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Small Cars Rising: This Time Detroit Is Prepared

The Motor City has had a mostly "hate" relationship with small cars. No longer.

Detroit has never much liked selling small cars to U.S. consumers. But all that is changing.

While Japanese carmakers are facing likely shortages of the small, fuel efficient cars they export from Japan because of the Earthquake and tsunami, and gasoline prices are rising, consumers looking for smaller, thriftier cars this year are going to find themselves, by necessity, checking out new offerings from Ford and Chevy and even newcomer Fiat, whose operations are based in Detroit with Chrysler.

How times have changed. In the 1960s, Detroit started making smaller cars under duress when the American automakers started seeing the success of the Volkswagen Beetle and later, in the 1970s, the new Toyotas, Nissans and Hondas showing up on U.S. shores. Then, the gas crunch of the mid 1970s moved Detroit to quickly bring out small cars like Dodge Omni, Ford Pinto and Chevy Chevette.

Those small cars sold in big numbers, but the companies weren't happy about it. Because of their low sticker prices, and high labor costs in the U.S., the cars were unprofitable. Automakers gained a customer, but lost money, on practically each one sold. The situation was so bad that Detroit abandoned trying to make their own small cars and outsourced it to Asian companies. Toyota, Suzuki and Isuzu made small cars sold under the Chevy and Geo badges in the 1980s and 90s and into the new century. Kia made the Ford Festiva for the Dearborn, MI automaker in the 1980s.

In 2011, though, federally mandated fuel economy regulations have forced automakers to develop new smaller, more fuel efficient cars to balance out the gas guzzling SUVs and pickup trucks they prefer to sell. And while sales of small fuel efficient cars tailed off last year from surges in 2008 and 2009, rising gas prices and a coming shortage of Japanese small cars should drive up demand for Detroit's new small cars.

"When it [gas] starts getting over $4 a gallon or gets to triple digits when you fill up your tank, that catches people's attention," says Ford president of the Americas Mark Fields at a press event to launch the 2012 Ford Focus, one of the company's redesigned small cars that seems perfectly timed to the market.

Demand for small and thrifty rising

In January and February of this year, according to industry analysis done by Ford, retail demand for small cars had matched what it was in the Fall of 2008 when gas prices were $4.00 and above. Total demand is not as high, because rental car agencies' demand for the small cars has not fully returned.

Ford began selling the Ford Fiesta last Fall, as well. Both the Focus and Fiesta get more than 40 mpg on the highway.

Chevrolet's new Cruze sedan has already been selling well. Later this year, it is introducing two more small cars, the Sonic, that replaces the Chevy Aveo and a new even smaller car, the Spark. It is likely, though, that Japanese auto production will be resumed by the time those cars start rolling to Chevy dealerships.

The principal small fuel-thrifty cars among the Japanese automakers are the Toyota Prius and Yaris, Honda Fit, CRZ and Civic Hybrid, and the Nissan Versa. All of those models are built in Japan, and will see delays in production, according to the automakers. Honda dealers in the U.S. sensing the problem, have already been scrambling to get hold of used Honda Fits to try and meet expected demand, while Toyota dealers are doing the same for Yaris.

Honda has said it may not be able to resume full production at its Japanese plants until May because of damage to facilities and ports, as well as the island nation's electricity shortage due to its damaged nuclear power plants. Toyota is facing similar delays with its cars.

U.S. regular unleaded gasoline prices rose 27 percent from a year earlier to an average $3.55 a gallon last week, according to AAA. But it is already above $4.00 per gallon in many parts of the country. Continued unrest in the Middle East, notably Libya, has been driving prices higher.

Small cars have meant small profits

Small profit or no profit from selling small cars made Detroit understandably unenthusiastic about selling them. Too, when gas prices stayed reliably under $3.00 per gallon for years, consumer demand was scant. Ford, Chrysler and General Motors, though, have dramatically cut down their costs so that the Focus and Fiesta, for example, are profitable for the company on a global basis. Ford has cut costs by selling the same cars in the U.S. that it sells in the rest of the world without re-engineering them for every continent. "Losing money on small cars is no longer an option," says Ford's Fields.

"Small used to be a dirty word in Detroit," says marketing consultant Dennis Keene. "But fuel regulations and the bankruptcies of GM and Chrysler that lowered labor costs has created more balance in what the companies are producing...they no longer have to sell big gas guzzlers and pickups to make all their profit, though those vehicles are still more profitable than small cars."

Chrysler doesn't have a strong fuel economy story with lineup post bankruptcy yet. But its corporate partner, Italian automaker Fiat, is in the midst of reintroducing its brand to the U.S. and the first model is the 500 minicar, which gets 30/38 mpg for the manual transmission. "Gas prices are going higher and we believe we are timed perfectly for the market," says Chrysler marketing chief Olivier Francois. New small and more fuel efficient cars from Chrysler are due in in late 2012.

U.S. automakers so far say their production of small cars is not as affected by the Japanese Earthquake. But stay tuned. General Motors has warned employees to eliminate unnecessary costs in case they have production interruptions. Production of GM's small pickup trucks have already been impacted, but those are slow sellers anyway. The main source of concern with Detroit's Big Three, say industry experts, is that they are sourcing sensors and semiconductors for key models from Japanese suppliers that can't be replaced quickly. If even one part out of 5,000 that it takes to make a modern automobile is not available, it could bring an entire assembly line to a halt.

History shows that rising oil prices will mean more consumers looking at smaller more fuel efficient vehicles. There is even a thought among many marketing experts that not only will these cars be popular among first-time car buyers, but also with retiring Baby Boomers made more frugal by their crushed home values and decimated nest-eggs.

The small car that caused such a revolution in the U.S. was the Volkswagen Beetle, attracting buyers of every economic stripe because of its unique styling and fashionable practicality. It is is ironic, then, that the German carmaker will be introducing an all new design of the Beetle this Fall to be followed in 2012 by an even smaller car, the VW Polo.

This time, though, Detroit is ready for the change.

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