Spiwak: Direct auto sales could raise car prices

Lawrence J. Spiwak

Buying a new car is a major financial investment.

Fortunately, not only do consumers have a wide choice of makes and models from which to choose (what economists call “inter-brand” competition), but once they settle on a make and model, consumers can then aggressively shop for the best price from a variety of same-brand dealers (or what economists refer to as “intra-brand” competition). Indeed, in Metro Detroit alone, consumers can shop at 12 Toyota dealers to buy a Camry.

One way state legislatures have sought to encourage intra-brand price competition is by requiring auto manufacturers to sell their cars through independently owned local dealerships. These franchise rules have been a fundamental cornerstone of automobile retailing in America for years.

Yet, despite the clear benefits of this aggressive intra-brand competition for new cars, there is growing political pressure in several states — including Texas, Arizona and Connecticut — to pass legislation that could severely curtail American consumers’ ability to price shop among competing independent dealers by allowing automotive manufacturers to sell directly to the public.

Allowing manufacturers to bypass local dealers would radically change the way cars are sold today from a model where multiple non-affiliated dealers are forced to compete against another to woo consumers to a model where the auto manufacturer sells cars at a fixed price both online and across the region (think Apple stores).

Is such a change good for consumers? Probably not.

As the Phoenix Center demonstrated in a new econometric analysis, consumers benefit greatly from intra-brand competition for new cars. Using recent data on new car sales and registrations in Texas for 10 of the most popular models, we found that when multiple dealers within a brand compete for business, prices drop — often substantially.

We found that when you increase the distance between Honda dealers in Texas by 30 miles, the price paid by consumers for the popular Honda Accord increases by $500. For nine of the 10 cars studied, the closer (in miles) the same-brand dealers were, consumers paid lower prices for new cars. Bottom line: More independent dealers competing in a market means lower prices for consumers.

Our study also found that while competition across brands — for example, a Honda competing against a Toyota — reduced the prices paid for new cars, competition within the brand is far more potent. On average, it takes 35 inter-brand competitors to produce the same price effect as bringing two same brand dealers one mile closer to each other.

Accordingly, allowing manufacturer-direct sales — and the potential concurrent reduction of local auto dealers — is not something to be taken lightly. Many analysts believe that repeal of the independent franchise rules would result in substantial industry consolidation, and the emergence of a retail automobile industry with fewer sellers.

For example, in Texas, where there is growing pressure to allow manufacturer-direct sales, Bill Wolters, president of the Texas Automobile Dealers Association, has stated that easily two-thirds of Texas car dealerships would be at risk if the law against manufacturer ownership of dealerships is eliminated.

This reduction of independent dealers has consequences, because a fall in new car dealer counts could reduce both inter-brand competition (Toyota versus Ford) and intra-brand competition (Toyota dealer versus a nearby Toyota dealer), thus putting upward pressure on car prices. Intra-brand competition is especially beneficial to consumers since it’s mostly about price.

Competition for new cars is intense, and the auto dealer franchise system has a significant part in making it so. Whether or not it’s time to modify state laws on auto retailing is a complex issue deserving in-depth analysis to identify and quantify the consequences of legislative changes.

What are the effects of allowing direct manufacturer sales on consumer prices for cars?

If the law lowered the number of dealerships, would that in fact be good for consumers?

Michigan recently conducted such an analysis, and rejected calls to allow manufacturer-direct sales. The big question is whether other states will follow Michigan’s example.

Lawrence J. Spiwak is president of the Phoenix Center for Advanced Legal & Economic Public Policy Studies.