With generous carrots and aggressive sticks, Congress and the Biden administration are attempting to reshape the automotive industry in the United States. With a recent regulatory proposal to increase CAFE standards, the administration wants to dictate consumer choice by phasing out the internal combustion engine in favor of electric vehicles. While EVs have their merits, a top-down, forced adoption of the technology is bad for consumers and the auto industry. Instead of relying on the power of the pen, President Biden and other policymakers should focus on ways to increase materials supplies, lower costs, and enable the auto sector to make cars and trucks Americans want to drive.
Proposed Fuel Efficiency Rulemakings
In April the Environmental Protection Agency (EPA) and the Department of Energy (DOE) announced a proposed rulemaking to increase vehicle fuel efficiency. The EPA’s rule would introduce the most stringent tailpipe emissions standards to date starting in model year (MY) 2027 through 2031. These regulations would apply to light, medium, and heavy vehicles and could lead to EVs accounting for 2/3 of new cars sold in the U.S. by 2032.
Most recently, the Department of Transportation’s National Highway Traffic Safety Administration (NHTSA) recently unveiled updates to CAFE standards that would make the fuel economy of America’s vehicle fleet drastically more stringent. Starting in MY2027, light-weight vehicles, like sedans, would be required to increase their fuel efficiency by 2% annually through 2031 while medium-duty vehicles like trucks would have to see an annual increase of 4%. The NHTSA estimates that these rules could lead to an average fuel economy of 58 mpg by 2032, up from the current average of 40 mpg. While better fuel economy may sound good to consumers (and consumers value it), forcing auto manufacturers to comply comes at significant costs to car families and individuals.
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The DOE’s rule would reduce the “miles per gallon equivalent (MPGe) t” of EVs under CAFE. MPGe is “determined by using values for national electricity, petroleum generation and distribution efficiency and driving patterns.” Under this new standard, the Ford F-150 Lightning’s fuel efficiency rating would drop from 237 miles per gallon to 67 miles per gallon (mpg). If automakers cannot meet the new standards, they either buy credits from manufacturers who have, earn credits for selling EVs, or pay steep fines. In 2016 and 2017, Chrysler Fiat paid more than $150 million in fines for noncompliance. In effect, DOE’s rule is an attempt to further require autos to improve efficiency in light and heavy duty vehicles and rely less on EV credits.
The High Costs of CAFE Standards
CAFE standards have been around for nearly half a century. Implemented when policymakers thought the world was running out of oil, they override consumer choice and increase the sticker price of new vehicles. The newest iteration of these regulations is problematic for consumers and businesses alike. The cost of CAFE standards has been well-documented in academic literature and economic modeling. Dr. Chris Douglas of the Mackinac Center provides a detailed literature review of the costs and benefits of CAFE standards in the U.S. In this analysis, Douglas finds that “A one-mpg increase in CAFE standards is estimated to cost consumers between $6.5 billion and $11.2 billion in the first year after the increase and between $7.8 billion and $24 billion five to 10 years after.”
Importantly, these costs are regressive and hurt low-income families the most. For households and consumers earning less than $25,000 per year, CAFE standards cost 1.12% of their income after 10 years. For families earning more than $75,000, these regulations only cost .41% of their income. As is the case with energy, when prices go up, poor families suffer more because they are forced to spend a larger share of their income on increased costs.
In a presentation to the White House, General Motors estimated that the compliance costs of meeting the newly proposed CAFE standards would be $300 billion, or about $4,300 per vehicle, from 2027 to 2031. These higher costs would be passed on to consumers through higher sticker prices for new vehicles, which would have an impact on the used vehicle market as well. Even though inflation has come down a bit, American families are struggling with higher prices. Adding higher costs to an already expensive endeavor of buying a new car will only make matters worse.
CAFE regulations also have ripple effects throughout the used car market. By incentivizing consumers to continue driving their current vehicles for longer, more stringent CAFE regulations will lead to higher prices for used cars as fewer would be for sale. Again, these costs are especially felt by low and middle-income households. In fact, economists Mark Jacobsen of UC San Diego and Arthur van Benthem of the Wharton School estimate that a one-mile per gallon increase in CAFE leads to a $164 increase in the average price of a used car and a $92 increase in the price of a used truck. These cost increases in turn lead to a 16% reduction in the expected gasoline savings of stricter CAFE standards. Given that this study was conducted in 2013 when CAFE standards were lower, the impact of stricter standards would be even costlier for consumers today.
The Problems with a Mandated Shift Toward EVs
EVs have plenty of merit. People like them because they drive well, they reduce emissions, they’re quiet and have lower refueling costs. If drivers want to buy them, the competition in the market will provide consumers with the best possible car to meet their needs. However, The Biden administration’s mandated shift toward electric vehicles is fraught with problems. Forcing the market to move in that direction before it is ready will be challenging given the current supply chain constraints and manufacturing capacity in the United States.
Buying a car is a major purchase for American families and EVs are very expensive for the average consumer. While EVs can be cheaper in the long run through reduced maintenance and fuel costs, they are a significant upfront investment. And while the federal government has tried to reduce the initial cost of an EV with the $7,500 tax credit, this subsidy has almost exclusively been used by top-earning households. While there are now income limits on families who can take advantage of the EV tax credit, the reality is the average price for a new EV is $64,000 and the average used price is more than $40,000. Even with the tax credit, EVs are prohibitively expensive for most families.
Further, forcing autos to make cars people may not be willing to buy, especially at higher price points, could lead to financial woes for the auto industry. The Alliance for Automotive Innovation called the new rules “neither reasonable nor achievable.” Even Rep Debbie Dingel (D-MI), who represents a district with many auto manufacturers, said, “Climate change is real, but we’ve got to be realistic.”
Accomplishing President Biden’s target of half of new vehicles sold being electric by 2030 would require Tesla to build 20 million EVs per year, up from 500,000 currently. The company would need “40 percent of all the permanent magnets mined globally to make enough motors, and nearly double the cobalt currently available worldwide for its batteries. Tesla would also use 30 percent of the earth’s nickel, and four times more copper per EV than what’s required to make an average non-EV car.”
Given the EPA’s estimates to have EVs represent two-thirds of new car purchases in 2032 under its new tailpipe regulations, the U.S. will have to rapidly diversify its critical mineral supply chain away from China, who currently supplies 80% of America’s rare earth mineral needs.
The federal government has looked to spur the U.S. supply chain through the Infrastructure Investment and Jobs Act and the Inflation Reduction Act (IRA). The IRA included several incentives and subsidies to accelerate EV manufacturing in the United States. To qualify for EV tax credits, 50% of the critical minerals in a vehicle’s battery (by value) in 2024 must be sourced from a country that has a free trade agreement (FTA) with the United States. This figure then rises to 80% by 2027. Furthermore, at least 50% of battery components of electric vehicles must be finally assembled in North America, a figure that rises to 100% by 2029.
The challenge with these requirements is that the U.S. does not have an FTA with many major manufacturers of critical minerals. Nickel, for instance, is primarily sourced in Indonesia, a country that is expected to control a vast majority of the global nickel market through 2035. A recent analysis by S&P Global estimates that 92% of nickel production in 2035 will be done in non-FTA countries.
Furthermore, the generous subsidies in the IRA have inflated demand for critical minerals beyond initial estimates. Since the passage of the bill, the expected demand for copper in 2035 (which is not technically designated as a “critical mineral”) has risen by 12%. Future demand for Lithium, Nickel, and Cobalt has also risen by 15%, 14%, and 13%, respectively. And as EV manufacturers build heavier SUVs and trucks to meet consumer demand, it’s reasonable to assume that these numbers could increase even further.
A Better Way Forward to Reduce Transportation Sector Emissions
The transportation sector is the largest emitting industry, accounting for 28% of annual emissions in the U.S. Thus, reducing the industry’s greenhouse footprint will be essential to making meaningful climate progress. Electric vehicles can certainly play an important role in reaching this goal, as they are cleaner than petrol vehicles even if they are produced with coal. In the same vein, more fuel-efficient vehicles will also be crucial to lowering the greenhouse gas footprint of the industry. However, the regulations that the Biden administration is proposing will distort automotive markets, leading to higher costs for consumers and manufacturers.
To reduce emissions while keeping costs affordable, the administration should empower the free market and bottom up solutions starting with repealing and replacing CAFE standards with higher octane fuel standards. Policymakers should set tailpipe emissions standards that protect public health, not use every tool at their disposal to remake the auto industry. And, as numerous studies have shown, the sale of fuel-efficient vehicles coincides more closely with high gas prices than stricter CAFE standards. Consumers prioritize fuel efficiency when it costs more to fill up the gas tank and manufacturers are often quick to meet this demand. Replacing CAFE with higher octane fuel standards would be more affordable to consumers and more effective in reducing emissions.
The U.S. must also engage in more free trade agreements, which lead to cleaner economies. Whether or not the government incentivizes EV production, the industry will continue to grow as consumer demand increases. To accommodate the need for more critical minerals, the U.S. must expand free trade agreements with countries such as Argentina and Indonesia to secure and diversify the supply chain away from China.
Finally, the U.S. must eliminate government-imposed barriers that increase the use of road transportation and congestion. A good place to start is repealing the Jones Act, which requires the shipping of goods between U.S. ports to be done on a boat that is American-owned with a majority-American crew. This increases the cost of energy and goods and leads to more carbon-intensive shipping methods like trucking. In the same way, policymakers should refrain from burdening the freight rail industry with excessive regulations. Congestion pricing is yet another market mechanism that will help reduce congestion and therefore reduce pollution and greenhouse gas emissions.
Empowering consumers and removing barriers to innovation will better serve the economy and the environment. Unfortunately, the administration has doubled down on a strategy that employs stringent regulations and standards to shift the U.S. transportation sector—a move that will hurt consumers and businesses alike.