By James Kwak
Senator Sam Brownback has been pushing an amendment in the Senate that would exempt auto dealers from regulation by the Consumer Financial Protection Agency. The auto dealer exemption has gotten a lot of press. The House version of the exemption was the focal point of a Huffington Post story back in December on how the House Financial Services Committee was loaded with moderate Democrats who are weak on financial reform. (That amendment was introduced by John Campbell, a former auto dealer who is no longer an auto dealer but who owns real estate that he rents to auto dealers.)
The argument for the exemption is that regulating auto dealers will — you guessed it — reduce access to credit.* The arguments against are: (a) auto loans are a major source of financing for consumers, along with mortgages and credit cards, so people need to be protected; (b) auto loans provide even more opportunities for ripping off customers than most bank loans, because of the auto dealer’s privileged market position and its ability to shift money back and forth between the sale price and the loan fees; and (c) if you open up this loophole, you will have regulatory arbitrage.
Anyway, to support his amendment, this is what Brownback wrote in a letter to the under secretary of defense.
“CNN Money on May 13 reported that ‘Raj Date, executive director of the Cambridge Winter Center for Financial Institutions Policy, agreed that the additional [CFPA] regulation might cause some dealers to stop arranging loans.'”
This is the full passage from the CNN Money story that Brownback cited.
“Raj Date, executive director of the Cambridge Winter Center for Financial Institutions Policy, agreed that the additional regulation might cause some dealers to stop arranging loans.
“‘There will be some dealers who say “If I have to play by an honest set rules, then I can’t be in this business anymore,”‘ Date said. ‘I’m not going to shed any tears for these dealers.'”
Date’s point is that insofar as credit will be less available, it will be less available because dealers won’t be able to screw customers anymore and with stop offering financing. That’s a good thing.
Now, Brownback certainly didn’t write that letter; some staffer of his did. That staffer knew that he was citing Date to support a point that is the opposite of what Date was actually saying, but did it anyway. That’s the kind of thing you do in a college paper, not something you should be doing in Congress.
Of course, it’s possible to make an honest mistake, like if you only read the abstract of a paper and not the whole thing (though it’s still a mistake). But in this case, the staffer only had to read one more sentence. That’s not an honest mistake.
* There is another “argument” for the exception, which is that auto loans didn’t cause the financial crisis. But this is not really an argument, since there is no rule that says that a bill can only be passed if it directly responds to a cause of a crisis that occurred within the past twenty-four months.
The Baseline Scenario 
But surely we can rely on the free market to keep car salesmen honest?
“an honest set of rules”
To use a quote favoured by some on the right-wing here in the UK – “You couldnt make it up”
Great post.
I heard John Campbell on Planet Money a while back, talking about this exemption. His point was not that auto loans themselves be exempt from the CFPA, but rather that only the entities doing the actual borrowing and lending should be subject to it. My impression was that he wanted to exempt auto dealers who don’t make loans themselves but rather put the purchasers in contact with lenders from being held responsible for the loan products that are eventually arranged. It didn’t seem all that sinister to me, but maybe I’m not understanding it correctly.
Outstanding. One of the better posts. Superb.
Ok, I know I’m gonna hate myself later for asking what is probably a lain brain question, but I just want to be sure on this. Are we to infer from this that the staffer is actually “one of the good guys” and did this intentionally to make Brownback look bad??? Or that the staffer was actually insulting the media and the public in general knowing full well he was misrepresenting the views of Mr. Raj Date, and nobody would catch the lie???
Obviously it would take a lot of balls to cross a Senator you were working for, and basically would mean you were purposely forfeiting your job, so I would guess the answer must be the latter. But it’s a crazy world.
Either way it’s especially sweet, (by that I mean “Sweeeeeeeet!!”)
and shows what a jack_ss Brownback is. Watch, Kansans will vote for him again. Those poor folks in rural Kansas would rather get screwed 3 times over at the auto-dealership than risk their income taxes rising a penny.
Not to play straight man intentionally but a third alternative is that the staffer recognized an admission by an opponent that credit might be impaired and used it to advantage – or tried to. And of course you have no idea whether the arrangers of the financing who opt not to do it any more are crooked or honest. It can be a powerful rhetorical point to obtain an admission from your opponent in this regard.
As James placed an asterisk after the “reduce access to credit” phrase I assumed he was going to point out that this is the obstructionist’s last refuge in this battle. There’s probably some truth to it.
awesome find james.
have you guys spoken with any colleges in regards to people who are underwater on auto loans? I know here in Michigan when you buy say a GM car, you expect to lose 2-3k in book value just by driving it off the lot. Then you drive it for a few years and go back to the dealer and he says “we can take that in on trade and roll the difference into your new loan”. this leads to you actually paying on the car you just traded in that the dealer gave you less than what you owed & you are paying on the new vehicle as well.
When I was somewhere around 8th grade I was taking a business class, and we took a field trip to one of the biggest auto-dealerships in the city I live. I was an extremely shy student, and it took every bit of my nerve to ask a question at the dealership but none of my classmates were saying anything, they just thought it was “cool” we were getting out of class. So after the “grand tour” our host left it open to questions and all my classmates were looking at each other with their eyes glazed over thinking “What the h_ll are we doing here?? We’ve all been to dealerships before…” I asked the guy what was the largest percentage of the way they made money (funnily phrased but he got me). He said “financing” and did a little spiel on that. I had been listening to NPR (yes, you can guess listening to NPR at roughly age 15 how many friends I had) recently and they had been talking about dealerships purposely getting people “upside down” on their loans and customers turning around and giving the car back to the dealership after they had made huge interest payments on it. I asked him what percentage of customers went “upside down” on their cars, and he basically told me some flattering thing to get my mind off the question and never answered me.
It’s something that has been done to auto customers for basically decades, and likely will continue if Senator Brownback has his way. You can read about “upside down” loans here.
That’s what I get for trying to be fancy. Here is that link explaining “upside down” loans.
http://www.bankrate.com/brm/news/auto/20030728a1.asp
That’s what I get for trying to be fancy. Here is that link explaining upside down loans. http://www.bankrate.com/brm/news/auto/20030728a1.asp
Well, he’s dumb. Any directly tied loan company needs to be watched all the way down the line, from car salesman to lender. If an auto company recieves any money from that loan, the regulation is needed. Otherwise, it’s very unlikely that loan regulations could apply to an auto salesman. I really cannot imagine how loan regulation language could possibly apply to an auto-dealer who wasn’t financing the loan.
Here is a politician using a quote out of context to promote a political agenda. I’m shocked. LOL.
Excellent post. Thanks for bringing this to light.
We need a lot more light!
All I can really say about our current U.S. state of affairs: Corporatist Kleptocracy.
—Always keep your trade-in negotiations separate from the negotiation for purchase price.
—Also be sure to clean the car before going to the dealership.
—And check Kelley Blue Book value for your used car. http://www.kbb.com/ You can also get the Kelley Blue Book at the public library.
As someone who reads this blog frequently, believes in comprehensive regulation reform, and who currently works in the auto retail business I am sympathetic to both arguments. As always, it has to be smart regulation that is proposed instead of prohibitive regulation.
I don’t know of any auto dealers that provide direct financing to consumers. Before the credit crisis of ’08, there were dealers that were originating subprime paper for securitization but the market had to be less than five percent. Obviously, regulations are better in some states than others but in my state we are already heavily regulated. In fact, alot of our partner lenders (i.e. J.P. Morgan Chase, Wells Fargo, etc) do not like doing sub prime business in our state due to the limited usuary cap on rates for new and used vehicles. All that they do, however, is pass on a cash fee to the dealer to make up for the finance charge they are not able mark up.
I do think that overregulating the dealers instead of the banks will hurt the availability of credit to consumers to a degree but it will not be devastating. Dealers are allowed by the state to mark up the rate offered by lenders by a small percentage to pay the dealer for originating the paper for the lender. Often times, this is the only source of income for the dealer on the whole deal. It is not easy originating the loan in some circumstances as well so the dealer should receive some compensation for doing the bank’s work. If this money is not available to the dealer, I know personally that we would not do a percentage of deals as they would not be profitable.
An example…. Say someone comes in with a car with a failing transmission. They don’t have the money to purchase a $3,000 transmission so they want to trade out of the vehicle into a new car. They are out of equity on their current loan. Say they owe 7500 on a car with a bad transmission that is worth 2500. The lender will allow the customer to finance 120% of the value of the new car to try and minimize risk (lenders have greatly reduced the equity allowed on all car loans after the crisis). Say the customer would like to purchase of 15000 car, therefore the bank will allow an amount financed of 18000 but the customer is out of equity 5000. If the customer cannot come up with enough money down, the dealer will reduce his/her profit to try and still make a sale. There would not be enough profit in this instance to get the customer into the car. The ONLY source of profit left to make the deal would be the reserve from the bank. I have done many, many deals in which I lose money on selling the car only to make $500 or so in the reserve just to move a unit.
I think they should focus on regulating the auto finance lenders with proof of income guidelines. This is the largest arena for unscrupulous dealers to operate. Around 95% of prime loans still require no proof of income. Another area that I think could use improvment is regulating dealers to have to choose the lender that is most beneficial to the customer. Occasionally, a situation will arise when the dealer will profit more by arranging a loan for the consumer with a higher interest rate due to a superior program from the lender with a higher rate. Ideally, the system would reward the dealer for finding the customer the most benefits. sorry for the long post.
loans are not that “upside down” currently. According to the Manheim Used Vehicle Value Index (the largest used car auction network in the world), used cars are at their highest value in years with a number of 119. This is due to a variety of factors mostly all relating to lack of supply and high demand for used vehicles. People are keeping their car longer because of the rampant fear of the economy which limits supply. Also, there are very few vehicles coming off lease since all of the manufactures took huge write downs in their lease portfolios in ’08 and stopped leasing althogether. All of these factors decreased supply and many car buyers are looking to used cars to save money which has increased demand.
The odd thing is that domestic vehicles currently are doing more money than alot of imports.
Consumers have more equity in their vehicle currently than in over a decade.
JB,
Can you give us a source or link for that??? Somehow I doubt it.
Here is a link. http://www.manheimconsulting.com/. Just read the post about the Used Vehicle Value Index. This site has great information as it is based on actual wholesale information instead of projections.
Alot of the exotic loan terms (i.e. 120 month car loans and 200% loan-to-value ratios) are gone now which had a large part in the phenomenon you are referring to. It will just take time to cycle through all of the negative equity but at least the car market is much more liquid than the housing market so it shouldn’t be too much longer.
JB,
Considering Manheim “remarkets” cars, and some of their customers are auto-dealers, do you think they are an objective source of data???
Considering Manheim “remarkets” cars, and some of their customers are auto-dealers, do you think they are an objective source of data???
Also, I don’t see where it gives any data on the amount or percentage of equity people currently have in their cars now.
There don’t sell cars. They are an auto auction. People who sell at their auction are auto lenders, manufacturers, auto dealers, some retail sellers on consignment from auto dealers, rental car companies, etc. There are also international import/exporters who are mainly buyers.
I do think it is objective data. All of their information about price data is widely available so it would be easy to calculate the numbers by a third party. I also rely on their numbers to make decisions for my dealerships so I hope that they are right :)
Their price data is widely available for review by third parties. I also rely on their numbers to make decision for my dealership so I hope that they are right.
They are a marketplace with the their buyers and seller being: Manufacturers, auto lenders, auto dealers, retail consumers on consignment, rental companies, importers/exporters etc.
Why must a data contributor be objective? First there can no such thing as an objective participant in the real world due to indirect factors. There can be no objectivity if for no other reason than every participant relies on unproven personal beliefs. Figures do not lie but liars do figure is well known as an aphorism. After all, data indexes can be manipulated by those that understand the index and use it to do a grift. What better example than the ratings agencies.
One is supposed to be wary enough to understand what you rely on. In the case of Mannheim, the entire used car business relies on the data. These people understand the data sources. Used car ops are very diversified. This is a bunch of sharpies just as some of the hedge fund players Michael Lewis lays bare. As JB discusses, each deal is a hopefully known profit deal or it is not taken. That means the deal maker knows the value of any car taken in. If the dealer is not able to adjust to a price book or index for his local disposition market, he goes broke over time.
There is a large used car auctioneer outfit I drive by fairly frequently. A year ago the storage yard was crammed and did not empty out as it once did after auctions. A couple thousand cars capacity here. Now the place has relatively few cars building up for the auction and the place is near empty the day after an auction.
Great comment Jerry J. I currently wholesale cars at manheim so I reference there number for an expected spot price. Usually they are not too far off of what I can expect but the numbers become the value instead of the value being derived from the market sometimes. What is even more interesting is that the banks use a different book to calculate their loan/value ratios so that is the book that I literally get paid off of. During 2008, when the used car market was in total disarray from the crisis and high gas prices, the banks were still using projected values from outdated book values when the actual prices being recorded at manheim were totally different. They control prices to a certain degree.
I have a couple other thoughts regarding changes that could be made to help the auto market. One thing that I consistently see across the board which will hopefully be partly addressed by the new healthcare legislation is medical collections. Almost everyone has some form of small or large medical collection on their credit. Even people who would have FICOs of above 800 often times have medical collections which lower their score to below 700. These medical collections are almost never taken into consideration by the auto lender to offer a loan. It is, however, used for pricing the loan at a higher interest rate (sometimes as much as 5-10%). This can cost someone thousands in increase finance charges although it was most likely a billing mistake or another extenuating circumstance.
Secondly, there should be some sort of class offered at the high school level regarding the use of credit. Some states have a semester driver’s ed course, why not a credit course since we live in a credit bases economy? So many people, especially from disadvantaged households, have no idea about the intricacies of credit. I can think of how many times I have tried to present a customer with the situation that will benefit them in the long run and they choose the situation that is less beneficial. Most of the time they have a false sense that are helping themselves by lowering their payments and doing the responsible thing by paying more for something that gets better fuel economy but it will take them over ten years to recoup the additional investment.
What is that saying about the quality of the cars being purchased that someone can have a transmission fail but still owe $7,500 on it? I’m hoping that you’re just making a point.
Thanks for the post. Insightful and well spoken.
“That staffer knew that he was citing Date to support a point that is the opposite of what Date was actually saying, but did it anyway. That’s the kind of thing you do in a college paper, not something you should be doing in Congress.”
The fact that you think this kind of behavior is maybe-kind-of OK for a college paper is the reason that we have college grads who think it’s maybe-kind-of OK when they’re congressional staffers. College is as real as any other stage of life, and the conceit that it isn’t predictably produces exactly these kinds of results.
Not sure I doubt it, since auto sales went in the tank last year more people have older cars.
Fewer new cars, fewer upside down loans, plus used car values were rising for a while (not sure about now)