World economic slowdown was coming anyway

2001 was a year of transition for the global economy. After a prolonged phase of growth stretching back to the mid-1990s and led by the tech-driven American economy, a period of slowdown beckoned. The US economy slowed during the course of 2001 and the impact on confidence elsewhere was sufficient to induce slower worldwide growth. Few countries or regions were left unscathed. Several factors brought growth in the OECD area to a virtual standstill by the middle of 2001. In particular, a severe correction in the high-tech sector impacted confidence, along with the lagged impact of the substantial rise in oil prices that took place through 2000.

By the end of summer 2001, some signs were beginning to emerge that the slump in the United States might be easing and that a return to moderate growth might be expected in early 2002, thanks in part to the resilience of household spending throughout the OECD area.

Developed economies recovering strongly

While serious concerns remain in a number of countries, notably Japan and Argentina, most indicators suggest that global economic recovery is now well underway. After grinding to a halt in the final months of 2001, global output is now rising strongly – led by resumed growth in the US. The feared recession in the US turned out to be ‘V’-shaped and after two quarters of decline, has bounced back strongly.

“The US economy is recovering more rapidly than expected. “

The US economy is recovering more rapidly than expected. Over the coming months growth will be driven by rising industrial production as firms restock and moderate consumer spending growth encouraged in part by the lagged effect of tax cuts.

The recovery is being underpinned by a number of factors. First, and most important, macroeconomic policies in advanced countries have been substantially eased over the past year, notably in the United States, and are now providing increasing support to demand. Policies in a number of emerging market countries, especially in Asia, have also been eased, although in most others the scope has been relatively limited. Second, the completion of ongoing inventory cycles, which appears most advanced in the United States but is also underway in Europe, will support economic activity.

Global car market decline will be short-lived

The world car market is set to decline in 2002, having virtually ground to a halt in 2001. But a projected decline of 2.4% to 46.9 million units is perhaps better than many in the industry would have dared hope for at the beginning of the year. While the markets of the advanced economies – especially in Western Europe and North America – are displaying, along with their economies, more synchronicity than ever before, the picture across the world is more mixed and more complex. China’s economy, for example, continues to surge at an annualised rate of growth in excess of 5% (officially over 7%) and demand for cars in China is governed much more by domestic environment factors than anything going on outside of its

“The world car market is set to decline in 2002, having virtually ground to a halt in 2001. “

borders. The same can be said for India and Russia. And paradoxically, a large market at rock bottom – like Japan – can’t really fall much further anyway, so it won’t have a big negative impact on the trend.

So, the declines to underlying car demand (leaving incentives and discounting to one side) that have occurred – and are occurring – in the North American and Western European markets aren’t echoed elsewhere to anything like the same extent. And the good news is that the recession in the US has turned out to be much milder than most people expected. That will be acting to lift confidence in the US marketplace and limit the market ‘vacuum’ as customer incentives are either withdrawn or subject to steadily diminishing effect. While sales are projected to decline this year in both the US (-3.7%) and Western Europe (-4.9%), market levels remain high by historical standards.

New car demand is out there

It is hardly groundbreaking to suggest that there is a causal relationship between individuals’ income or level of affluence and their ability or propensity to purchase a car or light vehicle. But it is a good starting point in considering the dynamics of the global new car market.

The chart below maps a selection of countries in terms of their levels of car density (per capita car ownership expressed in terms of cars in use per thousand population) and income levels per head (measured by per capita GDP). The expected link between income levels and ownership is clear. In the top right of the map is the US, with the highest levels of both per capita income and car ownership. In the bottom left is China, a developing country with a huge population, most of who still travel by bicycle, motorcycle or public transport. In between are countries at different points along the income-ownership ‘S’-shaped diffusion curve. Over time, as income levels rise, so populations tend towards motorisation. It has long been held that at around $5,000 income per head, a magic market ‘take-off’ level is reached and ownership accelerates (a kink in the ‘S’), reflecting a more favourable car price to income ratio. This is borne out by historical evidence – South Korea, for example, went through that phase in the 1980s.

Figure 1
Wealth and car density

The chart certainly confirms that in global terms, the new car market is far from saturated. Emerging markets offer large opportunities for manufacturers as their populations enter the early stages of motorisation. That’s something that some Japanese and Korean makers have always been very mindful of. Get them early and build brand loyalty – whether it be motorcycle or city car. When they trade up, you have a chance of retaining them.

“The arithmetic can be awesome if the emerging markets have very large populations “

The arithmetic can be awesome if the emerging markets have very large populations – like say India, Indonesia or (everyone’s favourite) China. But some caveats to the income-ownership relationship should be added.

Mass-motorisation not an option for some

Mass-motorisation on the scale of the US or Europe is never going to be feasible in huge mega-cities with exceptionally high population densities. Thus Japan is one of the richest countries in the world, but has a level of car density that is considerably lower than that of the US or the richest countries in Europe. The reason? Japan is a crowded island and a highly urbanised one. If you live in central Tokyo you pay a lot of money to park your car. Public transport is well developed. The benefits of car ownership come with costs that act as a deterrent. In some countries cars are also more heavily taxed by the government than in others.

China’s population of 1.3 billion people undeniably offers huge market potential for the automotive industry. In the medium term we see the Chinese new car market comfortably expanding to a level in excess of 1.5 million units per annum. Motorisation rates will still be low – under 10 cars per thousand population. Our analysis of long term market potential in China suggests that the market could top out at a level in excess of 10 million units per annum, given long term massive growth to income levels, taking into account Chinese operating conditions and settlement patterns. Such a market would however not be attainable this side of 2050, given the projections on income growth.

The US replacement cycle may be distorted by incentives

Expert Analysis Global Car Sales Forecasts to 2007 This article is taken from the full just-auto.com report, “Global Car Sales Forecasts to 2007”. Use it to: Determine economic recovery and growth rates in key regions and markets and how they will affect car demand; Establish where growth will be fastest; Find out which markets represent the highest risk areas; Obtain car sales data and forecasts by market from 1997 to 2007; Get a handle on which manufacturers stand to do well in terms of market geography; Predict performance and outlook at manufacturer level; See major product actions ahead for major manufacturing groups

We see the US and Canada as primarily replacement demand markets working off a replacement cycle. The replacement cycle should be synchronised with the economic cycle. So, when economic times are bad, people hold off on new car purchase, or replacement. When the good times are rolling, the replacement comes on stream and people may also bring purchases forward – reinforcing the demand ‘bulge’. In 4-5 years time, when peak replacement time arrives, the bulge comes through in sales as an ‘echo of past purchases’. The Japanese synchronised this well with four-year product cycles and domestic road-worthiness tests that made it inadvisable to hang on to a car beyond four years (hence the big business in shipping used cars to New Zealand).

The danger with artificial incentives in the US is that they effectively support the market above its ‘true’ level. The longer that goes on, the further potentially it may fall when the incentives tap is eventually switched off or runs dry. Furthermore, the market may fail to revive or may be weaker than expected when the economic environment does improve.

We are forecasting a drop in the US market later this year and a virtually flat market next year on the basis of ‘incentives hangover’ and in spite of the improving economic situation.

Emerging markets offer best growth prospects

After the unhappy roller coaster ride of the last five years, our analysis suggests that emerging market strategies still need to be at the centre of automotive firms’ growth strategies. They may carry risks, but volume growth will be biggest in places like China, Russia and India. Investors in the auto industries of these countries just have to take a balanced view of the risks involved – and cross their fingers that the emerging markets financial crisis of 1998, or anything like it, will not repeat. The fact that Argentina has defaulted on its national debt and not dragged others into crisis gives cause for optimism.

Figure 2
Where is future car market volume growth found?