‘Cash for Clunkers’: the US version of car scrapping incentives

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On 18th June US President Obama signed the CARS scheme into law. It goes live on 24th July 2009 and lasts from July 1st to November 1st.  As expected, the US Congress opted for the most limited conditions to stimulate new vehicle sales. This is hardly surprising as annual sales are currently on track for 9MN units in 2009, 5MN below the usual level. Will it work?

   

How the US CARS Scheme Works - 2009 Copyright Pasch Consulting Group

How the US CARS Scheme Works - 2009 Copyright Pasch Consulting Group

Compared to its EU siblings, the US scheme has very distinct features: Vehicles being traded in must be less than 25 years old rather than a minimum age. To qualify for the cash – $3,500 (£2,135) or $4,500 (£2,750) – buyers must replace the scrapped car with one with a fuel consumption which is at least 5mpg better for the lower amount and atleast 10mpg better for the larger award. In the EU qualifying cars must have improved emissions, rather than mpg. The US scheme applies – with different conditions  – to cars, vans and trucks while, in the EU, schemes are mostly restricted to cars and light vans. Also, while EU schemes have been set up to last for a year or more, the US scheme lasts just 5 months. Finally, the US scheme’s budget of $1BN is small in relation to its vehicle parc, 260MN vehicles on the road. It can fund 250,000 trades; the German scheme can fund 2,000,000 trades. Even the UK scheme can fund more trades than the US!

Does it have enough positives to work? Looking across the EU, there seem to be 5 critical factors which have to be right for a successful scheme.

Is the incentive big enough? In this case, the new car buyer has two benefits – one upfront and one over the ownership life of the car. If you buy a replacement that gives a 5mpg improvement, up front you get £2,135 and you get the savings of 5mpg. How much would 5 mpg save over the life of the car?

A litre of US petrol costs around £0.51p today (17/07/09). If the replacement car achieved 22mpg, the extra 5mpg would save £0.44p. The US EPA suggest that US  the average annual car mileage is 12,500. So, in a year, the driver saves around £250 in fuel. Every US gallon of fuel produces 20lbs of CO2, so there is a saving of 2.5Tonnes a year of that as well.

Is the scheme too rigid. Keep in mind that Spain’s ‘Plan Vive’ had to be hastily replaced last month with a direct voucher scheme, ‘Plan 2000E’, which gives a straight €2000  for qualifying cars. The US scheme is simple in most respects. You just answer four questions: Does your car have a PX value less than the voucher you want? Any number of US websites will tell you the answwer. If yes, is it less than 25 years old? So far so good? Does it have an official combined mpg of 18 or more? Every car is listed on a  US government website. If it does, is it insured, taxed and driveable? That’s about it. The buyer gets a £2,135 voucher for buying a new car with 22 – 27mpg and £2,750 for buying one better than 27mpg as long as new car has a MRRP of £27,450 or less.

The only fly in the ointment is that individual dealers or groups have to sign up, not manufacturers. There are 20,000 in the US, so getting them all signed up in a week will be an admin headache.

Are there other ‘hidden’ costs? The average price of a new car in the US is £18,300, so there might be an interest charge on the loan, but I doubt it. Every US mainstream franchised dealer site I visited offered 0% over 5 years. But, depending on the car bought, there might be additional insurance and SMR costs.

Is consumer finance available?  While much has been made of the gap between the new car cost and its scrap value, experience in the UK is that families co-operate to exploit the scrappage scheme. It works like this. Mr and Mrs Jones have 3 children, the two older boys are at work and their youngest daughter is a student at Uni. Mr Jones donated his 10 year old car to his daughter when she started her studies. His wife would like to upgrade her five year old car. So, they take their daughter’s car along to get the scrappage voucher because it qualifies. They buy the car that Mrs. Jones wants and take on the finance agreement using their daughter’s voucher. Mrs. Jones donates her car to her daughter. Its all legal and it gets around the problems of the cost to change gap and the habit of older car buyers switching into younger ‘used’ cars.

One worry for the ‘Big 3’  is a recent customer survey by Pasch Consulting that revealed the Top 4 most likely trade-in’s would be a Ford, Chevy, Dodge, Jeep while the Top 2 most likely replacements will be Toyota and Honda. 20% will scrap a Ford, but only 12% will buy another one.

   As in the EU, there’s a small impact likely to after-market profit potential. Most analysts guess that the total incremental cars scrapped will be marginal. It seems that the big US after market chains  – Midas.Inc, Pep Boys, Manny, Moe & Jack and Monro Muffler Brake Inc  – are already benefiting from the decline in dealers spurred by the troubles hitting the Big 3. Losers  – if at all – might be specialist used car part salvage operations.

   Beyond that, as in Europe, the scheme’s impact is expected to be limited: it’s only relevant to cars worth less than the voucher value. While there are plenty of those in the US’s 257 MN vehicles, the support budget will probably run out before the demand is satisfied.

   Perversely, one of the unintended consequences may be increased incentives – and more sales – for new gas guzzlers due to the CAFE regulations. Large trucks and SUVs tend to be the most profitable vehicles for US manufacturers and they would sell far more large vehicles if they were not bound by CAFE . To meet these regulations car companies subsidise the sale of fuel efficient vehicles (often through incentives) to balance out the sale of fuel inefficient vehicles (gas guzzlers).  That way theycan meet the ‘average’ fuel efficiency target and still make some money. So, with the introduction of cash for clunkers, more small, fuel efficient cars will get sold. That means US car makers could either lower their own incentives on fuel efficient vehicles (cancelling out the government incentive), or offer larger incentives on large vehicles (since they could now sell more of them  and still meet CAFE regulations), or do both to maximize profitability. No doubt that issue is exercising  the NHTSA as they put the final touches to their rules.

If you want more, read the full article under ‘Recent News’ at the website: https://lga-consultants.com/news.php?postid=17

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