The U.S. Auto Industry in 2012

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So what are the odds that the next vehicle you purchase you will own for 25 years? If you say that's not likely to happen, then you are one more statistic suggesting that car sales should improve dramatically in the future.

Yet wages for the middle class, historically Detroit's biggest market, have remained stagnant over the last decade and are falling today; this does not bode well for the auto industry in the near term. Of course, this has been happening since 2001, which explains why most car companies could sell vehicles only by luring individuals into their showrooms with near suicidal incentives.

That, more than anything, clearly indicated how the middle class was struggling. From 2000 to 2008 real family incomes fell by $400 to $1,200, (depending on the survey) while prices of energy, food, and gasoline were skyrocketing, which explains why personal debt also rose to unsustainable heights. Bottom line: When income disappears as quickly as it has in the last eight years, one of the first purchases to be deferred is a new automobile. This is the primary reason why Toyota (TM) believes car sales could hit 17.4 million within six years, or stay critical at 11.5 million.

Fear of Loss is Winning So Far

The media has recently discovered that franchised new car dealers are selling lots more used cars, but this trend actually began in 2003 and has grown every year since. Many new car dealers felt forced to expand their used car operations because manufacturers kept cutting the dealer markup on new vehicles; some models were a guaranteed loss even if they sold for list price.

Dealers never knew from month to month what incentives would be offered, another inducement to sell more used cars, which are historically more profitable than new car sales. Carl Sewell, owner of numerous dealerships in Texas and author of the book, Customers for Life, informed his managers six years ago that he wanted 60 used car sales for each 100 new. Two years later, Sewell altered that used-to-new ratio to one to one. Last year, Sewell raised the bar to two used car sales for each new vehicle sale. While that figure has been harder to hit, last month Sewell's flagship Lexus store in Dallas retailed 251 new Lexus models, but delivered 368 used cars.

Sewell's strategy is a broad trend among dealers. A major part of the problem facing auto manufacturers—for which they share much of the blame—is that for years new car dealers have been focused on how to sell higher volumes of used cars A major part of the problem facing auto manufacturers—for which they share much of the blame—is that for years their new car dealer body has been focused on how to sell higher volumes of used cars. However, this situation cannot last. Earlier this year at the local Chrysler auctions, dealers were paying anywhere from $1,400 to $1,700 over NADA (National Automobile Dealers Assn.) wholesale prices to purchase anything for their lots. Such high wholesale prices, combined with lending institutions' refusing to loan ridiculous amounts of money even to individuals with good credit, has cut the profitability of a used car sale dramatically.

Because new car sales have fallen by nearly 6.5 million units over the last 18 months, the supply of late-model used cars will be drying up quickly, an overlooked future problem. Hence the extremely high wholesale auction values today for the best used cars—and it will get worse.

In essence, the entire industry is now trapped in a "lending capped" used car bubble. Caused by a short-term imbalance in supply and demand, the used car bubble will burst when wholesale prices rise so high that one cannot sell a used car for a profit because lending institutions will not advance more than the vehicle's loan book value. That point of no return is close. And when this automotive business cycle has run its course, new car dealers will have no alternative but to find ways to again improve their new car volumes.

This brings us back to the two colliding factors that are determining the fate of the automobile industry in America.

1.) Approximately 250 million vehicles are on the road now, but you can't drive them forever.

2.) High unemployment, millions more Americans with poor credit scores, stagnant or falling wages, and a negative outlook on the near term future of the economy.

If the public's fear cannot be assuaged and wages and employment numbers aren't improved, the auto industry will continue to suffer. If there is real economic growth, the auto industry will ascend with it. We'll know which direction it goes by late this year.

Then again, if it takes years to truly fix the economy and wages and many older cars still will need to be replaced, America just might be the next hot market for the $2,000 Tata (TTM) Nano.

Return to the General Motors' New Landscape Special Report Table of Contents

Ed Wallace is a recipient of the the Gerald R. Loeb Award for business journalism, given by the G. and R. Loeb Foundation, and is a member of the American Historical Society. His column leads the Fort Worth Star-Telegram's "Sunday Drive" section. He reviews new cars every Friday morning at 7:15 on Fox Four's Good Day, contributes articles to BusinessWeek Online, and hosts the top-rated talk show Wheels Saturdays from 8 a.m. to 1 p.m. on 570 KLIF.

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