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Consumers Love the ‘Clunker’ Deals, but Fallout Could Include Higher Prices

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By Jennifer Waters

RISMEDIA, August 5, 2009-(MCT)-The Cash for Clunkers program has been a favorite for consumers from the start, and the program’s popularity can be seen in the amount of consumers taking part in the program, causing for its funding to be eaten up within the programs first week. But consumers have embraced the “cash for clunkers” program, lending a big boost to car sales and perhaps setting the stage for a stronger rebound down the road.

But the stimulus may have some unintended consequences as well, skewing the mix of new- and used-car sales and driving up prices on the fuel-efficient vehicles most in demand as clunker replacements.

“The reality is this is a brilliant stimulus package,” said AutoNation Chief Executive Mike Jackson on the company’s second-quarter earnings call last week. “This is exactly what stimulus programs are supposed to do.” AutoNation is a network of new- and used-car dealers.

The $1 billion federal stimulus program, which provides payments of $3,500 or $4,500 for trade-ins of older, fuel-inefficient cars, kicked off July 24 and in just a week was in danger of running out of funding, forcing Congress to consider slapping another $2 billion into it.

The effect of the program was evident immediately, as carmakers reported better-than-expected July sales. Cash for clunkers was “icing on the cake” for the automakers reporting July sales, industry analyst Lincoln Merrihew of TNS Compete told MarketWatch Radio. “It’s not what’s driving all sales – that’s more a function of confidence – but it may be pulling some people into the market who would have bought later in the year or people who would not have been in the market at all,” he said. Merrihew says a more confident consumer had already started steering sales in the right direction when the popular government program kicked in. “And the news of better sales may in and of itself give consumers more confidence to buy cars,” he said.

At AutoNation, for example, traffic surged 35% in the first week of the program and the company is expecting a 10% year-over-year jump in new-car sales for July. Credit scores for clunkers buyers were “better than normal,” and the program did not hurt the company’s used-car business, according to Mike Maroone, AutoNation’s president.

Jeremy Anwyl, chief executive of Edmunds.com, the auto-buying-guide website, said consumers knew the clunker program was in the works and held off many car purchases waiting to jump on the deals. “We’ve seen three or four months’ worth of clunker activity compressed into a one-week period,” he said. But “what are we really accomplishing? We’re forking over $1 billion to get consumers to do something that they would likely do anyway. This isn’t signaling an economic recovery,” he added. In fact, he said, this “artificial boost” is leading to a shortage of cars. Plug in the laws of supply and demand and the result will be higher prices on cars.

Already the costs on some vehicles are inching up. AutoNation’s Jackson talked about “price recovery” with analysts, noting that trucks and SUVs are now getting sold for 25% higher than they did a year ago when the sharp hike in gas prices put a big dent in sales.

“We could see a buyer’s strike in October,” Anwyl said. “As car prices rise, consumers who have been buying pretty aggressively during the summer are just going to stop.”

The auto industry has seen a similar pattern before: In 2001, after the terrorist attacks, General Motors introduced 0% financing with the Keep America Rolling program. Four years later, GM offered consumers the same discounts it gave employees. Both times sales zoomed. But they have been weak for most of the last two years. Still, cash for clunkers proves American consumers will still respond to great deals and it may signal a pickup in broader spending down the line, one analyst said.

“As consumers, we’re deal happy,” said Michael Belcher, a marketing professor and consumer behavior expert at San Diego State University. “If people can afford to spend, they will on a good deal. From a psychological standpoint, it’s going to be a good boost,” said Belcher who believes this program might help consumers loosen up on the purse strings elsewhere. But it won’t sustain higher sales for long. “It is what it is – a promotion,” he said.

What’s more, Anwyl said that things could get worse because the auto industry has been cutting capacity this year by stopping production on certain models, closing down production plants and laying off tens of thousands of workers.

“This is not a fundamental recovery of the car business,” he added. “It’s an exaggeration of the normal seasonality.” Anwyl also thinks there’s another backlash from this. “Here’s the irony,” he said. “As pricing on fuel-efficient cars increases because of this artificially created shortage, then consumers who can’t participate are going to be influenced to buy less fuel-efficient cars” – the opposite of the cash for clunkers goal.

(c) 2009, MarketWatch.com Inc.
Distributed by McClatchy-Tribune Information Services.

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