Thanks to sky high gasoline prices, most people are reeling from the cost of driving their cars. But that was just the first jolt. Now we're going to see a big jump in the cost of buying cars, both new and used.Why am I so sure car prices are going up? Easy. All you have to do is look at the cost of the materials needed to make a car.
John McElroy is host of the TV program "Autoline Detroit". Every week he brings his unique insights as an auto industry insider to Autoblog readers. Follow the jump to continue reading this week's editorial.
Let me give you an example. Steel is by far the most common material used in today's vehicles. It takes nearly a ton of steel to manufacture the average car.
Well, to make steel you need iron ore. Over the last decade three companies have pretty much cornered the global market for iron ore. Almost all of the major integrated steelmakers in the world have to buy their iron ore from BHP of Australia, Vale of Brazil and Rio Tinto, which is headquartered in London.
Last year the iron ore cartel decided it would be a nice time to raise the price of iron ore by 30%. And then earlier this year they decided it would be even nicer to raise prices another 70% on top of that. As a result, steel prices are soaring. They've gone up so much, so fast, that a ton of scrap steel now sells for more than a coil of finished steel did a year ago. That also hurts the mini-mills because scrap is the raw material they use to make new steel.
So how come car prices haven't skyrocketed along with that? First of all, there's so much competition out there it's hard for any automaker to boost the price of its vehicles. Amazingly, the Bureau of Economic Analysis reports that cars have never been cheaper. They measure prices in terms of the number of weeks of income the median household needs to buy one. Last year it took the median household (with a combined income of $75,000) a little over 16 weeks to buy a new car. That compares to 21 weeks in 1967 (median household income was $8,000), which is when the BEA first started doing this comparison.
But another reason that car prices haven't skyrocketed yet is because automakers protected themselves by locking into long-term contracts with the steel producers. However, those long-term contracts are starting to run out.
And the same sort of scenario is playing out with every other material that goes into making cars. You name it-copper, zinc, aluminum, platinum, magnesium-they're all soaring in price. And because oil is soaring, so too are the prices for plastics.
Wait! It gets worse! Skyrocketing commodity prices couldn't come at a worse time for the car companies. They're under the gun to boost fuel economy and cut CO2, and that's going to require expensive technology to achieve. Put the two together and my guess is that the average MSRP in the American market is going to come close to $40,000 in just a few years.
Will the average household be able to keep up with that kind of price hike? No way. And that means they're going to hold onto their old cars longer, which is why used car prices will go up, too.
It's all about supply and demand. Fewer new cars ultimately translate into fewer used ones. And with people holding onto their old ones there will be fewer used cars available for sale. Like I said, up goes the price.
Back in the early 1990s when it took 24 weeks of income to buy a new car you heard people complaining about "sticker shock." I think we're about to start hearing that term used again.
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Reader Comments (Page 1 of 2)
Vincenzo @ May 29th 2008 4:38PM
It's not the prices that are soaring, it's the Dollar that is rolling down.
nataku83 @ May 29th 2008 4:51PM
I think its a bit of both. Even before the economy faltered and the dollar started plummeting last year prices for scrap were way up. Emerging countries are increasing the quantities of raw materials they purchase at an exponential rate. It sounds to me like this is a good time to start stockpiling cars!
Luis @ May 30th 2008 1:40PM
My almost-paid-off Accord is looking even better each day...
bruno @ Jun 15th 2008 7:45PM
Spot on. The column's writer really doesn't "get" economics. The "cartel" can't just "decide" to raise iron ore prices. If so, why did they keep them low so long? Their sense of charity?
There are more dollars chasing the same amount of goods. That's inflation, not cartels. With fewer dollars around in the past, prices had to stay low enough for people to buy. Now that there are more dollars, the higher price is still acceptable.
Soccer Mom @ May 29th 2008 4:44PM
That will be nice. Bring up quality small cars.
IK47 @ May 29th 2008 4:48PM
I predict that the cost of used cars will come crashing down
they are already low as it is
pmiddle5 @ May 29th 2008 6:53PM
prices of anything not fuel efficient atleast
emre.aydinceren @ May 29th 2008 4:56PM
It sounds so good when saying income of $75,000 can buy a car in 16 weeks. I bet, this is a world there are no taxes on income.
It is as if calculating acceleration of a speeding train in a vacuum environment.
MachinaDC5 @ May 29th 2008 4:57PM
This just in, John McElroy discovers inflation and market trends.
Bing Bing @ May 29th 2008 5:00PM
If the cost of gas is going through the roof and consumers are bitching about paying that cost why would they go spend even more money on a new car. That's retarded I will buy a 70% deprecated rig before I bought something new.
Dan @ May 29th 2008 5:02PM
Don't forget the ever increasing list of mandated content.
(ESC, TPMS, eleventy five airbags with seat sensors, child proof windows, backup cameras, etc.)
UH2L @ May 29th 2008 5:02PM
The devaluation of the dollar plays part of it but I think the real commodity prices as John mentions are the true reasons for prices to skyrocket. The manufacturers will increasingly have to turn to cheaper recycled materials. If the dollar falls any further, then imported cars will cost even more.
I may just sell my car sooner to buy a new one before the prices really soar. But then if I wait, more fuel efficient alternatives will come out. Hmmm. That makes the best timing difficult to figure out.
And based on what John says, maybe I should hold onto my used car since the value will go up. I've heard entry-lux and lux cars' resales values are in the dumpster right now.
mk @ May 29th 2008 5:03PM
Indeed de-valuation of the dollar.
But it is also getting more expensive for the energy, materials, and shipping of materials to make cars.
That will drive up the price of new cars over time.
new car prices rising does two things. indicates inflation, first of all, and drags up used car prices behind it, secondly.
But it is also somewhat countered by the fact that cars have a lot more elasticity of demand than fuel does. As gas prices cost more. they take precedence over a new, higher car payment. It is cheaper to feed an existing car expensive gas, than to feed a more expensive car a bit less quantity of expensive gas.
So, demand will also fall, as the prices rise, what demand remains will somewhat shift to used cars, making them more scarce, and demand higher prices than before.
and more people will drive the wheels off of what they have, rather than buying a different car.
It is going to hit new car manufacturers and suppliers hardest. Their cost are going up, and their sales are going to go way down.
Some used car vendors might see a modest increase, and can probably get more money, of which each dollar buys less other goods... so it comes out in the wash.
and a lot of people will be in a personal budget pinch, as every other product in the market does the same thing, varying by necessity of the product, and price of the product.
the most neccessary, and least expensive things will see the least change. Basic things like food staples, and gasoline might fit here, but a true staple will be purchased even if it does become expensive.
Unneccesary, and not expensive things will see a decline as more necessary items get those dollars. Higher demand elasticity. Trinkets, baubles, and little indulgences fit here. People psychologically will satiate themselves with a few of these things, though, if they are really inexpensive. It is consumerist behavior. Buying things makes people feel less bound by the drudgery of expenses.
Expensive, but necessary things will see little change, but a lot of complaints. things like staples, gasoline, milk and other groceries can be included here, because they are expensive per unit of use or volume. No or very little elasticity.
Some demand for big ticket items, like cars, homes, and other capital investments that cannot be avoided are the big items in this category, but will be more likely to be stripped to the bare minimum requirements, rather than previously more extravagant choices. A car that is a bargain, rather than fully loaded, for instance.
Expensive and unneccesary luxuries are going to see HUGE declines in demand. These are the most elastic products in the economy. Things like unneccesary home improvements and decoration, vacations and tourism, and other luxury items here. New cars fit here for some people.
These are the standard economics of a recessionary economy. It may show 1% consumer spending growth, but when factored that real inflation (not government's Urban Inflation Index that factors out food and fuel) is probably in the neighborhood of 10% annual rate, and accelerating... a 1% growth is still on the negative slide.
Travis @ May 29th 2008 5:16PM
ummmm, where did you get the median home income of $75k? right now the median household income is around $50k (in '06 it was $48,201 according to the US census bureau)
http://en.wikipedia.org/wiki/Household_income_in_the_United_States
and the median price of a car in '07 was $27,000.
http://www.bankrate.com/brm/news/car-advice/20070407_driving_dollars__a1.asp
that equals 29 weeks income for the median family to buy the median priced car. yes, the people on the lower end of the spectrum aren't buying new cars, but it shows you how car and home prices have spiraled out of control while wages haven't kept up. If I were the auto industry I'd be a lot more worried about people having no credit and not being able to tap into the equity of their homes than any increase in commodity prices...
UH2L @ May 29th 2008 5:20PM
Tata Nano to the rescue! Affordable motoring for everyone.
srivendel @ May 29th 2008 5:28PM
$40,000 average transaction price in just a few years? What kind of delusional idiocy is this? Cars aren't gasoline, John. Supply and demand for gas are quite inflexible. It's the exact opposite for new cars, which are almost always a discretionary purchase. Many people will just stop buying new cars if they get too expensive.
Manufacturers will be limited in what they can charge due to demand for their products. What we will see is more of a European-style market where small cars become more premium and large cars become the domain of the wealthy few.
People won't buy a $40,000 Accord, John. They'll just buy a $22,000 Fit instead.
David(Postal) @ May 29th 2008 5:28PM
The whole economy is going down the pooper. I don't know how we will all stay afloat
George @ May 29th 2008 5:37PM
I'd like to believe your predictions, John, but every journalist I've read in the past has turned out to be wrong. I've got 20 years worth of assorted R&T and C&D magazines to prove it.
Let's stick to the news and road tests.
howiebells @ May 29th 2008 5:59PM
Car companies are still confined by the laws of supply and demand. If prices go through the roof, far fewer people will buy new cars, leaving manufacturers in a worse lurch than ever. Something tells me that cars find a way to stay somewhat affordable.
CompWizrd @ May 29th 2008 6:36PM
And GM for one is not willing to pay their suppliers the difference in steel prices, instead telling them they signed the contract, they have to sell the parts at below their raw material costs.