Blog: Dave LeggettBreaking the 'paradox of thrift'

Dave Leggett | 23 February 2009

GM and Chrysler last week filed viability plans with the US government that have probably bought some time for both, though many say that Chrysler's prospects remain particularly grim, its future as currently constituted in huge doubt.

I don't think we'll see federal loans being called back alongside enforced Chapter 11 when we get to March 31. However bad things look, there's the knowledge that the knock-on effects on suppliers could do irreparable damage to the whole of the US auto industry. Ford has warned of that. And GM in Chapter 11 would mean more failing firms and many more lost jobs at a time when the US economy – like others – is coming under a lot of pressure.

And it's developments at the macro level that have got my attention at the moment.

Too much consumer spending on top of too much bad lending caused this global economic crisis. Now, with confidence dried up, the banks are lending less and people are also spending less. And it's been a rapid descent into recession since things took a turn for the worse with the banking crisis of the autumn.

So, how do we get out of this mess? Despite the fact that it was reckless lending and spending that got us into this, traditional economic theory suggests we now need consumers to spend more, not less. Trouble is, they are not in the mood to spend and won't be for a while yet. Just when we need people to get spending, they're much less likely to do so. It's something known as the 'paradox of thrift'.

My guess is that this year things will continue to get worse before they stabilise in the second half. The state of auto production in Europe is typical. Despite the efforts of vehicle manufacturers to cut production as market prospects worsened late last year, there's a time lag: vehicle stockpiles take time to shift. Moreover, market forecasts have been revised down further, leading to the latest round of production cutbacks.

It is estimated that there is excess stock of around half a million vehicles in Europe. On current market assumptions that won't be gone before the final quarter of this year. Until then, production will be adjusting and generally on a downward path. After that, car companies can build in numbers more in line with where the market has settled.

The sooner those stockpiles of cars are gone the better. That means governments creating the right conditions for consumers to spend a bit more again (in the auto sector scrappage incentives can act as a useful stimulant). But confidence is key and in short supply.

I would expect that in Europe new car prices will get even more attractive – for consumers, that is – over the next few months as manufacturers frantically look to destock. And that is perhaps a message that needs to be very clearly and loudly communicated by the whole industry to consumers: there's actually never been a better time to buy a new car.

UK: European vehicle production has further to fall – JD Power

INTERVIEW: Auto industry academic sees 'full recovery' by 2013 


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