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Why cash for clunkers will have a very negative effect on the auto industry very soon!



October 04, 2009 – Comments (7)

I actually thought that "cash for clunkers" was a very good idea when I first heard about the plan. I originally only heard that it was a plan to give the consumer $4500 for buying a car with better gas mileage.

That wore off rather quickly when I found out that it wasn't on top off the trade in value for the car and you had to buy a new car to participate.

So effectively what we did is to target the guy that had a car with very little value. I have no problem with that part, as that guy needs more help than anybody! If we continued to focus on helping the little guy with things like getting him a dependable car so he doesn't lose his job, I'm all for it! But instead of helping the little guy, we actually hurt him. We forced him to go out and buy a new car! So now we have a guy that has even more debt than he had before.

In a lot of these cases, this may be the guy's first new car, so he goes to the car dealership and faces a salesman that knows that he pretty much already has a deal because 3rd party financing will most likely approve a deal with a down payment that is 25% to 35% of the cars value. The salesman's only job is to focus on trying to sell him the most expensive car that he qualifies for, so he gets a better commission This guy is now getting told that yes he can buy a nice car when before he was turned down for the the cheapest new car on the lot. Hopefully the little guy focuses on keeping that payment as low as possible, because with 3rd party financing he is paying credit card type interest. So they have a deal and the only thing stopping the little guy is that he needs to get the car fully insured so he can drive it off the lot. So the little guy calls his insurance company. About 99% of insurance companies use credit as a big rating factor. The little guy was already paying more for his insurance than people with good credit, but he didn't notice it as much because he just had liability and only enough to be legal with the state. His insurance payment will at least double and maybe triple, even if he has a good driving record. In the best case scenario, he is probably looking at at least $500 more a month in payments for his car and insurance.

OK, so it seems like the dealer made out like a bandit in this deal, but not so fast! The dealer shot himself in the foot and doesn't realize it yet. Remember when gas was $4.00 a gallon? Well in response to that dealerships were requesting more fuel efficient vehicles from the auto makers. The auto companies did respond, but it took a while. It's very hard for the auto industry to ramp up and slow down production of any particular model. It involves major machinery changes and a retraining of labor. By the time that the industry put more efficient vehicles on the market, the price of gas fell. The dealers were flooded with efficient models and low on less efficeint models. The auto makers were already re-tooling to produce the less efficient models again. Then the "cash for clunkers" hits. Dealerships sold a lot of cars and now need a more balanced inventory from the auto makers, but more than anything, they need cars to sell! The industry has to respond by trying to ramp up fuel efficient car production, but leaving the production of other models at the same high levels. They have to get cars on the lots or they will lose sales to lots that have better choices. The important thing here is that most of these cars being produced will not sell and I'll explain more in the next paragraph.

It's the economy stupid! People without jobs will not buy cars and the jobless rate continues to rise. A lot of the clunker buyers are going to default on their loans and those 3rd party lenders will be selling a lot of low mileage used cars to compete with the new cars from the auto industry at a time that the industry is ramping u production to replenish stock. If we have a spike in oil, it will only get worse, because the clunkers cars were at least more efficient than average and they will compete against a balanced offering from the industry in the long term, and a less efficient offering in the short term.

If you are thinking of buying any US auto maker, I would suggest a "wait and see" approach.

7 Comments – Post Your Own

#1) On October 04, 2009 at 12:30 AM, TDRH (96.84) wrote:

Nice post.   On top of that how much potential qualified demand was "pulled forward"?  The problem in this economy with housing and automobiles is a lack of "qualified demand".  The contraction we are experience is a natural result tightening of lending standards.   Median income has been stagnant for years, yet prices/cost of living continue to rise.  Without the loose lending standards of the previous 3-5 years there is not enough qualified demand for the current capacity.

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#2) On October 04, 2009 at 1:04 AM, NOTvuffett (< 20) wrote:

Great post Chris.  Mostly demand for cars just artificially shifted to the time the program was in place.

The really hideous thing about this program is that they require you to destroy the engine by putting a sodium silicate solution into it until it seizes.  My company sells to all kinds of manufacturers, including those which rebuild automotive parts.  Who do they think most of these rebuilt engines go to?  It is the working man that needs to keep his car on the road because he can't afford a new car.

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#3) On October 04, 2009 at 9:59 AM, alstry (< 20) wrote:

Nice Job....

I think the world will be shocked on how small the "pull forward" effect will be...

All we did was take a bunch of citizens who didn't have debt on their vehicles and stick them with a payment they couldn't afford.  Instead of pulling forward demand....we stimulated demand to a population group that otherwise couldn't and likely shouldn't have purchased a new vehicle.

If my theory is correct, October sales should be even worse than September......confirming that the slowdown is exacerbating and very little to do with pulling forward demand.

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#4) On October 04, 2009 at 10:02 AM, SolarisKing (< 20) wrote:

I told all of you many time. . .

C4C was STUPID. 

What a complete waste of time and money. The only folks who did CforC were folks who either  Could afford a car, or folks who couldn't afford a car.
   Those that could afford it just got a free ride. Those that couldn't afford it got set up.

It was just another way to send a billion dollars through the warp to your rich buddies. A bailout for the car makers and bankers.

NOBODY I KNOW QUALIFIED!. our cars are all pre 84 ! NOBODY I KNOW! 

If i can't afford a $4k car, then giving me 4k off a 30k car is not real help.

I can barely believe i took the time to respond to this obviously dead and dumb issue. Sheesh.


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#5) On October 04, 2009 at 10:22 AM, GenericInvestor (72.05) wrote:

I got a brand new car for 8.9k. And my loan is 3.9% interest.


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#6) On October 04, 2009 at 12:34 PM, cbwang888 (25.61) wrote:

It helps banks. More debts, more interests will be earned. It helps Japanese car makers more than our domestic ones.

Once the stimulus stops, the reality comes back.

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#7) On October 05, 2009 at 12:07 AM, devoish (70.17) wrote:

When, when, when will banks learn not to lend money to people who cannot pay it back.

How is it people with bad credit can get a loan after the last two years? Are all bankers idiots?

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