Here’s How Interest Rate Hikes Make Cars More Expensive

The continued lowering of interest rates over the last couple of years was a bit of a salve to a car market stretched by supply shortages, trimflation, tariffs, and other pressures. While buying a car hasn’t gotten dramatically cheaper, it’s still been feasible. How will rate increases hit affordability?

If yesterday’s Morning Dump was an attempt to see the light at the end of the tunnel, today’s TMD is a little more focused on the tunnel itself. A rate hike is basically the last thing anyone wants, even if it’s the sensible thing to do given market conditions. And, wow, market conditions are bad. There’s a new editorial out that enumerates all of the problems.

It could get worse, right? The car industry in Germany is what it looks like if it gets worse. And who is waiting in the wings? China, of course.

The Ripple Effect Of Rate Hikes Is Real

Above is a graph, via my dear friend FRED, of the Bankrate Monitor Auto Loan Rate for a 60-month new car loan (specifically, a $33k loan for someone with a 700 FICO score and a 10% down payment). You can see the impact of pandemic era interest rate policy, as well as the large climb as the fed attempted to fight inflation.

Also at play are the last couple of years of small rate cuts from the Federal Reserve as it had to contend with an economy where nothing feels like it’s getting cheaper, and with an AI development boom that has overheated markets. The Federal Reserve’s Federal Open Market Committee (FOMC) unanimously approved a 0.25 percentage point increase to the federal funds rate (the amount charged by banks to loan excess reserves to other banks).

Here’s what the FOMC said:

Economic activity is expanding at a solid pace. While uncertainty remains elevated owing, in part, to geopolitical developments, domestic spending has been resilient. Productivity growth is strong, and capital investment is robust. Job gains have kept pace with the workforce, and the unemployment rate has changed little.

Inflation remains elevated. Today’s policy action will support a timelier return to the Committee’s 2 percent goal. The Committee will deliver price stability.

The FOMC wants to keep the economy growing and unemployment low, but it also wants to do so while holding the line on inflation. While this rate doesn’t directly tell a lender what it can charge for an automotive loan, it eventually does impact how much it costs to lend/borrow money. If the fund rate is super low, lenders can generally afford to lower the rates for borrowers.

Obviously, carmakers can lower the price of loan whenever they want via captive financing arms, and will sometimes offer 0% financing if it’s determined that the cost/risk of the loan is offset by the value of selling the car. The chart above is just an average, as your own individual rate will depend a lot on your credit score, your down payment, and general market conditions.

This hike could hit the car market twice. The most obvious impact is on buyers, who could see borrowing costs start to creep up again. What car buyers often forget is that dealers are also borrowing money for the cars in their showroom (this is called a floorplan loan). That’s both good and bad. If dealers have to pay more to keep a car on the floor, they’ll try to capture that extra cost in a sales price. At the same time, a dealership may be more motivated to move a car before it has to pay more to keep it in inventory. If rates go up and remain elevated for long enough, this can lower the number of cars dealers want to order, which then causes prices to go up.

Dealers and automakers want to shield buyers from this as much as possible, and they have some tools, as our pal Jessica Caldwell tells Automotive News:

The Fed’s rate increase will not ease auto affordability challenges, but seasonal rate promotions toward the end of the year could balance out the impact, Caldwell said. It’s difficult to know, however, whether or how much consumer or political pressures factor into the Fed’s rate decisions.

“Affordability is at the top and center for most American families,” she said. “Having an interest rate hike isn’t good optics.”

Even if automakers can offer lower financing, and are willing to absorb the risk/cost, the fear is that consumers will hear the words “interest rate hike” and immediately shy away from dealers even if some are offering good rates.

Here’s A List Of All The Challenges Facing The Car Market

The Automotive News Editorial Board has decided to weigh in on whether or not Widow’s Bay is a comedy or a drama and, as good people, have agreed that it’s obviously a comedy. Oh wait, never mind, they are responding to the interest rate hike by reminding everyone of how tough it is out there.

In addition to the rate hike, other problems include:

• A monthslong war in the Middle East limits access to global crude oil supplies.
• A yearslong war in Europe disrupts global diesel refining capacities and drives up fuel costs for goods deliveries worldwide.
• The U.S. administration has abandoned decades of free trade philosophy, imposing protectionist tariffs on allies and adversaries alike.
• Unprecedented private-sector borrowing to fund artificial intelligence data center build-outs drives up capital costs for all debtors — including the federal government, which hasn’t balanced its own budget in 25 years.

Does the Board suggest a solution? It doesn’t. The enumeration of problems is enough. It could be worse though; we could all be living in Germany.

The German Car Industry Must Hang Together Or Surely They Will Hang Separately

Almost exactly two years ago, I used a TMD to ask “How screwed is the European car industry?” and the answer seems to be: still pretty screwed. And that was before tariffs. Germany is in a particularly rough way, with a new report from Manager Magazin indicated that Germany could lose tens and hundreds of thousands of jobs in the coming years.

Is there a way out? If so, it’ll require some interesting cooperation:

Mercedes CEO Ola Källenius (57) had a surprising message. He told the parliamentary group leaders of the CDU/CSU and SPD, who had invited him to their two-day workshop in Münster at the end of August, that he had always been a bit of an economic policy freak: a believer in the free market, no friend of subsidies. But now he had changed his mind: “This can’t go on,” one participant quoted him as saying.

Together with IG Metall chairwoman Christiane Benner (58), Källenius was to brief members of parliament on the situation of the German automotive industry. Unusually united, the two advocated for industrial policy support during the meeting; the state should help the companies. And they were heard. In the four-page resolution paper that the politicians ultimately agreed upon, there are 20 lines entitled “We remain a car nation”: The federal government will therefore strongly advocate for “local content quotas” for cars sold in Germany and Europe, for continued sales promotion of electric cars and models with partially electric drives, and even announced an explicit “commitment to a technology-neutral transition” within the EU.

Everyone loves the free market when the invisible hand is passing out money, and a little less when it’s handing out slaps.

All Your Factories Are Belong To BYD

You know who might want all of that excess European factory capacity? A little company called BYD, according to Bloomberg:

The manufacturer is targeting three vehicle assembly factories as well as one electric-vehicle battery plant in the region, Alfredo Altavilla, a former Fiat Chrysler manager who advises BYD in Europe, told reporters at an event in Turin late on Wednesday.

“This is not for tomorrow morning, but it’s clear that to reach the volume objectives we have and at the same time become compliant with EU rules, this is what we’ll need,” Altavilla said.

BYD has been holding talks with European competitors and governments as it explores taking over underutilized factories in countries including France, Spain and Italy. The European Union has introduced tariffs on Chinese-made EVs and the bloc’s proposed “Made in Europe” rules are expected to increase pressure on BYD to bolster capacity in the region.

It’s quite the bargain for countries, though it’s easier for the ones who don’t rely on China as an export market.

What I’m Listening To While Writing TMD

Feeling Bay Area today, so please enjoy “Feelin’ Myself’ from the too-soon-gone Mac Dre.

The Big Question

What’s the highest interest rate you’ve paid for a car?

Top photo: FRED, Honda