Auto financing: SBP’s surgical strike!
BR Research
30 Sep 2021
Economic managers in the country are putting their heads together to try and curtail growing imports. The first line of attack is consumer finance. In Pakistan, consumer finance is dominated by automobiles—outstanding in Aug-21—at Rs326 bn and personal loans (Rs: 240 bn) as house building financing (Rs112 bn) remains negligible. The government feels that if auto loans and personal financing is cut-down, it could put out the necessary roadblocks to control the current account deficit.
One way to do that would be to increase the policy rate. Although an increase in policy rate has an impact on broader private credit, on asset prices bubble, on limiting fiscal spending, and in controlling currency depreciation, here the discussion is restricted to the impact on auto and personal loans – specifically auto financing.
Auto loans and overall cars sales are correlated to interest rates as well as overall economic growth and confidence. When rates are low, car sales are up and the trend is consistent in the opposite direction. When rates are low, economic growth is also up.
When rates fell, car sales in volumes certainly increased during FY21. However, they have yet to touch the peaks of FY18 – even after incorporating sales of Kia and imported cars like MG-HS. The real difference is in the type of vehicles being sold in FY21 compared to FY18 and as a result, the value of import associated to them.
For examples, official PAMA numbers suggest, SUV sales during FY21 were 11,306 whereas they stood at 12,870 during FY18. But, if we include new players in the total count, Kia Sportage together with MG-HS and other imported vehicles, would have sold roughly 25,000-27,000 vehicles during the year. This is much higher than FY18. Now let’s compare this to smaller cars. In FY18, Suzuki sold 122,564 vehicles (not including Ravi).
The small to medium engine car assembler sold about 78,000 vehicles during FY21. The fall in value for smaller cars is higher in real terms. Sedan sales have also grown by comparison to smaller engines.
This is reflected in import numbers: CKD imports during FY21 in dollar value was 39 percent higher compared to FY18 and overall CBU+CKD imports are 9 percent higher than FY18. This implies that although car sales are lower in FY21 compared to FY18, the value of cars (in dollar terms) is higher because more expensive cars and less localized cars are being imported.
Certainly, the value of total cars sold is higher in PKR. This is evident by the growth in auto finance numbers. The net increase in car finance was Rs43 billion in FY18 versus Rs97 billion in FY21 – an increase of 2.25 times. Car prices have increased, but surely not doubled. This indicates that the real value of car financing is growing. The number of cars being financed may be lower.
The assertion can be strengthened by seeing the numbers in terms of GDP. The automobile outstanding finance is currently at Rs326 billion (0.65% of GDP) which is higher in terms of GDP from FY18 levels – Rs195 billion (0.56% of GDP). However, the number is yet at half of the peak levels in FY07 when the auto financing was 1.17 percent of GDP.
This implies that transmission of auto financing on GDP growth and in turn impact on the imports in terms of GDP is less in FY21 as compared to the case in FY07 or FY08. However, the financing is higher in FY21 as compared to what was happening in FY18. The monetary policy transmission on curtailing auto finance growth could be better in FY21 versus FY18. Hence, increasing interest rates could have marginally higher impact. However, the impact would have been far less than what could had been the case in 2006-08.
The other way to look at is to see the auto finance as a percentage of total credit in the system. It is 1.2 percent of the total system credit -including government borrowing and is at 4.5 percent of private credit. In FY18, the auto financing to total system credit was 1.1 percent and the ratio of auto finance to private credit was 3.5 percent. The auto financing as percentage of private credit was 4.0 percent in FY08 and 4.7 percent in FY07.
This implies that today auto financing’s share in private sector is close to its peak in FY07 and is higher than the number in FY08. This brings us to present day and SBP’s latest restrictions on auto financing. By putting targeted limits, the SBP can lower the import bill, since around 80-85 percent of a car’s value (barring taxes) is relying on imported parts and raw materials. Though the contribution of auto finance is still less than 5 percent of total private credit and mere 1.2 percent of overall system credit.
Under the revisions in prudential regulations, the maximum limit of financing a car is restricted to Rs3 million, and minimum advance payment is increased to 30 percent from 15 percent, while maximum financing tenure is reduced to 5 years (from 7 percent). The financing of imported cars—whether new or used—is no longer allowed. To lower consumer finance, overall debt burden ratio has been reduced to 40 percent from 50 percent and maximum personal loans limit is reduced to 4 years.
This would reduce consumer finance without impacting the overall credit system through a hike in interest rates with a large focus on restricting financing of bigger and expensive cars. The impact on smaller cars that are still struggling to reach FY18 peak levels would be limited.
However, for obvious reasons auto players are not happy, as their sales are going to be adversely affected. According to one of the top three sellers (in terms of value of cars), 40 percent of their vehicles are being financed. Another player says that financing is higher for expensive and luxury cars; while the CEO of Indus Motors said that only 10-15 percent of Fortuners are being finance while the number is around 30-35 percent for Corolla and Yaris.
Overall, there would be an impact; but industry players have different numbers to quote to gauge exact impact. Both SBP and the government in their quest to lower imports by reducing auto sales are forgetting that auto production is facing major constraints due to the global chip shortage and limited containers availability. This is impacting sales as well. Some of the bookings for cars is closed down. For example, Kia is not booking FWD Sportage and automatic Picanto as the booking time has crossed six months. Hyundai is not booking its flagship product Tucson for the past few months. Even for Fortuner, the booking time is of six months.
Thus, restricting auto finance would have a limited impact on auto sales. The story is similar for imported cars – MG HS delivery is late while Audi e-tron is booked till March 21. Some EV importers are taking bookings from costumers without allocation from the principal. Thus, having higher duties on EV could have a limited impact.
So, while SBP may be believe a surgical strike on auto sales by limited financing would do the job—and in normal circumstances, it would. The efficacy would be limited as cars sales are already dented due to production constraints. By the time supply side would improve, the current account worries may calm down, as supply increase would perhaps come with lower global commodity prices which are mainly driving the imports.
