The Tesla Hustle

Tesla Motors, with great fanfare, announced this week that its third quarter profit was $21.9 million. This is the first time in three years that its quarterly earnings were positive. Has Tesla turned the corner or was the third quarter an artifact?

Tesla sales benefit from a generous taxpayer subsidy–$7500 per vehicle—and its ability to sell credits granted because its cars have no emissions. Those credits were worth $139 million, $100 million more than the same quarter last year.   Selling nothing for a profit and relying on government subsidies is not a business model for long term success.

Most financial analysts are highly skeptical of Tesla’s long-term viability. In the fourth quarter of 2015, it was reported that Tesla lost about $18,000 for each Model S sold. That loss is now reported to be $4000 per Model S its high priced vehicle. Whatever the correct number, you don’t make money selling at a loss. None the less, some investors using rose colored glasses keep driving up its share price. Currently its market capitalization is bigger than the combined value of Mazda, Fiat, Ferrari, and Porsche. And, its price/earning ratio is a whopping minus 57 to 1. That is the kind of P/E ratio that led to the tech bubble burst in the early 2000s.

When a sell off in the market occurs, and they always do, companies with stratospheric PEs take a big hit in their share price and their capitalization. Investors who continue to drive up Tesla’s price allow profit taking by those who bought low. It could be that smart investors, like those who made money in the home mortgage melt down, are seeing a case of the “greater fool theory” at work and just hope that no one takes the punch bowl away anytime soon.

Tesla is an attractive vehicle with plenty of pick up. It’s a head turner. But, in the real world it has to compete over time against established manufacturers who actually turn a profit. The best way to test the viability of EVs, and Tesla in particular, is for the government to remove subsidies and other inducements and let manufacturers of EVs compete in the market place. The key to viability, however, is not less maintenance, which EVs have, it is battery cost, range and a reputation for quality.

Lithium-ion batteries represent the current state of technology. Although breakthroughs have been predicted, they have not taken place. One reason according to MIT’s Technology Review is “One difficult thing about developing better batteries is that the technology is still poorly understood”. Battery cost is still about double the target of the US Battery Consortium, range is limited, and lithium-ion batteries are a fire risk. Until those problems are solved, EVs will have a niche market for the wealthy and the ultra green drivers. Former GM and Chrysler executive and icon Bob Lutz told CNBC’s Squawk Box in February that “companies such as General Motors will not be making any money on their “Tesla killer.” They are making these vehicles to appease Washington. … The majors are going to accept the losses on the electric vehicles as a necessary cost of doing business in order to sell the big gasoline stuff that people really want.”

 Elon Musk has proved himself to be a crony capitalist extraordinaire and he is raking in a lot of investor and government dollars but if Washington removes its subsidy gift, Tesla is likely to go the way of the Tucker and De Lorean, out of business.

 

The Overlooked Burden on Economic Growth

A number of economists, such as Harvard professor and former Treasury Secretary Larry Summers, are urging a major increase in infrastructure spending to get the economy out of the 1% growth ditch. But the overlooked drag on the economy is not lack of government spending, but the expansion of the regulatory state.

Since 1980 the code of federal regulations has grown from 100,000 pages to almost 180,000, according to the Mercatus Center. A number of organizations have estimated that those regulations carry a cost of about $1.9 trillion annually.

A 2013 study—Federal Regulation and Economic Growth by John Seater, North Carolina State University and John Dawson, Appalachian State University concluded that federal regulation has “statistically and economically significant effects on aggregate output and factors that produce it.” They conclude, “Federal regulations have reduced real output growth by about two percentage points on average over the period 1949-2005.” According to their calculations, that reduction in the growth rate has led to an accumulated reduction in GDP of about $38.8 trillion as of the end of 2011. That is, “GDP at the end of 2011 would have been $53.9 trillion instead of $15.1 trillion if regulation had remained at its 1949 level.” Critics can point out that 1949 is the wrong base year and in recent decades national issues, like the environment, have created new regulatory needs. Although this is obviously true, there is no doubt that the effect of regulation has been negative and larger than needs to be. The literature is rich with work on the growth of federal regulations and their negative impact on the economy.

The regulatory burden just keeps growing. Large companies have to allocate increased resources to compliance and lobbying that could otherwise be invested in improving their business. Small companies don’t have that option. Regulations are a tax that is a deterrent to their job creation and growth. An OECD study on small business stated that “regulatory burdens remain a major obstacle” because these firms are not well equipped to deal with them. An article in Entrepreneur.com by Scott Shane of Case Western Reserve University found that regulation had gone from being small business’s fourth major problem in 2008 to being its primary one in 2013. This burden is not trivial because small businesses account for over 50% of all domestic sales and since 1970 66% of all net new jobs. (SBA data).

Although Congress has passed legislation to deal with regulatory burdens—Paperwork Reduction Act, Congressional Review Act, and the Data Quality Act for example—their effectiveness has not been sufficient to reverse the trend to an over governed society. The growth of the regulatory state needs to be halted.

The next Administration and Congress have an opportunity to translate reform rhetoric into effective action. Here is a list of actions that could help to reign in excessive regulation.

  • Congress should set an annual regulatory budget with a percentage of the savings from reductions in obsolete and ineffective regulations added to the following year’s budget.
  • Require that new regulations include a sunset provision that can only be avoided by a rule making process to extend them.
  • Wayne Crews of the Competitive Enterprise Institute has recommended a Regulation Reduction Commission that would prepare a “packages of rules for an up or down vote.” This would be modeled after the Base Realignment Commission. Such a commission could use a triage process starting with rules promulgated before some agreed upon date and considered major.
  • Currently major rules, those costing more than $100 million annually. are submitted to Congress for a 60-day review under the Congressional Review Act, allowing Congress to pass a resolution of disapproval. Instead of a resolution of disapproval, Congress should be required to take affirmative action certifying that regulations meet the underlying legislative requirements and are cost-effective.
  • The OMB Office of Information and Regulatory Affairs (OIRA) has review authority over all proposed regulations from Executive Branch agencies. Its performance has been uneven because it is part of the Executive Branch and reflects the philosophy of the current Administration. There should be bi-annual performance reviews conducted by the Government Accountability Office to assess OIRA’s effectiveness in carrying out its legislative mandate.

The Paperwork Reduction Act (PPA), passed in 1980 and amended by the Data Quality Act of 2000, is the vehicle that guide the regulatory review process. The purpose of the PPA was to reduce the burden of information/data requirements imposed by Executive Branch agencies, to improve the quality of information coming from federal agencies and improve the efficiency of government programs, including regulations.

While the next Congress and Administration consider cooperation on regulatory reform, Congress could make a major contribution by tasking the Government Accountability Office or Congressional Budget Office with conducting a review of PPA to determine its effectiveness and changes needed to improve data/information management and to increase transparency and objectivity of analyses and research conducted in support of rule making. The system of checks and balances that is supposed to make government function effectively is not working in the regulatory process and it needs to reign in unelected regulators.

 

 

 

 

 

 

 

Declare Victory and Stop Helping Us

After the 1973 oil embargo, the government got involved in a big way in responding to energy scarcity and the price increases that go with it. Relying on market forces was not an option because the public demanded that government do something. It did with mandates on fuel efficiency standards—CAFÉ—as well as standards for HVAC systems, appliances, and housing. It also provided consumers, states, and industries with information on energy saving opportunities—Green Lights for example.

New businesses sprung up to assist consumers and businesses make cost-effective decisions on energy trade offs. There also were increased investments in energy technologies, many in response to environmental standards. The overall effect was that consumers became more educated and conservation became part of our society’s value system. The evidence that confirms that is the reduction in energy intensity. According to the American Council for an Energy Efficient Economy (ACEEE) between 1980 and 2014, GDP grew almost 150% while the energy required to produce that growth only increased 26%.

An August ACEEE report stated, “…a diverse group of scientists, analysts, and policymakers began to develop strategies to reduce energy waste and use less energy to deliver the same or better services to consumers and businesses. What they produced was an array of energy-efficient technologies, policies, and innovations that consumers take for granted—“an unqualified success story, both economically and environmentally, although one often unseen by the public.” The increase in energy efficiency runs the gamut from home appliances, HVAC systems, industrial use, commercial buildings, highway vehicles, to energy transmission and distribution system.

With energy efficiency embedded in our economy and investments in energy technologies being made to meet future needs, the time has come for the government to declare victory and let the market continue to achieve progress. That would enable the federal government to do something as strange as a dog walking on its hind legs, cancel energy standard setting programs and eliminate their costs from its budget.

CAFÉ: The Triumph of Dogma

Congressman Scott Peters wrote an impassioned defense of CAFÉ in the Washington Post’s Power Post. His article reveals an argument built on dogma and assumption. He is dismissive of any criticism of CAFÉ and accuses republicans of wanting to “ gut fuel efficiency standards. In defending CAFÉ as “one of the most successful energy conservation programs”, he embraces conservation without limitation or understanding of how CAFÉ works.

CAFÉ was a creation of the post oil embargo panic. Its goal then was reducing oil imports by reducing gasoline consumption. The initial goal could be defended, as there was a concern that unchecked imports would transfer too much wealth and power to the Persian Gulf. Also, at that time, there was the widely held belief that the world was running out of oil, the end of oil was predicted to be at the end of the 20th century. While the goal could be defended, the mechanism, CAFÉ, can’t. It shows Congress’ lust for power and lack of faith in market forces. A gasoline tax would have been far more effective and much easier to implement. Analyses have concluded that a gasoline tax would be 6 to 14 times more effective.

Since the 1970s, CAFÉ has morphed from fuel conservation, which it did not achieve because as the cost of driving declined drivers increased miles driven, into a means for emissions reductions, specifically CO2. EPA has a long record for setting fuel and tailpipe standards as a mechanism for improving air quality, so CAFÉ was not needed to do that. While a case can be made that the standard setting process has been based on worst-case assumptions, which it has, there is no question that air quality has achieved tremendous improvements. Using CAFÉ to achieve CO2 objectives is nothing less that a case of orthodoxy driving regulation.

CAFÉ is a two-sided coin. One side reflects the air quality improvements, including reductions in CO2 emissions. The other and darker side represents the consequences of government fuel efficiency mandates. Until the most recent standards, manufacturers had to build lighter and smaller cars to meet fleet mileage requirements. Over the decades since the 1970s there has been accumulating evidence that lighter, smaller vehicles have led to greater highway fatalities.

Since most buyers prefer larger vehicles, smaller ones had to be sold at a loss. Cross subsidization allowed for those lower prices by making larger vehicles more expensive. Cross subsidization is compelling evidence that CAFÉ is in conflict with consumer preferences.

The current CAFÉ standards have eliminated that flaw by using vehicle class standards—vehicle foot-print—for calculating applicable standards. The current approach according to a paper from the Energy Institute at the University of California at Berkeley—New CAFÉ Standards: The Good, the Bad, and the Ugly, January 2016—is counter-productive “… the footprint-based targets may actually incentivize manufacturers to increase the average footprint of their fleet. This may make sense from a political point-of-view because domestic manufacturers produce large numbers of SUVs and pickups, but it doesn’t make sense from the perspective of reducing GHGs.” This explains why manufacturers were willing to accept more aggressive standards. They can sell more larger vehicles which are more profitable while appearing to be good corporate citizens.

As Milton Friedman observed, there is no such thing as a free lunch. Analyses of the new standards have concluded that they increased manufacturing cost initially by $1000 and by $3000 by the time they are fully implemented. This is because manufacturers have to substitute lighter material for metal and develop new drive train technologies. While advocates hail new technologies as a benefit of CAFÉ, they are assuming that those technologies would not have come about from meeting consumer preferences and competition among manufacturers. There cannot be any dispute that technology forcing leads to higher costs than competition.

 

The CAFÉ program is now dogma and a costly tool to reduce greenhouse gas emissions. It will do nothing to impact climate change but has allowed manufacturers to game the system and increase profitability. This is just another example of the Bootlegger and Baptist theory! It also is strong evidence why there is a need for strong regulatory reform that includes “look back” provisions and a strong role for effective agency oversight by Congress. No major rule such as CAFÉ should go into effect until approved by Congress.