Categorized | Finance

How Will the Auto Industry Fare After Central Bank Interest Rate Rise?

Posted on 26 July 2017 by admin

Perspective from Canadian Black Book on the July 12 Rate Hike and our Auto Industry’s Record Growth

Markham, Ontario, July 14, 2017 – On Wednesday July 12, Bank of Canada Governor Stephen Poloz announced a 0.25 per cent key interest rate increase, the first rise in rates in seven years.

How will this news affect the Canada’s auto business?

What most new vehicle buyers may assume, is that the cost of higher interest rates will get passed onto them today. It is actually unlikely in the short term, that that would be the case.

For the most part, manufacturer new vehicle incentive budgets will likely absorb the rate hike for consumers so that they can continue to advertise 0% or 0.9% or 1.9% for new cars. To keep things in perspective, on a $40,000 car loan a hike of 0.25% is only an extra $100 per year of interest.

All that said, if rates continue to climb, at some point the OEMs will have to pass along those costs to vehicle buyers, initially resulting in less cash incentives. This will then eventually raise monthly payment, all else being equal.

The bigger impact of a rate increase is its immediate effect on the strength of the Canadian dollar and what that will mean to the Canadian auto industry. Our more valuable dollar is of greater concern, for both the new and used vehicle market in Canada. The dollar has increased $0.06 since May, which is a significant climb. This could lead to a cooling of new vehicle sales and is expected to cause Canadian used vehicle prices to fall over time.

As the strength of our dollar had been declining since 2013, U.S. interest in Canadian used vehicles increased. Depending on who you ask, upwards of 200,000 vehicles have been being exported to the U.S. annually. U.S. buyers and/or Canadian exporters have been taking full advantage of a lower Canadian dollar and been moving vehicles across the border to sell at a higher price in the States versus here at home. This export demand has inflated our used car prices domestically.

As a result, Canadian consumers are being pulled out of their vehicle loans/leases early by dealers who are eager to sell the consumer’s current vehicle on the used market and put the consumer into a brand new one, often for the same or lower monthly payment. This “pull forward” activity is helping to drive record levels of new vehicle sales. This activity is also possibly due to higher used vehicle prices putting consumers into a positive equity position (owe less than the vehicle is worth) much sooner.

Given that the domestic supply of U.S. used vehicles is up by about 500,000 more off lease units versus past years, U.S. used prices are falling. The Black Book (USA) Price Index is showing a ten per cent decline since last year, which is significant. The U.S. vehicle market is bracing for a large downward adjustment in used prices. Add in a stronger Canadian dollar, driving up acquisition costs and there will be less demand in the U.S. for Canadian used vehicles

At some point soon, the rising Canadian dollar and falling U.S. used vehicle prices will make it unattractive for U.S. buyers to purchase Canadian inventory in such large volumes. The impact to the Canadian auto industry will be a slowdown of “pull forward” activity, as it won’t make economic sense to pull as many consumers out of their vehicles early because they won’t command such high prices on the used market. Canadian Black Book expects that a $0.85 dollar is around the tipping point for U.S. exports to significantly slow.

On the positive side, Canadian used vehicle shoppers and used vehicle dealers will be rewarded with better deals in the market compared to what they have seen over the last few years.

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