Summary: Reading news about trends and events without explanations of why provides entertainment, but seldom gives actionable insights — whether for individual action or public policy initiatives. Now we have the explanation for the boom in what seemed like unsustainable subprime auto lending: new technology makes it profitable.
“When I was sixteen, I went to work for a newspaper in Hong Kong. It was a rag, but the editor taught me one important lesson. The key to a great story is not who, or what, or when, but why.”
— Elliot Carver, in Tomorrow Never Dies (1997)
The increase in auto lending to subprime borrowers — on mad terms — has boosted auto sales (25% of loans have durations of 82-84 months; the average loan-to-value is 0ver 100%). The combination of high levels of subprime borrowing and easy terms is odd — especially so soon after the massive consumer defaults of 2008-09. Many articles that describe this situation imply that lenders have become imprudent or even mad. I’ve done so (see the posts listed in the last section below). That’s sloppy analysis. “Why” is usually the vital question to ask, although often the most difficult to answer. What has changed to make lenders comfortable making such loans?
The New York Times provides the answer: it’s new technology:
Miss a Payment? Good Luck Moving That Car
24 September 2014 — Opening:
The thermometer showed a 103.5-degree fever, and her 10-year-old’s asthma was flaring up. Mary Bolender, who lives in Las Vegas, needed to get her daughter to an emergency room, but her 2005 Chrysler van would not start. The cause was not a mechanical problem — it was her lender.
Ms. Bolender was 3 days behind on her monthly car payment. Her lender, C.A.G. Acceptance of Mesa, Ariz., remotely activated a device in her car’s dashboard that prevented her car from starting. Before she could get back on the road, she had to pay more than $389, money she did not have that morning in March.
“I felt absolutely helpless,” said Ms. Bolender, a single mother who stopped working to care for her daughter. It was not the only time this happened: Her car was shut down that March, once in April and again in June.
This new technology is bringing auto loans — and Wall Street’s version of Big Brother — into the lives of people with credit scores battered by the financial downturn.
Auto loans to borrowers considered subprime, those with credit scores at or below 640, have spiked in the last five years. The jump has been driven in large part by the demand among investors for securities backed by the loans, which offer high returns at a time of low interest rates. Roughly 25 percent of all new auto loans made last year were subprime, and the volume of subprime auto loans reached more than $145 billion in the first three months of this year.
But before they can drive off the lot, many subprime borrowers like Ms. Bolender must have their car outfitted with a so-called starter interrupt device, which allows lenders to remotely disable the ignition. Using the GPS technology on the devices, the lenders can also track the cars’ location and movements.
The devices, which have been installed in about two million vehicles, are helping feed the subprime boom by enabling more high-risk borrowers to get loans. But there is a big catch. By simply clicking a mouse or tapping a smartphone, lenders retain the ultimate control. Borrowers must stay current with their payments, or lose access to their vehicle.
It’s a good analysis, well worth reading in full.
Conclusions
Technology marches on, irresistibly. But the techno-utopians, like Marc Andreessen (Wikipedia), misunderstand the effects. Technology, like a natural force, can as easily harm as benefit society. The previous industrial revolutions generated vast fortunes — at the cost of massive suffering for several generations, until collective action by people forced through social reforms to harness the forces unleashed.
That will be our challenge as well. Technology merely recasts in new forms social ills humanity has grappled — with modest success — for millenia. As we see here — with unregulated lending to the working poor, enabled by new tools to reduce losses, produces an explosion of usury.
“The rich rules over the poor, and the borrower is the slave of the lender.”
— Proverbs 22:7
For More Information
(a) Other research about auto loans:
- “In a Subprime Bubble for Used Cars, Borrowers Pay Sky-High Rates“, New York Times, 19 July 2014
- “Just Released: Looking under the Hood of the Subprime Auto Lending Market“, New York Fed, 14 August 2014 — Reassuring words from the Fed, just like their analysis about subprime mortgages in 2006-07
(b) Posts about consumer lending:
- Rising consumer debt driving the recovery: boon or bane?, 10 November 2013
- Auto loans are a driver of the expansion, but might be running out of gas, 1 April 2014
- Debt unleashed again to ravage America: out of control auto lending, 2 July 2014
- Auto loans: once a boon for America, now a bane, 7 August 2014
(c) Posts about the debt supercycle:
- Death of the post-WWII geopolitical regime – death by debt, 8 January 2008 – Origins of the long economic expansion from 1982 to 2006; why the down cycle will be so severe.
- A picture of the post-WWII debt supercycle, 26 September 2008
- Debt – the core problem of this financial crisis, which also explains how we got in this mess, 22 October 2008
These devices have been around in one form or another for about 15 years. They have become more sophisticated and easier to deploy I suppose. There are of course several levels of subprime borrower. These were originally used by the buy here – pay here dealers.
What I see as the larger change is that those dealers are now selling the paper to finance companies under discount terms that frighten me. In some cases they only receive 50% of the loan amount up front and collect the rest after the finance company has recovered their outlay. There are other programs with different arrangements, but the common effect is the customer gets less car pays more for it and cannever get into the normal category again. Some do of course but it is rare. This at least where I have been is confined to used cars, usually 7-10 years old, But new car dealers are now selling these type of deals where they used to avoid them.
One would think there must be a point where it stops but I have to wonder.
That said the devices probably reduce the default rate and may actually as a result lower borrowing costs for the riskiest borrowers. So they may actually be a benefit overall. There are a lot of borrowers who are not very disciplined and while they have sufficient income never seem to have the money.
I can figure out if the expansion of this kind of lending is a negative reflection on business or on the general level of the consumers.
Doug,
“That said the devices probably reduce the default rate and may actually as a result lower borrowing costs for the riskiest borrowers.”
Perhaps. The previous NYT article in this series, about interest rates charged subprime borrowers, did not indicate that the lower loan loss rates had resulted in lower interest rates for subprime borrowers.
The bigger picture is why does living In America force one to waste money on a car? A car costs about $10000 a year. Other countries is is possible to live without a car. The game is rigged. First comes zoning laws which force people to live far away from work, so have to buy a car. Government gets money through tags and gas taxes, big car and oil and insurance corporations have their hand in your pocket, Wall Street securitization makes money off the intrest from auto slavery., advertising the list goes on…..
I don’t know that zoning laws force people to live far away from work. I think there are a lot of other factors involved. It used to be that most office jobs were clustered around the city center and most of the lower income people lived in the city not in the suburbs. Now we build office complexes in what was farm land, far away from where the people who will work there live. These complexes are dispersed around the outskirts of the suburbs, making it difficult to use mass transit to service them. As a consequence families that could have existed without a car or at least with only one car now need 2 vehicles just to survive. Perhaps zoning laws could have prevented this, but there is too much money to be made in real estate development.
If you count the cost of the car, the interest on the loan, the cost of maintenance, the cost of fuel, the cost of a garage and driveway (not compulsory, but usual in suburbia), the interest on the piece of mortgage attributable to the garage and driveway, the property tax on the car (in this state, anyway), the property tax on the garage and driveway, maintenance on the garage and driveway, auto insurance, homeowners or renters insurance on the garage and driveway, flood insurance on the garage (required by my mortgage), the cost of parking at work, the cost of parking at meters, the cost of parking at the airport while flying, the cost of the occasional traffic or parking ticket, the value of the time I spend on the car and/or its accoutrements listed above (gas station, waiting at mechanic’s, looking for parking, traveling from parking to work or wherever I’m going, shoveling snow from the driveway, etc), all of which is after taxes except the mortgage interest; then add in the direct health damage of driving-induced stress, the risk to health of a crash, the effect on health of avoiding walking, the effect on health of the various pollutants spread in the entire life cycle of the entire automotive and associated industries of the world; the taxes I pay for streets and highways, their maintenance, snow removal, etc; the cost to stores of parking lots and their maintenance, passed on to customers (i.e. me); the increased cost of real estate in its various guises (housing, farmland, commercial) due to competition with asphalt and concrete; and a zillion other items I can’t think of, sometimes I wonder if we have not as a society wandered out a bit too far in this particular direction, if assessed in a purely logical, rational light.
I don’t know if this company uses the disabling technology or not, but I know a lot of dealers who are doing well with their programs. It is worth looking at their sales pitch to dealers to understand this phenomena. Keep in mind that 30 years ago the subprime market was being serviced by dealers that “loaned” the money them selves. The typical Buy Here – Pay Here Lot collected weekly payments, kept an extra set of keys and if you did not pay on Friday had your car in impound by Saturday night. http://www.creditacceptance.com/dealers.aspx
I’m sure a lot of banks were doing great in 2005 due to CDOs. The problem do we really understand the complexities. I’m guessing not, too much money to be made now, why worry about the future.
I wonder how far this idea could go.
Lock you out of your house if you miss a mortgage payment?
Isn’t that basically what they do, just haven’t gotten high tech about it yet?
Gzucker,
I think the unique factor of the starter interrupt device vs old-fashioned repossession of the car is the immediacy– and no legal process.
What would be the equivalent in a home? Perhaps a cutoff for electric, gas, and water? Whatever it is, there are probably people working on it now.
I seem to recall it worked that way in Britain during the 1950s? 1960s?, at least for heat: people (only poor people, I assume) had to put coins in space heaters, and if you ran out of coins, you got cold.
I understand some electric companies (in Arizona?) are now requiring people who don’t have stellar credit to prepay for electricity. Of course, they’ve been requiring deposits for new customers without stellar credit for ages (which can be a real problem if you’re poor and want or need to move). I gather this is ongoing, though: people must continually replenish their account before they use the electricity.
I do see that the auto situation is different, though, in that the point is to get people to use credit. No fun forcing people to live within their means… the object seems to be to goad/trick/trap them into spending more than they can afford, then be sure you’re first in line to get paid, and let somebody else come up short.
It’s a zero-sum game, exploiting people’s desperation (or, to be fair, sometimes, maybe even often, foolishness). Expending resources and increasing insecurity to play a zero-sum game might be to the advantage of individual actors, but it’s harmful to the society at large.
Coises,
Yes, that is how the poor and much of the middle class in Britain paid for heat through the 1950s (don’t know when it changed). It’s a commonplace note in their fiction of the era.
Great point about the nature of this lending – the goal is (and has always been) to get people to buy what they cannot afford — then repossess and sell again. Parasites employing usury.
I believe a closer analogy is flop-house rentals. A day late and they lock you out.
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