Car-loan rates expected to rise
Washington — Concern about potential inflation in the U.S. economy has sparked concern that auto-loan interest rates could spike at a time when domestic car sales have already been sluggish.
The Federal Reserve raised the interest rate that banks charge each other for loans three times in 2017, most recently from 1.25 to 1.5 percent. The Fed already has telegraphed it is likely to raise that rate at least two times this year — possibly four. And further increases could trickle down to car buyers as carmakers find they can no longer subsidize ultra-low loan terms.
In the 12 months leading up to January, the average interest rate for a 60-month new-car loan was relatively stable, rising from 4.35 percent to 4.51 percent, according to Statista.com. That translated to a modest hike in monthly payments for a $34,968 vehicle, which was the average price of a new car in 2017 according to Kelley Blue Book: The monthly note on that car rose from $688 to $691.
Industry analysts said a bigger spike in interest rates could cause car buyers to stretch new-car loans to six, even seven years. Or they could opt for smaller vehicles, which automakers often try to prevent by offering financial incentives for larger, more expensive cars. Or they could buy used or delay buying a car altogether.
Charles Chesbrough, senior economist and senior director of industry insights for automotive marketing company Cox Automotive, said accelerating increases in the rates set by the Fed could eventually pinch car buyers.
“If you look at it on an increase basis, each quarter-percent increase is a very small amount,” he said. “But four increases, that’s a full base-point. That starts to adding up to real money for some people.”
Chesbrough said car buyers could also be squeezed in other areas of the credit market, which could impact the amount of money they have to contemplate car purchases.
“When interest rates go up, credit cards go up immediately,” he said. “That’s money that’s coming out of the pocket of consumers. It could impact manufacturers if it becomes a little bit more expensive to offer the incentives they were doing before.”
Chesbrough said legislation signed by President Donald Trump to cut taxes will give car buyers more money in the short term, but he said it could ultimately lead to higher interest rates. He noted the recent volatility in the stock market shows there is concern about traders about interest rates rising.
“Much of the moves in stocks ... is due to concerns about interest rates moving higher, and how that may impact consumer spending and federal borrowing,” he said. “However, the uncertainty of the stock market could make some lenders a little less willing to lend, and it could make some borrowers a little less willing to borrow.”
“The recent tax cut is only fuel on this fire,” he said. “This strong economic environment may force the Fed to raise rates more quickly than they may have otherwise, and that will only make borrowing for car buyers more expensive.”
Jessica Caldwell, executive director of industry analysis at Edmunds.com, said fluctuations in auto-loan interest rates in recent years have typically been seasonal, with carmakers offering incentives to clear inventory at certain times of year.
“They’re done at designated times, whether that’s quarterly or the end of the month,” she said. “It’s not something that’s going to fluctuate because of an external event, especially not one that can go up and down as we have seen.”
Jeffrey Jackson, chief lending officer at Michigan State University Federal Credit Union, said his credit union sets auto-loan interest rates every two to three weeks, with the biggest factors being the yields for two-year and 10-year treasury bonds.
“What influences us most is the two-year treasury, the 10-year treasury and then the federal funds target rate and prime rate,” he said. “Then we look at what automakers are doing as far as incentives.”
He said higher interest rates change the behavior of some car buyers who finance their automobiles, noting that his bank offers loans that last as long as seven years.
“People start going a little bit longer if rates go up, because they try to get their vehicle they want within within their budget,” he said. “They may accept a lesser car, but automakers also know that so they offer incentives.”
The U.S. Consumer Financial Protection Bureau has warned in recent months that the number of auto loans that last six years — and the amount of money that has been borrowed — has increased in recent years. That increases the risk of potential defaults. Already, 4.1 percent of auto loans had balances that were 90 or more days delinquent at the end of December, according to the Federal Reserve Bank Of New York. That’s up from 3.8 percent from December 2016.
John Simpson, privacy project director at the Santa Monica, California-based Consumer Watchdog group, said say the recent volatility of the stock market shows that car buyers should be concerned about higher interest rates.
“The stock market and the way it’s behaving is a sign that people believe there may be inflation.”