Economic news has been rather upbeat in recent months. The labor market has finally gained traction with growing jobs and declining unemployment. Gas prices are at their lowest levels since 2009. Wealth has been growing as asset prices rise. And consumer confidence is surging to pre-recession highs. These trends have resulted in strong growth for the auto industry: 16.5 million new cars were sold last year. Our outlook is for more economic good news in the coming months.
We expect the car industry will see continued strong sales but with a shift in what people are buying. Recent economic trends are changing what consumers are willing to spend and what they want to get for their money. The cost-conscious, fuel-efficient mentality from the recession and early recovery years has faded. Today's car shoppers are thinking big. In a recent study, Edmunds found that car shoppers on its site are interested in trucks not cars, in gas-guzzlers not electrics, and in the higher-end models in most segments. (This is, of course, great news for the auto industry since selling more of such vehicles generally means more profits.)
Mainstream Car Shoppers Want More
More income and more confidence in economic conditions make it likely that car shoppers will be more willing to spend and that they will want more of life's finer things. Such a change can be seen in the kinds of vehicles consumers have shopped for in recent months. For starters, car shoppers are increasingly likely to consider more expensive mainstream vehicles, such as compact and midsize crossovers. Meanwhile, they are less interested in coupes and sedans, which are generally less expensive.
Evidence of consumers wanting more can also be seen within individual segments. In the three most shopped mainstream segments (midsize cars, compact crossovers, and compact cars), shoppers have been configuring more expensive models during the past two years. The changing distribution of configurations across price bands clearly shows this shift in the three top segments. The share of shoppers configuring higher-end models has increased, while the share configuring lower-end models has decreased. These changes are much greater than MSRP changes.
Luxury Car Shoppers Want More
The shifts in mainstream car shopping imply that consumers are likely more interested in luxury vehicles as well. But, at first glance, there appears to be little change on the luxury scene, and not in the direction that one might expect. In fact, the share of car shoppers looking at luxury vehicles has slightly declined overall during the past two years. Only the entry luxury SUV segment has gained momentum.
A deeper dig into the segment level reveals a different story. As with mainstream segments, shoppers are showing more interest in the higher-end models within the most popular luxury segments (entry luxury cars and entry luxury SUVs), and less interest in the lower-end models.
Fuel Economy Is Out
Better employment and higher income are not the only factors shifting what consumers want in a car. Lower gas prices have strongly curtailed interest in hybrids and electrics. The decreased appetite for fuel efficiency is also driving car shoppers away from the two most popular segments of recent years: midsize cars and compact cars. The share of shoppers considering a midsize car has dropped 22 percent since 2013. Interest in compact cars has declined even more, and fewer shoppers in every other segment have cross-shopped compact cars in the past year.
Meanwhile, consumer interest in compact and midsize crossovers is surging, and these segments are rapidly displacing compact and midsize cars in popularity. Similarly, lower gas prices have attracted more attention to the large truck segment, a segment that really suffered during the recession. While the resurgence in home building that started in 2012 has helped the large truck recovery, it took gas prices falling to 2007 levels to restore large truck shopping to its pre-recession levels.
Outlook: More of the Same
We expect recent economic trends to continue into next year at least. Although the Federal Reserve is expected to raise interest rates in the near future, this much-anticipated event is unlikely to disrupt economic growth (unless the Fed substantially overshoots the optimal increase). Similarly, while the growth of subprime lending should be watched for signs of dangerous over-extension, we are not yet at the point where a substantial pullback by lenders is likely. That's good news for car sales, which should also continue to be strong.
Will there be a change in the types of vehicles that consumers want?
Sharply rising gas prices could swing the pendulum back toward cars and fuel efficiency, but this scenario is unlikely. In fact, the Energy Information Administration's most recent forecast is for gas prices to decline this summer and remain in the mid-$2 range for the rest of the year.
One might think that the strong dollar could change consumer preferences if foreign brands cut prices based on favorable exchange rates. But, such a price war is another unlikely scenario. Foreign brand production in the U.S. has limited the impact of exchange rate fluctuation, and foreign automakers are generally better served reinvesting any extra profits in the quality of future models.
Indeed, car shoppers will almost definitely continue gravitating toward SUVs, trucks, and higher-end models as long as the economy continues to pump out more jobs, higher wealth and confidence, and relatively low gas prices.
Lacey Plache is the Chief Economist for Edmunds.com. Follow @AutoEconomist on Twitter.