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New car sales not quite on the right road

Professor David Bailey examines the impact of new vehicle excise duty and the rise in the cost of imported cars

Niall Carson/PA Wire A driver with a set of keys in a Volkswagen.

New car registrations fell month on month by almost 20 per cent to 152,076 units in April, as new vehicle excise duty (VED) rates came into force and imported car prices rose.

New VED rates, which came into effect on April 1, introduced a flat-rate of £140 for all petrol and diesel vehicles after the first year, compared to the CO2-based system used previously.

The new VED rates effectively pulled forward car registrations in March, which were up eight per cent year-on-year, before slumping in April.

Most buyers would have been about £400 better off over three years by buying a low-emission car before the VED rate hike.

While electric cars continue to be tax-free, lower-emission models, including hybrids and plug-in hybrids, will pay between £10 and £100 in first-year excise duty after previously being exempt.

This has triggered the first downturn in alternatively fuelled car registrations in nearly four years, with registrations down 1.3 per cent compared to April 2016.

Private sales slumped, with registrations by private buyers down by a whopping 28 per cent. Businesses and large fleets also registered fewer cars, down 21 per cent and 12 per cent respectively.

Despite the big hit in April, the Society of Motor Manufacturers and Traders (SMMT) said that the overall new car market remained "strong", with registrations over the first four months of 2017 up 1.1 per cent compared to 2016.

Yet the 20 per cent drop surprised many and it represented a significant hit for a market which has boomed in recent years on the back of new models and financial innovation in the form of Personal Contract Plans (PCPs).

Diesel cars took the biggest hit, with wider concerns over possible higher duties going forward and tighter restrictions in the wake of the Dieselgate scandal.

It wasn't just the new VED rates that acted as a drag on the market, though. Imported car prices have been rising on the back of the Brexit-induced depreciation of sterling last year.

With real wages being squeezed by a wider pick-up in inflation, households may start to hold off on new car purchase, a traditional cyclical big ticket item.

Car sales have been a boost for the UK's economy since 2014.

Pic: Nick Ansell/PA Wire

Low petrol prices and attractive financing deals have boosted sales which in turn has helped economic growth in the UK.

A softening economy, falling consumer confidence, rising prices, muted earnings growth and possible weakening labour market are likely to mean a slowdown in car sales in 2017, with consumers likely to delay purchases or trade down to cheaper models.

The SMMT itself said late last year that 2017 would likely see sales down by five to six per cent compared to 2016.

That is anyway optimistic - I see sales dropping by five to ten per cent this year (even a ten per cent fall would still see sales at historically high levels).

Signs of stress appeared in the market late last year, with so-called pre-registered sales rising - as far as I can tell, to ten to 15 per cent of all car registrations by the last quarter of the year.

These arise where dealers don't actually sell cars to real customers but register the cars themselves so as to hit sales targets and qualify for bonuses from manufacturers.

Pre-registrations have always been around but the levels observed indicate that the market is, if anything, "overtrading".

I also expect sales to fall through 2017 as the credit-fuelled new car sales boom reaches the end of the road.

Over 75 per cent of UK new car sales are financed by lenders and cheap credit has driven sales, particularly via PCP financing schemes.

Under a PCP, drivers pay an initial deposit and then a fixed monthly payment over a term of, say, three years which in effect covers the depreciation in the car's value.

After the three years are up, the driver then has the option to make a payment to take ownership of the car or, as manufacturers hope, trade in the residual value in the car as a deposit on a new vehicle.

The key difference comparing PCP as against a traditional hire purchase deal is that the driver is paying off a much smaller amount of money, so they have a lower monthly payment or lower initial deposit or shorter repayment term.

So, on a new-car deal over three years with a low deposit, a PCP offers a much lower monthly payment than an HP, with the caveat that at the end of the agreement the outstanding balance will need to be settled.

All this is a way of saying that, on PCP, the same car will cost considerably less per month to finance than on an HP or can mean the driver can drive a more expensive car for the same monthly payment.

That's what has made PCP so attractive to the car ‘buyer' (and has helped the growth of the premium sector).

It's a nifty financing model, for sure. But the entire PCP structure depends on that residual value remaining robust and keeping the monthly repayments affordable.

And, while PCPs have kept the corks popping at dealer sales events, dark clouds may be looming on the horizon which may dent to the ability of PCP to keep cars coming out of the showrooms at quite such a dizzy rate: used car values and a likely slowdown in growth.

In effect, the surge in PCP-propelled new car sales may lead to a wave of used cars hitting the second-hand car market, in turn depressing second hand values (unless broader economic growth is fast enough to boost confidence and used car sales).

That in turn could impact on the very collateral that lenders rely on to make PCP deals work.

If so, car firms may take a hit on the value of used cars being returned and PCP rates may start be less attractive in the future.

That in turn will act as a drag on the market. So 2017 will likely see a slowdown in car sales.

March's bumper sales figures could have been a last hurrah for the market before dark clouds set in.

Professor David Bailey works at Aston Business School

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