Used Car Prices — Supply & Demand and The Invisible Hand

Over the past twelve months we've witnessed near bankruptcy of the big-3 auto makers, government bail- / buy-outs, a deep dive in demand for new cars, the Federal cash for clunkers stimulus and as of this morning, according to The WSJ, a surge in used car prices. The article reports that "since the start of this year, a combination of tight supplies of both new and used vehicles and higher demand from a frugal public have pushed average used-car prices to the highest levels in years, industry watchers say. Demand seems particularly strong for used SUVs, analysts say, reflecting lower gas prices."

CarMax President Tom Folliard -- where recent "average sales prices for used vehicles sold rose 6%" -- is quoted saying that "What has happened over the last couple quarters is with supply being down, we've seen wholesale prices continue to appreciate. It's just a basic supply-and-demand model". But the Journal also reports "The recent havoc in financial markets has kicked up a new round of debate over whether the "efficient market theory" fairly describes the real world of buying and selling financial assets ... [and] the used-car market would probably give comfort to fans of the idea that prices reflect all known information, and adjust quickly to new information."

A major factor -- if not the most major factor -- when it comes to market efficiency is information. To wit, perfect information theoretically leads to perfect markets. To that end, as cited in the column, used car buyers have increasingly strong access to supply information via "Craigslist, Ebay, Kbb.com, Edmunds.com, the used-car guide at the National Automobile Dealers Association's Nada.org [and] ... you can use a vehicle's identification number to find out whether it has been in a wreck". Another component -- supporting market efficient causality in the used car market surge -- may well be that the recession's ubiquitous economic news has produced more knowledgeable consumers. Let's face it, when you can't be sure that the manufacturer of a new car will be in business long enough to support the warranty, why lose between 15-20% of the value of a purchase when you drive it off the lot?

William Busch

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