Credit

No, There's Not a Bubble in Subprime Auto Loans


(Corrects timing of reports from the Federal Reserve Bank of New York throughout and name of New York Fed spokesman in the second paragraph.)

There has been plenty of worry that there may be too much froth in subprime auto loans. The New York Times, in an investigation last month, found a “bubble” fueled by a  troubling pattern of people getting credit who had no ability to pay back their loans, and there are signs that the Justice Department is starting an industry-wide probe into the market.

Last year, the New York Fed dove into lending data, and its economists found that the bubble fears may be misplaced, at least for the time being. Next week, the New York Fed plans to release an updated analysis, and “it’s unlikely the composition of auto loan originations seen in our data will radically change since last year,” according to Matthew Ward, an associate director of media relations at the New York Fed.

“We do not see evidence supporting a disproportionate or unusual volume of new loans being issued to riskier borrowers,” four economists at the New York Fed wrote last year. “While originations to borrowers with the lowest credit scores have increased, they are just recently approaching historically ‘normal’ levels and are below those that we saw during the boom years leading up to the crisis.” Take a look at the dark purple in the chart (at right) from the New York Fed to see how new subprime loans were still below normal and way below bubble heights.

The economists looked to see whether all auto borrowing, including subprime, was relatively low because fewer people were taking loans than in the past or because borrowers were taking out smaller loans. They found that the average loan recovered to typical levels. (With one exception: among 30-year-olds to 39-year olds—the yellow line in the chart to the right—who really went to town during the bubble.) They also found that fewer people were borrowing. This is particularly true for 18-year-olds to 29-year-olds, the study stated.

Having some subprime car lending is probably healthy. People need dependable, affordable transportation; if they don’t own a car, they usually have to rely on other means to get around and commute to work. That’s one reason people typically stay current on car loans, even when they can’t make credit-card or mortgage payments. At the same time, there may be some unsavory subprime borrowing. The anecdotes in the Times story and additional reporting certainly raise alarms, and the Consumer Financial Protection Bureau has found what it calls discriminatory pricing for minorities.

Even if next week’s report confirms there’s still no bubble, that doesn’t mean there’s nothing to worry about.

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Weise is a reporter for Bloomberg Businessweek in Seattle. Follow her on Twitter @kyweise.


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