Cross-Over Utility Vehicles

The crossover utility vehicle (crossovers) market emerged in response to, and most likely caused, declines in larger sport utility vehicle sales. The term "crossover" is a one-word moniker for a sport-utility that uses a car chassis. As of February 2006, there were 41 crossovers on the road. The crossover market is growing as automakers and the media alike insist on using the word "crossover" to describe a group of vehicles that come in all shapes and sizes; and one that will multiply into even more shapes and sizes in the future. In 2007, 57 new vehicle models are entering the market; 19 of them are crossovers. Sections I and II of this paper examine demand and supply and market structure for crossover vehicles. Section III provides a summary of macroeconomic variables in 2006 and looks at their effect on General Motors. Lastly, section IV examines the Federal Reserve's actions to affect GDP, inflation, and unemployment and outlook for 2007.

In 2000, just 541,000 crossovers were sold, compared to 2.97 million SUVs. Crossover sales grew to 1.6 million units for the period of January to October 2006, a 5.2 percent increase from 2005 and topping off at 2.2 million at year end 2006. In 2006, the Toyota Highlander was the leader in the midsize crossover segment, with 35 percent of U.S. sales. Depending on one's definition of a crossover, prices generally range from $18,000 to about $45,000 before getting into the luxury crossover territory. I estimate annual sales for 2006 at $54.9 billion. Today, virtually every automaker has a crossover on the market.

Section I - Demand Function

The quantity demanded of crossovers is a function of the price of crossovers, consumer tastes-- horsepower, higher seating, lower ground clearance, more seating, fuel economy, hauling capacity, safety, car-like ride, as well as the prices of cars, competing trucks, and larger SUVs, and the number of consumers in the market. Two major factors influencing demand are fuel economy and price. Poor gas mileage is the third-most cited reason for rejecting a vehicle, following "total price too high" and "total monthly payment too high," respectively. In 2005, SUV sales were down 30 percent from August to September when gas prices were around $3 a gallon. Now faced with the $50-plus cost of filling up a large SUV, more consumers are looking for fuel-efficient alternatives. Ford Motor Company recognized the impact of gas prices as having an adverse effect on the demand for full- and medium-sized SUVs and trucks in the United States.

In 2006, the most popular selling crossover was the Ford Escape, followed by the Honda Pilot, Honda CRV, Toyota RAV4, Toyota Highlander, and PT Cruiser, respectively. These crossovers average prices are $23,940, $31,600, $21,200, $20,500, $30,715, $21,780, respectively and made up about 36.75 percent of the market. The average price of the top six crossovers is $24,955. The average price of the top six SUVs for the same period is $32,250. Crossover sales through September 2006 were greater than SUV sales, with crossover sales growth of 8.5 percent and SUV sales decreasing 15.9 percent from 2005. The trend has been positive growth in crossover sales and negative growth in SUV sales since crossovers hit the market. The price averages span from about $21,000 to $31,000, or a difference of $10,000. This number does not include the expensive luxury crossovers. Ford Motor Company notes consumers in the highest income brackets are buying more often and are more frequently buying upscale. With crossovers spanning from normal goods to luxury goods, the elasticity is determined mainly by their price. Unlike in some industries, luxury goods in the auto industry means higher retail prices and normal goods will have more low to moderate costs. However, higher income, according to Ford, means more expensive purchases and more total purchases.

The above figures indicate the crossover demand somewhat price elastic. The introduction of crossovers offering similar benefits as SUVs is killing the SUV market. The numbers show crossovers are substitutes of SUVs as the decrease in price of crossovers has resulted in a decrease in demand for SUVs. With approximately a $7,300 lower average price, consumers are reacting and demanding more crossovers. Limiting analysis only to price changes and demand, crossover demand is on the rise as prices of crossovers is lowered. With price elastic demand, U.S. manufacturers may have a difficult time winning the battle for market share. U.S. companies already have low profit margins crossovers provide less profits per unit than their substitute SUVs. GM could especially be hurt as their gold mine in the past was the Chevrolet Suburban and Tahoe. This means the firms must change lower their cost structures to adapt to this new segment. Additionally, GM must not only be concerned with crossover price, but consumer income plays a major factor as well.

Many things affect income elasticity in the auto market. Stagnant consumer income during times of rising prices of certain complementary goods, like gasoline, will adversely impact auto demand. The crossover segment is a response to that challenge, focusing on lower price and better fuel-efficiency. However, other factors, such as rising interest rates adversely affect demand for autos. It is difficult to determine whether the crossover segment has a positive or negative income elasticity. The problem is that crossovers span from low cost to expensive luxury vehicles. The wide array of pricing in the top six crossover sellers signifies this.

Section II - Supply

The cost function for the auto industry looks at the quantity produced as a function of the price and quantity of inputs, i.e. raw materials, plants, labor, future expectations, and number of producers. Automobile manufacturing is both a capital- and labor-intensive business. Manufacturers' major costs are direct materials and labor, with the cost of sales averaging about 75 percent for the industry. Materials account for 45 percent of the retail price of an automobile; labor, 25 percent. Labor costs consist of health care expenses rising for many years and high direct labor costs guaranteed collective bargaining agreements as almost all hourly employees are unionized. At Ford Motor Company, hourly employees average hourly earnings in 2006 were $32.38, plus benefits totals $70.51 per hour. Raw materials prices, including steel, aluminum, resins, copper, lead, and platinum group metals, are increasing due to a strong global demand.

Fixed and variable costs are high for automobile industry. Manufacturing plants are expensive to build. A CSM Worldwide study estimated excess production capacity