Tesla, Dealer Franchise Laws, and the Politics of Crony Capitalism

• Author: Daniel A. Crane
• Position: Associate Dean for Faculty and Research and Frederick Paul Furth, Sr. Professor of Law, University of Michigan
• Pages: 573-607

573

Tesla, Dealer Franchise Laws, and the

Politics of Crony Capitalism

Daniel A. Crane

I. INTRODUCTION ............................................................................. 574

II. THE ANATOMY OF DEALER PROTECTIONISM ................................ 577

A. A BRIEF HISTORY OF DEALER FRANCHISE LAWS ........................ 577

B. TESLA’S DIRECT DISTRIBUTION STRATEGY ................................ 579

C. THE TESLA WARS .................................................................... 582

1. A Potpourri of Laws, Compromises, and

Gamesmanship .............................................................. 583

2. The Big Three’s Cautious Waiting Game .................... 589

III. POLICY ARGUMENTS ...................................................................... 591

A. VERTICAL INTEGRATION: GENERAL CONSIDERATIONS ............... 591

B. THE DEALERS’ FRAIL ARGUMENTS FOR PROHIBITING PURE DIRECT

DISTRIBUTION ......................................................................... 593

1. Breaking the Manufacturer’s “Retail Monopoly” ....... 593

2. Assuring Adequate Levels of After-Market Service ..... 596

3. Complying with State Regulatory Requirements ........ 598

4. Ensuring Vehicle Safety ................................................ 598

5. Dealers as Uniquely Virtuous Local Citizens ............... 599

 Associate Dean for Faculty and Research and Frederick Paul Furth, Senior Professor of

Law, University of Michigan. I am grateful for many invaluable conversations with individuals at

Tesla Motors during the preparation of this Article and for helpful comments by Allan Afuah,

John Connor, Doug Ginsburg, Barak Richman, Danny Sokol, Abe Wickelgren, and various

participants in a workshop at the University of Michigan Law School. The views expressed in this

Article are solely my own.

574 IOWA LAW REVIEW [Vol. 101:573

IV. THE LAW AND POLITICS OF THE TESLA WARS ............................... 601

A. LOCHNER’S LONG SHADOW AND THE FRAILTY OF JUDICIAL

REVIEW ................................................................................... 601

B. A NEW ANTI-PROTECTIONIST POLITICS? .................................. 605

V. CONCLUSION ................................................................................ 607

I. INTRODUCTION

Public choice theory has long proclaimed that business interests can

capture regulatory processes to generate economic rents at the expense of

consumers.1 Such political exploitation may go unnoticed and unchallenged

for long time periods because, though the rents are captured by a relatively

small number of individuals or firms, the costs are widely diffused over a large

number of consumers.2 The triggering event to expose and mobilize

opposition to the regulatory capture may not arise until a new technology

seeks to challenge the incumbent technology, thus creating a motivated

champion to expose and oppose the regulatory capture and advocate for

regulatory liberalization.

That moment has arrived in the automobile industry. Since the 1950s,

the distribution of automobiles has been pervasively regulated by a patchwork

of state laws promulgated at the insistence of dealers for the ostensible

purpose of preventing unfair exploitation by franchising car manufacturers.3

Among other things, the dealer laws in many states prohibit a manufacturer

from opening its own showrooms or service centers—from dealing directly

with consumers.4 At the time these direct distribution prohibitions were

enacted, the Big Three auto manufacturers (Ford, General Motors, and

Chrysler) completely dominated the U.S. car market, and the dealers argued

1. See, e.g., KENNETH J. ARROW, SOCIAL CHOICE AND INDIVIDUAL VALUES (2d ed. 1963);

JAMES M. BUCHANAN & GORDON TULLOCK, THE CALCULUS OF CONSENT: LOGICAL FOUNDATIONS

OF CONSTITUTIONAL DEMOCRACY (Charles K. Rowley ed., Liberty Fund 2004) (1962); ANTHONY

DOWNS, AN ECONOMIC THEORY OF DEMOCRACY (1957); MANCUR OLSON JR., THE LOGIC OF

COLLECTIVE ACTION: PUBLIC GOODS AND THE THEORY OF GROUPS (1965).

2. James D. Gwartney & Richard E. Wagner, Public Choice and the Conduct of Representative

Government, in PUBLIC CHOICE AND CONSTITUTIONAL ECONOMICS 3, 11–12 (James D. Gwartney &

Richard E. Wagner eds., 1988) (describing “rational ignorance”); MICHAEL T. HAYES, LOBBYISTS

AND LEGISLATORS: A THEORY OF POLITICAL MARKETS 90 (1981) (arguing that concentrated

interests are more likely to generate political and lobbying activity by organized groups than when

interests are diffuse); Robert D. Tollison, Public Choice and Legislation, 74 VA. L. REV. 339, 367

(1988). See generally Sam Peltzman, Toward a More General Theory of Regulation, 19 J.L. & ECON. 211

(1976).

3. Jessica Higashiyama, State Automobile Dealer Franchise Laws: Hav e They Become the

Proverbial Snake in the Grass? 2–4 (Apr. 2009) (unpublished manuscript), http://ssrn.com/

abstract=1394877.

4. Id. at 12.

2016] TESLA, DEALER FRANCHISE LAWS, AND POLITICS 575

that they were unable to contractually protect themselves against a franchising

manufacturer unfairly undermining its own franchised dealers at retail.5

Though the U.S. auto market has become considerably more competitive

since the direct distribution prohibitions were enacted, hence diminishing

any power the manufacturers might have to impose draconian contractual

terms, the laws have persisted largely without modification.

The challenge to the status quo has come from the abrupt market entry

of a redoubtable technological challenger to the internal combustion status

quo. In 2012, Palo Alto, California-based Tesla Motors began selling all-

electric vehicles. Tesla, the offspring of entrepreneur Elon Musk—who also

created the online payment service PayPal and the space exploration

company SpaceX—quickly won accolades for its disruptive technology.

Consumer Reports went so far as to call the Tesla Model S the best performing

car of any kind it had ever tested.6 Yet Tesla’s greatest market entry challenge

has not been solving the technological problems of creating a battery than

can run for nearly the fuel range of a typical car or the battery swapping and

supercharging infrastructure necessary to grant Tesla drivers recharging

access comparable to filling stations. Rather, its greatest challenge has been

to obtain the legal right to distribute its cars directly to consumers and to

provide aftermarket service to Tesla owners. Across the country, the car

dealers’ lobby—often with the support of the legacy car companies—has

invoked either the old dealer laws or obtained legislative extensions of them

to block Tesla’s progress. Tesla is fighting a multi-state, multi-front battle in

state legislatures, regulatory commissions, and courts just for the right to

distribute and service its products.

The Tesla story is important on its own terms because of its implications

for innovation in the automotive industry, the dissemination of

environmentally friendly technologies, and energy independence. But it is

also emblematic of a broader problem of economic regulation and frail legal

response—the lack of robust legal tools for the courts to tackle protectionist

or otherwise anti-consumer regulations designed solely to benefit

concentrated economic interests. In the post-Lochner era, courts have been

reluctant to subject protectionist state regulatory schemes to intrusive judicial

review under any legal framework—whether antitrust law, the Dormant

Commerce Clause, Substantive Due Process, or Equal Protection. Only

recently have a few federal courts begun to show some willingness to invalidate

the most egregiously anti-competitive state regulatory schemes as instances of

5. Id. at 1–4.

6. Videos: Cars, CONSUMER REPORTS, http://www.consumerreports.org/cro/video-hub/cars/

hybrids—alternative-fuel/tesla-model-s-20132015-quick-drive/14786539001/2366240882001 (last

visited Nov. 14, 2015) (“The Tesla Model S electric car is the best performing car ever tested by

Consumer Reports.”).