Could it lead to a bubble?
A new report from accounting giant KPMG says yes. Americans who bought used cars during the current price hike could find themselves driving an asset for less than they owed it. If the bubble bursts, trade values could collapse.
KPMG built its report, in part, using data from parent company Kelley Blue Book Cox Automotive.
How did we get here
A perfect storm of factors combined to quickly heat up the used car market in 2021.
The worst of the economic slowdown caused by the COVID-19 pandemic is beginning to recede. Americans were vaccinated. Government assistance has helped many off the bills and start shopping again.
Americans nervous about public transportation during a global pandemic have been buying cars.
But the automakers had a few new cars to sell. A worldwide shortage of microchips has caused the auto industry to make fewer cars than planned. KPMG notes that “in the third quarter of 2021, production of new cars decreased to about 12 million units per year,” while it would have been 17 million had it not been for the collision of several crises.
That drove up new car prices—the average new car sold for more than $46,000 in November, a 13% increase in just one year. The high prices of new cars pushed many shoppers to the used car market.
But the used car market was shaken by its own wave – going back many years. Automakers scaled back production for several years after the 2008 recession. That left fewer older used car dealers with miles selling for less than $10,000. The used car market has seen an inflation that has made new car prices seem modest, with more buyers but few modern cars that are very expensive.
In November, the average used car sold for more than $27,000—a 27% increase in just one year and 41% above the pre-pandemic average two years ago.
What could happen next
“History tells us that the current frenzy in the used car market will end,” says KPMG. As the microchip shortage and other supply chain problems recede, “the mega car manufacturing machine will go back to high speed, and a lot of dealerships will be full again. When that happens, the used car market could collapse.”
If the normal relationship between new and used car prices is restored, says KPMG, “that would mean a decrease in used car prices of about 30% from what they are today.” The decline may be less dramatic if inflation continues.
What does that mean for drivers
Among the implications of this decline, KPMG says:
- By the end of 2021, about 17 million consumers – the equivalent of an entire year’s sales – will own hugely expensive used cars. This number is growing with nearly two million used car buyers each month.
- More than half of these expensive vehicles are financed, posing a potential risk to lenders and investors in the $1.4 trillion auto loan business. Moreover, these buyers will have little, or none at all, equity in their cars, which makes future car purchases unaffordable.
KPMG analysts can’t say when prices will start to fall, noting that inflation may stay with us for a long time. The current political situation makes it difficult to predict government solutions.
The report identifies four potential used-car price paths. They all show a rebalancing between October 2022 and October 2023, which could leave millions of Americans upside down on used car loans.
“We expect the market to expect a shift in the state of new car supply early and to start re-pricing used cars before new car parts fill up and demand for used cars returns to normal,” the report notes.
Related Topics: Is it time to buy, sell or trade in a used car?
There is a bit of good news for shoppers in expectations. We note that the average life of a vehicle on American roads is over 12 years now. Many who have bought second-hand cars of late model may keep them long enough so that the collapse in trade value does not affect them too much.
But, if you can, it’s still a good time to fix up your current car and keep it running until prices stabilize.