Financing, Incentives Shape Demand

As pump prices go, so goes America's taste for fuel-efficient cars. Sort of.

The correlation between fuel cost and demand for fuel-efficient vehicles is well-known. But government incentives and financing availability played an even greater role in shaping the sales mix, according to a Ward's analysis of monthly U.S. light-vehicle sales.

While gasoline prices held steady during the first half of 2010, averaging $2.77 per gallon nationwide, the fuel efficiency of new light-vehicle deliveries also flattened out, earning a 22.3-mpg (10.5 L/100 km) rating on Ward's Fuel Economy Index in both the first and second quarters. These trends are consistent with the FEI's historic data.

Since the start of the '08 model year, the industry FEI has risen 6.4% from 20.9 mpg (11.2 L/100 km) to 22.3 in June. However, this momentum was been broken up by several dramatic peaks and valleys as the FEI largely paralleled gas-price fluctuations.

The largest FEI spike, a 6% jump between February and May of 2008, came as gas prices began a rapid ascent from just over $3 per gallon to more than $4 per gallon by early summer of that year.

Similarly, when gas prices sank below $2 per gallon in December 2008, Ward's FEI fell 4.5%.

Tellingly, the initial increase in fuel economy that year tapered off as financing began to tighten up on the eve of the financial collapse and before pump prices hit their peak. By December, financing had dried up for higher-risk buyers, squeezing sales of more efficient vehicles and demonstrating sales are shaped significantly by who is in the market.

The quickest rise and fall in the FEI came even as gas prices held steady over the summer of 2009. A 3% FEI climb from June to July (and a subsequent 4% falloff from August to September) was the direct result of market activity caused by the government-sponsored Cash-for-Clunkers incentive.

The 2-month program rewarded consumers for trading older vehicles for more fuel-efficient new models, and resulted in the industry's only 23-mpg FEI rating to date.

Since the September 2009 drop-off, average fuel economy on new deliveries has crept slowly to 22.3 mpg from 22.0. But as many would-be buyers remain sidelined by a dearth of credit, high unemployment and a weak housing market, corresponding consumer demand for more efficient vehicles is weak.

Modest fuel-economy improvement likely will occur as the overall economy improves and manufacturers continue to improve overall light-vehicle efficiency. But achieving major shifts in overall LV fuel economy may depend on significant increases in fuel prices, the return of subprime financing or future government incentives.