Dealer Financing in the Subprime Auto Market: Markups and Implicit Subsidies

Abstract

Does dealership discretion to mark up interest rates hurt subprime auto borrowers? We use unique transaction-level data to examine finance and vehicle profits in the subprime auto market with three main results. First, financing subprime customers is costly for dealerships due to loan discounts that are only partially offset by proceeds from interest rate markups. Second, financing is costliest to dealers for deep subprime customers with low credit scores and low incomes. Third, instead of offsetting financing costs, vehicle markups are lowest for deep subprime customers. Finance margins and vehicle markups are also positively correlated more generally.

Keywords: subprime finance, auto lending, loan intermediation, price discrimination

JEL Classification: D12, D18, G23, G51