This article appeared originally in Gulf News: link to original article
What happens when car prices in the UAE increase more than quoted inflation rate? There is no doubt that that there will be all sorts of options for people when the price of their preferred car makes buying it impossible.
Many could argue that the increase in car prices is in fact part of the rate of inflation, but has been balanced by more humble price increases in other commodities. Yet, why are the prices increasing on an almost annual basis? And what results from such an increase?
Think financial crisis 2008. A main underlying argument was not that home prices in the US were increasing every time they were resold, but that such increases were taking place when the average wage level in the US was flat.
That eventually led to home purchasers defaulting on their mortgages, which affected banks and their issued mortgage bonds, and the problem spread to the world via investment networks and by association.
I am not implying here that the unjustifiable increase in car prices in the UAE would lead to a worldwide phenomenon, but I am highlighting what could turn into a domestic problem for the UAE if individuals continue to borrow to finance purchases that are beyond their means, especially given that wages do not move in correlation with car prices.
No one said that they should anyway.
So what causes the increase in prices? The root cause could be explained by the somewhat monopolistic nature of the market.
Think telecommunication. Having two telecommunication operators leave consumers with no better option in terms of the services being provided and the prices charged for those services. This means that whatever price that is being set by the two is going to be market price.
For cars, the case is a bit different, as you would have facelifts as well as new models coming in with higher price tags. Moreover, additional or enhanced options would add to the overall price of the car.
It doesn’t matter then if you have the cash or not, because you are better off paying the 20 per cent deposit and financing the purchase via the bank that offers you the best interest rate — I am saying this here because of the current low interest rates.
Now, if you don’t have the cash for the down payment, the bank can also finance that by adding a personal loan to the car loan, or by doing “Ijarah” — Islamic banks buy the car and lease it to you with ownership transferred to you at the end of the loan tenure.
The issue here is not in increasing car prices, but those that are increasing beyond what a reasonable price hike should look like, leading to more debt and less overall household consumption. Also, hikes in car prices lead to higher insurance premiums as that is calculated as a percentage of the price. And the fact that insurance premiums have gone up in recent years add to increasing the costs of owning the same car, but this year’s model — a topic that I will discuss in another article.
I hope that things change as they have within the car servicing sector, opening up the market which should eventually increase healthy competition and is a natural recipe for lower prices. This would also create investment opportunities whether from domestic sources or from abroad.
If it happens, it may not lead to an immediate drop in prices but it would at least set up certain controls on car prices, which are determined by the market and not by individuals. An example from the car market in France suggests better services and a drop in prices when the market was liberalised.
The last thought that I want to leave you with is did a monopolistic market ever lead to better services and lower prices than those in a highly competitive market?