Leasing in the Automobile Industry: Who Lease Cars

This study extends Kim model in a previous study of the used car market with asymmetric information to examine the possible impacts of leasing and warranty on adverse selection which affects the functioning of the car market by influencing the average quality of traded cars sold in the market.Kim model assumed that the quality of cars depends on the maintenance level.Like model by Kim and other previous studies assumed that the quality of cars depends on the maintenance level but the maintenance level is chosen when cars are still "new" cars i.e., after the warranty ends.This study assumes that consumers can buy or lease new cars, or they can buy used or Certified Pre-Owned (CPO) cars and the maintenance level for leased cars is specified in the leasing contract, while that of purchased cars is chosen by consumers after the warranty expires.The model implied that the average quality of traded cars can be either higher or lower than the average quality of non-traded cars which is partly because of leasing, warranty and CPO besides other factors, indicating that these institutions have improved the information mechanism between buyers and sellers of used cars which, in turn, has helped in reducing adverse selection and improving the average quality of traded cars in the market.The study also uses a modified version of a previous study in which lemon model used to test the quality of traded and non-traded cars in the market.To deal with the censoring problem in the data, a tobit model is used and sensitivity analysis is applied to check the robustness of the coefficients.The data is collected from "The Panel Study of Income Dynamics (PSID)" from the University of Michigan for this study.The results show that the average quality of traded cars is not significantly different than that of non-traded cars, all else equal, indicating that traded cars required same maintenance expenditures as non-traded cars of a similar age.