For people who purport to be skeptical of normative analysis, economists are awfully fond of morality tales. One of our favourites is The Legend of the Auto Quota.
Once upon a time, the US imposed a quota on imports of Japanese automobiles. Japanese automakers responded by upgrading; packing every car they sold full of features. Thus the quotas, designed to protect the American auto industry, had an unintended consequence: they pushed Japanese auto makers into manufacturing high quality mid-range and luxury vehicles. The rest is history.
The story is a staple of economics textsbooks (for example, this one and this one and this one), because it illustrates economists' favourite moral: any attempt to interfere with markets will come back to haunt you.
But is it really true?
The evidence that auto quotas caused upgrading comes from a classic QJE article by Robert Feenstra, ungated here. In it he shows that Japanese cars gained weight, width, height and horsepower around the period when the 1981 auto quotas were imposed, and added on features like automatic or five-speed transmissions, air conditioning, and power steering.
I wanted more specifics, so I asked auto guru Nick Rowe - exactly what features were added after the quotas, and in which models? He sent me this link, complete with photos and video clip:
There's only one problem: these links show that upgraded features like power steering and five-speed engines were introduced before the import quotas were imposed in 1981. This is consistent with Feenstra's results, which shows that the biggest increases in the quality of Japanese automobiles happened in the 1981 (7.6 percent quality improvement) and 1982 (7.0 percent improvement) model years.
But the 1981 model year went on the market in the summer of 1980; the 1982 model year went on the market in the summer of 1981. The quota was imposed in April, 1981. There is no way that the 1981 quality upgrades could be a response to the quota; even attributing the 1982 upgrades to the quota is somewhat problematic. Feenstra acknowledges this point in footnote (p. 143) saying "In attributing the 1980-1981 quality upgrading to the trade restraint, we are supposing that Japanese producers anticipated the quota."
That's possible. It's also possible that innovations in engine design were a response to the emission regulations Japan enacted in the 1970s, and that increased vehicle size was a response to the decline in real oil prices throughout the 1980s. The introduction of the Honda Accord five years before the quota was imposed and the Lexus and other lines several years afterwards suggests that quality upgrades were part of a long-term plan by Japanese auto-makers to penetrate every segment of the American car market.
Do I believe that, faced with import restrictions, Japanese auto manufacturers filled their freighters with more Honda Accords and fewer Honda Civics? Yes. Do I believe that taking into account quality adjustments is important when estimating the welfare loss due to import quotas? Yes.
But do I believe that the story told in Nick Wilkinson's Managerial Economics textbook, that "Japanese firms redesigned their cars to make them more luxurious and expensive." No. The technological innovation was happening anyways, as was the pursuit of the higher-end market.
A rework of Feenstra's original analysis using modern regression discontinuity analysis techniques might be one way of getting at the truth behind The Legend of the Auto Quota, as would a more institutional approach, that looked at the process of model design in Japanese auto manufacturers. I suspect that such an analysis would find that the real story of the auto quotas is a lot more mundane than managerial economics textbooks make it out to be.