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Wednesday, September 14, 2011

Can an Automaker Incentive Battle Goose the Economy?

David Ruggles
As the economy wallows in the doldrums, is there any cause for optimism? The outcome of the European debt crisis is still unknown, and we know how markets despise uncertainty. There are still plenty of uncertainties associated with the so called “Arab Spring” uprisings in the Middle East, and those could be with us for a while. While fuel prices have somewhat moderated, they remain high. The country’s credit rating took an unnecessary hit, although plenty of money seems to still be seeking to buy our debt. When the Dow fell dramatically after the downgrade of our credit rating, much of the money that left equities found its way into our “downgraded” Treasury bonds. Either the European debt crisis or our government being hamstrung by ideologues has sent the Dow on a downer after the debt ceiling crisis “semi resolution.” The 12-member “Super Congress” still has an important job to do, and there is additional uncertainty attached to that, that will take weeks to resolve.
The economic recovery that seemed so promising 10 months ago has stalled. Real estate prices continue to drop in many markets with many foreclosed properties not even listed to lessen the perception of burgeoning inventories of distressed merchandise. In Las Vegas a realtor friend mentioned that 50% of her deals these days are cash, as many properties don’t qualify for a certificate of occupancy and can’t meet standards for a mortgage. Only 20% of real estate market sales are “conventional sales,” she says. To put this in perspective, previous Federal Reserve Chairman Alan Greenspan says we shouldn’t expect any kind of robust recovery until home values rise at least 10%. His comment was made in an interview before values retreated another 5%.
Unemployment has plateaued at about 9%, with under-employment and fear of unemployment stifling consumers’ will and ability to buy. The President’s new jobs plan has been met with a collective yawn by Congressional Republicans. It is yet to be determined if can even pass, let alone actually make an impact if passed. The first stimulus package of the Administration managed to stem job loss of 780,000 per month, but did not achieve its stated goal of keeping unemployment below 8%. Despite stemming the job loss, the word “failure” is bandied about in political circles. As it turns out, the initial calculations of how much stimulus might be needed were based on preliminary numbers, which showed the economy contracted 3.8% in the last quarter of 2008. Once all the numbers were in, the real numbers showed a 6.2% retraction in that quarter. It turns out that to do the job promised, Paul Krugman, Nobel Prize-winning economist and New York Times columnist was correct, the stimulus needed to have been twice as large. Regardless, we are where we are, the original stimulus has exhausted its funds, the economy is stagnant, domestic auto stocks have tanked, and recovery has been stopped in its tracks.
This economic downturn isn’t like our previous ones. This one was caused by a financial crisis, with a near-collapse of the financial system averted at the last minute by government intervention. In my own business career, I recall the auto business being a major player in dragging the country out of economic stagnation. In late 1971, Pres. Richard Nixon repealed the excise tax on automobiles, touching off a spurt of business that pulled the economy out of stagnation and carried us forward to the first 10 million unit sales year in 1973. That momentum was halted in late 1973 by the OPEC oil embargo, fuel price spikes, and the associated economic downturn. Chrysler and Joe Garagiola helped pull us out of that one in 1975 with the “Buy a Car, Get a Check” promo. We then went through the Iranian hostage crisis in 1979, another spike in fuel prices, inflation, and the recession associated with the Carter/Reagan era and the first Chrysler bailout. Chrysler’s resurgence helped lead the economy out of the depths. In the past 10 years, GM led the industry and the economy out of the doldrums caused by the Sept. 11 attack with “Keep America Rolling” and 0% interest. That was followed by the “Employee Purchase Plan.”
This time around, we experienced the recession, the near insolvency of the banking system, a real estate crisis of epic proportions, and one that stubbornly hangs on, the temporary disappearance of financing of all kinds, bankruptcies of two of the three domestic automakers, and unthinkable job loss. After the restructuring of the auto industry, and a less than perfect “Cash for Clunkers” program, and a brief period of revival, any forward momentum has stalled.
Currently, new vehicle inventories are low. This isn’t a particularly abnormal situation for this time of year, as it is typical for dealers to clear out previous year’s stock to make room for the new model year’s models. But Japanese manufacturers, in particular, have lost ground against their competition because of the supply interruption caused by the tragic Japanese earthquake and tsunami. And they want their marketshare back. According to Kelly Blue Book, Japanese brands were approaching 40% of the U.S. market. Bus since April, that share has fallen to about 30%. Most SAAR projections are running behind pace, including my own. People are talking about an incentive battle from now through the end of the year. As Japanese brands gear up, domestics are expected to respond. And the domestics now have a much lower breakeven point than before their restructuring.
Incentive wars usually drive down used-vehicle values. But we have been experiencing an acute pre-owned inventory shortage. Dealers would welcome some relief.
Rental fleet replenishment is still in long-cycle mode. Wouldn’t it be nice to rent a vehicle again with less than 25,000 miles on it, riding on smooth tires? Can a case be made for a production orgy and short cycling of rental vehicles for a period of time as we had in the 1990s? For all the negativity attached to “push-marketing,” could this be an ideal time for it? The idea of manufacturing plants running at full capacity, paying overtime and adding shifts, and the trickle down through the supplier base and the financing community sounds pretty good right now. And the market could use a supply of low mile pre-owned units. Customers of Hertz, Avis, Dollar/Thrifty, etc., would be happy. And perhaps the auto industry could help touch off recovery like it has in the past.
David Ruggles has spent his career in every phase of the retail side of the auto business, new and used, sales and management, including consulting and training in both the U.S. & Japan. Ruggles has been a dealer for Mercedes-Benz, Chrysler, Dodge, GMC, Ford, Mazda, and Subaru, and has consulted for one of the world’s largest privately owned Toyota dealer groups located in Japan. He blogs at autosandeconomics.blogspot.com and writes regular columns for several publications.