Car finance screeched into the mainstream in the wake of the last financial crisis, resurrecting a moribund motor industry – and consigning outright purchasing an anachronism in the process.
Relentless growth in the new car sector followed, with demand peaking in 2016 when annual sales zoomed to 2.69m units. This marked a 26pc increase on the 2008 trough when 2.13 million vehicles were sold.
New car finance grew by 209pc during this period. And in the 12 months to March, private new-car sales financed by Finance and Leasing Association members accounted for 95.6pc of the market.
At this juncture, a distinction must be made. Car finance takes three distinct forms: personal contract purchases (PCP), personal credit hire (PCH) and hire purchase.
From this financing trinity, one has emerged to rule them all – the PCP – which have attained sacramental importance in the industry because of the way they are structured.
A typical PCP contract offers far lower monthly payments over a set period (usually three years) than the more traditional hire purchase. But at the end of a hire purchase contract the customer owns the car, whereas at the end of a PCP customers are unlikely to keep the car because it would mean making a hefty “balloon payment”.
Instead, assuming the residual value of the car has held up, it enters the used market and a dealer offers another PCP to the customer, who drives off the forecourt in a sparkling new motor.
The attraction to the dealer is obvious: the model sanctifies ceaseless churn. With margins on new cars paltry, and manufacturer sales targets punitive, volume is king.
In essence, the PCP has been used by car retailers to create a chimera market where customers are provided with cars they do not need, on deals that make the idea of ever owning the vehicle financially illogical.
So when the industry says that people will always “need” new cars as a defence for flogging them in unsustainable numbers, they are deliberately conflating “need” with “want”. For more than a decade dealers have been operating on the “magpie imperative”, aware humans can’t resist being offered something shiny and new.
However, that comes at an ever-increasing cost. Premium segment prices have exploded in the last decade with buyers no longer thinking in unit price but in affordable monthly payments. As a result carmakers have ramped up the prices of cars traditionally associated with first-time buyers, so that a Fiat 500 can now cost £14,000.
With the industry wedded to a PCP model, more than 2.4m finance deals were done last year at a value of £38bn – three quarters in the new car sector. There are some 6.1m financed vehicles on Britain’s roads.
The £75bn car finance sector has thus been running on a precariously thin tread for quite some time – and coronavirus could be the catalyst for an almighty skid.
After several years of decline, in April new car sales plunged 97pc – a low not seen since the Second World War.
The three-month payment holiday on finance deals instituted at the behest of the Financial Conduct Authority has provided temporary respite for motorists, while some finance companies are cautiously optimistic.
Paul Burgess, chief executive of Startline Motor Finance, believes that customers are “managing their personal finances well” with many making payments despite being offered forbearance.
He ascribes this to the limiting effect lockdown has had on outgoings, but acknowledges that in the longer term much depends on the economic recovery. He says it is up to the industry “to find solutions” for those facing enduring hardship.
The Finance and Leasing Association is singing from the same hymn sheet and says its members will offer their customers forbearance beyond this three-month period. Yet this ignores the reality of the economic tumult still to come.
Car finance is the second-largest monthly outgoing for most households, and it is implausible for finance firms to operate on a philanthropic footing with those unable to make this level of payment.
It may be that the industry recognises that the game is up for PCPs in the new car sector and switches attention to the used market, where it already accounted for 38pc of financing deals in 2018.
Indeed, Burgess says a “potentially substantial used car buying market will emerge among people who previously opted for public transport but are no longer comfortable doing so because of the risk of infection”.
Less is more
Limiting the horizons of both car retailers and financiers is inevitable. Direct online retailing that circumvents the target-driven and outmoded dealer-sales model should be encouraged. There is a place for car finance, of course, but the end goal should be to own the vehicle and not to embark on the PCP merry-go-round.
If more customers now owned their cars, they would be better off. The consequences of having to hand back the keys later this year could be disastrous for those who need private transport either to find or get to work.
The interests of the planet would also be better served. It is a specious industry argument that the PCP will aid the switch to the electric vehicles carmakers are now pinning their hopes on. There is nothing environmentally friendly about forcing customers to replace their vehicle every two to three years – whatever it is powered by.
If the Government is to take a greater stake in the industry, then this transition should be supported by grants and other incentives – not more unsustainable debt.