It often feels like there is a two-sided battle happening across the country. On one front, consumers are fighting rising inflation. On the other front is a fight against increased car prices. It seems like the Federal Reserve needs to tame the out-of-control car market before it can fully focus on inflation.
Even with higher prices for automobiles, car dealerships are still in high demand. Since most families still need to finance their vehicle purchases, high-interest rates can wreak havoc. For example, 30-year-fixed-rate mortgages more than doubled in the last year (up to nearly 7%), which practically put the housing market on pause.
While the pandemic slowed the economy in many ways, car dealerships didn’t seem to lose traffic. Many people wanted to avoid crowded public transportation with their own cars, while others moved away from the cities to the suburbs where they need their own transportation. Even though new cars were hard to find, used cars became more popular than ever.
The Federal Reserve hoped to slow the demand for cars and houses by raising interest rates. While this may have worked for the housing industry, it didn’t seem to impact the auto market. In fact, used car prices soared, often resulting in higher prices than new models. Interest rates rise, and car prices aren’t dropping, which is pretty scary for the Fed.
For many, this entire situation doesn’t make sense. As interest rates go up, it should be more difficult and expensive for people to take out loans. When demand slows, the price of goods should go down. The problem is that this isn’t the case for car buyers. For example, in March, the typical monthly payment on a used-car loan was $546. In October, after the Fed raised interest rates, the typical used-car loan rose to $564 per month. The price for a car may come down a little, but the cost of borrowing results in a higher overall price.
Some point to supply/demand as the reason the auto market isn’t seeing a drop. Auto manufacturers hit a huge slowdown during the pandemic and haven’t fully caught up. In fear that consumers would stop buying cars during shutdowns and stay-at-home orders, automakers paused production. When it was time to start producing again, a global shortage of critical semiconductor computer ships and supply-line delays kept production numbers low.
So long as there isn’t a massive inventory of cars for shoppers to take home, demand is still going to be high, and prices will rise. For the Fed, watching the auto market will be an indicator of the economy. The housing market has already begun to cool, so it’s only a matter of time until auto production picks up, car dealerships are full of new cars, and prices return to normal.
For now, the Fed plans to continue raising interest rates at a slow pace. For many Americans, the question is about how long it will take for the market to find some balance and provide some relief. Until then, everyone is watching car dealerships to see some hope that inflation will come to an end.
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