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Growing Concerns

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Inventory shortages and high demand are likely to remain for some time. PHOTO Ford Motor Company

Inflation and Interest Rates maybe rising but consumer demand is still working in dealers’ favour.

Just when we think things might finally be straightening out, something comes along, and it’s with interest rates likely going even higher as the tragic Russian invasion of Ukraine pushes up already-elevated inflation worldwide. We’re still seeing high demand for vehicles and that isn’t likely to change for quite a while, but many consumers are going to be skeptical about what’s keeping prices and financing high.

The Bank of Canada was down to a 0.25% overnight rate during the pandemic, and said it expected these low rates to continue well into 2023 – but then inflation hit. We saw a pivot at the beginning of 2022, with a 25-basis-point lift in March, and then another 50 in April, and signals of more to come.

More pressure on financing costs

In our Scotiabank forecasts, we anticipate an overnight rate of 2.50% by the end of 2022, and then 3.00% by early 2023. Market interest rates – including for auto loans – had already been climbing in anticipation of the Bank of Canada’s recent moves. But with even higher policy rates expected now, this means there is still more upward pressure on auto financing. It’s going to be expensive to finance a new vehicle for some time to come.

Other costs are high as well. The price of new vehicles is up, due to factors such as higher costs for materials, labour, even the fuel to ship them. We don’t see that going down, as the conflict and new COVID-19 lockdowns in China are compounding supply chain recoveries. Gas prices are elevated as well. There are some measures being taken in the provinces, such as the elimination and refund of licence plate stickers in Ontario, and Alberta targeting gasoline taxes, and British Columbia offering a one-time rebate on auto insurance. But these are mostly tokenism, and small fry compared to the cost of financing these higher-priced vehicles. They’re not really going to change the financial equation for the customer walking through the door.

Trying to fight inflation

We’re living in a world of elevated inflation, and central banks around the world, not just Canada’s, are raising rates and trying to get inflation under control. It puts pressure on interest rates and it’s intended to reduce demand, which in turn means less competition for a limited number of goods and services, and that brings down prices – in theory. 

But we’re in a very strange economic cycle, where demand for automobiles is extremely strong, and it’s not tanking even with these higher rates. The supply is still coming back slowly, and our data shows that the number of vehicles on dealer lots is still at an all-time low. Dealers aren’t going to have to run fire sales to sell vehicles.

Jobs and savings

As well, while consumer confidence isn’t as strong as it could be due to rising rates, the labour markets are tight, and people aren’t as worried about losing their jobs or finding new ones. Canadian households are also sitting on substantial savings from the pandemic and entering this new phase on a stronger financial footing than past periods when interest rates started ticking up. That provides some offset to the uncertainty around how governments will rein in inflation.

Dealers will need to maintain strong relationships with their customers and help them understand that prices and rates are outside forces, and not the result of retailers trying to improve their bottom line. It looks like it’s going to be a bumpy ride for a while yet.


Rebekah Young is Director, Fiscal and Provincial Economics, Scotiabank.

 

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