With one hand the government giveth; with the other it taketh away. That’s the way electric vehicle policy works in much of America today. States shower electric vehicle makers with subsidies to boost the technology or persuade them to build factories there. States also entice drivers to go electric with tax credits, rebates and other handouts. At the same time, many states limit the ability of manufacturers to sell vehicles directly to consumers in an effort to protect local car dealerships.
The conflicting policies come at the public’s expense, and the economic rationale for them is dubious because the idea that electric vehicles help the environment is unpersuasive. Instead of putting their thumbs down on both sides of the scale, politicians would do better to let innovation arise from market competition. Alas, they seem to be driving in the wrong direction.
First, consider the restrictions on sales. In 17 states it is a crime for any car maker to sell vehicles directly to drivers. In 10 other states, only electric vehicle company Tesla is allowed to sell directly to consumers. Around World War II, states began implementing these laws to protect independent car dealerships from large auto manufacturers. The thinking was that if automakers could open their own competing showrooms and service centers, they would wipe out local “mom-and-pop” dealers. The restrictions on car companies were aimed at preventing what economists call vertical integration.
The Dealership Racket
The need for such prohibitions was dubious from the outset. Intended to promote competition, they quickly led to less of it. The system became a lucrative racket for dealerships as they won franchises and kept rivals at bay. In a 2015 Mercatus Center report, “Auto Franchise Laws Restrict Consumer Choice and Increase Prices,” Jerry Ellig and Jesse Martinez highlighted the primary types of franchise mandates: dealership licensing requirements, onerous terms for terminating dealership affiliations, and the creation of exclusive territories for dealers. “Each rule carries a potential cost for consumers,” they noted.
But over the past decade, instead of dropping these auto-franchising rules and direct sales restrictions, some states passed new bills to limit competition. This time the laws targeted Tesla because its sales model was to sell straight to customers, bypassing local dealerships. And Elon Musk’s philosophy “not to make a profit on service,” which is how auto dealers earn most of their money, created even more opposition for the company. More recently in some states, Tesla has gotten an exemption from franchising restrictions just for itself. Now other electric vehicle makers have emerged, such as Rivian, Lucid, Canoo and Lordstown Motors, but they must compete with Tesla on an uneven playing field or win their own exemptions.
Unhappy with Markups
Pressure for reform could come from the legacy automakers as well. Ford and General Motors are increasingly frustrated with dealerships that are tacking on significant markups to the price of vehicles. Supply chain problems and a scarcity of the semiconductors used in cars have contributed to shortages of many new vehicles. Some price hikes were probably inevitable, but dealers charging a far greater sticker price than the manufacturer’s suggested retail price can lead to blowback from customers. It also makes it harder for automakers to advertise standard prices across the country when local dealerships charge different prices.
Automakers could withhold certain makes and models from dealers that charge excessive prices. But what if Ford and GM could sell directly to consumers, or at least threaten to sell some of their cars directly to bring their dealerships into line? On the other hand, there may be good business reasons for automakers to avoid doing this, such as not wanting to alienate dealers or deal with shipping so many vehicles directly to customers. We can’t know what the best business arrangement is so long as it’s illegal for most automakers to even consider selling directly.
No state has completely deregulated car sales by allowing all manufacturers to sell all vehicles directly to customers. Faced with any move to end these anti-consumer laws and allow the market to function freely, dealerships cannot continue to plead the “mom-and-pop business” defense. “The top 10 dealership groups in America have annual revenue of around $100 billion, more than any car company,” says University of Michigan law professor Daniel Crane. Last year 75 economics and law professors signed an open letter urging states to legalize direct sales. “Not only have the original justifications for prohibiting direct distribution evaporated,” it noted, “but the advent of EV technology has created an urgent need to permit direct distribution.”
There are almost no other sectors where such naked protectionism is still tolerated. Liquor sales are one major exception, with some states still limiting home delivery. Those restrictions seem to serve the interests of only wholesalers, who essentially have their middleman status protected by law. Opponents of direct-to-consumer liquor sales can at least argue that the laws are based on safety concerns. Nonetheless, wine and beer markets have been increasingly liberalized to allow direct sales and the sky hasn’t fallen.
Some states may hurt electric vehicle sales by protecting entrenched dealerships, but many of these same states simultaneously boost sales by handing out cash to buyers. Many also hand out tax breaks and other perks to manufacturers to get them to open or expand operations in their state. Last year all but three states provided incentives to encourage the purchase or development of electric vehicles.
Handing Out Goodies
Electric vehicle makers have long lobbied for consumer incentives that now include tax credits for buyers, rebates for installing charging stations, reduced utility rates, vehicle inspection exemptions, and even exemptions from limits on driving in high-occupancy-vehicle lanes. For example, New Yorkers can receive a state rebate of up to $2,000 for an electric vehicle purchase and up to $5,000 in tax credits for charging equipment, and they are free to drive solo in highway lanes that otherwise require at least one or two passengers.
Meanwhile, the federal government awards subsidies of its own, including a $7,500 tax credit for new electric car purchases. As part of his push for the “Build Back Better” bill that is now on hold in Congress, President Biden proposed bumping that up, to $10,000 for cars produced by non-union labor, such as at Tesla, but $12,500 for cars made by unionized workers.
Meanwhile, the electric vehicle industry lobbied to eliminate the income limit and the cap on a vehicle’s price for buyers to qualify for the credit, but this is not in the bill so far. Currently, a customer earning more than $400,000 a year and spending more than $55,000 on an electric vehicle is not eligible for the credit. Spurred by all the subsidies and perks, electric vehicle sales continue to rise. Last year they reached 487,460 cars and trucks, up from 257,872 in 2020, but they still made up only 4.5% of all new car and truck sales in the fourth quarter.
The consumer incentives may waste money and distort markets, but research suggests that giveaways to manufacturers deciding where to build factories are much worse. “States are handing out big incentives at lightning speed” as they chase electric vehicle investments and fight off other states. Michigan gave $824 million to GM in January to expand electric vehicle manufacturing there. Georgia just handed out what is “expected to be the largest incentive package in state history” to Rivian. Notably, Georgia taxpayers are picking up the tab even though the cost of the deal hasn’t been disclosed yet. Oklahoma, Tennessee, Kentucky and North Carolina recently announced subsidy deals with costs ranging from $250 million to $884 million. Highlighting how electric vehicle policies often work at cross-purposes, Oklahoma, Kentucky, Michigan and other states are subsidizing production at the same time as they forbid direct sales.
The “economic war among the states” has been waged for decades as state and local officials fall all over themselves to lure well-heeled companies. However, the rush to lure electric vehicle production to their regions has opened a new and particularly wasteful front. At $840 billion, Tesla has the biggest market capitalization of any automaker in the world and three times the market cap of second-place Toyota, which makes far more cars. Rivian is just getting its first vehicles on the road though its market cap is also in the top 10, at $57 billion. But instead of these companies and their investors bearing the risks of investing in factories, politicians are passing the costs onto taxpayers.
Paying Producers Is Pointless
The issue with most producer subsidies is that companies don’t take handouts into account when making location decisions, as research consistently finds. Worse, if subsidies did influence where a company invests, we would expect it to become less efficient and for competition to diminish as rival manufacturers that didn’t get subsidies are hurt. While one company may win subsidies and politicians claim credit, Mercatus research concludes that “other companies, local residents and the economy at large are harmed.”
On top of all this, the environmental benefits of electric vehicles remain unclear, though politically flashy. Given that burning coal and natural gas generates most electricity in the U.S., cars that run on electricity are still responsible for carbon dioxide emissions. Avoiding that “depends on rapid decarbonization of electricity generation,” notes Zeke Hausfather of Carbon Brief.
Cronyism Is the Only Winner
So, which brand of cronyism will prevail? Sadly, both could. In a better world, no special favors would be granted to anyone—the legacy car dealerships lobbying to protect their turf, the customers who want to buy a trendy new car at a discount, or the innovative but rent-seeking electric vehicle makers deciding where to build their next factory.
But politics has a way of ensuring the worst of all outcomes, with special interests preserving their gains through what Mancur Olson described as “The Logic of Collective Action.” As he noted, when political benefits are concentrated but their costs are dispersed, special interests will move aggressively to take advantage and seize these benefits. Everyone else—the vast number of people who will bear the costs—will be unlikely to fight back effectively. The costs may be so diffused or hidden that people will have little incentive or ability to organize and push back against the privileged companies that collect the benefits.
That is the world of electric vehicle policy today, even though it both hurts and helps manufacturers. Political entrepreneurs, explained Olson, will always seek out benefits for themselves, shape the political debate to portray their narrow self-interest as good for everyone—electric cars help the environment!—and then lobby politicians to award this perfectly sensible special treatment. As always, taxpayers and consumers are left footing the bill.