Volkswagen (XETRA:VOWG) has endangered the future of the world’s automobile industry.
By tampering with the emission control systems on its diesel cars, it’s opened the entire sector up to restitution.
Like the banking sector, which has been fined $200 billion and counting since the crash in 2008, the political system may start using the automobile sector as a cash machine – syphoning off its profits whenever the need to build additional bureaucracy arises.
There’s just one problem with this: It will subject the entire automotive sector to the dictates of bureaucrats, and remove any semblance of market incentives from it.
The economic effect of this won’t be pretty.
Toxic Relationships
Volkswagen tweaked its cars’ controls so the cars worked one way while being used normally and another more environmentally acceptable way when being tested.
The company should’ve realized this tampering would inevitably be discovered. These days, with the awareness of climate change and emissions, authorities are bound to take environmental threats very seriously.
You see, nitrogen oxides are among the nastier pollutants emitted by automobiles. They’re not just contributors to global warming, like carbon dioxide, they’re actually poisonous to humans. Authorities must be swift and harsh to prevent a slippery slope, too. Emission standards could become a laughingstock if manufacturers can evade them through electronic means.
Still, the country’s economic history gives some insight into Volkswagen’s motivation.
U.S. Corporate Average Fuel Economy standards, introduced in 1975, contributed largely to the bankruptcy of U.S. automobile manufacturers at that time. U.S. carmakers mainly produced the larger cars preferred by consumers, rather than the econoboxes made in Europe and Asia.
If the goal was to push people towards smaller cars, the United States should’ve put an additional tax on gasoline. That would’ve pushed high-mileage users with limited budgets into smaller cars. Low-mileage or affluent users with traditional tastes could’ve paid the additional cost of rumbling around in updated 1959 Cadillacs, rocket ship tail fins and all.
In this scenario, fuel-efficient Hyundai (XETRA:05380) and Subaru (TOKYO:9632) might have forced their way into the U.S. market, but BMW (XETRA:BMWG) and Lexus never would’ve caught on.
The new and tighter U.S. emissions standards have especially tight nitrogen oxide standards that are designed to make diesel engine cars (Volkswagen’s specialty) disadvantaged compared to conventional engine cars (the United States’ bread and butter).
Obviously the temptation among German engineers to game these unfair standards was a strong one.
A Dystopian Future
What happens next depends on how many other companies were involved in similar shenanigans and whether the same cheating was applied to European regulators.
Even if the scandal proves to have been a narrow one, the combination of regulatory fines and lawsuits from aggrieved buyers will be expensive. (To an American jury, with American trial lawyers involved, there’s an undoubted case for “emotional damages” for finding that the car wasn’t as environmentally friendly as the buyer thought!)
Thus the loss to Volkswagen may well prove terminal. In fact, they could be similar to the losses incurred by BP (LONDON:BP) as a result of its Deepwater Horizon Gulf oil spill in 2010.
On the other hand, if other manufacturers were involved in skirting emission standards in the same way as Volkswagen, then the auto industry will be in very much the same state as the banking industry after 2008.
It will be labelled a universal villain and subjected to new fines for newly invented offences every time regulators and politicians need to raise money.
The banks have already been subjected to $200 billion in such fines. Only the world’s central banks’ extraordinary monetary policy is keeping them in business by subsidizing their funding costs.
It’s easy to envision the automobile industry getting into a similar state, unable to make independent decisions or reward its shareholders appropriately.
When industries are wholly subjected to the whims of regulators, market forces are no longer important in their businesses. That’s not a capitalist economic system. It’s a feudal one.
Feudal lords compete for favors from the King, who imposes arbitrary fines on them, but allows them to make the money back by exactions from the unfortunate peasantry.
This is what has become of the U.S. banking system, and to some extent in education and healthcare, as well. Those industries’ costs have been bloated and the markets distorted by regulation so they cost far more than in other countries or times.
Automobiles could be the first manufacturing sector subjected to this system. And it will presumably spread elsewhere. (In fact, the domino effect from the Volkswagen scandal could stretch far and wide – and potentially even triggering a recession, as my colleague Greg Miller recently explained).
Feudalism worked, in a way. Of course, the living standards it supported were those of the 12th century, not the 21st. But maybe we’ll just have to get used to that.