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How Governments Can Boost Consumption

Governments are prolific marketers. The armed forces advertise to recruit volunteers. Health agencies advise us to buckle up and quit smoking. In addition to information and persuasion, governments have long used the tax code to nudge us to change our behavior: tax free investments to save for retirement, tax credits on the purchase of energy saving products. When persuasion and price incentives prove insufficient, governments can go one step further than commercial marketers: regulate and legislate compliance.

The current recession has caused many consumers to cut back on consumption and increase savings, especially in countries where social safety nets are underdeveloped. Governments are responding with programs both to increase the availability of bank credit and to promote consumption. Nowhere is this more evident than in China where the savings rate has been 50% and domestic consumption must be stimulated to compensate for the fall in overseas demand for Chinese-made goods. Twenty million Chinese workers have lost their jobs in the past nine months as 100,000 factories have closed.

In conjunction with increased infrastructure spending, provincial and city governments in China have introduced a variety of coupon and voucher programs to stimulate short-term consumption. Some local governments are paying their own employees partly in vouchers that have to be spent within specified time periods. Others are targeting farmers and rural consumers with price-off coupons to boost sales of durable goods such as cars and televisions. Finally, Hangzhou has been issuing books of discount coupons in other provinces to sustain visits to the city's tourist attractions. These coupon books typically offer 20-25% price reductions and are now available to foreign tourists on presentation of a passport.

There are several problems with these programs. First, if the vouchers are redeemable only through certain designated stores and for specified brands, there are obvious risks of abuse as marketers seek to be included on the preferred lists. Second, many programs require the consumer to pay full price at the point-of-sale and to bring paperwork to a government office to secure the rebate. The absence of an immediate price cut at the point-of-sale does not help the cash poor consumer to make a purchase. In addition, the cumbersome redemption process means not all rebates will be claimed and minor government officials may be tempted to extract payments for faster claims processing

In Europe, governments are promoting consumer spending through car scrappage programs. In Germany, for example, consumers trading in cars nine or more years old (the average age of cars on the road is eight and a half) receive a 2,500 Euro rebate on the purchase of a new fuel-efficient car. The environmental objective of reducing auto emissions justifies the investment. The incentive attracted twice as many buyers as expected. German car sales increased 40% year-on-year in March 2009 following the launch of the program. Since then, the rate of increase has stabilized at 21%. Similar programs have been introduced in France, Spain and other Euopean countries. Although the United Kingdom has been less enthusiastic as 86% of cars sold in Britain are imported, the government is going ahead as an assist to the many local dealers and component manufacturers.

The idea has now crossed the Atlantic and is being considered by United States lawmakers. Over 50% of cars sold in the USA are made there. However, six questions need to be answered before this program gets the green light:

1. Is it appropriate to single out one industry for government subsidy, no matter how significant the percentage of industrial consumption it accounts for? Will a car subsidy undercut sales of new household appliances, for example?

2. Will a car subsidy simply bring forward sales that would have been made in future years? Or will a scrappage program encourage consumers who have never bought a new car to do so for the first time?

3. Should the subsidy be restricted to small cars? To fuel-efficient cars (however defined)? To all cars made by the American "Big Three"? To all American-made cars (whether manufactured by GM or Toyota), or open to all cars of any origin?

4. Given annual emissions inspections in most states, are there enough fuel-inefficient nine year old cars in the USA to justify the bureaucracy involved to provide this incentive? The average car on the road in the USA is close to nine years old, while the average light truck is 6.5 years old.

5. Will a taxpayer-funded rebate be passed through to consumers or will car manufacturers and dealers simply cut their discounts proportionately, leaving effective retail prices unchanged?

6. What percentage increase in new car registrations is needed to justify the program costs to the taxpayer, at alternative rebate levels? Goldman Sachs considers a 15% increase in year-on-year vehicle demand possible.

Bill Ford, Chairman of Ford Motor, says in a recent Fortune Magazine article: "We urge lawmakers to quickly implement this market-based incentive. It constitutes a clear win for the consumer, the economy and the environment." Do you agree?

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