Cash For Clunkers: Another Valuable Lesson

As you know from my previous article on, “Cash for clunkers,” it helped the targeted group but hurt many other groups. This is often the case when the government (we) examine a problem: we focus on the group or thing we want to help with a short-term solution; and we are generally blind to the short- and long-term consequences of our decision on everyone else. This is a typical government and hopefully not business or personal approach.

Now, in recent article in CNN Money titled: “Clunkers: Taxpayers paid $24,000 per car” based on an analysis done by Edmunds.com; the article also illustrates an excellent example of how to determine the success of a program (a decision) by looking at a seemingly complex problem and breaking it down into simple, measurable ways in order to measure its “success” (the correct decision.)

Edmunds.com compared the sales of luxury cars and other cars not covered by the program to determine a relationship between the two groups. Then, they projected what sales would have been during the “promotion period” and afterward. The auto industry agreed with those numbers. Based on this, they estimated that cash for clunkers resulted in an additional 125,000 cars sold that wouldn’t have been sold. Therefore, 125,000 cars sold at a cost of $3 billion (the government budget) amounts to $24,000 per car.

It also resulted in a bigger drop in October sales that would not have been as deep without the government program.

Now we know the impact this government program had on new car sales. But more than that, this analysis is a great learning tool. First, it was (in concept) a simple way to measure the effectiveness of this program; and gave us the ability to make a course correction (to our original decision) so we don’t repeat this program again ---in spite of the government and auto industry telling us how successful it was.

Here is the new question: Do you think the government will look at this data and analysis when the pressure builds again for the government do something to save the auto industry?

Also, what does this tell us about the probability of success in the about to be extended and expanded “buy a house and get taxpayer money “ program.”

The Market Has Turned Up But What About The Economy?

With the DOW at about 10,000, it's hard to argue with a market that has gone from 6,500 in March to 10,000 in October. That is a significant move. Many are now asking is it real? Will it hold? Will it continue to go up?

No one knows for sure, but many traders believe it will continue to move upward because:

1. Interest rates are at zero and the Federal Reserve has no plans to raise rates anytime soon,

2. Government spending is increasing as fast as Congress can vote with current 2009 budget deficits at $1.4 trillion to date,

3. Massive spending coming on the health insurance program which will result in billions of additional borrowed money (do you really think congress is going to cut $500 billion

out of Medicare when they have been unable to cut out five cents in the past,)

4.The possibility of another stimulus package as soon as this fall.

5. The Federal Reserve printing money 24/7,

6. The Treasury trying to come up with new acronyms as fast as they come up with new "investment" programs,

7. I could go on but you've got the idea.

All of these spending programs, as I've discussed in the past add, at a minimum, dollar for dollar to the Gross National Product (GDP.) Spend a dollar and GDP goes up a dollar. When you are spending trillions and trillions of dollars, you are going to get an up turn

in GDP (more consumers spending, more business spending and more government spending.) And when you spend month after month, you are going to get a trend. So

for those people who see the economy through the lens of a statistical model defined

and framed by the GDP, it may look like a V shaped recovery.

But what happens when the music stops? What happens when the government stops spending (IF that happens, when that happens) and the Federal Reserve raises rates and or stops printing money 24/7? What happens when the government has to hand

off the economy to the private sector?

However, to make that hand off, we will have to solve some of the problems that brought this recession on in the first place. For example, we need to get:

1.Both major banks and regional/local banks healthy again because of mortgage defaults, credit card defaults, a significant downturn in commercial real estate loans, declining revenues, etc.

2. Consumers to spend again. But they have to get de-leveraged first and increase their saving (which they are doing, but they have along, long way to go (consumers were leveraged to 130% of assets and are now down somewhere around 127% of assets.)

3. Positive job growth. With a GDP growing at 1% per year (pessimists) or 3% growth per year (optimists) we will not be able to provide jobs to new people entering the market let alone the 6 or 15 million (depending on how you count unemployment) already unemployed. Continuing unemployment will compound the problems listed above,

4. Congress to come to their senses and stop spending, check their anti-capitalist, anti-free market, anti-globalization wishes and programs,

5.Congress to recognize that every dollar they impose in new taxes (and there are going to be significant new taxes) will have to come from the people they want to spend, invest and create new jobs.

6. That's good for starters.

So far, all we are doing is kicking the can down the road like they did in Japan after their real estate bust because dealing with these problems is very difficult and painful. For example, to recapitalize the banks and reduce the toxic assets problem, we may have to "force" the creditors and bondholders of these banks to convert their "assets" into equity at a significant loss to them. This is capitalism. But it appears that not enough politicians in our mixed economy have to courage to solve this problem.

So, to answer the question of whether the market will continue its upward ways, the answer has to be yes. It very well could, at least, in the short-term. The long term will depend on solving some of the real problems in the way of real economic growth.

So, you need to stay both a bull and a bear, stay tuned in and be willing to change colors at a moments notice.

New Tariff On Tires: A Help To Labor Or A Roadblock To Recovery?

After everyone went home on a Friday night and the news industry geared down for the weekend, the White House increased the tariff on tires, imported from China, by 35% on top of the existing 4% tariff.

Why? The Steelworkers Union (the union for tire workers) “convinced” the White House that they needed to increase the tariff on tires imported from China to “protect” 5,000 jobs in the tire industry. China has 18% of the low-cost tire market.

This may be good party politics (supporting your base) but it is poor economic policy and it is another roadblock the administration has put in the way of economic recovery. Lets look at who is helped by this policy and who is hurt.

The union is helped in the short-term. This will increase tire prices (some guesses are $30 to $90 per tire), which will generate money that can be used to keep employment at current levels or increase employment. Unfortunately, this help may be short lived because low cost tires can also be imported from Indonesia and Mexico or other low cost producers.

The policy will also help the tire companies in the short term. They will be able to raise prices on the 82% of the market not imported from China (you are not going to sell higher quality tires at prices below low quality tires.)

This helps the government in the short term because it raises revenues with a 39% tariff plus the higher excise taxes that go along with it.

Looks good so far: short-term, it saves jobs, increases revenues and profits for tire companies and raises badly needed revenues for the Federal government. But the problem is that it does more damage than good.

The problem is that these short-term effects also have some very negative effects.

First, it signals protectionism. Exactly what we did in the depression that resulted in extending and deepening the depression. This single act will be a speed bump in the economy but if it is the start of more protectionism, it will be devastating to the economy. China is already talking about putting tariffs on poultry and auto parts after an agreement last year to export to China $2 billion in autos and parts (much of which comers from Michigan.)

Second, it raises the price of all tires so we will have to pay significantly more for the same quality product. This will hit the “working poor” especially hard (for example about $140 for a $100 tire) and right after the cash for clunkers program raised the price and availability of all used cars. It’s a double whammy for those who can afford it the least.

Third, the extra money paid for all these tires (100% of market share times 35% tariff) means that consumers would have to reduce that same amount of spending on other products and services. This means GDP will not increase and employment will have to decline –in other industries—equal to the loss of revenues to the tire industry. Therefore there will be no gain in employment only other employees displaced. The political focus should be on helping the displaced tire workers get through this pain and get retained.

Fourth, the American economy will be worse off because productivity (how wages are increased) will decline because we are subsidizing an unproductive industry as we take money away from more productive industries. This is not how you create wealth.

Fifth, union tire workers will suffer long-term because they will not be trained for non-subsidized jobs in the future. In my opinion, unions should be “guaranteeing” its members that they will be employable in the future not that they can keep their exact job in the future.

Regardless of the union’s arguments or political games, the net of this mis-directed protectionist program does not help tire workers. It does not create jobs or raise wages. But it does hurt consumers and cause long-term damage to the economy and the dollar. Plus, it opens the door to reduced trade and increases the fear and uncertainty in the capital markets.

Cash for Clunkers: Free Money For Some, A Burden For Others

What would you say if I came to you with this idea?

To help the economy, let's borrow $3 billion dollars (from the Chinese if they will still lend us money) plus whatever interest we have to pay for 10 years. Then we’ll offer to pay $4,500 for 10-year old cars which is more than they are worth if they buy a new car that gets better millage than their old car.

This would provide instant stimulus to the economy and hopefully some of these buyers will purchase their new car from one of our government owned car companies. We could sure use the revenues.

Then, we'll pay someone to destroy the old, used cars which will reduce the supply of used cars and drive up used car prices for months and months which would also be good for the dealers.

Even more brilliant, we could pay some banks we own, like Citi bank, millions of dollars to administer the program. But I’m not finished yet. We could also sell this idea to the public, if free money wasn’t a strong enough incentive, by emphasizing how the better gas millage will help save the economy.

What do you think?

If you were a typical politician or economist, you would probably go for this because it focuses on several groups that need help; and it would help them immediately.

If you were anyone else, you might think I’m nuts because it spends money we don’t have, it props up failed car companies slowing down the recovery, it destroys our wealth (700,000 used cars), it’s not real demand because it pulls future sales into this year. And that’s just for starters.

You might also think it’s a nutty idea because it doesn’t look at all the other groups that are affected by this policy.

For example: the auto repair shops across the country that will lose about $70 million dollars per year in repair service. Lower income people who buy and rely one these functional, low-cost “clunkers” to get to work and get their kids to the doctor. Or Charities who depend on the donation of these “clunkers” to raise money for their important work.

And by the way, the additional CO2 saved by the extra 10 miles per gallon won’t help save the earth either. 100 gallons of gasoline produces approximately one ton of CO2 (one gallon produces about 20 pounds.) At a CO2 cost of $50 per ton, you could have driven the clunker 1,000 miles per month for the next 15 years before you reached $4,500.

And this is just the immediate effect. Long-term we will have to raise taxes to pay for this program, which will take money out of the pockets of people who could use it more effectively to build wealth rather than destroy it. Small businesses, charities and the poor will have to find other ways, around government policy, to earn a living or help other people.

The net is that this kind of policy may help some people or groups today but it will hurt other people and groups as well. long-term, it will hurt the economy and the pace of the recovery.

As President Reagan said, government isn't the solution to our problems; it's often the cause of our problems. This may not be true all of the time but it certainly is true in this case.