessary and innovative business model changes.

The dealerships have immense political power because, though they are each small, the majority of them are one of the largest employers in almost each and every district in the country. This, ironically, gives them more power in aggregate than the much larger manufacturers.

Steve Sailer March 18, 2014 at 7:13 pm

Thanks.

Rahul March 19, 2014 at 1:55 am

Nicely put.

Alex Fan March 18, 2014 at 3:10 pm

That NYT quote is one of the most staggeringly stupid sentences I’ve ever read.

Benjamin Cole March 18, 2014 at 3:31 pm

If people knew how often state and local regulations and laws stifle competition…liquor distribution laws are another mess…insurance is awful…lawyers are guilds…

Willitts March 18, 2014 at 7:08 pm

You are quite correct, and the kickbacks to politicians to secure exclusive alcohol distributor monopolies is criminal.

Cliff March 18, 2014 at 10:46 pm

The ABA is pretty toothless. They can’t even stop LegalZoom, so…

daguix March 18, 2014 at 4:27 pm

That is the first time I see a market less efficiently organised on the US than in France. In France, since a decree in 1960, auto dealers must sign a contract with manufacturées for only a limited time, that is not automatically renewable, giving them local monopoly. In exchange, they cannot sell a car at a price lower than a cap fixed by the manufacturer.

daguix March 18, 2014 at 4:28 pm

at a price “higher” than the cap.

Jay March 18, 2014 at 5:39 pm

Like MSRP maybe?

mofo. March 18, 2014 at 4:29 pm

Why do we need special laws for car sales at all? Why should anyone get a local monopoly?

Mo March 18, 2014 at 5:42 pm

The local monopoly thing is pretty typical thing for manufacturer/distributor and franchisee/franchiser business model. The distributor is taking on risk to sell the manufacturer’s product and they want assurances that the manufacturer isn’t going to flood the market with their product. The manufacturer will then put volume requirements or force the distributor to own the inventory so that their incentives are aligned.

mofo. March 18, 2014 at 8:24 pm

So why enshrine that into law? Sounds like both sides have a desire for a certain type of relationship, what is the need for a government decree?

Rahul March 19, 2014 at 3:38 am

+1`

John March 20, 2014 at 2:59 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense!

Willitts March 18, 2014 at 7:06 pm

Uh, no.

If manufacturers sold direct, then customers could test drive at a local dealer and then buy cheaper from the manufacturer who has way lower average fixed costs.

The markup on new vehicles is only about 2%, not including factory to dealer incentives (if any) and dealer holdback. Nevertheless, they arent making a fortune on new cars except volume dealers and what they can steal from customers on their trade and in the finance office.

With the internet, the franchise model might be obsolete. It all depends upon whether cars are widely considered a search good or an experience good. The internet and liberal return policies have made a lot of goods search goods.

Rahul March 19, 2014 at 3:40 am

In either case, I don’t see why the government out to forbid direct sales. Let the manufacturers & dealers play it out.

Hazel Meade March 20, 2014 at 5:26 pm

Then dealers should start charging a small fee for a test drive.

Bill March 18, 2014 at 8:55 pm

I agree with Alex on tis one. Dealer protection statutes are a big problem..

You can also look what happened when GM tried to terminate dealers under bankruptcy.

Mike Smitka March 18, 2014 at 9:13 pm

Z and Thacker and Willitts are good in moving the discussion into the economic role of dealerships. What do they actually sell? If it’s just cars, then in the internet era they’re dinosaurs: no one should pay more than wholesale price a GM or Toyota charges dealers, net of holdbacks, rebates, stair-step incentives (= volume discounts in an economist’s jargon), and so on. Yes, there’s some local market power (cf. the double marginalization issue raised in someone’s comment above). But I happened to buy a car on Sunday and found a full 10% difference between the best and the worst quotes I got….

Car dealers are running multiple parallel businesses. They provide test drives (so the comment above on the tension of dealers vs direct sales who have no such need to carry inventory is apropos). They carry inventory because some shoppers want to drive away with a car. They arrange finance – the overwhelming majority of customers buy on credit, and dealerships can arrange money for those in the 500+ FICA range – which includes GAP insurance, extended warranties and other financial products. They buy trade-ins. They sell used cars. They run service operations. They sell parts. Some also run body shops.

Oh, and they do this without imposing a working capital burden on the manufacturers – cars are invoiced when they’re shipped (some companies are generous, and invoice from the estimated delivery date), and thereafter are owned by the dealership; parts are likewise on their books, as is the real estate.
The trade-in and finance and used vehicle sales and so on entail lots of tensions with selling new cars. In Japan, in the US, in EU car companies have periodically tried direct sales, and lost their shirts on it. The business is too complex to run in a bureaucratic manner, and is very capital intensive.

Now Tesla is basically selling one product to well-heeled customers who don’t need to flog a tradein or arrange financing to buy their dream car. Direct sales become more difficult as a manufactuer moves downmarket, and complementarities with all these other businesses increase. And the capital costs increase – no need to carry a big inventory today, but as the number of models increases, and they become primary vehicles so waiting for FedEx to deliver repair parts ceases to be viable … Tesla won’t be able to afford to sell direct.

Cliff March 18, 2014 at 10:48 pm

So no problem then, just get rid of all the regulations

Chris S March 18, 2014 at 11:09 pm

Agreed. So, sounds like the dealers have nothing to worry about. Why legislate against direct sales?

Rahul March 19, 2014 at 3:43 am

+1

It sounds stupid to not allow Tesla to direct sell. It sounds even more stupid to allow only Tesla to direct sell & others not.

Mike Smitka March 18, 2014 at 9:23 pm

Since economists read this site, a reference: Thomas Dicke, Franchising in America: The Development of a Business Method, 1840-1980. U North Carolina, 1992. Alex Tabarrok already refs LaFontaine, who with various co-authors is the other go-to person on franchising. I as an economist blog with a friend who is a former dealership principle and now consultant. See a post on Tesla’s Distribution Challenge from May 2013.

Chris S March 18, 2014 at 11:19 pm

Mike, interesting post at the link. I wonder, to what degree can we assign non-economic motives (from the perspective of Tesla) to Elon Musk?

For instance, maybe he understands that it would be better for Tesla to build a dealership network, but finds that distasteful, prefers to disrupt the entire concept of legally enforced franchises, and is willing to put his money where his philosophy is? According to Google he’s worth $11B+, so doesn’t have to sell Teslas to pay the mortgage.

Dan Lavatan March 19, 2014 at 1:36 am

Musk loves dealer enforced franchises but don’t think they should apply to him. If this were the case, he would have a 2%+ competitive advantage over legacy dealers, not to mention the many people who won’t buy from a 3rd party dealer as a matter of principle.

Rahul March 19, 2014 at 3:48 am

Maybe, crappier product is one reason a typical GM dealer sells only 377 cars a year versus 1062 for a Honda dealer?

It’s likely that GM might close, move or consolidate dealers without making much of a dent in that 377 number.

Glenn Mercer March 19, 2014 at 5:29 am

I agree with the review of the NYT article, in general. But one OTHER thing the NYT got wrong was dealer margins on new cars. To quote: “…the dealer’s profit margin, which is anywhere between 10 percent and 20 percent of the suggested retail price.” First of all, 10-20% of MSRP would translate to 12-22% (or something like that) of transaction price, since hardly any car transacts at MSRP. Secondly, while I do not know which profit margin the article means (gross? operating? EBITDA? EBIT?) I will be generous and assume it meant GROSS margin. Now, that may be true for a Ferrari store, but the typical (I won’t even say “average”) gross on a typical car is perhaps 5-10%. And yes, I am including hold-back, spiffs, ad allowances, destination charges, everything. (I am NOT including margin on finance, but I don’t think the NYT was, either.) The great bulk of dealer profit is from service (gross margin on labor: up to 75%), parts (gross margin 35% or so) and used cars (gross margin 10% or more). And my source for these numbers is NOT dealer associations or any place else one might accuse of bias, but from my own personal review of dozens of dealer financial statements over the years, and from benchmarking standards from auto specialized accounting firms.

It is true that if one asserts that the very profitable service business is triggered by a new car sale, and thus that the future service profits should be “credited” to the new car sale, the true profitability of new car sales rises. But that is a subtle and debatable story and is certainly not, I am sure, what the NYT writer had in mind when writing of a 10-20% “margin” on new cars.

None of what I have just written in any way alters the conclusions of AT, and none of it should be considered a “defense” of dealerships per se. I just wanted to point out what I saw as another gross error in the NYT article.

jon March 19, 2014 at 6:28 am

Alex’s characterization of the article is unfair. The bulk of the article emphasizes the role of dealer lobbying and is sympathetic to Tesla. It would have been better if one of the statements in the selected snippet was qualified by ‘proponents of the law argue…’ but the article is about dealer lobbying efforts to thwart Tesla, rather than an analysis of the economics.

I don’t think the article is going to generate support for the dealers.

Floccina March 19, 2014 at 10:26 am

I think that the tax and payout to those who remove CO2 from the air to reach a CO2 balance, would be rather modest, like maybe $.50/gallon. I do not think would keep many people from buying ICE vehicles, so most of the implicit subsidy is captured by drivers who actually consume the fuel and put put the CO2 into the air not the vehicle manufactures.

John March 20, 2014 at 2:42 pm

It’s refreshing to see an economist shill for the further dissolution of the middle class by advocating we replace more and more independent businessmen that have ties to their communities with unfeeling publicly traded corporate monoliths that have every incentive to disrupt local communities in service to the profit seeking behavior of their shareholders. Ay, we should liquidate the petit bourgeoisie’s ‘monopoly’ on car sales and increase the mass of the proles, all in the name of low prices, ay! That’s just good economic sense!

Richard Huang March 20, 2014 at 3:40 pm

I had personal experience of how the dealer rips off the manufacture. When I took my BMW to the warranty maintenance, the Steven Creek BMW dealer had at least changed the windshield wiper twice even it was almost brand new and functions well, but they wanted to charge me on some unexpected quality problems not covered under warranty.

I believe the dealer got reimbursed from the manufacture, then this cost ultimately passed on to the consumer!! Go Tesla!!! Knocks these unethical dealerships off … we want a better car purchase and driving experience!!

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