The economy, just like water, does not calm down right after major disruptions have passed by. In the current economic lake, the global pandemic speedboat has caused three distinct waves.
Wave One: Supply Chain Disruption
During the onset of COVID-19, manufacturing shut down and limited on-site work to “essential” personnel. Quickly, the auto market went from one where car manufacturers and dealers were begging the public to buy their inventory through heavily discounted prices to a situation where the prolonged chip shortage and lack of manufacturing created empty lots and not enough vehicles to go around.
As any good student of economics can attest, the lack of supply and the excess of demand leads to higher prices.
The impact of this is now evident in the used car market. Low-cost vehicles that were historically traded in for new cars are just not widely available in the used car market. Those that do exist move at a high speed, staying on the market in some cases only hours. What’s a used car buyer to do? They must wait for nicer, high-end cars to hit the market at a price they can afford, which might mean another year or two before buying.
In addition, the buyer who purchased that high-end car during the pandemic is likely to hang on to it a year or two longer to get more value from the price they paid. Manufacturers are slowly bringing back production of low-cost vehicles, but it will be years before this wave and the following ripples work their way through the economic landscape (waterscape?).
Wave Two: Inflation
During the pandemic, stimulus money inflated bank accounts and drove down consumer debt, but businesses were closed or operated on limited hours. People had money to buy goods and services but limited places to spend it, creating a perfect environment for inflation to start to spiral. Groceries, energy, and cars all jumped significantly.
As inflation continues to be an issue, many households have moved from having to decide how to spend their extra dollars to instead having to decide which bills will get those dollars. As a result, delinquencies are rising, and lenders are back in the full swing of collections. Unfortunately for lenders, an increasing delinquency rate can move quickly into increased charge-offs.
The lender space is just now feeling the effects of the inflation wave, and the expectation is that 2023-2024 will be challenging to the bottom lines of many lenders. Staffing shortages, salary inflation, and a higher demand for repossession, skip tracing, and remarketing services than the market supply currently provides leads to anecdotal stories of lenders spending extra money to prioritize their vehicles so they won’t be left out.
It doesn’t take long for these combined forces to create a new, higher price point for everyone — and so inflation continues.
Wave Three: Interest Rates
In a bid to combat inflation, the Federal Reserve has continued to raise interest rates. In less than a year, rates climbed steeply from 3.25% to 8.00% at the time of this writing. Although the rate of increase has started to taper off, the impact in many areas is undeniable.
In the housing market, lending has cooled significantly as:
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- Refinance activity has virtually dried up.
- Inflated home prices plus significantly higher mortgage rates have priced many buyers out of the market altogether.
Similarly, in the auto market:
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- Buyers who would normally trade in their vehicles for a new one are looking at either a huge increase in their monthly payment or a one- to two-year extended term on the note.
- Many of those buyers are deciding to hang on to the vehicle they have.
- For those borrowers who do take the plunge, even small changes in their economic reality could lead to delinquencies, defaults, and repossessions — making the risk much higher for lenders.
Historically, the labor market has to tighten significantly to rein in inflation. That hasn’t happened yet. The Fed is being cautious in an attempt to not make that a reality, but it remains to be seen. The impact of this wave has shifted the water line but stay tuned for more turbulence.
Naturally, all boats aren’t the same size, the same design, or heading in the same direction. Each lender has to examine their own unique boat to determine the best way to position it to ride out the waves and hopefully return to calmer waters — at least until the next jerk in a speedboat comes along to stir things up.
For a personalized consultation regarding the ways State National can help your credit union ride out this storm with reduced risk, reduced charge-offs, and greater peace of mind, contact our CPI experts.
Loren Shelton is vice president of insurance solutions at State National. He manages the underwriting, claims, and new business implementations for a portfolio of more than 6 million loans. With more than 23 years of experience, Loren has extensive knowledge of State National’s collateral protection products.
