University Of Maryland Expert Analyses Huge Loan Loads On Cars

Draining your bank account to cover your car payment might feel a bit like the end of the world—and a UMD finance expert said it could also foretell the start of a recession.

In the fourth quarter of last year, the number of Americans paying $1,000 a month or more for a vehicle hit a record high of 15.7%. Many of them are doing so after trading in cars they were underwater on—owing more on them than they’re worth. That negative equity typically gets rolled into the loan for the purchase of the new vehicle.

“Ultimately if your equity is negative enough and you’re under enough financial distress, you’re going to eventually default on your automobile loan and the car will be repossessed,” said Pete Kyle, Charles E. Smith Chair professor of finance at the University of Maryland Robert H. Smith School of Business.

Bloomberg reports in January severely delinquent auto loans hit their highest rate since 2006, while negative equity on trade-ins rose to $5,500 on average. “In the last few months, you’veseen a skyrocketing of late payments. But the worrisome thing is, is this going to continue? Are we going to see an even further transition into really high levels of delinquency on automobile loans?” Kyle said.

“If we do,” he predicted, “it’ll probably be associated with a recession.”

American car buyers are paying about $49,400 on average to drive a shiny new vehicle off the lot. The Manheim Used Vehicle Value Index shows used car values fell in January but climbed in the first half of February —the largest such increase for that month since 2009. These prices are leading many consumers to put more money down on a car. The average down payment for new and used vehicles hit record highs last quarter, climbing to nearly $6,780 and over $3,921, respectively.

For now, Kyle said the strong labor market is one of the main factors keeping an economic downturn at bay, but the budget overstretching from car purchases—which combines with broader inflation and other challenges for consumers—is mixing up some of the ingredients for a recession.