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  • How Cash for Clunkers Destroys Wealth

    The Obama administration’s Cash for Clunkers program is supposed to run through 8 PM tonight, but as the Wall Street Journal reports, dealers across the country are ending their involvement early. The reason? “They worry that if a last-minute rush to enter applications jams the system, they will be on the hook for rebates already given to customers.” And dealers have every reason to worry. Last week the National Automobile Dealers Association reported that the nation’s car dealers have already submitted $3.3 billion in “Cash for Clunkers” claims despite the fact that the Obama administration has only secured $3 billion in deficit spending to cover the program.

    It will be interesting to see what happens to those already-struggling auto dealers who are left holding millions of dollars in Cash for Clunkers claims when the Cash for Clunkers fund dries out. What we do know, however, is that the program has already caused an unprecedented government sponsored destruction of wealth. Associate Professor of Economics at the Naval Postgraduate School in Monterey, California, David Henderson explains:

    First, consider the baseline, a $4,500 subsidy that you get simply from buying a new car. The standard analysis of a subsidy to output applies here. The buyer and seller split the subsidy, with the split depending on the relative elasticities of supply and demand. But it’s not a wash. There are two deadweight losses (DWL). One is from the incentive to buy a car that the buyer values below the cost. I have no idea how big this DWL is. Let’s say it’s minimal: $300 on the $4,500 subsidy. The other DWL is bigger, and comes about because the $4,500 in revenue to pay for the program is not a lump-sum tax. It’s raised from future income taxes, sales taxes, etc. Each of these has DWL, sometimes called an excess burden. This excess burden is the loss to the economy from the distortion in behavior caused by the tax. A typical DWL number is 30% of the revenue raised. So the DWL from the $4,500 in tax revenue is $1,350.

    So now we’re up to $1,650 of DWL. But wait; there’s more. There are two other factors, one of which could be a small gain and the other of which is a loss. The small gain is due to taking off the road a car that was imposing external costs with pollution and, if global warming is a problem, with more carbon dioxide. I have no idea how to estimate this. The other loss is more substantial and comes about because this is a cash-for-clunkers program, not a cash-just-for-buying-a-new-car program. It comes about, in short, because value is explicitly destroyed.

    Imagine a car owner who takes advantage of the program. Ideally, for efficiency, the cars that get destroyed would be the lowest-valued ones. But the program gives the same subsidy to a person with a car worth $3,000 as it does to a person with a car worth only $1,000. So whoever gets there first is the one who gets the subsidy. (At least Congress had the “wisdom”–I use that word loosely–to limit the overall expenditure on the program to $1 billion, but then raised it to $3 billion. Otherwise, with no limit, the program would have caused every car worth under $4,500 to be destroyed and would have acted like a price support for wheat, driving up the price of cars to at least $4,500 just as price supports drive up the price of agricultural products.)

    So let’s imagine that the average car destroyed is worth $2,000. If you assume a lower number, you’ll get a lower wealth loss, and if you assume a higher number, you’ll get a higher wealth loss. Even if the $2,000 car is destroyed, maybe the spare parts that are “spared” are worth $200. So for that $4,500, $1,800 in wealth is explicitly destroyed. So, the net loss per $4,500 payment is $1,650 plus $1,800, or $3,450, minus the small environmental gain.

    Posted in Economics [slideshow_deploy]

    16 Responses to How Cash for Clunkers Destroys Wealth

    1. Bobbie Jay says:

      He's intentions are clear.

    2. Sunny, MN says:

      I think the "small environmental gain" is more than offset by the environmental loss required to dispose of the disabled vehicles.

    3. Leslie, Lowell MI says:

      Somehow, Cash for Clunkers needs to be expanded for members of Congress. Trade in your clunker congressperson for a new upgraded model. Maybe call this program Cash for Clinkers?

    4. Yvonne Naples fl says:

      As I said before, his cash for clunkers has

      CLUNKED. I see Obama's term in office as going down in flames.

      The American people are finally getting the message that we are going bankrupt.

    5. Greg Mackey, Minneap says:

      The purpose of "cash for clunkers" is to refurbish the U.S. auto industry with vehicles that can be electronically disabled by the Obama paramilitary police, mileage will be taxed via constant upload to a government server and will be "tagged" at sites of Obama high-tech highway overpasses (Recently installed on the new 35W bridge in Minneapolis).

      In 1985, I bought mt first car, a 1986 Nissan Sentra. That car got 52MPG highway and 43MPG in city driving.Hybrids now get similar mileage and require vast sums for the privilege of using battery technology that is far more toxic and expensive and produced during the era of hate which proceeded the Messiah and his love for us and our mother, the earth.

      I am glad my parents are dead and do not have to suffer the indignities hurled upon us by Obama and the Noahide Lws he enforces.

    6. Jeanne Stotler, wood says:

      Her comes the MOB, Chicago is well known for it's crooked politics, Not only did they elect someone who had Mob attachments, he brought them here. Now DC has ever been squeeky clean ie: Barry, but we didn't have the MOb in control of the Goverment, now everyone can recite "Oh what crooked lives we live when we practice to decieve." Again Vote in 2010 and encourage all those who sit back and wait for us to do it for them to vote.

    7. Tim Az says:

      Here's a simpler analogy. All money spent by this administration to date and any after will simply be loaded onto your children and their childrens credit cards at the time of issue. The only difference is the IRS is incharge of the collection of this debt. There will be no negotiation of payments. All will pay for the hubris liberal segment of previous generations self indulgences.

    8. Ben C, Ann Arbor says:

      I'm from Michigan and live first hand the impact of the failures and successes of the auto industry. The Cash for Clunkers program is certainly a short term success (after, of course, reimbursement from Congress). The long term success is another matter. The auto industry has made their own bed with previous incentives and gimmicks to stimulate sales. Most of my friends in upper auto management curse the day the programs were started because consumers expect them to be permanent – one incentive program after another to stimulate sales. What then is the "real" price for the vehicle? Unknown.

      But wait, there is more. I got a letter from Seantor Carl Levin stating:

      "'There is overwhelming consensus among scientists that global warming is occurring and human activity is causing it."

      It is clear to me that Congress is so fixed on their agendas that most have turned a deaf ear and blind eye to anyone who opposes their ideology.

      This past election will become the defining moment in our nations history – the beginning of the end. Sadly.

    9. John says:

      There's 3,000,000,000 dollars available for 'cash for clunkers', but not for ballistic missile defense to be able to prevent an Iranian or other EMP attack which would starve and/or freeze to death 240,000,000 Americans.

    10. Bill Towns, Richmond says:

      I thought Obama said we have run out of money! How are we funding this if we have no money? Please tell me these dealers are not so naive that they believe they will ever be reimbursed for all these rebates?! If the govt really cared about the car makers they would get rid of the CAFE standards and regulations that have a strangle hold on the their ability to make cars that Americans really want to buy! This act alone would have saved them billions and their would have been no need for a bailout and subsequent govt takover. Of course OBama and company never intended to help the industry but to actually run it. This clunkers program is being pushed on us under the guise of helping the environment but I contend the government doesnt care about the environment but just wants us to worry about it as they gain more and more control over our lives.

    11. Rob D. Atlanta says:

      Has anyone asked if there are tax consequences for receiving the $4,500 subsidy? Should people be concerned they will receive a 1099 from the Government for $4,500? The Heritage Foundation should look into this ans post a point of view. I'm sure lots of people will be upset if they realize the 1099 is coming.

    12. dr_donn says:

      I did check and according to the tax code, it is taxable income so get ready for tax time if you bought a new car on this program.

    13. Alf S. Marietta, GA says:

      The small environmental gain is also offset by the very huge environmental cost to produce the new car. Granted, eventually the buyer would have traded in their car anyway, but the savings doesn't start until that time. And as others have said, offset by the environmental cost to destroy the trade-in.

    14. Marshall Hill says:

      Ask where the Scrap Metal is going?

    15. Lynn B. DeSpain says:

      Dumb idea gone very wrong! Now are there not any low priced cars available for parents to buy their children, college students, or the Nations poor to afford, more than half of that money went to Japan, and we, the Taxpayers paid for it!

      Hozro

    16. NEAL says:

      YOUR DISCUSSION OF "WEALTH" NEEDS TO BE EXPANDED TO OTHER ISSUES CONCERNING GDP.FOR INSTANCE IS WASHING WINDOWS OR SHUFFLING PAPER WORK AS WEALTH PRODUCING AS AGRICULTURE,MINING,MANUFACTURING,ETC.,EVEN THOUGH BOTH ARE PART OF GDP.I DON'T WANT TO GO TO WAR WITH WINDOW WASHERS AND PAPER PUSHERS RATHER THAN COLD STEEL.

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