Bail Out Capitalism, Not The Big Three
Government intervention in the financial system via the Troubled Asset Relief Program made me sick to my stomach, but without it, there is a real possibility that our economy would have come to a screeching halt as trust in the financial system was strained to the point of breaking. Confidence among depositors and banks alike needed to be restored.
The putative bailout of Detroit’s “Big Three” automakers is quite different from TARP, as it will only postpone the inevitable. No matter how much money you throw at them, the Big Three, or at least General Motors, will most likely still go bankrupt. They have managed to lose billions in good times and bad times.
Their business models were broken before the financial crisis hit; the crisis just accelerated the inevitable. The only questions are how soon and how much of the taxpayer’s money they’ll consume before they face their fate, since they have structural problems that will not be resolved until they go bankrupt.
In the 1980s, when the Big Three had virtually no competition, they sold their souls to the devil unions, signing contracts that put them at an incredible competitive disadvantage in today’s environment where consumers don’t have to buy American and have plenty of choices.Unfortunately, these companies are run for and by the unions that have very different objectives than for-profit enterprises. These contracts, for instance, forced GM to run factories at 80% utilization, whether there was adequate demand or not. This, in turn, forced GM to sell cars to car rental companies at cost, killing future demand for its cars as it was only a matter of months before these cars made their way into the used car market.
It is hard to judge the true quality of their management as their unions made management’s job impossible. But management is at fault of being stuck in the past and producing gas guzzlers (SUVs and trucks) when consumers clearly demanded fuel efficient vehicles. To its discredit, GM spends half as much on research and development as does Toyota and for three times as many nameplates. This is not a sustainable business model.
Bankruptcy is a blessing, not a curse. Contrary to common perception, bankruptcy doesn’t mean that the Big Three will disappear. Not at all, and quite the opposite. It will insure that they’ll be around 50 years from now. While in bankruptcy, they will be able to break contracts with unions that are choking them, lower their debt burdens by turning debt holders into equity holders (and regrettably wiping out existing shareholders). Their hands will be untied to right-size by shrinking their operations, cutting costs and becoming competitive again.
Jobs will be lost, factories will be closed, benefits cut. Yes, all these things will take place, but the layers of fat that these companies accumulated over the decades need to be shed to confront the marketplace that is only getting more competitive. Today, the Big Three compete mostly with Japanese and European automakers. But competition will only intensify as the world flattens, the quality of Korean cars improves (in many cases, it already has), and Chinese and Indian cars come to the U.S. and the rest of the developed world.
An automaker bailout is simply bad for capitalism. It will put competitors at an unfair disadvantage. It will cost taxpayers money, which at some point will lead to higher interest rates and higher taxes. It will lower economic growth, and it will send an army of other failing companies lobbying to Washington asking the taxpayers to bail them out (though this will likely happen anyway). Finally, and most importantly, it will raise the likelihood of a Japanese-like 15-year recession. We’ll be repeating their mistakes by not letting failed companies go bankrupt and thereby creating an economy full of zombie-like, semi-dead companies.
Capitalism is what needs a bailout. Though we often don’t appreciate it, capitalism is what made this country great. It allows for the fit to succeed by allowing the unfit to fail. Let’s bail capitalism out by letting the Big Three face their fates and not allowing them to become leeches on the backs of the U.S. taxpayer and our economy.
Forbes.com
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I agree with what you say and have already expressed as much in letters to my elected representatives. However, Congress is a politicial institution rather than an economic one and given that both houses as well as the presidency will be controlled by the Democrats next year and the Democrats owe much of their success to unions in general and the UAW in particular, some kind of aid is likely in the cards. If public antipathy is high, expect it to be in the form of “loan guarantees” or some other compromise position.
This current situation has a deja-vu from the early 80s. At that time it was Chrysler that was the focus of the death watch. Then-Chrysler-chairman Lee Iacocca convinced the Congress in 1980 to guarantee loans to the company to keep it afloat. Iacocca also restructured the operations, laying off many workers and closing plants. The designers came up with the popular K-cars and later, the minivan, which made the company profitable again and allowed the loans to be repaid.
The Chrysler loan-guarantee action will likely become the model for today. It will allow Congress to say they tried to help while leaving the responsibility for GM’s future with GM itself. It also gives Congress an escape hatch against future demands if this one doesn’t pan out. GM will have to be made to understand they have one last chance to fix their problems or its sayonara time. Will this idea work again? Much depends on the economy and much depends on GM itself. But I think it likely this is what will be tried.
Vitaliy, won’t bankruptcy void the financial commitments embedded in service contracts with GM/F/Chrysler owners?
I mean, this is different from an airline bankruptcy, where you are sold a service — “move my body and possessions from Denver to Chicago.” A car maker needs the strength to honor 7/70K warranties.
After you were burned with the voiding of a warranty, would you go back and purchase a car from the reorganizing F or GM?
@2. Vitaliy kindly replied to my question:
“There are many ways of dealing with that issue – government can guarantee those contracts etc…”
I agree. My forecasts are centering in on a union/pension/health care/warranty bailout for US automakers’ cars and employees, and nothing for Wall Street fatcats that own GM and GMAC bonds and stock. This way, Obama can reward his union voters in MI, avoid loss of confidence in the cars’ reliability and service longevity, but show that he is worried about moral hazard.
It was sad, it is sad, and it will be sad.