Wednesday, February 8, 2012

Halftime in America

Many of you might have seen the Chrysler ad with Clint Eastwood this past Sunday. Hoo-boy did that ruffle some feathers. Karl Rove cried foul and claimed that the ad was effectively a campaign ad for the Obama Administration as a means of paying them back for the automaker bailouts. Never mind the fact that Chrysler has paid back all of the money given to them years ahead of schedule or anything...In any case, I'm here to tell you why the automaker bailouts were necessary and a good thing.

The long and short of the story was this: when the crisis hit the automakers, Democrats wanted to bail them out (i.e. give them taxpayer funded loans in return for the industry presenting a credible plan to get new leadership and restructure their business models) and the Republicans by and large wanted to let them go bankrupt because government should not intervene in the private sector on such a grand scale as this. Now, to be fair, many Republicans thought that the firms would go into Chapter 11 bankruptcy (i.e. another private sector company would take control of GM/Chrysler in return for enough money to keep it running while it restructured to become profitable again) and actually still exist after a series of restructurings. Some just thought that they should do nothing because if a firm cannot stay in business under its own power, it should be allowed to go under. There's a major problem with this point of view, which I'll get to later in this post. For now, let me take Mitt Romney's idea for Detroit as an example of what Republicans by and large wanted to happen.

In 2008, Romney wrote an Op-Ed for the New York Times entitled "Let Detroit Go Bankrupt." Now, the title makes it sound a lot worse than it is, but Romney was effectively calling for the automakers to go through Chapter 11 bankruptcy, restructure their leadership and product lineup, and streamline their companies. In the op-ed, he also called for government support to supplement the automakers as they went through their bankruptcy. So essentially, he argued for the private sector to take care of this in 2008. Ordinarily, I'd agree with his idea, but the elephant in the room here is that in 2008, the U.S. was a jump, skip, and a hop away from another Great Depression. Credit markets were frozen up, firms were cutting back, and uncertainty was in the air. No firm was going to want to take on an asset with any risk--let alone ones as huge as Chrysler and GM. With no one to take them on, Chrysler and GM would have needed to file for Chapter 7 bankruptcy. That means liquidation of all of their assets. No restructuring, no second chance. No more GM or Chrysler, period. That, as you'll soon see, means a lot more than several hundred thousand jobs being lost from those two firms going under. 

Think about it this way: Detroit is a car city. As a car city, it has three huge firms, Ford, Chrysler (and subsidiaries), and GM. But in addition to that, part of the reason Detroit is such a car city is because it is a cluster for all firms that supply these automakers with raw materials and parts. All of these firms operating so close together makes for much lower costs of production for automakers and lower transport costs for suppliers. So if GM and Chrysler go under, firms that supply them will likely have huge losses since they'll lose a lot of their business and they too will go under. To make matters worse, Ford would probably follow soon thereafter. Even though Ford was in a better position financially than GM or Chrysler, they were still in dire straits at the time. Closing down their suppliers that are in Detroit would make it much more expensive for them to build cars there, as they would then have to bring in parts from other states or even other countries, driving up their costs in their already financially fragile situation. Instead of losing an already substantial number of jobs with the loss of GM and Chrysler, Detroit would then stand to lose almost everything.

When the actual plan came together to bail out the auto industry in early 2009, (which really was a glorified loan with strings attached, like making the automakers have new leadership and present a credible path to profitability) Romney trashed the plan, saying that it was "even worse than bankruptcy–it would make GM the living dead." Now, you might say, "So he didn't like the plan, so what?" But the thing is, the auto bailout plan bore a striking resemblance to what Romney actually called for in 2008. The chief difference was that Romney wanted the automakers to file Chapter 11 bankruptcy and become debtors-in-possession to a private sector firm. What actually happened was that GM and Chrysler became debtors in possession to the government. I've already addressed why, given the economic situation in 2008, no private sector firm would take on that kind of risk. So the government had to step in and act in place of the private sector.

What was the result of the bailout, you ask? Well, the firms and the UAW both had to restructure, sometimes painfully, but that was what had to happen. But as quickly as they had fallen, they "got right back up again," as Clint Eastwood said in the ad. Chrysler is hiring again, GM and Ford are both posting large profits and all of them are well on their way or have already paid back their taxpayer-funded loans. Michigan's unemployment rate has fallen from 14.1% to (a still bad, but much better) 9.3%. From an economic standpoint, I'd say that the auto bailout was necessary. Not only was it necessary, but it was successful.