The role of cars in our lives (pt I)
Part 1 of 3: The “Blowfish effect” of car loans
The world of cars today
If asked what the cost of a car is in South Africa, what would you say?
You may be inclined to call out R321,715 ($22,931). That was the average price of a new car in South Africa last year. Alternatively, you may be thinking about what you pay the bank each month for the privilege of private wheels. South Africans will spend R6,800/month ($480/month) or more to finance the average new car over 5 years. By comparison, Americans with car loans are currently forking out $550/month on average over 6 years.
The most financially disciplined amongst us will likely point to their total cost of car ownership (also referred to as TCO), which factors in the monthly car loan payments, maintenance, insurance and fuel. According to WesBank, the average South African car owner carried a total cost of ownership of just under R8,000/month ($570) for a private car in 2018, almost R3,000/month more than what it was in 2012.
Car loans have become an integral part of how we think about vehicle costs, as more and more consumers are being captured by them, without the appreciation for how harmful they are likely to be to our financial well-being — all in the pursuit of “car ownership”.
While consumer debt can improve access to products or services when used prudently, it has equal potential to be a force of mass financial destruction. We don’t even need to look back that far for proof.
With our constantly evolving lifestyle needs and the higher frequency of new car model releases, it has become difficult to get into your car of choice without being caught by the modern car loan trap. As much as 85% of new cars sold in America last year had a car loan attached.
Today, car loans across the U.S. exceed $1.2 trillion in aggregate — more than three times the size of South Africa’s GDP and until recently, the second largest consumer debt category for Americans after home loans. Consumerism today mandates a customary debt “dance with the devil”, that renders us captive to lenders into perpetuity to feed our desire for cars.
The rapid advancements of the technology that is going into our cars to make them safer and cheaper to run, has meant that the price of these cars continues to rise. As a world of vehicle electrification and autonomous cars inches closer, that pricing trend is not going to slow down. The problem is that consumer pockets around the world are already struggling to keep up.
So how is the auto industry addressing these pricing pressures consumers are facing while serving its own hunger for higher sales volumes? Simple. Burden us with longer loans to keep the monthly costs low and maintain the perception of affordability.
More than 75% of Americans who took a car loan last year committed to terms that are longer than 5 years just to make the numbers work. It’s become increasingly common for South Africans to take 6-year car loans to keep up with price increases. Put differently, South Africans will be digging themselves out of negative equity for longer than a president holds office or the time it takes a newborn baby to start school.
What’s wrong with that? Extended car loan terms saddle you with negative equity for longer.
What is “negative equity”?
Negative equity is when the amount you owe the bank is higher than what the car is worth.
This in turn keeps us captive in an ecosystem that preys on our tendency to consume to appease our desires, diving into debt to consume all the cars coming off the production line. Keeping our spend high, fuelling GDP growth.
For many of us, once we sign on the dotted line to start the car loan, the cycle of excessive consumption and wealth destruction begins. Many never make it back to a life unencumbered.
Car loans are to global vehicle sales what cocaine was to the global drug trade, the catalyst for mass market appeal.
On a 5-year car loan, a consumer in South Africa would wait approximately 4 years before the negative equity handcuffs can come off… and it gets progressively worse the longer we make the loan.
To make matters worse, an increasing number of consumers are failing to reach the end of their car loan, ending up back on the dealer floor rolling their negative equity into a brand new car loan… and so the cycle continues.
To illustrate the point on negative equity, let’s plot the car loan balance (or “settlement value”) of the average new car against its expected vehicle value (or “trade-in value”) on a graph over 5 years.
Something we can refer to as the “Blowfish Effect”. Similar to its namesake — the most poisonous fish in the world — car loans are the most precarious financial product in the world, with the risk of negative equity blowing up without warning.
Car loans require expert handling to avoid economic death when consumed. Yet millions of unsuspecting people around the world can’t get enough of these car loans in pursuit of their next ego and social status fix. Sound familiar?
This is how it actually works… the part they don’t tell you in the car sales pitch. Higher interest rates, longer loan terms, bigger balloon payments and faster depreciation all expand your negative equity. It blows up just like a blowfish!
Some banks are sounding the alarm bells. FNB’s Head of Consumer Education Program, Eunice Sibiya, echoed the dangers of car loans in an interview in 2018.
Whether you’re buying a pre-owned or brand new car, you need to be careful what finance agreement you choose otherwise you could find yourself in an extremely terrible financial situation — Eunice Sibiya.
Now that you know about the dangers of car loans, read Part 2 of 3: The spell of Edward Bernays for a deeper look into how we became captives of a car ownership ideology.
