Even with the current rise in electric vehicle prices and shortages, long-term policy goals must remain front and center.
Now is a good time to own an electric vehicle. Across the country, gas prices are 50% above what they were at the same time last year. That means $16 more for every twelve gallon fill (typical for the average US driver). Electricity prices, on the other hand, only increased by ten%. More and more drivers are looking to trade in their gas-powered cars for electric cars. Unfortunately, electric vehicles have become hard to find and their prices are rising. What should be glory days for the electric vehicle market is turning into a time of frustration.
Policymakers are looking for ways to help the electric vehicle market. Short-term incentives and longer-term policies are on the table. A review of current market dynamics should strongly guide policy makers toward long-term policies that continue to incentivize companies to innovate and invest.
Electric vehicle prices are rising
Recent search by James Bushnell and his co-authors provide evidence of the strong link between rising gasoline prices and growing consumer demand for electric vehicles. However, today’s market is struggling to meet today’s demand. Many consumers wanting electric vehicles have long joined waiting lists. Others buy vehicles that have not even been manufactured yet. My parents recently drove hundreds of miles powered by fossil fuels to purchase a rare vehicle off the lot from a dealership. Consumers who find a vehicle pay significant profit margins.
Automakers themselves are also raising their prices. At the beginning of March, the start-up manufacturer of electric trucks Rivian increased its prices from 17 to 20%. Later that month, Tesla increased prices of all their models from 4 to 10%. The impact on Tesla buyers is even greater for some models in California, as price increases have caused them to lose eligibility for the California Clean Vehicle Rebate when a maximum program price threshold has been exceeded.
President Biden has pledged to lower the price of electric vehicles in his State of the Union Addressbut the prices are going in the wrong direction.
Consumption tax credits versus automaker profits
One possible policy response to rising electric vehicle prices is for governments to give consumers bigger discounts when they buy a vehicle. The federal “Build Back Better” bill proposed to do this by increasing the electric vehicle tax credit from $7,500 to $12,500. At first glance, this would reduce the cost of purchasing an electric vehicle by an additional $5,000. However, this is an unlikely outcome given the severe supply constraints in the automotive market today. Widespread supply chain issues today, including global chip shortage, mean that if demand increases, automakers cannot increase production. But they can raise prices. In other words, an increase in the tax credit could end up increasing prices and profits for automakers instead of reducing consumer costs.
In economics, there is a term for considering this. “Fiscal impact” is used to describe whether a tax change benefits producers or consumers. The tax impact may not match the intentions of policy makers due to market dynamics. For example, the benefits of a consumption tax credit could instead accrue to producers, as described above.
Frankly, the economic research is a bit ambiguous about how automakers will react to bigger rebates and what the tax impact might be. James Sallee analyzed how changes in federal subsidies for the Toyota Prius in the 2000s impacted prices. For several years, demand for the Prius exceeded Toyota’s expectations and resulted in long waiting lists, similar to today’s electric vehicle market. During this period, when tax incentives were increased, Toyota did not raise prices when it could have. Sallee speculates that Toyota was considering the impact of short-term price increases on long-term sales of a type of vehicle that had just become established in the market.
Still, policymakers shouldn’t take much comfort from the Prius research. Automakers today are showing a willingness to raise prices. Perhaps the EV market is now established enough to push through price increases without hurting sales in the long term. It probably helps that the gasoline vehicle market is affected by the same supply chain issues than the electric vehicle market.
Focus on the long term
Longer-term political commitments remain an important tool to grow the market for electric vehicles and reduce costs for consumers.
Federal and state standards that dictate an increase in electric vehicle sales over time are already having a transformative impact on the automotive market. Plug-in vehicles represent a growing fraction of the overall automotive market, reaching a 5% market share in the fourth quarter of 2021. Sales nearly doubled from 2020 to 2021. Even in the face of supply chain challenges, automakers that make gasoline and electric vehicles, such as Fordresponded by focusing their manufacturing efforts on the highest-margin models, which currently include electric vehicles.
Policymakers can keep automakers focused on innovation and investing in the future of electric vehicles by extending and strengthening long-term policy commitments. The latest example is from the US Department of Transportation announcement last week to increase federal fuel efficiency standards by 8% for model years 2024 and 2025 and 10% for model year 2026. (#5 on Max Auffhammer’s list of Five areas of energy and climate progress to watch in 2022!). Investments in charging infrastructure and electricity pricing reform can also pay off over time by assuring automakers that the EV market will be strong for years to come.
These policies won’t do much for people stuck on an EV waiting list. But in the long term, they bode well for the climate.