In a recent speech titled “Cut Inflation Down,” Federal Reserve Vice Chairman Lael Brainerd cited the auto market as a real-world example of how much uncertainty looms over the outlook for rising prices. zoomed in on. corporate profits.
Many companies have been able to raise prices above their own costs over the past two years, boosting profitability but also exacerbating inflation. This is especially true for the automotive market.While dealers are paying manufacturers more for their inventory, they are charging customers even higher prices, cutting profits record high.
Dealers may pull it off because there are too few trucks and sedans in the midst of strong demand and disrupted parts supply. But in line with its aspirations for the economy as a whole, the Fed wants both sides of the equation to be on the brink of change.
“With production increasing and interest-sensitive demand cooling, there could soon be pressure to reduce vehicle margins and prices in order to increase the volume of cars produced from dealer lots,” Brainard said. There is,” he explained.
The Federal Reserve (Fed) is raising interest rates to make it more expensive to borrow for big purchases like cars, homes, and business expansion. The goal is to cool demand and slow the fastest inflation in 40 years. Getting it done without severely damaging the economy will depend on how easily companies can give up their big profits.
As demand dwindles, price gains could slow down without sacrificing many jobs if businesses start cutting prices to compete for customers. But if they try to keep big gains, the transition could be more difficult as the Federal Reserve will be forced to squeeze the economy more dramatically and keep demand tighter.
“There has been a big shift in bargaining power between consumers and businesses,” said Gennady Goldberg, senior U.S. rates strategist at TD Securities. there is.”
The example of the automotive industry provides reasons for hope, but also caution. While there are signs that used-car price increases are starting to slow as supply recovers, the process has stalled and the new-car market has a long way to go to declining profits to help keep inflation in check. It indicates that there is a possibility that
That’s because the three major forces affecting the broader economy are particularly evident in the automotive market. The supply chain has not fully recovered. Demand may be slowing, but it’s still strong. And companies, accustomed to setting high prices and making big profits, are reluctant to abandon them.
The automotive market is currently divided into two segments: new and used vehicles.
New car production has been disrupted and hobbled as the pandemic shut down factories making semiconductors and other components. According to dealers and dealers, freshly minted vehicles remain very few. dataand some industry experts say there won’t be a return to normal production levels for years due to continuing supply problems. still on the riseand dealer profits continue to climb sharply, with few signs of cracking.
What a Fed Rate Hike Means for You
Renter’s toll. The Federal Reserve has been raising the main interest rate, the Federal Funds Rate, in an attempt to keep inflation in check. By raising the rates banks charge each other for overnight loans, the Fed will create a ripple effect. Directly or indirectly, consumer borrowing costs will rise.
Ford Motor said Monday it will spend $1 billion more on parts than it planned in the third quarter because some components have become more expensive and harder to find.
By contrast, the supply of used cars, which had plummeted during the pandemic, has rebounded, with prices began to depreciate At the wholesale level where dealers buy inventory. So far, however, these dealers have not really passed on the money they save to consumers.General used car prices Stable That’s about $28,000, up 9% from a year ago, according to Cox Automotive data.formal used car inflation data Mitigating, but only slightly.
It’s a mystery why consumer used car prices, and dealer profits, take so long to stabilize. Cox Automotive Chief Economist Jonathan Smoke said dealers may be pricing based on what they paid for cars on their lot earlier this year when costs were higher. Stated.
“Dealers are feeling it,” Smoke said of the easing in prices. “But consumers haven’t seen a price cut yet because they’re pricing the car based on what they paid for it.”
Some early examples of discounts are emerging.and Buick and GMC At Beth Weaver’s dealership in Erie, Pennsylvania, demand for used cars is starting to slow and several vehicles are selling at a loss.
“We still have models that have been able to turn a profit, not as much as last year,” Weaver said.
Weaver-like behavior may spread. Still, the road to falling used car prices can be bumpy. Weaver said that with more coverage, there wouldn’t be a need to cut prices that much. She sells only locally and does not ship cars as a model for her business. But demand appears to be holding up better in urban areas and parts of the South.
Some dealers believe demand for used cars is still unmet after years of families struggling to find cars. I doubt the supply will surge because there are so few in the market.
“We price vehicles almost every day based on market dynamics,” said Bill Feinstein, who helps run Honda dealerships in New Jersey and New Hampshire that sell new and used vehicles. “Demand remains strong and consumers still appear relatively unscathed.”
But dealers and industry analysts agreed that the Fed’s interest rate hike could help change that.
The central bank has raised borrowing costs for the fastest time since the 1980s, and is expected to rise three-quarters of a percentage point for a third consecutive rise on Wednesday. As financing a car purchase becomes more expensive, price-sensitive car shoppers in the used car market may begin to set back more noticeably, forcing used car dealers to charge less.
But new cars may be a different story. This is because the supply and demand are out of balance.
Feinstein’s Honda dealership in New Jersey typically has between 50 and 100 new vehicles for sale. This is an improvement from the worst pandemic shortages, when only 5 or 6 cars were available at times, but it is small compared to our pre-pandemic inventory of 1,000 cars. increase.
“Everything shows that consumers were able to withstand higher rates,” Feinstein said.
John Murphy, an equity analyst at Bank of America who studies the auto industry, said the imbalance between supply and demand for new cars could persist through 2024 due to lingering parts and labor shortages. Stated. rolling lockdown in China.
The Fed could raise interest rates enough to drown out demand, but Murphy believes it will take a long time given how muted car-buying interest is. ing.
“We’re going to need to raise interest rates further than they’ve been, or even higher than expected,” he said. “There may be points where it hurts enough to pause if necessary.”
If demand continues to outpace new car supply and dealers continue to make huge profits, inflation could be tempered. If the mismatch is big enough for sellers to keep pushing prices up without losing customers, it could even continue to fuel inflation.
The auto market is just one industry, but the uncertainty of a return to normalcy offers some lessons for the Fed. For one, new car production clearly shows that disruptions in his supply chain are improving.
Hopefully, the auto industry can provide evidence that the laws of economics are likely to reassert themselves eventually. and experts say discounts are likely to be imminent. If so, it could be evidence that companies can’t keep prices and profits high indefinitely as supply catches up with demand.
However, the automotive sector is bolstering the outlook that the readjustment period could last for some time.
Automakers are toying with the idea of keeping production low so that there are fewer cars on the market and price cuts are less common. When it comes down to it, I’m skeptical they’ll keep the line, but the process could take months or years.
“It’s hard to say we’ll never cut prices again,” Mr. Smoke said. “But it will take time to return to the original world.”