Why Are Used-Car Prices on the Rise?

My thoughtful wife alerted me to a story from last week's Wall Street Journal ostensibly investigating the same question. Unfortunately the reporter, Jeff Bennett, does not get to the heart of the answer.

Prices of used cars increased by 3% in 2011 and are on track to rise another 1.2% this year. If so, 2012's increase would mark the third-consecutive rise in  used-car prices. After documenting these facts, Bennett identifies what he understands are the causes.

After the economic crisis of 2008,

Consumers began holding on to their cars longer. Auto makers cut production, pinching new-vehicle shipments to rental-car companies, which in turn slowed the flow of vehicles into the used-car lots. Even repossessions, another source of used cars, have declined. The number of repossessed cars in 2011 was 1.3 million, down 32% from 2009, according to Manheim Consulting, which also tracks the used-car market.

Now, the things listed above no doubt contributed to the current state of the used car market.

However, the elephant in the room Bennett does not think to mention is also a (perhaps the) main culprit--President Obama's "Cash for Clunkers" boondoggle. The Department of Transportation reveals that the Car Allowance Rebate System (CARS) took nearly 700,000 used cars out of the market at a cost to U.S. taxpayers of $2.7 billion. A report by two economists from the University of Delaware found that the program's cost exceeded benefits by about $2,000 per car.

Basic economic theory explains that reducing supply naturally results in higher prices. When supply for a good falls the quantity demanded exceeds the quantity supplied at the original prevailing price. More eager buyers, those willing to pay a higher price, bid up the price in order to mitigate the potential frustration of not being able to buy a used car at a price they are willing to pay. As the price gets bid up, those not willing to pay the higher price will exit the market. The market will clear at a higher price.

In this instance, however, the higher price is due to a government driven restriction of supply. Not only was the program itself not economically sound, but those who rely on the used car market for effective transportation are left holding an automotive bag that has become ever more expensive. One more in an endless list of examples documenting how government intervention in a free society reduces social welfare.