When the chips are down: Why vehicle prices in India keep increasing

The primary reason for India vehicle prices rising is supply chain bottlenecks arising due to a shortage of semiconductors

Vehicle prices in India have increased since the Covid-19 pandemic hit the country two years ago. Toyota India, earlier in July, hiked the prices of Fortuner and Innova Crysta cars. Tata Motors raised the prices of its commercial vehicles by 1.5 per cent to 2.5 per cent from July 1. In two-wheelers, Hero MotoCorp hiked prices of motorcycles and scooters July 1.

Why are vehicle prices rising?

The primary reason for the price hike is the supply chain bottleneck caused by a shortage of semiconductor chips and a hike in commodity prices, including metals. The Russia-Ukraine war has made the situation worse, as the two countries are major suppliers of components for semiconductors.

Semiconductors are used to make electronic devices including laptops, mobile phones, washing machines and automobiles. All major economies are reeling under the pressure of semiconductor supply shortage. 

Covid-19 pandemic and lockdowns to contain it prompted companies to let their employees work from home. This led to boom in the demand for equipment like laptops and mobile phones, but the supply of chips was limited. "Across almost all industries, the demand for semiconductors in 2020 and 2021 exceeded pre-pandemic forecasts. And this means automotive OEMs and Tier 1 suppliers are increasingly competing with companies in other industries for chips," according to a report by Mckinsey on June 10.

Semiconductor shortage

As people stayed home during lockdowns, demand for vehicles fell. Automobile companies trimmed orders for chips to reduce inventory costs, but when demand started gaining by the end of 2020 they were running short.

Russia supplies 25-30 per cent of palladium, a major component in the production of the chips. Ukraine supplies 25-35 per cent of world’s purified neon gas, which too is used in making chips. The war has made it impossible for the supply chain to function normally.

Another factor is rising oil prices. The McKinsey report said that semiconductors are transported by air and the price of of air turbine fuel (ATF) has shot up.

Consultancy firms have said that the chip scarcity is expected to continue for at least a couple of years. “After closely examining the industry, including these recent supply and demand trends, we have concluded that the semiconductor shortage will likely persist in selected technology nodes for at least the next three to five years,” said Mckinsey.

Analysts have said that the demand-side sentiments may also pose a threat to the recovery of the auto sector. Inflation has jumped and central banks across the globe have been raising the interest rates to control it. This has stoked a fear of dampening the already weak demand for automobiles.

Interest rate hikes by the world’s central banks may lead to vehicle loans becoming expensive. This might hurt demand for vehicles. On top of this, with rising fuel prices, the recovery of the auto sector may not be as fast as expected.