Important disclosures and certifications are contained from page 6 of this report. https://research.danskebank.com

Investment Research — General Market Conditions

The European car sector remains in the midst of far-reaching upheaval and its

ability to revamp its business model from combustion engines to electrically

chargeable vehicles will set the tone for future growth prospects.

In the long run, the green transition and ongoing changes to global value chains

could lead to the car industry losing some of its economic importance for Europe.

However, leaner, automated production lines and reduced overcapacity do not

necessarily have to be negative developments, as these could end up boosting

European productivity in the long term.

A perfect storm

Even before the coronavirus, Europe’s car sector was in the doldrums. After a multi-

year phase of strong demand from 2011-17, car sales first hit a roadblock in 2018 when a

switch to new emission test procedures (WLTP) triggered a collapse in car production by

over 20%. Although sales recovered somewhat after bottlenecks abated, they never

matched previous levels, as they were weighed down by a combination of intensifying

global trade tensions, driving bans on diesel cars in a growing number of German cities,

stricter EU car emission standards and shifting consumer preferences towards electric and

hybrid cars, where European producers have long remained dormant and are only now

starting to catch up with US and Asian producers such Tesla and Toyota.

Europe’s industry model has long been heavily reliant on the car sector – and has

become even more so following the Global Financial Crisis (GFC): 13.8m Europeans work

in the auto industry (directly and indirectly), accounting for 6.1% of total employment and

some 12% of gross value added (GVA) in manufacturing stems from the sector. Among

euro area countries, Germany is by far the most exposed to the car industry, with nearly a

quarter of GVA in manufacturing accounted for by motor vehicles.

Entering the COVID-19 crisis already in a fragile state, the car sector has experienced

one of the biggest declines in activity. Euro area passenger-car registrations tumbled by a

substantial 78.5% y/y in April and were still down 28.6% y/y in June. With factories closed

under lockdowns, the European Automobile Manufacturers’ Association (ACEA)

estimates that EU-wide production losses amount to at least 2.4m units so far.

Global car sales stagnated – even before COVID-19 hit

Source: Macrobond Financial, Danske Bank

10 September 2020

Senior Analyst Aila Mihr +45 45 12 85 35 amih@danskebank.dk

Car sector’s economic importance for

Europe rose following the GFC

Source: Eurostat, Macrobond Financial, Danske

Bank

Germany’s economy most exposed to

car sector fortunes

Source: Eurostat, Macrobond Financial, Danske

Bank

Euro Area Research

Europe’s car sector: back on the road again?

https://www.acea.be/press-releases/article/covid-stakes-are-high-for-european-automotive-recovery-new-facts-and-figuremailto:amih@danskebank.dk

2 | 10 September 2020 https://research.danskebank.com

Euro Area Research

As consumers have become increasingly reluctant to make big-ticket purchases amid

deteriorating employment prospects, a big turnaround in demand seems unlikely, even after

dealerships have reopened.

Light at the end of the tunnel?

However, the troubles in the car sector run deeper than simply the coronavirus shock.

Hence, analysing the root causes of the stagnation is important for assessing the growth

prospects of the sector and the euro area economy as a whole.

Export dependency. The European car industry is increasingly reliant on foreign

demand for its products. Germany exports close to 80% of passenger car production these

days, up from some 67% in 2000. This export dependency –when it comes to both reliance

on supply chains and consumer demand – has made the sector more prone to external

shocks, be it from US trade wars and tariff threats or global supply chain disruptions.

In particular, developments in the US and Chinese markets will be important in

shaping the outlook for the European car industry. Following the coronavirus shock,

Chinese sales have offered some light in the dark and rebounded relatively swiftly in a

sign that people mainly delayed buying a car while the economy was in lockdown, rather

than cancelling purchases altogether. Such pent-up demand might also give a boost to

European sales in coming months but the short-term boost is unlikely to suffice to propel

global car sales back to the levels seen pre-2018. Furthermore, the Chinese market is also

seeing increased ‘greening’ tendencies, with the Chinese government aiming for a quarter

of all new cars to be either pure electric cars, hybrids or fuel cell vehicles by 2025.

In the US, the environmental pressure comes from the individual states. In California,

which has so far had the right to set more ambitious emissions standards than federal

regulation demands, the share of zero-emission vehicles must rise to around 8% by

2025 and several major automakers have pledged to comply voluntarily with the

Californian standards. However, probably even more important for the industry will be

where the EU-US car tariff dispute is heading (see also Euro Area Research – From

US-China trade ceasefire to US-EU trade war?, 26 January). So far, Donald Trump’s

administration has seemed reluctant to escalate the car dispute with the EU but it

remains a notable downside risk to US sales prospects as long as progress on the US-

EU trade deal on industrial goods remains sluggish. The US imported from the EU cars

and car parts worth USD63bn in 2018 and the Michigan-based Center for Automotive

Research has estimated that new car prices in the US would rise by USD2,750 on

average in response to a 25% import tariff.

Another possible roadblock stems from the risk of a no-deal Brexit, which we currently put

at 40% probability (see Brexit Monitor - Deal or no deal boils down to what PM Boris

Johnson wants, 28 August). Almost 3m motor vehicles worth EUR54bn trade between the

EU and the UK annually. In addition, cross-Channel trade in automotive parts accounts for

another EUR14bn. A chaotic Brexit would not only be a severe blow to the industry’s just-

in-time supply chains but would also be likely to sap demand through higher vehicle prices

for UK consumers. ACEA estimates that trading under WTO terms and applying a 10% or

22% tariff (depending on motor vehicle type) could result in import duties of approximately

EUR6bn being added to the cost of doing cross-Channel trade.

Shifting consumer preferences. European – and especially German – producers

have long remained dormant when it comes to the production of electrically

chargeable vehicles (ECVs) and hybrids. Although ECVs and hybrids still account

for only a small part of the euro area market (33.6% in Q1 20), they also constitute one

of the biggest growth markets, while the share of diesel cars in new EU passenger car

registrations has been on a steadily declining path ever since 2011.

Still subdued demand for cars

Source: ECB, EU Commission, Macrobond

Financial, Danske Bank

US and China are the main

destinations for EU car exports

Source: European Automobile Manufacturers’

Association

Chinese sales offer some light in the

dark

Source: China Association of Automobile

Manufacturers, Macrobond Financial, Danske Bank

Car sales of traditional engine types in

structural decline

Source: European Automobile Manufacturers’

Association

29.1

17.5

6.65.55.4

3.43.1

3.12.92.7

20.6

Destinations for EU passenger car exports (% share of total in 2018)

USChinaJapanSwitzerlandSouth KoreaTurkeyCanadaAustraliaNorwayRussiaRest of the world

https://research.danskebank.com/research/#/Research/article/ae56fa5f-c3e1-46a8-a1a6-4c0b70e89642/ENhttps://research.danskebank.com/research/#/Research/article/ae56fa5f-c3e1-46a8-a1a6-4c0b70e89642/ENhttps://www.cargroup.org/publication/trade-briefing-u-s-consumer-economic-impacts-of-u-s-automotive-trade-policies/https://www.cargroup.org/publication/trade-briefing-u-s-consumer-economic-impacts-of-u-s-automotive-trade-policies/https://research.danskebank.com/research/#/Research/article/642c5d8c-1225-4c76-b9b2-81b36fb010ca/ENhttps://research.danskebank.com/research/#/Research/article/642c5d8c-1225-4c76-b9b2-81b36fb010ca/ENhttps://www.acea.be/uploads/publications/ACEA_Position_Paper-EU-UK_Trade_Negotiations.pdf

3 | 10 September 2020 https://research.danskebank.com

Euro Area Research

Having arrived late to the ‘ECV party’, we believe European producers will

increasingly have to seek a competitive advantage over more price-efficient Asian

producers via quality leadership. In a positive sign, European producers have stepped

up car-related R&D investments in recent years and these account for a larger share of

total R&D spending than for example in the US or China. VW was the fourth largest

R&D spender in 2019 following Alphabet, Samsung and Microsoft (Daimler 10th and

BMW 16th compared with Tesla 114th – see here). Still, automotive R&D is a strategic

and long-term process, which can have decade-long lead times to implement new

technologies. Furthermore, current priorities to conserve cash amid the 2020 sales

slump are likely to mean the slashing of R&D and capex budgets, delaying European

automakers’ attempts to narrow the technological gap with Tesla & Co.

How quickly consumers scrap old diesel and petrol cars for alternative fuel types

will be another important factor. Both the opportunity cost of not switching (i.e.

through higher CO2 taxation or purchase subsidies) and the charging infrastructure play

a role in this decision. A majority of EU member states already grant tax reductions or

exemptions for ECVs (see here). Furthermore, over past weeks, a number of European

governments have announced additional subsidy schemes to help the battered car sector

get back on its feet and support the green transition (see map below). A similar ‘cash-

for-clunkers’ (Abwrackprämie) scheme implemented in Germany following the GFC

gave important impetus to the industry and we expect it to have a positive effect on

sales of hybrids and ECVs in 2020, the market share of which already experienced a

significant boost in Germany at the start of 2020 after the Umweltbonus subsidy took

effect. Still, the overall effect is likely to be more muted: Unlike in 2009, there is

currently no problem financing car purchases with interest rates at record lows and

consumers may still adopt a wait-and-see attitude, as long as the ECV price tag

continues to fall as battery technology improves and charging infrastructure in some

regions remains patchy.

European governments are aiming to boost green car sales

Source: Danske Bank

Germany

• Reduced VAT rate from 19% to 16% until end-2020

• €2.2bn for cash bonuses for electric cars (up to €6,000)

• €2bn for investment subsidies to car producers and suppliers

• €2.5bn for charging infrastructure and battery production

• €1.2bn for modernizing public transportation

France

• €8bn plan to revive France’s car industry and ‘relocalise’ manufacturing in France

• Includes €1 billion in subsidies to encourage purchases of electric and hybrid cars: up to €7,000 subsidy for electric cars and €2,000 for hybrids

• Target for France to produce a million green cars annually by 2025

• €600m fund to take equity stakes in struggling suppliers

• Target of 100,000 electric vehicle public charging points across the country by 2021

Italy

• Considering subsidies of up to €4,000 for the purchase of last generation diesel and petrol cars as part of upcoming recovery package.

Auto industry is the largest R&D

investor in Europe and Japan

Source: EU Industrial R&D Investment

Scoreboard, European Commission

German ‘cash for clunkers’ scheme

helped boost car sales in 2009

Source: ECB, Destatis, Macrobond Financial,

Danske Bank

Umweltbonus boosted German sales of hybrids and ECVs at start of 2020

Source: VDA

0

20

40

60

80

100

EU US Japan China

Auto & transport ICT producersHealth ICT servicesIndustrials ChemicalsAerospace & defence Others

Top 2500 R&D investors globally(% of R&D by sectors, 2019)

7.1 6.86.1 5.8 5.4 5.3 5.3 4.9 4.5 4.1 3.8 3.5 3.3 3.3

2.7 2.7 2.6

R&D intensity in 2018/19 (spending as % of sales)

http://iri.jrc.ec.europa.eu/sites/default/files/contentype/scoreboard/2019-12/SB2019_main%20stats_GLOBAL2500.xlsxhttps://www.acea.be/statistics/article/interactive-map-electric-vehicle-incentives-per-country-in-europe-2018https://iri.jrc.ec.europa.eu/sites/default/files/2020-04/EU%20RD%20Scoreboard%202019%20FINAL%20online.pdfhttps://iri.jrc.ec.europa.eu/sites/default/files/2020-04/EU%20RD%20Scoreboard%202019%20FINAL%20online.pdf

4 | 10 September 2020 https://research.danskebank.com

Euro Area Research

According to a report by Transport & Environment, some 3m public charging points

will have to be available by 2030 in order to sustain the rise in electric vehicles needed

for Europe’s long-term climate objectives. Assuming 44m electric vehicles are on

European roads by 2030, this means a 15-fold increase on the 185,000 public chargers

currently available in the EU. Geographical fragmentation also remains a problem: 76%

of all charging points in the EU are located in only four countries, which cover only

27% of the EU’s total surface area. That means while ECV buyers in the Netherlands,

Germany, France and the UK already benefit from a good charging infrastructure,

patchy grids remain a barrier to ECV adoption especially in southern and eastern

Europe. A similar picture emerges from a global perspective. China has taken the lead

in absolute charging point numbers and is responsible for over half of all such

infrastructure globally (not least because China has made the EV industry a priority for

its ‘Made in China 2025’ industrial policy). However, to sustain the accelerated rollout

of ECVs, some 290m charging points are needed globally by 2040 according to

BloombergNEF – a significant increase from the 927,000 available in 2019.

Regulatory environment. Europe’s green transition – which is high on EU leaders’

priority list – remains both a blessing and a curse for European carmakers.

Subsidies and tax exemptions help bridge the gap between ECV purchase prices and

consumer willingness to pay. However, current CO2 g/km average fleet emissions for

EU automakers mean that the industry requires a 25% reduction by 2021 to meet new

EU legislation (the new 95g/km CO2 target is being phased in throughout 2020 and

binding from 2021). This task has been made tougher by consumer shifts towards SUVs

and new emission testing (WLTP) introduced in September 2018 and any delay in the

launch and adoption of ECVs could entail heavy penalties for non-compliance.

Road towards a leaner European industry model

In sum, the European car sector remains in the midst of far-reaching upheaval and

its ability to revamp its business model from combustion engines to ECVs will set the

tone for further growth prospects. Whether this transition will be successful in

reinvigorating the fortunes of a sector that already once stoked Germany’s

Wirtschaftswunder (economic miracle) in the post-war period remains yet to be seen.

Record-high investments in new technologies, brand value and production scale

advantages, as well as the tailwind from government support schemes, bode well for

European producers eventually catching up (and even overtaking) Tesla & Co. However,

the coronavirus shock could significantly delay this process and the industry’s export

dependency makes it vulnerable to shifts in the global trading order, be it from Brexit or

the threat of US car tariffs. Germany has in many ways weathered the COVID-19 storm

better than other European economies but, in our view, its car sector dependency will

continue to haunt it. We believe premium manufacturers such as BMW and Daimler will

still have to rely on sales of profitable luxury cars with combustion engines in the near

future in order to adsorb the investment costs of the e-mobility transition, as ECVs are

generally low margin or lossmaking.

In the long run, both the green transition and ongoing changes to global value chains

could lead to the car industry losing some of its economic importance for Europe. The

past few years have seen an increasing trend towards moving production closer to the final

consumer. In 2019, German manufacturers stepped up their US-based production by some

4% and a similar trend is visible when it comes to suppliers. With more localised production

in China and North America, we believe European production will increasingly be left to

cater for the more fragile European market, which is additionally facing more adverse

demographic dynamics in terms of potential new car buyers.

76% of all EU charging points are

located in just four countries

Source: European Automobile Manufacturers’

Association

Limited global charging infrastructure

remains a barrier to ECV adoption

Source: BloombergNEF

Job losses in car manufacturing set to

accelerate

Source: Destatis, Macrobond Financial, Danske

Bank

https://www.transportenvironment.org/sites/te/files/publications/01%202020%20Draft%20TE%20Infrastructure%20Report%20Final.pdfhttps://www.vda.de/de/presse/Pressemeldungen/201010-Deutsche-Hersteller-und-Zulieferer-verstaerken-ihr-US-Engagement.html

5 | 10 September 2020 https://research.danskebank.com

Euro Area Research

As assembly lines for ECVs turn less labour intensive, job losses in car manufacturing

seem inevitable. In a worst-case scenario, 400,000 jobs could be at risk in Germany

according to a report by the National Platform on Future Mobility (NPM). Suppliers and

after-sales service providers will also feel the shift, with ECVs requiring less maintenance

as fewer parts need to be replaced over vehicles’ lifetimes. A value shift in automotive

supply chains (i.e. with the largest part of GVA stemming increasingly from batteries rather

than the internal combustion engine) would also reduce the economic might of EU

carmakers, unless domestic battery production ramps up. However, leaner, automated

production lines and reduced overcapacity do not necessarily have to be negative

developments, as these could well end up boosting European productivity in the long

term.

Europe hosts only 3% of global battery

production capacity

Source: European Commission

https://www.plattform-zukunft-mobilitaet.de/wp-content/uploads/2020/03/NPM-AG-4-1-Zwischenbericht-zur-strategischen-Personalplanung-und-Entwicklung-im-Mobilitätssektor.pdfhttps://ec.europa.eu/jrc/sites/jrcsh/files/jrc114616_li-ion_batteries_two-pager_final.pdf

6 | 10 September 2020 https://research.danskebank.com

Euro Area Research

Disclosures This research report has been prepared by Danske Bank A/S (‘Danske Bank’). The author of this research report is

Aila Mihr, Senior Analyst.

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Euro Area Research

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Report completed: 9 September 2020, 13:04 CEST

Report first disseminated: 10 September 2020, 06:00 CEST