Automotive Industry/ Economic Theory

Automotive Industry

ECONOMIC THEORY

Automotive Industry

In the automotive industry there are many factors and policies that affect the automotive industry and its performance. The following topics and their impacts on the automotive industry are as follows:

Ð'* Supply and Demand (Sales)

Ð'* North American Free Trade Agreement (NAFTA)

Ð'* External Affects

Ð'* Labor Supply and Demand

Ð'* Federal Policies

Ð'* Economic Influence

Supply And Demand

High competition from foreign car imports causing US manufactures to seek deals with lower cost overseas companies. This movement is in effort to reduce manufacturing costs of domestic vehicles in order to stay competitive with foreign manufactures. By reducing manufacturing costs, domestic manufactures are seeking ways to reduce the cost of their vehicles in order to improve sales. (National Environmental Trust [NET], n.d., pg. 5) One of the main strategies to reduce costs of the domestic automobiles, manufacturers of component parts are relocating their manufacturing sites to countries such as Canada, Mexico, India, China and the Philippines to reduce the costs of these components. The affect of these moves is obviously a loss of domestic jobs and a reduction of cash flow into the US economy.

Another factor that is very influential to the automotive industry is that of rising fuel costs. Higher oil prices have forced automotive manufactures to slash prices on their larger less gas efficient vehicles while at the same time raising the prices of highly efficient vehicles. Due to higher gas prices the demand for less efficient vehicles is low forcing the manufactures to slash prices in order for them to move the vehicles off their lots. The opposite is occurring to higher efficient vehicles. With the gas prices increasing the demand for higher efficient vehicles is increasing which means the manufactures can raise prices due to the higher demand. (Reuters [R], 2007, pg. 1) While fuel prices and cost cutting practices are a couple of factors that affect the automotive market, these factors also affect the US economy as a whole.

North American Free Trade Agreement

NAFTA was envisioned to bring the neighboring economies up to a higher level and we could then all benefit from stronger economies and lower prices. Unfortunately this has not really been the case. While we are seeing increased exports of US agricultural goods, the loss of US manufacturing jobs is growing everyday. Not only are we seeing loss of US jobs we are seeing huge declines in the trade deficits with both Canada and Mexico as a result. With the loss of jobs in the US and the weakening dollar, production of goods in Mexico seems to be more attractive to US firms. Many US manufacturing plants shut down and move to Mexico where the labor is cheaper. With NAFTA, many of the large corporations' are taking advantage of this situation and moving their manufacturing plants to Mexico.

The chart below shows After NAFTA took effect in 1994, the United States developed large and rapidly growing deficits with these trade partners.

(Scott, 2006, pg. 1)

So as we can see, NAFTA is not working as it was intended but just the opposite. The US is losing jobs and we are buying more goods from across the borders while reducing the amount we export. The idea was good, but the performance so far has been very poor. By reducing the amount of US jobs and increasing the amount of trade deficits to other countires, the automotive industry is hurting itself. By demanding cheaper components to reduce the prices of their vehicles, they are actually eliminating US jobs and the incomes that are associated with these jobs. If people are out of work, they obviously can not afford to purchase a new vehicle.

External Affects on the Automotive Industry

There are many factors in the forms of externalities on the automotive market that affect consumers. With the increased competition from rival automakers, higher safety and gas mileage standards set by the government consumers are both benefiting and suffering from these effects.

Positive Externalities

Due to the increased competition of carmakers consumers are reaping the benefits of more selection and lower prices. Car makers today are forced to find better and cheaper ways to produce vehicles to persuade consumers in their direction. It is this increased competition that allows consumers to select vehicles that are of higher quality and at lower prices. Increasing global competition is changing the environment facing most companies today. As trade barriers fall and transaction costs decline, new global competitors are entering previously more isolated domestic markets. In response to this intensified competitive pressure, local companies are pushed to enhance performance by innovating and adopting process and product improvements. (MCKINSEY GLOBAL INSTITUTE [MCKINSEYGLOBALINSTITUTE], 2005, pg. 1) The effect this has on the economy is that with vehicles being priced to persuade buyers, more money is being poured into the economy from vehicles sales.

Another benefit is that of increased safety standards for today's vehicles. Vehicles today are much safer then they were 10 years ago, with this increase in safety standards consumers are much safer on the roads.

Negative Externalities

Probably one of the biggest negative externalities of the automotive industry on society today is that of vehicle emissions. Gasoline powered vehicles account for 95% of light-duty vehicle sales. Gasoline-powered vehicles emit carbon monoxide, nitrogen oxides, and hydrocarbons, otherwise referred to as volatile organic compounds. CO reduces the flow of oxygen in the bloodstream and causes problems ranging from difficulty of breathing and inability to exercise to more serious cardiovascular effects. (Parry, Walls, & Harrington, 2006, pg. 1) It is this negative impact form vehicle emissions that affects everyone in our society. The impact on the economy from this negative externality would be increased cost to manufactures which in turn is passed on to the buyer and increased cost to society due to medical needs.

Another negative externality from the increased competition in the automotive market