November 19, 2015

The Dollar’s Value and America’s Share of its Own Automobile Market

Summary

America’s automobile manufacturing industry demonstrates the importance of maintaining a competitive value for the U.S. dollar. Using empirical data for the last 35 years, this note shows that, when foreign-made cars become significantly cheaper because the dollar’s value has risen, most consumers can and do purchase alternative foreign cars, and domestic producers lose market share.[i]

The future for America’s motor vehicle manufacturing industry – and for the domestic durable goods production in general – depends heavily on establishing and maintaining a competitive exchange rate for the U.S. dollar – something that America has not done for about forty years!

Pre-Plaza Era

Between 1978 and 1985, the U.S. dollar appreciated by nearly 40 percent against its major trading partners.[ii] This overvaluation is seen in the red-tinted oval labeled “Pre-Plaza Overvalued Dollar” in the lower part of Fig. 1.

This sharp appreciation of the dollar made it hard for U.S. cars to compete on price with cars from countries like Japan. As a result, the share of American producers in new-car sales in America dropped from around 85 percent in the early 1970s to about 74 percent in the mid-1980s, a loss of about 300,000 units per year.

Plaza Accord Adjustments

In large part because of the strong protests of automotive and other U.S. manufacturing companies that faced serious market share losses at home and abroad because of the dollar’s sharp appreciation, the U.S. Government, through the not-so-voluntary Plaza Accord of 1985, forced Japan and Germany to revalue their currencies sharply. In line with the agreement, Japan and Germany used the dollar reserves that they had built up through trade surpluses with America to buy back their own currencies in foreign exchange markets. This drove up the yen and the deutschemark against the dollar. 

Although the language of the Plaza Accord made it appear as though the dollar’s value was to remain firm and that the other currencies were doing the adjustments, in reality the dollar was devalued sharply against the Japanese yen and the German deutschemark. The impact of the currency manipulation mandated by the Plaza Accord gradually improved the competitive position of U.S. manufacturers:

Japanese and the German currency interventions reduced the value of the dollar on a trade weighted basis. This transition is seen in the yellow circle at the bottom left of Figure 1.

Figure 1. Plaza Devaluation of the Dollar Boosted American Car Production
          
      As the dollar became more competitive, domestic consumers began to buy more made-in-America cars and fewer foreign-made cars, raising the domestic producer’s share in the domestic market from about 74 percent to about 76 percent.

3.     As the full impact of the more competitive dollar was felt, U.S. producers began to enjoy higher profits and thus had the incentives to invest in new designs, more efficient equipment, and better training for workers. Consequently, the market share of American-made cars rose steadily to nearly 85 percent in 1997 as reflected in the large blue bubble at the top left side of the Fig. 1.

Unfortunately, the situation began to deteriorate after 1997. Thanks to the emerging Tech Bubble, large foreign exchange inflows started to wash onto America’s shores around 1995, and the value of the dollar began rising in 1996 and 1997 (note the shift to the right of the dots between 1996 and 2000 in the blue bubble). Then, not surprisingly, the domestic market share of America’s automobile manufacturers began to collapse – from 84 percent to 79 percent between 1997 and 2000.

Developments since 2000

The story since the beginning of the current century has been even more distressing and is uniquely complicated (Figure 2). The share of American automotive manufacturers in the domestic U.S. market fell from 79 percent to about 69 percent between 2000 and 2007, largely the result of the rising overvaluation of the dollar that began during the Tech Boom and continued with the housing and stock market bubbles in the first decade of the current century.[iii]

Figure 2. Exchange Rate Overvaluation and the “New Normal” for U.S. Automobiles


With the Crash of 2008, the American motor vehicle market seems to have shifted to a “new normal,” one that is even less attractive than the old normal.

The turmoil of 2008 left the relationship between exchange rates and market shares in 2008 sitting outside of the trends that existed before and after that year (see the small yellow bubble between the old normal from 2000-2007 and the new normal from 2009 to 2015). [iv]
Between 2009 and 2015, a tight negative correlation between market share and the dollar’s value similar to that observed between 2000 and 2007 resumed. When the dollar’s value went down, market shares went up, and vice versa.

Starting in 2009, three big changes began to take place:

  1. The exchange rate index began falling as the dollar returned to more normal valuations following the collapse of its wildly excessive values of 2000.

  2. As would be expected, the market shares of domestically produced cars began to rise, going from 66 percent in 2009 to an estimated 73 percent in 2015.

  3. For any given value of the exchange rate index, U.S. automotive manufacturing industry today has a market share that is about 10 percentage points lower than would have been the case for the same value of the dollar on a trade-weighted basis between 2000 and 2007.

Do U.S. manufactures face a “new normal” now that puts them at a permanent disadvantage?

The last point above has serious implications, not only for America’s automotive producers, but for American manufacturers in general. If the shift seen in Fig. 2 between 2000-2007 and 2009-2015 is permanent, American manufacturers will have a reduced share of the U.S. domestic market, with imports rising to meet the rest of the demand. Also they will see their access to international export markets shrink in like manner.

 In brief, what Fig. 2 shows is a significant collapse of demand for made-in-America products, both nationally and internationally, at any given exchange rate for the dollar. This means America faces slower economic growth, more unemployment, and more production capacity lost to other countries unless corrective action is taken as soon as possible. Such action is especially urgent given the dollar’s overall appreciation by nearly 30 percent since 2011 (Fig. 3), and its appreciation by over 50 percent against the yen during the same period.

Fig. 3. The dollar has appreciated sharply since 2011.


Conclusion

When the dollar’s value increases, America’s motor vehicle producers lose market shares to foreign-made cars. Conversely, U.S. producers gain market shares when the dollar’s value decreases. After 2008, a “new normal” developed: exchange rates have had to be significantly lower than before to assure a given market share. This development, together with the dollar’s strong appreciation since 2011, indicates that U.S. motor vehicle manufacturers – and all other U.S. manufacturers  – will soon face serious problems with foreign competition unless urgent action is taken to move the U.S. dollar to a more competitive equilibrium rate by implementing a trade and monetary policy for the 21st century such as the Market Access Charge  (MAC) that I have proposed.

America Needs a Competitive Dollar – Now

John Hansen, PhD, World Bank (ret.)  hansenj@bellsouth.net    Americans Backing a Competitive Dollar-Now!  



[i] This note focuses on the relationship of changes in the exchange rate as a cause of changes in existing market share levels. The average share of imported cars in the U.S. market over time is of course driven by many other factors such as features, brand preferences, and perceived value for price. Also note that foreign-brand cars assembled in the United States (e.g. Honda and Toyota) are treated here as domestic made-in-America cars despite imported content that is substantially higher than for American brands (e.g. Ford and GM).

[ii] All references to the dollar’s value in this note are based on the dollar’s trade-weighted nominal exchange rate index with major currencies (DTWEXM) maintained by the Federal Reserve (www.research.stlouisfed.org).

[iii] Recall that, in Figure 1, changes in market share tended to follow exchange rate changes with a lag of about five years as exchange rate changes worked their way through the supply chain and into consumer behavior. To help clarify the picture for the period since 2000, this delayed response has been built into the points plotted in Figure 2 as follows:  The market share for each year is plotted against the exchange rate index observed five years earlier. This lagging technique allows the full effect of exchange rate changes to pass through and be seen in market shares. With an R2 of 0.93 for the period from 2000 to 2007, for example, the negative correlation between lagged exchange rates and market shares is very high. A similarly high correlation is seen for the period from 2009 to 2015 in the blue bubble to the lower left in the graph.

[iv] The exchange rate used in this note comes from the Federal Reserve and reflects the value of the U.S. dollar compared to the trade-weighted average of the dollar’s exchange rate with America’s major trading partners

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