Prepare to pay the sticker price for a car

Car dealer lots have only a fraction of the vehicles that they typically have – both new and used. It’s helping send prices to record levels.

The average new car price was $37,200 in the first quarter, according to JD Power, up 8.4% from the same period just a year ago.

About half of car buyers are paying within 5% of the sticker price, according to JD Power stats, with some even paying above sticker. About two million more car buyers this year will end up paying that close to sticker price than a couple of years ago.

Wholesale prices for used cars sold at auction are up 26% since the start of this year, according to other data from JD Power. Retail used car prices are up a more modest 7% in the same period. That’s also a significant jump for this time of year, and the higher wholesale prices are pointing to bigger increases on the way.

Used cars sit on the sales lot in El Cerrito, California.

“That puts wholesale used prices at the highest level they’ve ever been,” said David Paris of JD Power. “And we are seeing used retail prices accelerating rapidly.”

It’s a 180-degree turnaround in the market from a year ago, when many car dealerships were closed by the pandemic or limited to providing service and maintenance. Massive job losses and a shift to working from home caused a 30% plunge in auto sales, the biggest quarterly decline since the Great Recession.

Now sales are booming, with March’s seasonally adjusted sales rate for new cars hitting the highest level since October 2017.

But that demand is coming at a time when auto plants around the globe are closed or running at reduced production due to a computer chip shortage. New car production in North America is down about 3.4 million vehicles in the first three months of this year, according to Cox Automotive. The used car market is just as tight, with some measures of supply and demand in the sector showing the greatest scarcity on record.

Those two factors — strong sales and limited supply — are feeding the price boom.

“Demand is through the roof, and supply is not doing great,” said Ivan Drury, senior manager of insights for Edmunds.com.

Numerous factors are fueling the short supply. These include an improving job market and offices reopening and bringing back employees who were working from home. Plus there are now buyers flush with cash, low interest rates, consumers’ changing tastes towards more expensive models and options, even a shortage of rental cars. Experts predict things won’t get better for car buyers any time soon.

“It’s a perfect storm,” said Charlie Chesbrough, senior economist for Cox Automotive. “If you’re not willing to pay near sticker price, there’s someone behind you who is. These issues will be with us through at least the rest of this year.”

Here’s a look at all the factors leading to the price surge:

Limited supply

The computer chip shortage is only one factor squeezing the inventory of available vehicles. Other auto parts, including tires and resins, are starting to be in short supply, according to experts.

The limit on new car availability is being felt in the used car market. Rental car companies, which sold off about a third of their fleets last year in order to raise cash and survive the downturn, now have their own car shortage just as travel is rebounding.

The chip shortage also means that automakers don’t have an excess supply of new cars they can sell to rental companies at a discount.

The shortage of rental cars is one of the factors limiting the supply of cars for sale.

“The [rental car companies] typically buy 2 million vehicles a year, and that’s how many cars they typically sell into the market,” said Edmunds’ Drury. “With the automakers not able to sell to them right now, that turnover of one- and two-year old vehicles just isn’t happening right now.”

People returning to work

Commuting to and from work is a leading reason consumers buy cars. The need to do that is now on the rise.

Employers added nearly one million jobs in March, but that’s only part of the story. Other employers are notifying workers that offices that have been closed since last year will be reopening in the coming months.

Many who delayed new car purchases because of job uncertainty or the lack of a commute are now looking to buy. And some of those who took public transit to and from work may now be looking to have their own car to limit their potential exposure to Covid-19.

“People who are concerned about public transit and Uber are a factor in the growing interest,” said Nick Woolard, director of industry analytics for TrueCar.

More cash on hand, low interest rates

Many workers lost jobs and faced economic setbacks during the last year. But those who kept their jobs may have more available cash than normal.

Spending on activities like vacations and eating out was way down, as was the cost of commuting. Record high stock market values often feed into strong auto sales as well, as the wealth effect leads consumers to put aside less money for long-term savings.

A General Motors worker is shown on the assembly line at the General Motors Lansing Delta Township Assembly Plant on February 21, 2020 in Lansing, Michigan. The plant, which employs over 2,500 workers, is home to the Chevrolet Traverse and Buick Enclave.

Related article GM car prices surge as more plants close during the chip shortage

And then there were the various stimulus payments from the government, which totaled thousands of dollars for many individuals.

Low interest rates are allowing many buyers to spend less on car payments than they would have otherwise. And the boom in home refinancing in the last year reduced mortgage payments for millions, sometimes by enough to fit a car payment into the budget where it didn’t fit before.

More options, shift away from cheaper cars

Part of what is driving up new car prices is what consumers want to buy. The shift away from less expensive sedans to pricier SUVs and pickups has been going on for years, and it was accelerating even before the pandemic.

Automakers are responding by cutting production of their less popular models to preserve the computer chips they have available for SUVs and trucks, although even those models are seeing some reduced production.

Many new car buyers are also enticed by the next generation of options.

“People can’t buy enough content when they pull the trigger on new vehicles,” said Drury. “They’re buying high trim levels and lots of options. For certain trucks, they’re paying double the sticker price for the base model, just because of the options.”

Dealers, not automakers, are the big winners

The automakers are benefiting because they don’t have to offer much in the way of incentives, nor do they have to sell the cars they’re making to lower-priced fleet customers. Still, the supply shortage is hurting their bottom line. Ford (F) and General Motors each expect the chip shortage will cost them more than $1 billion in profits this year.

Customers look at cars for sale at an AutoNation dealership in Fremont, California. The company reported record first quarter profits Tuesday that were triple its year-ago earnings.

The big winners: car dealers, both the thousands of privately-held dealerships as well as publicly-traded AutoNation (AN), which specializes in new cars, and CarMax (KMX), which focuses on used cars. AutoNation (AN) Tuesday reported record earnings for the first quarter which tripled its profits from a year ago.

“This is near perfect operating environment to be an auto dealer,” said Ali Faghri, analyst at Guggenheim Securities, who follows car retailers. “Demand is incredibly robust, you have a number of tail winds that have all converged at one time. You’re not only selling a lot of cars right now, but at record margins.”

Even with the automakers being hurt by the chip shortage, the industry has come roaring back to a level that was never expected a year ago.

“If I had told you 12 months ago we’d be in this situation, you never would have believed me,” said Faghri. “It’s played out a lot differently than people expected when the pandemic first hit.”