Jared is right on this one. The collapse of GM might entail the loss of both Ford and Chrysler as suppliers also go down. Knock-on effects would destroy state and local governments in the auto zones, along with associated industries and would make the housing crisis that much worse. A bridge loan that buys time to get a new government into Washington is therefore an act of minimal prudence. Once Team Obama is in place, an orderly review of conditions and a restructuring of the industry can begin, including potential public components such as health care reform.
Bankruptcies may happen eventually anyway, but if so an orderly and preplanned reorganization in good time is vastly preferable to a collapse now.

Mitt Romney’s answer to that question, today at least, is no. In “Let Detroit Go Bankrupt” in the New York Times, Romney says that reorganization would allow the Big Three to “shed excess labor.” In January, when he was trying to win the Michigan primary, Romney vowed to “fight for every job” in the auto industry and promised help from Washington. Compare Romney today to the way he sounded then, here and here.

Before we start dishing out taxpayer money to GM, it seems wise to consider what else might be done. Our problem right now is a rapid decline in consumer spending not only on automobiles but just about everything else. Some of the decline in consumer spending is a wise response to the decline in housing and stock market wealth, but the October unprecedented collapse in retail spending cannot be attributed to a wealth effect, which historically happens slowly over time. Our problem right now is fear. Call it the Paulson Panic.

The threat of the next Great Depression used to sell TARP to Congress has unleashed a tidal wave of defensive responses. We are selling our stocks at any price so we can stuff our mattresses with the cash we will need when everyone else is in a bread line. And, more importantly for the real economy, we are doing the same thing with our paychecks. In a shocking change of behavior, all of a sudden we are not spending every dime we earn, week by week. That is a much needed change for the long run, but in the short run it causes the Keynesian Paradox of Thrift. If we all try to save at once, we tip the economy into recession and we end up saving less.

We need a mood elevator. We need to feel confident about the future again. Here’s an idea. Have Uncle Sam send a $100 holiday gift card to every man, woman and child in the United States with a Jan. 1 expiration date. How happy are you going to feel when you open your card from the Uncle you hardly even knew you had, an Uncle who is going to be there when you really need him? And think about the smiles on the faces of the children in poor families and their parents when they are celebrating Christmas this year.

It would cost only $25 billion. About the same as GM bailout.

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There is a strong case for offering federal guarantees of new loans to the Big Three. However, these guarantees should only be provided if they are accompanied by tough federal requirements that force Chrysler, Ford, and GM to take cost-saving measures that will make the firms profitable in the long run. In addition, federal taxpayers should be given a claim on part of the appreciation in the three companies’ share prices if and when they return to profitability. Note that the 1979 federal loan guarantees to Chrysler met all these conditions. Under the pressure of tough federal conditions, Chrysler emerged from its difficulties as a smaller, lower cost, and better managed firm, and federal taxpayers ultimately earned a good return on the guarantees.

The main argument in favor of government guaranteed loans is that a Big Three bankruptcy filing would produce unpredictable and incalculable harm to a large and vital part of U.S. manufacturing. Many observers argue that American bankruptcy laws already provide a good framework for reorganizing the salvageable parts of the auto industry. If one of the Big Three should file for protection under Chapter 11, it would gain relief from repaying some or all of its existing debts as well as time to reorganize its operations under court supervision. When some or all of the company is restored to profitability after shedding its debts, most of the company might be preserved. Even under optimistic assumptions, bankruptcy would ultimately involve a sizeable downsizing of the firm as well as renegotiation of the generous wages and fringe benefits now provided to active and retired auto workers.

While bankruptcy often works well, I wonder whether it would work well in this case. Consumers who are thinking about buying a car are not purchasing a product that they expect to consume immediately or within a couple of weeks. In most cases they hope their cars will last seven years or longer. Over that span of time, most of us hope the car’s warranty will be honored, parts will be available, and trained mechanics will be around to maintain and repair our vehicles. Under these circumstances, an auto company’s impending or actual bankruptcy can severely and permanently reduce demand for the company’s products. What would be the value of an auto company if most of its potential customers believed the company could disappear in the next one or two years?

The problem posed by bankruptcy is smaller when the product sold by the company does not involve a long-term relationship after the sale. If Proctor & Gamble were to disappear tomorrow, the unused packages of Tide in my basement would remain as useful to me as they are while P&G remains solvent. If GM were to disappear next year, the value of a new Malibu would fall sharply. My fear about a GM bankruptcy is that many consumers would respond by marking down the probability that new GM cars can be dependably maintained over their expected life. This in turn will reduce the prices consumers are willing to pay, and consumers’ pessimistic expectations will make the ultimate liquidation of GM more certain.

Economists sometimes argue that tough reorganization under the protection of the bankruptcy laws will produce a more efficient, healthier company. My fear in this case is that it may needlessly kill a firm that could survive and thrive with a restructuring loan. If GM should disappear, the country would also lose hundreds of thousands of jobs, both at GM and at firms that produce parts for GM cars. Firms might ultimately spring up or expand to fill the hole in the car market left by GM’s disappearance. But it is less clear those firms will produce cars in the United Sates.

By placing tough conditions on the loan guarantee, like those included in the 1979 Chrysler rescue package, the federal guarantee can speed up cost-cutting and rationalization in the auto industry. At the same time, it can spare hundreds of thousands of workers from the joblessness and disruption that would accompany the liquidation of a big auto company.

It seems amazing that loan guarantees for auto makers should arouse so much controversy. Up to $150 billion in federal credit has been extended to a single insurance company, A.I.G., because of the failure of a financial insurance product that almost no voter can describe or understand. The provision of credit to A.I.G. took place with virtually no public debate.

The controversy over helping the auto industry has turned out to be more heated. That may be because many of us think we understand the car industry while recognizing that financial derivative products are beyond our grasp. Critics of the auto industry think the economy would be better off if one or all the Big Three were forced to go through the wringer of court-supervised bankruptcy. I am not sure any of the companies would come out of bankruptcy whole. Thus, I think it makes more sense to offer loan guarantees – with tough conditions – to avoid the unpredictable and possibly calamitous fallout from a Big Three bankruptcy.

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Mr. Neel Kashkari
Interim Assistant Secretary for Financial Stability
U.S. Department of the Treasury
1500 Pennsylvania Avenue, NW
Washington, DC 20220

Dear Secretary Kashkari:

I write today to formally request $700 billion from the TARP Capital Purchase Program. Since unionized auto companies, state and local governments, and certain credit card companies are applying, I thought I should, as well. Attached you will find the two-page application which I downloaded from www.treas.gov.

I am fully aware that some $125 billion has already been allocated as of October 29, 2008. However, given that the federal government has the full weight of the army, the FBI, etc. behind it, I am confident that you can re-appropriate this money from the likes of Wells Fargo (or their successor companies, if the current over-regulatory and over-taxing economic climate has caused them to go under).

I have a plan for this $700 billion which should be just what’s needed to get the American economy going. Since the money came from the taxpayers in the first place, I propose giving it back to them. With $700 billion in TARP funding, ATR would facilitate the following tax cuts:

· Cut the corporate income tax rate from 35% to 15%, giving us one of the lowest corporate income tax rates in the developed world. We currently have the second-highest rate in the world (behind only Japan). This new 15% rate would give us the third-lowest rate in the world (ahead of only Ireland and Iceland). It would put us well below the Euro-zone average rate of 25%. Companies would be dying to set up shop in the United States. Estimated JCT cost: $170 billion[1]

· Eliminate the capital gains and dividends tax. These rates are currently 15%, but actually represent a double-tax on corporate profits. When combined with the new, lower 15% rate on corporate income, capital costs would be at their lowest levels in nearly a century. Tax something less, and get more of it. This would also be an improvement over a suggested change we have made to the Treasury for years—allow taxpayers to index the cost basis of their capital assets to inflation (something which Treasury has the unilateral authority to do and which would be the equivalent of a 50% cut in the capital gains tax rate). Estimated JCT cost: $35 billion[2]

· Cut the top personal income tax rate from 35% to a flat 15%. This would give the U.S. the lowest personal income tax rate in the developed world. Estimated JCT score: $235 billion[3]

· Kill the death tax. Almost nothing is more capital-killing for small businesses and family farms than the estate, gift, and generation-skipping transfer taxes. Estimated JCT score: $24 billion[4]

· Allow companies to fully-expense capital assets purchased the first year. Under current law, businesses and other taxpayers must usually “depreciate,” or slowly-deduct, capital asset purchases the first year. This capital-boosting proposal would allow taxpayers to deduct 100% of the purchase price from their taxes in year one. Estimated JCT score: $240 billion [5]

Put all that together, and you arrive at almost exactly $700 billion. It’s safe to say that allocating $700 billion this year toward these tax reduction goals would do much for economic growth. But there’s more that can be done that doesn’t require any more resources:

· Ensure that there is full transparency in the TARP program by putting every TARP transaction and contract online for everyone to see. Disclose potential conflicts of interest with TARP-oversight staff.

· Allow companies to repatriate foreign profits to the U.S. without having to pay a double tax. The last time Congress allowed this in 2005, over $300 billion was repatriated, boosting GDP 2%.

I look forward to receiving the money. Please consult my staff for any ACH transfer information your people may need.

Sincerely,

Grover Norquist

GGN:rle

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The domestic automobile industry may have its own home-grown problems to correct as many have suggested. At the same time, the domestic automobile industry is confronting a perfect storm outside of its control in remaking itself for the 21st century. First, it has to confront the 2007 law raising corporate average fuel economy standards that increased the standards from a combined 25 miles per gallon to 35 miles per gallon by 2020 and mandated that 36 billion gallons of ethanol and other biofuels be added to gasoline by 2022. NHTSA estimates that it will cost the industry $100 billion to achieve the 35-mile-a-gallon CAFE mandate by 2020. Second, this year (2008) gas prices at the pump spiked to $4-plus a gallon and many Americans in reaction, traded in their SUVs and light trucks flooding the market and causing the trade-in values to decline steeply, which put leases “under-water.” Third, the entire financial system is in a crisis that has frozen credit markets. The lack of credit availability undermines the purchase or lease of all asset-backed financing meaning no credit availability equals no product sales as we are experiencing in both housing and automobile sales. Credit conditions for the auto manufacturers have deteriorated rapidly. Car dealers are unable to finance loans for their inventory and, in many cases are unable to finance the sale or lease of a new vehicle to their customers. The credit crunch and the housing slump are hitting automakers hard. When consumers see their housing prices decline coupled with a steep decline in the stock market, they're less likely to make major purchases, like a new vehicle. Approximately 94% of new vehicle purchases by U.S. consumers are made with financing, but because of the credit crunch, financing is not available for consumers seeking to buy or lease cars, or to dealers to facilitate their inventory purchases. Fourth, the automotive industry is a critical sector of the U.S. economy with almost 4% of the U.S. gross domestic product and it is responsible for one in 10 American jobs that are related to automotive manufacturing. Manufacturing is critical to our nation's economic strength and security. Fifth, bankruptcy today against the backdrop of a worsening economy could set off a cascade of bankruptcies among the industry’s part suppliers. The automotive parts supplier business has three times as many workers as the auto makers themselves. It is estimated that on average, auto dealerships employ 7.3% of a typical state's payroll, and 740,000 dealership jobs nationwide come from the Big Three. Automakers also are among the largest purchasers of U.S.-manufactured steel, aluminum, iron, copper, plastics, rubber, electronics, and computer chips. Finally, if the Big Three don't a get government bridge-loan to help them get through the credit crisis magnified by an economic downturn, it's very likely that they'll run out of cash and be forced to file for Chapter 11 bankruptcy. Congress is debating another economic stimulus measure and part of that debate should include the necessity of a bridge-loan to the domestic automotive industry. Congress needs to include a bridge-loan as part of any stimulus measure to restore liquidity to the crucial financing sectors of the U.S. automobile industry so that the industry can continue to operate and satisfy consumer demand. To do anything less will only exacerbate our economic problems and increase unemployment rolls.

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GM is the iconic example in this academic case for creative destruction, which I wrote about in 2006. Beyond the dated information on GM's status, note in particular the argument about how companies like GM insulate themselves from competition.

When he was chosen as President Eisenhower's Defense secretary, General Motors
President Charles Wilson resisted pressure to sell his $2.5 million in GM stock. Asked whether he would be prepared to make a decision as secretary that would hurt GM's interests, Wilson doubted that this would ever be necessary: "I thought what was good for the country was good for General Motors and vice versa," he said at his 1953 confirmation hearing.
Though often misquoted, this maxim has remained at the center of America's self-image as an economic power. For decades, it summed up the dominance of GM and other industrial behemoths here and abroad. When U.S. manufacturing hit the skids in the 1970s, and Japan made better cars than Detroit in the1980s, Wilson's idea helped frame America's loss of confidence: What was bad for GM was indeed bad for the country.
Later, when foreign companies built auto plants in the United States and GM moved production to Canada and Mexico, it seemed that what was good for Honda was good for America. GM bounced back, but the economy had changed: Computers and technology were the basis of America's economic vitality. In this new age, what was good for AOL was good for America.
But in that shift from steel to silicon, one sense of Wilson's maxim remained true: Big Business still defined America's economic fortunes. Small businesses may employ more people and may be the source of many new ideas, but the destiny of American business is Big. Google started in 1998 with three employees (yes, in a garage). Now it has 8,000 employees, and Wall Street says that the company is worth seven times as much as General Motors
Charles Wilson's maxim is back in the news. Still among America's largest corporations, GM, along with Ford Motor, is undergoing a wrenching downsizing. So far this year, 35,000 of GM's 113,000 hourly employees have accepted buyout offers, part of a plan to close 12 auto plants by 2008 to cut costs. Delphi, GM's biggest auto supplier, is shedding half of its workers --an additional 12,600 jobs. In recent weeks, both GM and Ford have responded to investor pressure by agreeing to discuss" strategic alliances" with foreign automakers, the first steps toward merging or breaking up the companies. It is not as if Americans don't recognize the two-way street of free enterprise. The rise of new giants like Wal-Mart helps balance out the decline of old giants like GM. Laissez-faire means that some established companies will fail, although this hardly makes their failure happy news. On the contrary, when a household name and a giant employer such as GM declines, it looks like a sign of underlying weakness in the economy.
General Motors certainly sees it that way. Spokesman Greg Martin said that in addition to more than 300,000 employees, almost 200,000 dependents and retirees rely on the company's survival. Beyond that, the challenges faced by GM – rising health care costs, ballooning pension liabilities, and an aging workforce -- are faced by the entire economy. GM is the largest private purchaser of health care in the United States. "When an iconic company goes out of business, that's significant," Martin said.
An alternative theory is that the decline of large and established companies like GM is actually a vital sign of a healthy economy. The idea is that, by virtue of their size, large companies are able to insulate themselves from competitive forces. And by operating less efficiently, large companies use up investment capital and other resources that smaller, more competitive companies might employ more productively. This theory, pioneered by the economist Joseph Schumpeter, sees a Darwinian competition among all companies.
This is a compelling theory that, like evolution, has been difficult to prove. But now, after a five-year effort, three economics professors have offered some proof in a paper called "Big Business Stability and Economic Growth: Is What Is Good for General Motors Good for America?" It has hovered near the top of the National Bureau for Economic Research's list of "most frequently requested" papers -- what passes for a best-sellers' list for economic research -- and has caused a stir among economists.
Using 21 years of economic data from 44 countries, the authors employed complex mathematical calculations to try to isolate the economic impact of the 10 largest businesses in each nation. They studied the 1975-96 period, covering both good and bad economic epochs for the United States and most other countries. After considering different yardsticks, the authors settled on employment figures as the best measure of size. By controlling for other factors that might affect growth, the paper shows the economic effects when one or more of those 10 largest companies disappears or loses enough workers to fall out of the top 10. Even by the labor-intensive standards of economic research, "it took a great deal of effort," said co-author Bernard Yeung of New York University.
The result? What is bad for GM is actually good for the country. First, the study shows that greater change among top-10companies is associated with rising income, faster productivity growth, and greater wealth in the nation at large. Alternatively, the countries with the most-stable large employers have slower growth, lagging productivity, and less capital.
The authors show that change among big businesses actually causes growth, and that "disappearing behemoths" like GM, rather than the rise of new businesses, drive the results. The impact is greatest in countries with smaller governments, a stronger rule of law, a more competitive banking sector, stronger shareholder rights, and freer trade. When firms grow big, according to Yeung, they inevitably seek to use their size to insulate themselves from competition. Beyond outright monopolistic practices, big businesses influence government. The study cites research on how big businesses" capture" the bureaucrats who regulate them. Many books have been written about GM's efforts in Washington over the decades to squelch competition from imports and rail transit, or to subsidize operations with government contracts and research spending.
Looking over the 44 countries, a lack of change among big businesses seems to fit with a sense of lagging economic growth from 1975 to 1996. When factoring in the number of employees in the top 10 companies, Austria, Germany, Italy, and Sweden saw only limited change in their top businesses, while growth lagged in those years. Spain and Portugal, which experienced meteoric growth after emerging from military dictatorships, saw big changes in their top businesses. Some of the Asian "tigers" show their stripes: Indonesia, Malaysia, and Taiwan demonstrated more change in their big businesses than did most developed countries. Japan, with a very stable list of big businesses, grew strongly for most of that period, but then hit a wall in1991, the beginning of more than a decade of recession in which its coddled conglomerates fell behind the United States and Europe.
Yeung, along with co-authors Kathy Fogel and Randall Morck, ranks the United States highly for change in its big businesses. Although the calculation is complex, effectively about five of the 10 biggest employers from 1975 were off the list in 1996.The United States endured three recessions and an energy crisis in this era, but its overall growth rate exceeded the world average and the average for most other rich countries.
It is little consolation to GM employees and their families that the company's decline will create jobs and new businesses elsewhere. But even with a workforce of some 330,000, GM is here today only because it acted in the 1980s to shed many unwise investments, along with 500,000 employees. Even among the biggest and most iconic businesses, capitalism thrives on destruction.
--John Maggs

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Yes, but with strings attached.

For the big three (or even just GM, the biggest of the big three) to go under in this environment would be a terrible waste--there's no one out there to pick up the pieces, as would be the case in normal credit environments. Tons of future value added would be lost forever.

Value added from the big three?! What am I talking about? As Jon Cohn writes here and Jeff Sachs writes in today's WaPo, the big three actually are moving towards getting their acts together in ways that it would be a mistake for us to abandon at this point. (What took them so long? Good question for another day, but no doubt their wounds were self-inflicted.)

So I think of this as a bridge loan through terribly difficult times for everyone--Toyota lost money last quarter--with conditions, including retooling for green production, mileage standards, and haircuts all around. But to stand by while these companies fail would be a Pyrrhic victory for market adherents whose ideology blocks their view of the big picture.

Absolutely not. The unionized auto sector has spent decades caving into the excessive salary, pension, and health benefit demands of the UAW. Just last year they signed a health care "VEBA" (i.e., union slush fund) which everyone knew was underfunded. Now they want taxpayers to bail out their weak negotiating positions? Please.

Besides, there's more to the U.S. auto industry than Detroit. According to Yahoo Finance, total revenue at the Detroit Three totaled $454 billion for the latest reporting period. That sounds like a lot of money, except when you consider that Toyota and Honda had total revenue of $382 billion in the same period.

What about current market cap? The Detroit Three have a market cap total of $34 billion. Honda and Toyota have a market cap total of $178 billion.

So, there are two "auto sectors" in America. One (Detroit) has caved into unions for decades and is justly losing market share and investor capital. The other (merit shop sunbelt) has avoided the union scourge and is eating Detroit's lunch.

It's not the role of the government to bail out a company that has made bad decisions, especially when there are competitor companies that can acquire them on the cheap. Five-year plans went out with the Soviet Union. Let animal spirits prevail here.

BTW, have you seen the conditions that Barney Frank wants to put on the bailout loan? No dividends (because that's sure to attract private capital); a government oversight board; options for the government to buy stock; executive compensation oversight. If I were one of these companies, I'd take my chances with Toyota.

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