Some of the world’s biggest automakers are relying on continued strong growth in the Chinese market in the face of sluggish US and European sales, but those plans are facing a challenge as Chinese sales have slowed this summer. Total vehicle sales grew 14.4 percent over July 2009 levels last month (sales grew 70 percent year-over-year in July 2009), the lowest rate of growth the Chinese car market has seen since March of last year. China’s government is doing its part, instituting a $443 subsidy for cars with 1.6 liters displacement or less in the beginning of July. But that doesn’t seem to be helping much, as the percentage of cars with 1.6 liter engines or smaller actually declined last month. What’s a growth-addicted automaker to do (besides slash prices)? The same thing they do in every other market: extend credit in hopes of boosting sales and upselling customers on more expensive cars.
Reuters reports that the timing for an increased emphasis on credit in the car industry is good. As Sheng Ye, associate research director at Ipsos’ Greater China region explains, the traditional Chinese antipathy to credit purchases is eroding. And it’s the upwardly-mobile youth of the one-child policy era who are signing up for credit purchases of more upscale cars.
These people are very different from their parents’ generation. They work hard, play hard and have no qualms about snatching up the latest iPhones or other fancy gadgets on credit. As more and more youngsters get behind the wheel, the size of retail financing could easily double in as soon as five years.
An estimated 90 percent of Chinese car buyers pay cash for their vehicles, often borrowing money for the purchase from family rather than banks. Pushing through the “cash culture” may be getting easier, but there’s more to the anti-credit atmosphere than just cultural prejudices. China lacks comprehensive credit-rating tools, which not only makes loans harder to get, but also hurts the secondary market for loans as banks have few ways of distinguishing between good and bad loans. And it places a huge emphasis on loan terms rather than loan size. For example
The interest charge for buyers of selected Buick models in China is zero for a one-year loan, but rises to 7.69 percent for three years and 8.33 percent for four, according to GMAC-SAIC. That compares with the country benchmark lending rate of 5.31 percent for loans with duration of one to three years.
And the risks are real. An earlier attempt to goose Chinese sales by injecting credit into the market in the early 2000s ended badly, with record defaults and a number of banks exiting the auto lending business. And even now, JD Powers’ John Bonnell argues that the risk hasn’t gone away, saying
The system for finding those who decided not to pay and for reposessing the vehicles to get any kind of residual value is still premature.
Like any other form of leverage, auto financing offers the auto industry an opportunity for huge growth (one analyst projects “exponential growth… when auto financing take[s] off”) at the price of some major risk. The real question now is whether things are bad enough now to justify the risk involved in a credit-led sales boost, and the fact that the Chinese market is still enjoying double-digit growth indicates that it’s too early to start panicking. China’s crazy growth has led to a gold-rush mentality, and the expectation of perpetual growth at levels that seem unsustainable. If the Chinese car market needs to correct, so be it. Better to deal with a slowdown in growth now than be blindsided by a wave of defaults caused by China’s insufficient credit-market safeguards, let alone a burst demand bubble caused by redlined growth. China, perhaps more than any other market, requires smart investors to take the long view. As such, a slow transition to the inevitable acceptance of credit for auto purchases seems to be the smart choice.