Second Order Effect - Basic Economics

I'm hopeful a politician will read this. You see, politicians never seem to understand the second order effects of economic decisions. For example, if you raise taxes in a given city, you get increased revenue to build parks. The first order effects of the increased taxes are good. But in the end, industry moves away because the cost of doing business there is bad, people lose their jobs decreasing the tax base and lowering tax receipts. The park cannot be maintained, and who cares anyway because all the taxpayers left. Second order effects in economic decisions can often be tragic and do more harm than good.

Let's take the Clunkers Program, or as I like to call it, the "let's take tax payer's money without their permission and give it to complete strangers so they can buy a new car and maybe salvage the government buy out of the auto industry program." Here the government had tons of cars purchased with taxpayer money to help people get a new car, hopefully more fuel efficient, and safe for the environment.

First let's look at the environment piece. As I mentioned in a blog below, and as was recently pointed out in an article on CBS, efficient cars lead people to drive more miles and thus DO NOT decrease carbon impact on the planet.¹ Ok, enough said.

Now, does it really help people in need? The answer is a big NO! You see, the program does not allow the clunkers to be resold once bought. Meaning, the second order effect is a significant decrease in the number of cheap cars out there for the very poor. As supply for these low cost used cars drops drastically, the guy who needs a $1,500 car to get to work and home, can't because there are relatively none left on the road. And, because the supply is down, the price of the ones still out there will go up. Basic economics. Bottom line, the very poor won't be able to find a car in the very low, less than $4,500 dollar range. They will pay the price of this ridiculous scheme.

And what about the folks who do go out and buy a new car? $4,500 is a nice incentive, just look at the rate at which the program emptied its coffers requiring a rapid infusion of cash. Most new cars will still come with a payment, decreasing the cash available in the monthly budget of consumers. That payment will mean they can buy less other stuff. Meaning, the economy will now suffer in all other areas a decreased amount of cash available every month for years to come. Other business will now suffer more, because the government chose to favor the auto industry in its economic stimulus practices. Oh, but that's right, the government is now in the auto industry!

Have you seen the parts stores popping up almost everywhere? It seems like there is a new auto parts store opening monthly in my town. Oh well, I guess they didn't predict that the government would buy up all the old cars needing replacement parts. Sucks to be in the parts industry now. According to Financial Times, there is an 8 percent decrease in the sale of parts. Just another second order effect. Someone is going to lose their job.²

Second order effects of the clunkers for cash program will do more harm than good. We need a new clunkers program. What would really be great is if we could trade in a few politicians for some tax relief. Now there is a program I could get behind.

Mark

¹http://www.cbsnews.com/blogs/2009/08/05/business/econwatch/entry5217824.shtml

²http://www.ft.com/cms/s/0/940088ae-8830-11de-82e4-00144feabdc0.html