Devil in the middle

We keep hearing about "state franchise laws" that make it too costly for GM, say, to shut down its Pontiac division, but the reporters rarely if ever mention why.

Two years ago, James Surowiecki explained the history of auto dealers, car dealers, and state laws protecting the latter from the high-handedness of the former.

If automakers sometimes find dealers difficult to do business with, it’s entirely their own fault. Why, after all, have Ford and G.M. always sold their cars through independent dealers? They could have owned the dealerships themselves, with the salesmen being employees, much as Starbucks does today with its stores. Instead, they preferred to give dealers franchises, and work with them as partners. And, historically, the automakers were not good partners. In 1920, for instance, the U.S. economy went into a deep recession. But Henry Ford kept his factories running at full tilt, and forced thousands of Ford dealers around the country to buy new cars that they had little chance of selling. The dealers knew that if they said no they’d never see a Model T again, so they ate the inventory. A decade later, when the Great Depression hit, Ford and G.M. used the same strategy to help keep the production lines going. They turned their dealers into a cushion against hard times.

In the long term, this was a disastrous tactic, because it inspired mistrustful dealers to look to the government for help. (The first franchise law was passed in 1937.) Dealers recognized that much about their businesses was always going to be out of their control—automakers not only decide what cars get made but also dictate sales strategies and incentive plans. So they decided to protect what they could, using laws to insulate themselves from competition and from the risk of being dropped by the manufacturer. And that’s what has made life so hard for the automakers today.

The irony in all this is that G.M. and Ford adopted the dealer system because they thought it would make their lives easier. A dealer who owned his own business would work harder than a mere employee, the thinking went, and would not require a lot of outside monitoring. But the benefits that the car companies reaped from franchising cost them a lot in terms of control and flexibility. There are now many things that G.M. can’t do (like shut down Buick) that it could do easily if it owned its own dealers. Car companies might like to change this—in the late nineties, both G.M. and Ford tried to start buying up dealerships. But, at this point, the system is self-protecting; dealers revolted, state regulators started nosing about, and the automakers gave up. They made a devil’s bargain some eighty years ago, and now they’re stuck with it. Call it the revenge of the middleman.