Toyota and the Repo Man – How It Started With the Oil Companies
As described in the previous Part of this post, with “upside down” loans now the norm and car companies underwriting seven year auto loans, it’s obvious that car loans are no longer rationally related to either the value of the car or the consumer’s incentive to repay.
How’d it get to this point?
The answer to that requires going back sixty years, to the end of World War Two.
(more after the jump)
Americans emerged from World War Two with an urgent need to replace just about everything: cars, trains, roads, appliances, clothes – everything. It had all worn out, but couldn’t be replaced during the war because factories were producing military equipment, not consumer goods.
Americans also emerged from World War Two with a lot of money in the bank. People were paid to build all of those military supplies and arms, and had no place to spend it (other than war bonds). So, they banked it, in one or another way.
Conventional wisdom of the time predicted an economic downturn after the war, as had occurred after World War One. Instead, the 1950’s were a period of such great prosperity that they’re still idolized in popular culture today. Elvis, tailfins, country clubs, and the good life. People wanted to spend all the money they’d accumulated during the war years, creating demand, jobs, more demand, more jobs, and more prosperity.
The 1950’s saw the invention of the modern consumer credit markets. Not that consumer credit hadn’t existed before. But, the idea of “buy now, pay later” really took off in the 1950’s and it was especially fueled by the auto industry’s desire to keep selling new cars. When the pent-up wartime demand had been satisfied, car manufacturers found themselves having to compete for sales and sought new ways of encouraging customers to buy a new car. Ever more dramatic styling and ever increasing horsepower were not the only ways they did it. Managing the terms of consumer credit were another.
But, in that day, what you could borrow to buy a car was still tied to what the car was worth and how rapidly it depreciated. The car would always be worth more at the end of the loan than the amount of the outstanding balance. That car would then become the trade-in for the next one, and renew the cycle. Throughout the period and even into the 1970’s, typical car loans were for two or three years, no more.
But, a strange thing began to happen in the 1960’s and it expanded exponentially thereafter.
The credit card.
It was ultimately to alter the nature of auto lending.
What we now call the credit card was initially invented by American Express and Diner’s Club. It wasn’t intended for everyone. It was intended primarily as a convenience for businessmen and, in particular, restaurants, hotels, and later department stores.
In those days, though, it was called a “charge card.” Merchants then typically had “house charge accounts” for their good customers. They were conveniences: at the end of the month, the business sent a bill and the customer paid it. Of course, that meant the customer got a lot of bills, one from every merchant. It also meant that the merchant was floating a loan to the customer without interest for a month, assuming every body paid on time.
Money is a commodity. American Express and others figured out a way to profit by managing these accounts: the customer got the convenience of one itemized bill and the merchant got immediate payment without the collection risk. In return, both the consumer and the business paid a fee to the card company.
But the terms were still usually the same: payment in full in thirty days.
Then the oil companies got into the game.
It was the oil companies that transformed the “charge card” into the credit card that carried a balance which could be rolled over month to month.
At that time, gasoline was so cheap that gas stations competed on service and perks. You got “Green Stamps” with your purchase, or glasses, or some other gift. The gas was pumped for you, and the windshield was washed. Oil companies competed on how rapidly the attendant responded to the pumps when you rolled your car across the apron.
In that environment, oil companies realized that credit was a way to build and promote consumer loyalty.
If you had a choice between a Standard Oil station, a Cities Services Station, and a Phillips 66 station – and you were paying cash – you’d go to the one with the best perks (as gas prices were so cheap that they weren’t an issue and there were so many locations you usually could chose from several different brands in the same general location).
But, if you had a credit card from one of those companies, you’d go to that one.
As it developed, of course, all of the oil companies ended up mailing out cards to just about anyone, so everybody had a credit card for every brand. Wallets were stuffed with oil company credit cards.
At which point, the ability to make money by charging interest became dominant and, thus, was invented the modern credit card.
“Revolving credit” was what the name implied: credit that allowed you to keep getting more credit upon paying down some of the debt, so that you always were carrying a balance and, thereby, always paying interest.
Oil companies were among the first to offer this.
They were not, however, taking much risk in doing so. Gas was, after all, cheap. Their cards were for their own products. Though you could buy tires and repair services, gasoline was the primary purchase. There was a relationship between need and consumption. The card holder wouldn’t decide to have a brake job, just to have a fun time.
Into this, the banks intruded.
And transformed consumer credit.