My thoughts on the GM bailout

These three graphs, HT: Carpe Diem of the great, magnanimous, and brilliant Dr. Mark Perry. For links to
the individual entries please see below...

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Graph 1: http://mjperry.blogspot.com/2008/11/bailout-ultimate-in-lemon-socialism.html

Graph 2: http://mjperry.blogspot.com/2008/11/crippling-burden-of-legacy-costs-gm-is.html

Graph 3: http://mjperry.blogspot.com/2008/11/more-on-total-hourly-labor-costs-gm-vs.html

What can we take from these graphs? Firstly the Big 3 are not competitive with Toyota, Honda, Nissan, (not listed but also BMW). Next you might have some questions about why are the labor costs are so high for the Big 3.

Let me put forth the most pertinent reason why the Big 3 can’t compete: Ladies and gentlemen allow me to introduce you to the UAW – the United Auto Workers. They make car prices higher (or produce a car at the same price as the competition with hundreds or thousands of dollars of less “stuff”), cause GM to lose profits, and have handcuffed the direction that the Big 3 need to take to advance, survive, and thrive. The UAW do not work in the American Toyota plants, or the American BMW plants, or the American Honda or Nissan plants. Now I have a question for y’all? Who produces better quality cars with high resale values? The automakers who deal directly with the UAW, the union who is supposed to make great cars, or Toyota, Honda… et al? We all know the answer to that one – and that was just one of the many reasons my wife and I bought and LOVE our Toyota Rav 4. (First “foreign” car she purchased – Mrs. Econotics is a recovering Chevyholic.) I put foreign in quotation marks because like many other car manufacturers on the list that are foreign owned they actually build the cars here in the USA. Ironically enough it is the big 3 that are cutting jobs here and producing their cars out of the US and in places like Mexico where labor costs are much cheaper than the UAW. Our Toyota is more American than her old Equinox!

Let’s dig into how the UAW causes GM and the Big 3 so many ills. If you’ve been watching your local news you’ve probably heard the term “legacy costs” thrown around. Legacy costs are a company’s obligations towards their current and retired workers health care and/or retirement/pension. GM and the Big 3 pay their workers roughly the same hourly wage as any of the other auto makers, about 28-32 dollars per hour. However the Big 3 are so burdened by their legacy costs (just do the math 73 – 30) that they cannot compete with the non US owned auto-companies 73 avg per hour worker compensation versus mid to high 40’s average for non Big 3 competition. Lastly, and although it is diminishing, the UAW has something called a “job bank” which is basically a place for their workers to go and be paid not to work. And although many of the UAW workers recently accepted a Big 3/GM buyout there are still workers in the job banks (about 1,000 by 2010). But that’s not all… The workers who actually produce for the Big 3 support their retired brethren, and/or surviving spouses to the tune of (at GM) a 4.16 beneficiaries per 1 worker ratio(see graph 2). Social security in this country is considered a problem because our ratio will get down to 1 retiree per 1.15 active workers… in the 60’s the social security ratio was 1 per 4! In essence what GM and the Big 3 want us to do is to further subsidize their retirees with a big fat bailout check.

Has progress been made? In 2006 the UAW and the Big 3 sat down to address the impossibly high legacy costs. The UAW restructured their luxurious agreement and cut costs down for the Big 3. As you can see in graph 3 the compensation per worker will be 62 dollars! That’s like downgrading from a BMW M-5 to a Cadillac CTS when you should be driving a $20,000 dollar automobile! They still won’t be able to compete w/ other auto manufacturers! At this point you’re probably thinking why we should further subsidize this failure of an industry… Here’s more fuel for that fire.

The Big 3 Business Model was and is terrible. However it wasn’t just the executives to blame for the union didn’t help, although their incompetence can’t be questioned. It wasn’t solely the Big 3’s fault that they couldn’t produce small fuel efficient cars for a decent profit. Because the Big 3 already started in the hole per car produced to the tune of - $870.00 (big 3 industry average) their incentive was to produce big cars with a high price-tag. For example if you are an exec and you know that you can only produce 500 vehicles per day and that your costs are much higher than your competition would you produce and try to compete with them over small affordable cars that would sell for 8-15 thousand but that the difference in quality would be significant and obvious? Or would you try and compete over cars that sell for over 20 and 30 thousand dollars where the quality differences are less obvious and not as significant? If you chose option 2 you should apply for a Big 3 executive position because you’d be no different than what they have now. The smaller and cheaper the car produced the larger the profit loss for the Big 3. The Big 3 had to rely on larger profits from big gas guzzlers, and big gas guzzling expensive cars, trucks and SUVs. Only too late did they change their business strategy and shifted towards a smaller fleet. And even then they keep losing market share (which btw some economists argue is good because they have an unsustainable market share). But most importantly the quality per dollar (car price) of their competition > their own quality. And while other auto-makers correctly interpreted the market earlier and with greater success and went either fuel-efficient and bang-for-your-buck i.e. Toyota, and/or specialty high quality luxurious vehicles ala BMW + Mercedes, GM and the Big 3 didn’t adapt to the market until they were bleeding (cash burn) billions of dollars per month. They failed. Or as many young people would say, what we have here is an “Epic Failure”…Pardon an analogy but the Big 3 tried to be a jack of all trades, in a market where individuals demand support a master of one or two products.

The Big 3 have done nothing to ensure that they will be competitive in the future. Why should we as tax payers subsidize them? It would be like subsidizing the horse and buggy industry in the early 1900’s. Yes in the short run the jobs of the Big 3 and their suppliers won’t be lost but in the long run we would just be propping up an inefficient industry. The market can’t work if we try to imitate the success of the miracle of Lazarus so why reward a massive failure? The Big 3 are attempting to take your money – keep prices high and quality low, and keep producing cars no one wants… why bail them out? If we only do what’s good in the short run we are going to feel significant pain in the long run.

I realize some of you are worried about potential job losses. As I pointed out in econotics.com 1 out of 10 jobs in the US won’t evaporate if the Big 3 go under. For those who need some hard analysis read this article and here. Regardless of that though there are public policy alternatives to Chapter 7 bankruptcy! Chapter 11 bankruptcy let’s the Big 3 restructure their contracts, debt, and obligations, which means they can get out of bad contracts with labor, parts suppliers etc. The government can help them in Chapter 11 bankruptcy if need be, but at that point we would be helping those who are trying to help themselves – which ethically and economically is better for you and your tax dollars. If they don’t come out Chapter 11 (a possibility albeit imo an infinitesimally small one) then the other US auto industries who are foreign owned will increase production and partially save the former Big 3 suppliers. Job losses will occur, but it will not be as catastrophic as some shrill economic forecasters have predicted. In the long run we shouldn’t subsidize an industry that is not efficient. Why pay a worker to make rotary phones when he could be making cell phones? Long run importance has to trump short run implications.

What troubles me the most is that a bailout of the Big 3 is a bailout of the UAW and corporate management all of whom have underperformed, to say the least. Do they deserve our tax dollars? Not a chance. Would Chapter 11 be better for everyone in the long run? Yes. Would Chapter 11 be catastrophic in the short run? Not likely. It is part of the creative destruction process of capitalism. A process that is in dire threat due to possible government intervention.

So call your rep today and tell them NO BAILOUT – only prepackaged government aided bankruptcy which is the Chapter 11 option… and that is assuming the Chapter 11 will be executed properly.

I cross posted this on my other blog: http://neighborhoodgop.wordpress.com/2008/11/27/on-the-potential-gm-bailout/