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Home | Library | The Market Can Regulate Automobiles

The Market Can Regulate Automobiles

November 18, 2009

Tags Free MarketsLegal SystemInterventionismPrivate Property

The Dukes of Moral Hazard

One of the most common examples brought forward by those who oppose the abolition of governmental regulation of consumer products is that of the automobile. The rationale for the objection is that the automobile is the most expensive and complex consumer product that most will buy in a lifetime. It has so much impact on personal safety, the environment, and our culture in general, that it is too important to be left to the free market to regulate.

This vision of shoddily built death traps blanketing the planet in thick smoke is naïve. On the contrary, we have already seen glimpses within our current regulated system of how an unregulated one would function, as basic consumer wants transcend any government-imposed regulation.

Pollution

Dr. Walter Block addresses the issue of pollution in his recent book The Privatization of Roads and Highways,[1] and he quickly proves the statists' nightmare of unchecked pollution to be a false one. Owners of private roads, cognizant that they would be the most obvious targets for pollution lawsuits from surrounding property owners, would protect themselves by charging higher fees for higher-polluting vehicles, providing incentive for the automakers to design and build pollution-control equipment into their vehicles. Block's explanation is so lucid and rational that it is more meaningful to examine the failures of the current regulated system than the functioning of an unregulated one.

Corporate Average Fuel Economy (CAFE), regulations enacted in the 1970's, were designed with a "federal government as savior" mentality, in reaction to the Arab Oil Embargo.[2] CAFE has since, over the decades, morphed into a means by which environmental zealots can reduce our collective "carbon footprint," regardless of the will of the individual. With a popularly elected Congress dictating fuel economy to auto manufacturers, the required miles per gallon has consistently increased with little regard for consumer desires (or lives).

As the CAFE calculation is weighted for sales volume, the amount of each model sold is critical to an automaker's compliance with the requirement. Small, fuel efficient vehicles must be discounted to increase sales volumes. Conversely, prices are raised on large vehicles with higher fuel consumptions in order to decrease sales.

Auto manufacturers, somewhat counterintuitively, do not always oppose stricter standards. Deals are cut with auto lobbies, as subsidies for fuel economy technology and research are traded for auto manufacturers' endorsement of CAFE requirements that they would otherwise be opposed to. Similarly, the categorization of specific models can be negotiated in order to lessen the impact on auto manufacturers. Passenger cars and trucks have different CAFE standards, and with the advent of the crossover, the lines between car and truck are intentionally being blurred (Chrysler's PT Cruiser is categorized as a truck).

The primary unintended consequence of CAFE regulation has been its negative impact on occupant safety. The effect of ever-increasing fuel economy standards has been an accelerated trend towards smaller vehicles (faster than the market would have trended if left alone). Occupants of smaller, lighter vehicles are at a greater risk in multivehicle collisions, due to a greater disparity in vehicle sizes.

A 1999 USA Today analysis estimated that from 1975 to 1999, approximately 46,000 people died in crashes they would otherwise have survived had they been driving larger vehicles. That's 7,700 cumulative deaths for every mile per gallon gained.[3] Numerous other studies have been conducted — with varying conclusions, as some subjective analysis is necessary — but the general premise of size disparity increasing death rates remains inherently logical.

Lost in the public debate over fuel economy is the fact that the technology exists today for more-fuel-efficient vehicles; but the market has, for the most part, rejected it. Auto buyers have consistently eschewed manual transmissions, despite their positive impact on fuel efficiency, in favor of the more-convenient but less-efficient automatic transmission.

Buyers have also opted for traditional gasoline engines over more efficient diesel engines. Similarly, the gain in fuel efficiency from a turbocharged engine has failed to entice buyers to make the additional investment. Automakers have not been able to offset the higher cost of aluminum body panels (which reduce mass and therefore increase fuel efficiency) with a higher selling price and therefore steel remains the primary component of auto bodies.

The fact that fuel economy has become a topic for public debate, rather than an individual consumer choice, is a depressing indicator of how widespread the collectivist vision of the need for a government-regulated market is. Higher auto-fuel-efficiency mandates and public funding for alternative fuels remain massively popular ideas,[4] despite that the small- and midsize-car segments comprise only 45 percent of all auto sales.[5]

Quality

Consumer Reports is a widely known magazine publishing consumer reviews, comparisons, tests, and buying guides of new and used automobiles. It is published by the nonprofit organization Consumers Union, and funded by subscribers. To maintain objectivity in the eyes of their subscribers, their operating code is strict: they accept no advertising from outside sources, and they purchase anonymously all the vehicles they test. Their relationship with auto manufacturers had long been a tumultuous one, as automakers have frequently criticized Consumer Reports' test methods, small sample size, etc.

Over time, however, Consumer Reports became so influential, and accumulated enough respect and goodwill among auto buyers, that auto manufacturers began to work with them preemptively. Consumer Reports' practice of testing new models remained unchanged; but auto manufacturers would send preproduction vehicles to their test facility, to solicit the test engineers' feedback. The engineers' suggestions could then be worked into the design of the vehicle, and upon the start of the mass production of it (and Consumer Reports eventual random purchase and test) a better rating would be achieved.[6]

In 2003, this practice became widely reported, forcing Consumer Reports to end it, because it called into question their objectivity.[7] Even the appearance of bias, whether substantiated or not, and the potential loss of revenue due to a damaged reputation, was sufficient motivation for Consumer Reports to change course. In a market economy, their customers' opinion of them was sacrosanct, as is the case with any seller of a good or service.

J.D. Power & Associates, owned by the publicly traded McGraw-Hill Companies Inc., specializes in surveys of customer satisfaction. Their primary revenue source is automotive companies who purchase the data they collect. Their widely known Initial Quality Survey (IQS) has become the benchmark of product quality in the automotive industry.

Auto buyers are surveyed within 90 days of purchasing a new vehicle, and are asked to indicate Things Gone Wrong (TGW) in numerous categories. Summary data of Things Gone Wrong per 100 vehicles (TGW/100) for each model, manufacturer, segment, and assembly plant are then released to the public on annual basis.[8] Detailed data for every TGW category and model are released to J.D. Power & Associates' customers.

The IQS does have limitations: Every TGW receives an equal weight, so a hard-to-use cup holder would have the same impact as a nonfunctional engine. Also, 90 days is too short a service period to judge a model's long term quality. However, every auto manufacturer is forced to respect IQS's profound impact on customer perception, and all have adopted it as an internal measure of quality.

Consumer Reports and J.D. Power & Associates play an important role in any market, regulated or not, and would certainly continue to exist and thrive should government regulations be abolished.

Safety

The Insurance Institute of Highway Safety (IIHS)[9] is a nonprofit organization, which receives funding from auto insurers, with the intent to reduce the number of accidents, extent of damage, and rate of personal injury. Recognizing that the state-imposed regulations of the National Highway Traffic Safety Administration (NHTSA) did not adequately reflect customers' and insurers' goals, IIHS formulated several unique safety tests.

In addition to the NHTSA mandated frontal-impact test, the frontal-offset-impact test was developed by IIHS to better represent real-life impacts. Most frontal impacts are offset, meaning the impact is borne by only a portion of the front of the automobile, and not evenly distributed over the entire front. The IIHS side-impact test also differs from NHTSA version, to simulate the more dangerous and increasingly common occurrence of a taller, sport-utility vehicle impacting the side of an automobile. In 2009, IIHS began roof crush testing sport-utility vehicles, which are prone to rollover accidents, to a stricter standard than NHTSA mandates.[10]

IIHS purchases and tests new and redesigned models, with the detailed results published to the automakers and insurers, and summary reports released to the general public.[11] The net benefit to consumers is safer vehicles and lower insurance premiums, which stem from the insurers' benefit of less and lower payouts. Auto manufacturers also benefit from testing that better represents real-life conditions and thus reduces the risk of litigation.

These desires would remain in a true free market, and therefore an IIHS or competitor adding similar value would maintain its important role. Safety features with questionable value, such as airbags, would receive the close scrutiny they deserve in a true free market, and consumers would benefit from the transparency and frankness that our current system lacks.

One can easily imagine that owners of private roads would impose a minimum safety standard for vehicles travelling on their roads. The level of required safety performance would likely vary from road to road. For example, a farm truck travelling only short distances on rural roads would not need to be equipped with the same safety equipment as a family sedan travelling on a city expressway.

Above the minimum threshold, auto manufacturers would cater to consumer's individual choice. Models with higher safety ratings would satisfy consumers who value lower insurance premiums and/or peace of mind. Models with lower safety ratings would satisfy consumers whose focus is on cost.

NHTSA is the issuer of the commonly known Federal Motor Vehicle Safety Standards (FMVSS). Although the industry lobby has an influence, FMVSS regulations are, at their core, government fiats. And like all government fiats, they create market distortions. Seemingly minor differences among regulations result in additional cost burdens to auto manufacturers, depriving customers of the maximum benefit from the international division of labor.

Import vehicles must be modified to comply with requirements that are unique to FMVSS, either at the source factory or a local retrofitter, driving up cost. Export vehicles are penalized in a similar manner. For example, models that are exported to Canada must be equipped with daytime running lights (DRL) and a redesigned bumper, as CMVSS (the Canadian equivalent to FMVSS) has unique provisions mandating daytime running lights and a greater impact speed for bumper damageability.

Conclusion

All consumers place a high value on their personal safety. The sellers of any consumer product must fulfill this desire in order to profit in a capitalist economy.

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Auto manufacturers, motivated by their customers' wishes to access roads at the lowest possible cost to them, and to acquire insurance at the lowest possible cost, would profit by producing safe products that meet standards established by private regulators. Private regulators, who depend on their own brand reputations and trustworthiness, would compete with each other for the opportunity to test and certify automobiles.

Insurance would likely cease to be mandatory, leaving the choice up to each individual. It is conceivable that some road owners would require road users to have personal-liability insurance. Additionally, in order to protect the asset that they are financing, the underwriters of auto loans may require that the buyer purchase collision insurance.

The free market possesses the means to regulate itself. Automobiles are not too important to be left to the free market to manage. They are too important to be left to government.

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Notes

[1] Walter Block, The Privatization of Roads and Highways (Auburn: Ludwig von Mises Institute, 2009).

[2] NHTSA: CAFE Overview.

[3] James R. Healey, "Death by the Gallon: Push for Better Mileage Raises Death Tolls," USA Today, Special Reprint Edition, reprinted from Money, July 2, 1999.

[4] "Mixed Signals on Energy Policy," Pew Research.

[5] Auto Sales - Markets Data Center, Wall Street Journal.

[6] "Many Car Shoppers' First Stop Is 'Consumer Reports,'" USA Today, Sept. 16, 2003.

[7] "'Consumer Reports' Changes," USA Today, Sept. 29, 2003.

[8] "2009 Initial Quality Study," J.D. Power and Associates, June 22, 2009.

[9] IIHS, "Origins and Purposes of the Insurance Institute for Highway Safety."

[10] IIHS News Release, Mar. 24, 2009.

[11] IIHS Vehicle Ratings.


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