Should the Government Subsidize Electric Cars?

Last week, General Motors revealed that its new plug-in hybrid Chevy Volt would cost at least $41,000. With a $7,500 government credit, that price will drop to around $33,500. That price, however, still puts it out of reach for many Americans. Via Slate, Charles Lane wrote a scathing article last week about the government consequently providing a pricey subsidy to wealthy Americans. But Daniel Gross, also through Slate, says that the process of innovation often requires such government assistance, and the poor will ultimately be better off because of it. Who has it right?

Here's the heart of Gross's argument for why the credit makes sense:

We're in a period of slack demand and low capacity utilization, with lots of empty factories, buildings, and stores. Companies are sitting on hoards of cash. In a time like this, they need special inducements--bribes, incentives, tax breaks--to make large new investments. In such a climate, the government has to give industry a nudge to get off its rear. And there are signs that the $2.4 billion in grants that the Department of Energy made to spur electric vehicle production is doing just that.

And that pretty much describes the motivation behind all stimulus. The government intends to get the factories humming again by giving them some free money. But in the case of a new innovation, isn't the equation a little different?

For example, let's say the construction market is ailing after a giant real estate bubble pops. The government wants to stimulate the economy and create (or save) jobs. So starts a program where it funds construction proposals submitted by states for things like repaving roads, building new bridges, etc. These are projects that would need to be done over the next decade anyway, but in order to stimulate the economy, they are done sooner.

Now compare that with subsidizing something like electric cars -- a new product so far unproven in the U.S. market. With the construction stimulus, the government wasn't really taking a risk. These projects are inevitable, and the job market in the industry would eventually recover once the economy picks up and demand for more construction returns. But it's not certain that Americans will ever demand electric cars. Perhaps some other fuel source or engine innovation will prove far more promising and popular in the years to come. In the case of electric cars, the government is picking a winner, where the odds aren't particularly favorable.

Yet, Gross goes on to explain that government assistance is often necessary for innovation, in particular:

But just as often, particularly in situations where large capital investments are required to try untested technologies and business models, the government plays an important role. At first, these government investments frequently seem as if they are boondoggles for the rich and well-connected merchant class, but soon everyone reaps the benefits.

He goes on to cite examples like the telegraph and railroads. But these are both essentially utilities. And certainly, the government has trouble staying out of such industries. They involve a great deal of interstate infastructure and must reach most Americans. You could even argue that there are some positive economic externalities that might not be fully realized by investors considering such projects.

It's hard to see precisely the same situation for a new sort of auto. In a different world, maybe one where gasoline costs $10 per gallon, it would be pretty easy for private investors to get behind funding projects for new automobile engine types. So perhaps such high capital investment isn't impossible for electric cars at some point, but the time just isn't ripe yet.

Risk is vital to private investment, but it's less clear that the government should endure greater risk than investors are willing to with taxpayer dollars. This is the essential conflict here. If you believe that such risk should be taken on by the government, then you can be for these sorts of government subsidies and you'll agree with Gross. If not, then you probably find Lane's argument more compelling.