Cash for Clunkers helped car dealers. But did it also help the economy?

Cash for Clunkers helped car dealers. But did it also help the economy?

Commentary about business and finance.
Aug. 24 2009 5:48 PM

Cash for Clunkers Helped Car Dealers, But …

Did it also help the economy?

Cash for Clunkers. Click image to expand.
A Las Vegas car lot offering cash for clunkers

The Cash for Clunkers program, in which the government is offering Americans up to $4,500 if they trade in gas guzzlers and purchase more-efficient new cars, is winding down, with an 8 p.m. Monday deadline for filing applications.

Has it been a success? For America's struggling car dealers, it has been a runaway success. The $1 billion in government grants promised initially was committed in a week, so Congress responded by adding another $2 billion of funding. As of Monday afternoon, the Department of Transportation said 625,000 applications have been filed, for $2.58 billion in rebates. According to J.D. Power, August U.S. car sales are likely to top 1 million, up 2 percent from August 2008 in a year when year-over-year sales figures have fallen sharply. As environmental policy, Cash for Clunkers has perhaps been less successful. My colleague Nina Shen Rastogi has argued that it's an expensive way to get gas guzzlers off the road.


And, the most important question of all: How effective has it been as economic stimulus? Since the onset of the crisis, top White House economics adviser Larry Summers has argued that stimulus efforts should be "timely, targeted and temporary." As the crisis deepened, Summers went one letter earlier in the alphabet to alliterate that stimulus should be "speedy, substantial and sustained." Judging by the results so far, Cash for Clunkers meets five of Summers' six criteria—all but "sustained."

Through stimulus—tax cuts, government spending, gimmicks, rebates, etc.—the government attempts to purchase economic activity with borrowed money. But not every stimulus works quickly or spurs the same amount of private-sector activity. Many of the transportation-related projects in the stimulus package passed earlier this year, for example, are designed to be funded over a two-year period. They're neither timely nor speedy. Tax cuts and rebates can be implemented more quickly, but they're not always targeted. Scholars who have studied consumers' use of rebate checks in 2001 concluded   that "households spent 20-40 percent of their rebates on non-durable goods during the three-month period in which their rebates were received and roughly another third of their rebates during the subsequent three-month period." If a similar formula were to hold in this environment, distributing $3 billion in tax rebates would lead to $1.9 billion in retail spending over a six-month period, or about $300 million per month.

Cash for Clunkers, by contrast, has had a much bigger impact. According to Paul Taylor, chief economist at the National Automobile Dealers Association, the average new car sold in the United States so far this year has cost $29,106. Those 625,000 cars sold through Cash for Clunkers, then, probably account for about $18.2 billion of retail sales. They've also spurred a lot of secondary economic activity—taxes paid, dealership advertising, overtime wages for dealership employees.

Of course, many of those auto purchasers were already in the market for a car. And it's possible that the incentives have just lured people who would have bought cars later this year into the showrooms earlier—thus stealing sales from future months. The real measure of the effectiveness of the program would be the degree to which it caused people who weren't even thinking about buying a car to take the plunge. Based on the types of cars being purchased and his assessment of purchasers, NADA economist Taylor believes that as many as 40 percent of the cars purchased under Cash for Clunkers were bought by people who would not have bought a new car in this calendar year. For a significant number of buyers, he argues, the rebates of $3,500 or $4,500—depending on the car purchased after the trade-in—changed the calculation of whether it made sense to purchase a new car.

If we use Taylor's estimate, about 250,000 extra cars were purchased (40 percent of 625,000). And if each cost $29,000, those sales generated about $7.3 billion in revenue in the space of a few weeks. That's a pretty good return on $2.6 billion in government spending. Let's be more conservative. Say only 20 percent of the clunker traders were extra demand, and the cars they bought cost $25,000 each. That's still an extra $3.125 billion in sales for dealers.  What's more, the sales represent only a portion of the economic impact. Ford, for example, announced that it is increasing production of some models.

Of course, it's possible that car sales will simply revert to their pre-Cash for Clunkers numbers in September. But that won't mean the program was a failure. Fiscal stimulus is supposed to be a bridge between a period when people aren't spending to a more prosperous future, when, with a growing economy and (presumably) an improving job market, people will start spending more on their own, without  special inducements. 

Car purchasers are different from purchases of other types of goods. The timing of a purchase is almost entirely discretionary. People can keep a junker on the road for an extra year or two by repairing it, driving less, or simply putting up with a poor driving experience for the sake of saving money. It's very expensive to replace a car. Doing so requires the sort of big financial commitment—the assumption of a multiyear lease or car loan—that is not taken lightly in times of economic stress. In a climate where people are buying school supplies on layaway, many consumers need some extra prodding to make large purchases. In August, the Cash for Clunkers program clearly provided the necessary encouragement for a large number of consumers.

Daniel Gross is a longtime Slate contributor. His most recent book is Better, Stronger, Faster. Follow him on Twitter.

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