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Small Farmers Can't Feed the Planet   Is Illiquidity Just Another Word for...
May 5 2008 7:51AM EDT

Why Negative Equity in Car Loans Doesn't Matter

Nouriel Roubini is now worried about negative equity in auto loans; I have to say this doesn't bother me in the slightest. For one thing, auto loans are personal loans, they're not non-recourse mortgages, which means you can't jingle-mail your car keys back to the dealership.

But more to the point, the dealers financing these loans had every expectation that the car owners would end up with negative equity. They weren't expecting the cars to rise in value, only to see the vehicles depreciate: rather, they knew full well that cars fall in value over time.

The buyers are in the same position. People don't buy cars because they think they will rise in value; in fact, they know full well their car will fall in value. The smaller the downpayment on your car, the shorter the amount of time that it takes for your equity to be wiped out and to turn negative. But no one ever takes any comfort in the fact that their car might be worth more than their outstanding car loan. A car, especially in an era of rising gasoline prices, is a liability, not an asset.

The auto financing boom of the past few years was partly a function of the fact that dealers and their financiers realized that the lien on the car is mainly a way of incentivizing the borrower to make payments. If the car goes all the way to repossession, the lender doesn't expect to be repaid in full. So the horrors of "negative equity" in the mortgage market simply don't exist in the auto market.

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