Cox Automotive Commentary: Federal Reserve Raises Interest Rates

Earlier today, as widely expected, the Federal Reserve raised the official short-term rate policy by .25 points. This move by the Federal Reserve is seen by most economists as a signal the U.S. economy continues to grow at a strong pace. The Cox Automotive Industry Insights team is carefully monitoring federal interest rate activity, as tightening monetary policy is one factor that will likely keep U.S. auto sales in check this year.

Cox Automotive Senior Economist Charlie Chesbrough:

“The Federal Reserve has increased its Federal Funds Rate for the sixth time since 2015, the rate rising from near 0% to a 1.50-1.75% range, and these increases are impacting lending and borrowing costs across the U.S. economy. Rates on automotive loans are now near five-year highs.

The FED’s monetary policy tightening is impacting automotive loan interest rates, resulting in higher monthly payments and a bigger headwind for car buyers. Higher lending costs impact car buyers in different ways. For customers with good credit, the monthly payment on a $35K five-year loan will rise about $15 a month from a 1 percent interest rate increase. Lower credit consumers have already seen larger increases in their rates. Assuming a continuation of credit tightening, subprime borrowers will see much larger cost differences. Cox Automotive is expecting at least 3 increases from the FED in 2018, causing auto loans costs to rise further, making vehicle sales a little more difficult for everyone.

Buyers aren’t the only market participants effected. Manufactures and retailers are also impacted by higher interest rates. For OEM incentive spending, the cost of providing low interest rate loans goes up. For a $35K vehicle, providing ‘0-for-60’ at 2.9% vs 3.9% is a difference of over $900. And for dealerships, the cost of acquiring and maintaining inventory – floor planning – also rises, which shaves a little deeper into already tight profit margins. For suppliers, their own operating costs – often borrowing to finance vehicle program fulfillment – goes up. The automobile industry is cash intensive. Raising interest rates impact all corners of the business.

Although higher rates make the auto industry more expensive, gradual rate increases have been expected and should not cause a large decline in overall market demand. Buying conditions remain very strong, with high consumer confidence and low unemployment. Interest rate increases have been worked into the Cox Automotive new-car sales forecast, which remains unchanged at 16.7 million in 2018. Vehicle sales above that level will be driven by the OEMs themselves: How aggressive will they be in gaining or defending market share, with adjustments in their fleet-lease-incentive strategies their primary tools?”

If you would like to speak to Cox Automotive Chief Economist Jonathan Smoke, Senior Economist Charlie Chesbrough, or any of the analysts from the Industry Insights team, please contact us.