by Eric Wolf

Created on: October 26, 2008

Higher gasoline prices alone will not necessarily have a negative impact on the volume of new car sales. Conversely, it is likely that more new cars will be sold as consumers trade in their inefficient vehicles for newer cars that offer better fuel economy. However, the profitability of new car sales will probably suffer and other current economic factors will likely reduce sales volume.

Dramatically higher fuel prices have had a two fold effect on automotive supply and demand. First, consumers have had an historic change of heart regarding the types of cars they are demanding. The preference for ever larger, heavier and less efficient vehicles that has been growing for the past decade has taken an abrupt u-turn. New car buyers are now becoming interested in the fuel economy ratings of new vehicles as a primary factor in making their purchase. Just watch the advertisements for new cars and you will see a majority of them touting fuel economy, a specification that was barely mentioned a little as a year ago. Hybrid vehicles are finally getting traction in the marketplace, more and more subcompacts are appearing on America's roads, and SUVs are sitting unsold on dealer lots.

This is not good news for automakers. While sales volume may not be taking a significant hit, profitability is. Research and development costs for lighter, more fuel efficiency vehicles can be high and particularly new technologies such as electric and hybrid can carry even higher costs. Whereas a highly profitable Hummer can be built largely from existing parts bin components, General Motors must build the economical Aveo at its Korean Daewoo facility to eke out a profit. Many automakers have also been slow to recognize the coming trend and have large inventories of unwanted vehicles. At the same time, they are only beginning to ramp up production of smaller cars.

Trade-in value is another significant factor in this equation that may have a negative impact on new car sales. Buyers who have financed larger, more expensive vehicles may find themselves unable to reach a satisfactory deal when trading on a less expensive smaller car. Dealers can often add any negative equity on a trade-in to the purchase price of a new vehicle, but this becomes difficult when there is a low profit margin on the new car.

The current financial crisis is having a much greater impact on new car sales than higher fuel prices are. Many consumers are feeling a financial strain due to the current state of the economy and even those that are not may be unable to buy due to the tighter financing market. Automakers who were rushing to offer financing at zero percent may now have trouble financing at any rate.

Higher fuel prices alone will not cause a precipitous decline in auto sales volume. The automotive market is probably in for a bumpy ride in the near future, however, due to the changes that fuel prices and other factors have brought about.

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