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Ready for Cash For Clunkers 2.0?

US News & World Report - Cars logo US News & World Report - Cars 4/23/2020 John M. Vincent
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In many parts of the U.S., sales of new cars have slowed to a crawl due to the global novel coronavirus pandemic. In some areas, where new car sales were forbidden by stay-at-home orders, dealerships simply had to stop selling cars. From California to the industrial Midwest, and new automotive industry hubs across the Southeast, plants are shuttered and employees furloughed. In a few factories, production has been shifted to producing medical equipment or supplies. 

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The pace of sales going forward will depend on the depth and duration of the medical crisis, the length of restrictive stay-at-home orders, and the speed at which dealers adapt their sales processes. Other factors at play include the pace of plant re-openings, slowing the tsunami of unemployment claims, and government stimulus to kick-start the auto industry’s rebuilding. 

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“There are so many hidden consequences and impacts of what is happening today,” says Rebecca Lindland, an industry analyst and consultant at Greenwich, Connecticut-based Rebeccadrives.com and former executive analyst at Cox Automotive. “We’re going to be feeling the effects for years to come. Everything is in an incredibly precarious position.”

What will it take to support automakers, dealerships, and their customers? We'll look at the problems facing the industry, some historical perspective on what occurred during the Great Recession, and what an industry recovery program may look like in 2020. Will we see a revived Cash for Clunkers program? We’ll look at that question in a moment. 

What Are the Problems the Auto Industry Is Facing? 

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Unlike the last recession, today’s auto industry is dealing with both a demand and a supply crisis. 

According to J.D. Power, as of April 19, month-to-date sales were off 51% compared to pre-pandemic forecasts. There’s a massive geographic disparity, with sales slashed in some regions and still clipping along at a steady, if not strong, pace in a few areas. New unemployment claims are occurring at a record pace, taking customers out of the market and putting pressure on lenders who will likely see a spike in defaults and repossessions as the year progresses. Even with aggressive payment deferral programs for existing borrowers, some consumers will find themselves unable to catch up. 

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During the great recession, factories were still up and running. At the same time, showroom floors welcomed anyone who showed signs they wanted to buy. It was post-election America, so every decision wasn't influenced by the crucible of presidential election-year politics. 

Research

With the COVID-19 pandemic, many dealers aren’t able to sell cars even if there was a steady line of customers. Plants can’t produce cars, even if dealers were clamoring for new products. Financing is still cheap and relatively easy, as long as a job loss isn’t preventing you from getting a loan. The U.S. Federal Reserve has dropped a key benchmark rate to near zero to keep interest rates down. 

The used car market has been turned upside-down. Auctions, where dealers buy and sell used cars, are completely shut down or are operating at vastly reduced capacity. Rental car companies that need cash more than they need cars will likely dump thousands of low-mileage used vehicles into the marketplace, pushing market prices lower. Lease extensions have disrupted the timing and supply of vehicles coming into the pre-owned vehicle market, which may further depress the value of used cars when they do hit the market.

When used car prices plunge, leasing companies suddenly find themselves with fleets of cars that have residual values significantly higher than they can sell the cars for upon their return. 

"Automakers will have no choice but to try to stimulate demand," says Doug Betts, president of the automotive division at J.D. Power. "Lower prices on new cars will drive the value of used cars down, which becomes a large hit to those carrying an inventory of used cars. Dealers, rental companies, and lease portfolio holders (automakers' captive finance arms) all have a lot to lose on this front, as well as individual owners whose equity position on their current car is now reduced."

The Great Recession

During America’s last major economic recession, which spanned from the end of 2007 to mid-2009, governments stepped up in an unprecedented fashion to keep America’s legacy automakers alive. Two massive spending programs were instituted to support the car industry, which was deemed “too big to fail.”

The Bailout

In 2009, the U.S. and Canadian government bailed out General Motors and Chrysler through bankruptcy and investments of $80.3 billion. GM emerged majority-owned by the U.S. Treasury Department and the Canadian government, while Chrysler’s ownership was dominated by the United Auto Workers union and Italy’s Fiat S.p.A. GM has since reclaimed its independence as a publicly traded company. The U.S. government recovered much of the money it invested.

The controversial bailouts led to massive changes in the leadership and structure of both companies. Hundreds of dealers selling GM and Chrysler brands were shuttered. 

“The bankruptcy allowed them to cancel brands such as Pontiac, Saturn, and Hummer, and get out of the state level dealer franchise agreements without having to go to court in every single state, which is what they would have had to do,” says Lindland. “So the bankruptcies really provided the manufacturers with an opportunity to restructure their companies.”

Cash for Clunkers 2009

Officially known as the Car Allowance Rebate System (CARS, for short), the program was much better known as Cash for Clunkers. The $3 billion program lasted just 29 days. It let customers receive as much as $4,500 from the federal government when they ditched older cars with poor fuel economy for new vehicles with better EPA-estimated mileage. 

The dealer then had to decommission the car that was brought in. They generally did so by pouring something into the engine that would force it to seize, making the car undrivable. 

There were several goals. The first was to stimulate the automotive industry by bringing new buyers into the marketplace. Second, the program’s supporters saw a huge benefit of getting old, high-polluting, low gas mileage cars off the road. A 2009 analysis by U.S. News & World Report showed the program's effects on both fuel consumption and air quality were minuscule compared to the country's overall numbers. 

It did bring some short-term support to the ailing auto industry, providing a significant bump in sales during July and August 2009. 

“I remember we were thinking 'Oh gosh this is going to really change the fourth-quarter forecast' because all these people bought now and they weren't going to buy in the fourth quarter,” says Lindland. “But in reality, it was actually new buyers. It was incremental volume.”

Some analysts believe that the additional sales came at a very high cost with little environmental benefit and questionable long-term industry benefit. 

“It had a strong response that was short-lived,” says Betts. “The cost per vehicle sold was very high. It’s likely that many of the trade-in clunkers were not being driven daily anyway, so the environmental impact was also in question.”

Recovering From the COVID-19 Pandemic

What’s the federal government going to do to put the auto industry back to work today? It’s too early to say. Different proposals have been floated, but nothing concrete has reached the floor of Congress or the President’s desk. 

There are many things the government can do to support the industry. “This is about preservation, whereas before it was about restructuring,” says Lindland. “I think in 2008, on some level, it was about eliminating jobs. That's probably one of the biggest differences is that we're trying to save jobs. We're trying to help these companies get through this time, in order to preserve the existing jobs, in order to preserve the stock price, and the dealer network.”

Compared with 2009, today’s automotive industry is leaner than it was, with more robust balance sheets and the recent memory of dealing with a financial crisis. That’s especially true of the Detroit Three automakers, whose decades of bloated lineups and infrastructure forced revolutionary changes to the companies. 

Supporting Auto Dealerships

According to the National Automobile Dealers Association (NADA), the 16,753 dealerships in America employed more than 1.1 million people in 2018. The average dealership employs 68 workers, according to NADA data. 

“First, there’s no doubt that some dealers were struggling before the onset of the COVID-19 pandemic, and these dealers won’t be able to survive without financial support,” says J.D. Power’s Betts “In this case, a Paycheck Protection Program loan can be helpful.”

After quickly blowing through the initial $350 billion allotted by the U.S. government for paycheck protection under the CARES act, Congress is working on a second round of stimulus to support businesses. Several members of Congress have stated that the new round of loans will have better oversight to ensure they make it to small businesses, rather than large, publicly traded companies that already have access to credit. 

In the early days of the pandemic, automobile dealerships in some areas were forbidden from selling vehicles. Now every state in the country allows vehicle sales, though in many of them, the transactions must be performed online. 

New car deals, which drive traffic to dealerships with low- or no-interest financing, cash back incentives, first payment deferrals, or a combination of the three are already being rolled out by automakers. GM led the parade with 0% financing for seven years, followed by several other brands, both foreign and domestic, bringing forth similar offers. You can find the best incentives available in the marketplace on our new car deals and new car lease deals pages. 

Supporting Automakers

One of the most significant differences between today's crisis and the Great Recession is the breadth of automakers impacted by the pandemic. In 2008 and 2009, America's legacy domestic automakers were driven closer to the brink than foreign nameplates. Today, every automaker around the globe is being pummeled by the crisis. 

“This is not an issue specific to the domestics, or to unions even,” says Lindland. “This is an industry-wide problem. Before, it was how do you trim down GM, Ford, and Chrysler without decimating them. Now it’s how do we shore them back up. We have to support all the companies that do business in the U.S. and do production in the U.S. That’s a very different scenario than the 2008 bailouts.”

The U.S. is not going to be able to craft a response in a vacuum. Given global supply chains, there will need to be a coordinated response with the rest of the world, including China, North American trading partners Canada and Mexico, and other countries that supply parts to U.S. factories. 

Restarting Factories

One of the most critical parts of getting the automotive industry back on its feet will be the reopening of factories. It won’t be a simple, quick, or easy process, and it may be driven as much by politics as science. Different states will have various criteria for lifting stay-at-home orders. State governors and their health departments will have to walk the fine line of allowing the plants and their thousands of jobs to come back online without risking a COVID-19 rebound, and causing another shutdown. 

With today’s just-in-time manufacturing processes, any factory restart will depend on a steady and reliable stream of parts from suppliers. Those suppliers in turn will also be relying on their supply chains to keep them running. 

“None of those plants are operating in a vacuum, so even if the state opens back up again, it doesn't mean production's going to open back up again,” says Lindland.

Without factories restarting, the success of any sales incentive program, such as a new Cash for Clunkers-type government support program, will be tempered by shortages of popular models. 

Another Bailout?

As for an equity investment that involves the government taking an ownership stake in car companies, most analysts agree that it won’t be necessary. Other types of bailouts are definitely on the table, however. 

“It’s not clear if the country is ready for another auto bailout,” says Betts. “In the current environment, there is credit available for creditworthy ventures. … I think the discussion should be focused on whether we let this issue set us back on the development of advanced technology like self-driving, safety tech (ADAS), and alternative energy vehicles like EVs. This may be too valuable to the U.S. to let it be set back and ceded to other countries like China.”

Cash for Clunkers 2.0?

Morgan Stanley auto industry analyst Adam Jonas recently told Barron’s he expects to see a massive new Cash for Clunkers type program. It could potentially drive as much as $50 billion in industry sales. The plan would likely be structured very differently than the previous program, however. 

Jonas, as cited in the Barron’s article, foresees a U.S. domestic content requirement for the new vehicle purchased, perhaps a household income limit, and maybe a price cap for the new car. He also predicts a sustainability requirement, such as a 50% fuel economy increase. Adding a need for some level of advanced driver assistance and safety (ADAS) technology could garner additional support, he says. 

The inclusion of an efficiency, electrification, or emissions component may be distasteful to the current administration. However, it may be necessary to score enough votes in the House of Representatives to ensure passage of the program. 

“I could see some kind of pro-American measure in that,” says Lindland. “Some kind of a percentage of American-sourced content. I would hope that someone would craft a requirement that recognizes that almost every single Acura is built in the U.S., almost every single BMW SUV is built here … without annihilating companies like Audi, that doesn’t produce anything here.” 

“As for automakers, if the objective is to support rebuilding their budgets towards the advancement of technology, a program could focus on offering incentives for consumers towards cars with ADAS, and advanced and efficient powertrains like plug-in hybrids and pure electric vehicles,” says Betts. “Many automakers don’t have the capacity to build sufficient volumes of EVs right now due to a historic lack of demand, so just focusing on EVs has a very limited benefit.”

Lindland also sees such a program as having the potential to bring the discussion of renewed Federal Electric Vehicle Tax Credits back to the table. The program has expired for Tesla and General Motors, while also earning the disdain of the White House. If its inclusion proves necessary to gain support in the U.S. House, a reintroduced program could be a significant driver of EV adoption.  

The U.S. isn’t the only country floating the idea of a scrappage program. Politicians and industry executives in Germany are also discussing a Cash for Clunkers-type package. 

“The bottom line is that the most helpful recovery support is to fix the potential demand problem in the near term,” says Betts. 

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