Automakers Need Consistency in CAFE Standards

Shortly after I began my career as an investment analyst, American drivers found themselves in long lines at gas stations, hoping there would be fuel when they reached the pump. The OPEC oil embargo in 1973–1974 was a wake-up call for consumers, regulators, and the auto industry, which, until then, paid little attention to miles per gallon. Those of us who lived through the event recall how we altered our behavior, used mass transit or carpooled, and combined errands into single trips while paying a hefty $.55 per gallon, the equivalent of $2.80 per gallon today. In response to our exposed vulnerability, Congress enacted fuel economy standards in 1975 that required annual increases in the Corporate Average Fuel Economy (CAFE) of every automaker selling vehicles in the U.S.

Predictably, U.S. automakers fought these standards with claims that higher prices would discourage fuel-efficient model purchases, penalize Detroit disproportionately due to product lines skewed toward larger cars and light trucks, and overwhelm them with technological and product mix challenges that couldn’t match up with annual CAFE mandates. At that time, Japanese automakers were gaining market share while Detroit’s small cars were universally unloved. They were retrospectively ranked among the ugliest, most underpowered, poorly engineered models of the era. They included the rusting Chevrolet Vega and cheaply assembled Chevette, the exploding Ford Pinto, and the greenhouse known as the AMC Pacer, which followed the Gremlin into the rogue’s gallery of the 1970s.

I had a ringside seat in the subsequent discussions first as a committee member of two National Research Council studies that examined the impact of fuel economy regulation on vehicles, fuel costs versus savings, competition, the potential conflicts with safety and emissions regulations, and the financial impact on automakers — and then twice as a reviewer of a subsequent reports published decades later. We heard statements, reviewed research, and analyzed data from automakers, academics, consultants, regulators, and advocates from all sides of the debate. But what became clear after more than two decades of CAFE standards was that automakers generally achieved their annual goals by redesigning products, eliminating their heaviest models, reducing vehicle weight, and improving engine efficiency. However, this was often not enough. Domestic automakers also relied upon profit-robbing tactics because consumers didn’t behave according to the assumptions made to support the logic of the standards. Fuel economy improved, and we are better for that, but we should recognize the predictive limits of simple math exercises. New car buyers never expect to own a vehicle over its life, and as vehicles age, fuel economy has less influence on residual values because other factors, such as vehicle condition, past and current maintenance, and tires are more important to buyers than miles per gallon.

I fully support regulations that have made vehicles safer, cleaner, and more fuel-efficient. Without regulations, it is unlikely that competition alone would have generated today’s vehicles. But as an analyst, I also recognize the flaw of justifying CAFE with assumptions of lifetime fuel savings against the incremental vehicle price increase due to regulation.

Gasoline prices, more than any other factor, shape behavior. For example, it wasn’t long after the lines disappeared in front of gas stations that other factors influenced vehicle choices. In the early 1980s, four-wheel drive vehicles and light trucks increasing gained market share. History has demonstrated that fuel prices are not predictable, and a gallon of gasoline still costs less than a gallon of bottled water. Over the past 40 years, there have been fuel price spikes and draconian forecasts of perpetual crude oil shortages followed by rapid declines in fuel prices along with newly discovered fossil fuel sources. New car buyers prioritize fuel economy when gasoline prices spike, and pundits predict continued upward movement. Used car buyers shop for an affordable vehicle that meets their needs — a few miles per gallon difference won’t change their decision or promote higher residual values.

For years, automakers have lobbied for higher fuel taxes that would align buyers with the products they were launching. The U.S. has one of the lowest tax levies on gasoline, thus allowing crude oil’s market price to dictate the pump price. The lack of coordination between the price of fuel and the government’s concurrent mandate for average CAFE standards has confounded the auto industry for more than four decades. To meet the government’s annual targets, some auto companies bought credits from companies like Tesla; others sold small cars at a loss to fleets — and the public — thus forcing a fuel economy average, which is hardly an optimal strategy for recouping automaker investments. Instead, they are an expense just like salaries, components, and power consumption in a factory. The transfer of more than $2 billion from incumbent auto companies to Tesla has been an easy capital raise for Tesla and an expense for the automakers who had to buy them. In 2009, Chrysler was essentially given to Fiat on the condition that it provided the U.S. company with small cars based upon the assumption that Chrysler needed small cars to survive. Instead, the RAM and Jeep products today are saving Fiat, once again demonstrating the folly of predicting behavior based upon fuel price assumptions. Auto product development works best with consistent, long-term goals, that allow companies to match product cycles, while also recognizing the risks of implementing new technology. Automakers live in a global marketplace and would benefit from coordination of efficient objectives rather than having to manage product investment against variable and sometimes conflicting international and regional goals.

Maryann Keller is principal of Maryann Keller & Associates, an automotive research and consulting firm.