Used car prices have increased by 40.5% in the twelve months to January, to the point where the average new car purchased one or two years ago is now worth more on the used-car market than its original purchase price. (See Nora Eckert, “Why Your Car Might Be Worth More Today Than When You Bought It,” Wall Street Journal, February 11, 2022.) Some people seem surprised:
“You see nutty things. Cars that were $25,000 new three years ago are $25,000 today,” said Adam Lee, chairman of Lee Auto Malls in Maine. “It doesn’t make any sense.”
For those who have studied some economics, it makes total sense. It is a direct theoretical result of assuming that an individual is rational and maximizes his utility (or something similar) given his own circumstances. New car prices increased because of lower supply and rebounding demand after the worst of the pandemic. Used cars, which are substitutes (although not perfect ones) for new cars, became more desirable for more consumers. Thus, demand for used cars increased (the demand curve shifted up) and so their prices too.
It is the same reason why famous paintings that were often worth close to nothing when first sold by their creators are now worth fortunes. In the case of cars, the agents on the demand side are not sophisticated art collectors, but ordinary individuals who have a good intuition of the market (having been in business helps). If, for example, one’s car lease expires and one realizes that his car is worth more than the its buyout price, one will buy off one’s own used car, which has actually been happening.
Enlightenment thinkers and classical liberals thought that all human individuals were natural equals and naturally capable of learning. In this perspective, Adam Smith famously wrote that there is probably no difference between the natural capacities of a street porter and a philosopher:
The difference between the most dissimilar characters, between a philosopher and a common street porter, for example, seems to arise not so much from nature, as from habit, custom, and education. When they came into the world, and for the first six or eight years of their existence, they were, perhaps, very much alike, and neither their parents nor playfellows could perceive any remarkable difference.
One may think that this is a slight exaggeration from an empirical point of view, and one might be right. (My forthcoming Regulation review of James Buchanan‘s Why I, Too, Am Not a Conservative [Edward Elgar, 2015] will have a bit more to say on this topic; sorry for the unbearable suspense!) Yet, the increase in used car prices suggests that Adam Smith was at least partly right, and the more so as more individuals are equally free–like on a free market. Ordinary car buyers seem to understand as much about the car market as the chairman of Adam Lee Auto Malls.
READER COMMENTS
Thomas Strenge
Feb 12 2022 at 12:27pm
I am curious if the environmental mandates are playing as well. If you don’t like electric or hybrid cars and want a big engine, then new cars are becoming increasingly less appealing. I still remember when Ford replaced it’s truck bed with aluminum instead of steel to achieve weight reduction. A lot of truck users did not like that.
Pierre Lemieux
Feb 13 2022 at 12:39pm
Thomas: Interesting question, but I think that for one person who does not prefer the new sort of cars, there is at least one person who prefers them. Moreover, note that the rapidity of the jump in used car prices points to a short-run problem.
Jose Pablo
Feb 13 2022 at 4:36pm
If you are right, that basically means that the activity of “supporting the enviroment” has externalities harming people who want “bigger engines”. They will not be able of getting them (at any price).
If this is the case it would make sense to introduce a Pigouvian tax on “supporting the enviroment”. Participating in demostrations or writing books on the topic should be taxed. Let’s say $40 for each book sold “supporting the enviroment” or $40 per participant in any “climate change summit” supporting the phasing out of big engines car. We could progresively increase this amounts until “supporting the enviroment” dissapears as an activity harming people who want bigger engines.
Pierre Lemieux
Feb 13 2022 at 6:49pm
Jose: Your reasoning is correct if you adopt a very wide definition of externalities, which many believers in externalities do. In this case, everybody who “supports” something somebody else does not like (say, big engines) also transmit an externality to the others. One way to partially avoid this problem is the more standard way to define externalities as non-intended by-products of some activity. This, however, does not remove the problem that a quiet, non-militant atheist is a permanent externality for a an extreme believer, and the same for a quiet, non-militant believer for an extreme atheist. Obviously, a useful concept of externality must be much narrower in scope (see my Regulation overview, “The Threat of Externalities“).
Mark Bahner
Feb 13 2022 at 8:50pm
On the Watts Up With That (mostly global warming) website, one blog author made the claim that more Ford F-150s would be sold in the U.S. in 2050 than all electric vehicles combined. When I pointed out the near-impossibility of that scenario, as I recall, he called me an “imbecile.” (Although that might have been another dispute…I’m too lazy to go back and look.)
Anyway, it will give me great pleasure if, prior to 2050, more *electric* F-150s are sold than combined gasoline and diesel F-150s. I think that’s a distinct possibility:
Ford to double F-150 Lightning production on strong pre-orders
BRetty
Feb 12 2022 at 8:42pm
I think the previous commenter is right, but that is only part of it. The art market is also on point: when an artist dies, there will be no more new works, the supply is capped, so prices will rise.
The environmental mandates, now and coming soon, and things like the pernicious “anti-DUI-ignition-lock” mandate in the BBB bill, tell consumers one story: Buy now, because a vehicle of the type you want (esp: free from govt restrictions) will very soon be unavailable.
Pierre Lemieux
Feb 13 2022 at 12:45pm
BRetty: See my reply to Thomas. The rapidity of the rise of used car prices (and thus the drop in the relative prices of new cars) points to a short-run phenomenon. Perhaps what you and Thomas are mentioning will be a longer-run trend that dampens demand for new cars (compared to what it would otherwise be).
Jose Pablo
Feb 13 2022 at 11:52am
In fact, many people, even car manufactures don’t seem to understand prices a a “signal”
https://www.wsj.com/articles/ford-gm-warn-dealers-charge-above-sticker-price-and-face-repercussions-11644323580
Pierre Lemieux
Feb 13 2022 at 12:14pm
Jose: Indeed. Stay tuned, I am putting the last hand on a post inspired by the very WSJ report you link to. I wonder if the socialist culture has not been blurring or erasing this role of prices and competition.
Tom West
Feb 14 2022 at 10:03pm
This seems entirely rational on Ford’s part. Taking advantage of a crisis by raising prices is often taken very badly in the long run by the non-economist market. If Ford dealers raise the price, there’s a significant risk of massive resentment on the part of customers, who will take it out on Ford (and not just the dealer) at a later point in time.
People can be annoyed when you run out of product, but they are often enraged when you raise the prices so that you don’t.
Ford realizes they are not selling to Homo Economus.
Pierre Lemieux
Feb 15 2022 at 12:33am
Tom: Have a look at this other Econlog post of mine: https://www.econlib.org/ford-and-gm-bearers-of-socialist-culture/
David Seltzer
Feb 13 2022 at 5:48pm
“New car prices increased because of lower supply and rebounding demand after the worst of the pandemic. Used cars, which are substitutes (although not perfect ones) for new cars, became more desirable for more consumers. Thus, demand for used cars increased (the demand curve shifted up) and so their prices too.”
Pierre, Isn’t this an example of cross elasticity? The classic example; as the price of beef rises, ceteris paribus, consumers will choose chicken as per their preference relative to steak.
Pierre Lemieux
Feb 13 2022 at 6:30pm
David: You’ve got it. The cross-price elasticity of two goods is positive if the two goods are substitutes and negative if they are complements.
Pemakin
Feb 18 2022 at 2:31pm
What’s interesting to me about this episode is what it reveals about preferences for new cars. For an interruption in new car production to cause such a sharp rise in the price of a near substitute, initial preferences have to favor new cars dramatically. Also, note that slower production implies long holding periods of new cars and shrinks used car market supply.
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