Hybrid Cars are a Better Deal Than You Think

Last week Nick Bunkley wrote an article for The New York Times called “Payoff for Efficient Cars Takes Years“.  His main contention was that “the added cost of the fuel-efficient technologies is so high that it would take the average driver many years — in some cases more than a decade — to save money over comparable new models with conventional internal-combustion engines.”  He’s wrong, and his mistake could cause a lot of unnecessary damage to the environment.

Hybrid cars save money through higher gas mileage.  They also tend to cost more.  These facts are not in dispute.  But hybrid cars, like other cars, will probably last a long time.  So if you want to compare them to conventional models, you have to look at how much money they save their owners over their entire working lives.

Now, you might think that this is the wrong question – what if you decide to sell or trade in a hybrid car after only a few years?  It doesn’t matter, and here is where Bunkley went wrong.  A hybrid will save its next owner money, too, so it will still be worth more than a conventional car of the same age.

It helps to think of hybrid cars like bonds.  Bonds have a maturity date and pay interest every year.  If you decide to sell a bond before its maturity date, its next owner will still be able to collect coupons.  The higher the coupon, the more buyers will be willing to pay – even if the bond only has a few years left before maturity.

Let’s say a hybrid version of a car costs $5,000 more than the conventional version.  The hybrid saves the average driver $500 per year as a result of lower gas costs, and it is expected to last for 15 years. The present value of the gas savings over all 15 years, at a five percent discount rate, is $5,449.  So, does the first owner have to keep the car for 15 years in order to realize those savings?

Well, let’s say the owner sold the car after just one year.  Would the selling price be the same as for the equivalent, one-year-old car with a conventional engine?  In other words, would that $5,000 price difference have disappeared already?  The answer should be obvious: the resale value would still be higher, since the car would have 14 years of savings left in it.  In fact, whenever the owner sold the hybrid car, it would always command a higher price than a conventionally powered car, because the value of the remaining savings would affect the price.

To gauge the value of an asset, you have to take into account all the benefit that the asset will generate for potential buyers.  This is a simple point – one of the simplest in economics – yet it was missing from Bunkley’s article.  Let’s hope the article doesn’t dissuade people from buying hybrid cars.  Even if the gas savings just trickle in, that doesn’t mean the cars are a bad investment.  Moreover, they’re always a winner for the environment.

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