UK Car Market Shows Volume Resilience

The UK car market has continued
to show an ostensibly strong volume performance in 2000, although there are growing
doubts about how long this can continue. In the first seven months of the year,
the market is up 1.1% over the same period of year.

Many auto industry forecasters
are revising their full-year market projections upwards to 2.2 million units
(the official SMMT forecast now stands at 2.225 million units) which is virtually
flat on 1999 – itself a strong year. The buoyant market is confounding the views
of many industry experts – expressed strongly at the beginning of the year –
that the market was due a cyclical downturn in 2000.

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The strong market is being
underpinned by a number of factors. Certainly, the economy is in relatively
good shape. The ominous rumblings and complaints from the manufacturing sector
about the problems of the sterling-euro exchange rate have yet to detract from
the combined effects of buoyant consumption, rising house prices, a strong stock
market and low interest rates. The economic environment has been largely positive.
Another important stimulant is the availability of good deals for the consumer.
Interest rates are low and the UK car market is extremely competitive. Amongst
the large national markets of Western Europe, it is the most fragmented (Spain
excepted) as there is no longer a major ‘domestic’ manufacturer platform. Rover’s
share of the market is just 5% and market leader Ford has seen steady erosion
too – under 17% now.

As new entrants – notably
the Koreans – have entered the market in force in recent years, it has become
increasingly competitive. More importantly, one of the effects of the sterling-euro
exchange rate development has been that it has enabled exporters from the euro-zone
to the UK to be more aggressive on pricing. After initial reluctance, they have
picked up on this opportunity in a big way – there are some great deals to be
had for UK consumers right now (see Fiat ,esp. Alfa), Renault, PSA and Ford
for example). The increasing visibility of the online retailers is raising the
competitive ante still further.

New car prices in the UK
are declining at an estimated rate of 10-15% per annum. Some consumers may well
be holding off in the hope of getting a better deal a few months from now.
However, this element appears to have been over-hyped by the media: consumers
are generally not prepared to hold off too long. There is also a degree of (well-placed)
scepticism about the scale of price reductions. The government’s Monopolies
Commission report did not produce the ‘big-bang’ price reductions that some
hoped for. The industry’s response has been pretty muted and unflustered. Indeed,
the government may well ease off now: the automakers are noisily complaining
about the manufacturing problems that the sterling-euro exchange rate is creating.
When the exchange rate goes the other way – as surely it must do eventually
– UK car prices will not seem so out of line with those on the European continent.

Why are UK car prices
so high, historically?

This is a question that
is often overlooked in the debate over prices. In fact, the explanation has
a lot to do with the structure of the UK car market. Since the 1970s, ‘company’
car purchases – i.e. all non-private individual – have accounted for around
half of the annual market total. They have their origins in the need for employers
to circumvent controls on pay rises in those inflationary times. (“No pay
rise mate, but there’s a nice new company car to soften the blow.”)

The car manufacturers also
have a long tradition of offering huge discounts to bulk buyers – something
that the Monopolies Commission opposes. The list prices are therefore high to
start with and on that high base, attractive discounts can be offered. The car
rental companies operate businesses that rely on huge discounts for bulk orders
and selling on cars after as little as 3 months to make a profit. Little wonder
that depreciation rates in year one are so high in the UK for the volume makes.
For the individual too, it has long been an open secret that the list price
is there to be bartered down – often through a particularly attractive trade-in.
A look at this year’s new registration statistics illustrates the continuing
importance of the business market.

Table 1

New Car registrations
by customer type

Source: SMMT

Replacement demand is
higher now

The more cars you have,
the more cars you need to replace. The UK car market is also being driven higher
by growing underlying replacement demand. As the stock of vehicles grows, the
absolute numbers requiring to be replaced – assuming a reasonably constant age
distribution is maintained – will be rising. If we assume a natural replacement
rate of about 8% then that means that a 15 million-unit car parc sees 1.2 million
units replaced in a normal year (on top of that is ‘new’ demand, reflecting
rising motorisation). If the parc has grown to 25 million units and the replacement
rate is the same, then this replacement element has risen to 2 million units.
Therefore, as the UK car parc grows, the need to replace more vehicles exiting
the parc leads to growing annual sales of new cars. That is a little simplistic,
as the rate of replacement will be changing, but it seems reasonable to assume
that this factor is – net – adding to the annual demand for new cars in the
UK. There should be little surprise therefore that the market now appears to
be able to settle at a natural rate considerably in excess of 2 million units.
But this gain is ‘underlying replacement’ and as described below, ‘cyclical
replacement’ can exact a strong influence on the cyclical outlook.

It’s been late coming
– but a replacement-led downturn is imminent

The cyclical nature of the
car market is clear from a cursory glance at a long annual series. The car market
is sensitive to economic conditions and that has created periods of ‘boom’ and
‘bust’. Although the market is now not subject to the adverse effects of an
economic recession, the ‘echo of past purchases’ effect means that the replacement
demand in particular age cohorts will vary according to their size – itself
affected by the sales trend when the car was new. Thus the dip in sales of the
early 1990s – caused by recession and deferred sales then – looks set to lead
to lower numbers of cars, newly registered then, leaving the parc over the next
few years. The replacement requirement will therefore be lower and that ought
to mean that car demand dips – assuming that ‘new’ demand
is not increasing. Our forecast for 2001 sees the car market declining to around
2.1 million units – a drop of about 4.5%. That still leaves the market at a
historically very respectable level.

Chart 1

UK Passenger Car Market
1980-2001

Table 2

UK Passenger Car Sales
by Make – Jan – July 2000

Source:
SMMT

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