Friday, December 19, 2008

Why The Big Three Need Bridge Loans

I was thoroughly disappointed that the Senate failed to pass the bill that would have provided the Big Three a bridge loan last week! I realize that this is a complex issue and that there are many reasons not to do it, but failure to provide some kind of lifeline can not help the already delicate economy of America and the world during these trying times and just shows the short-sightedness of many of our leaders today! I decided to have a look at some of the reasons for not helping out the Big Three as well as some reasons why Washington should.

I was really hoping that the bill would get the support that it needed in the Senate. I followed the saga as Congressional leaders and the President were able to work out there differences to get a bill together to put before the House of Representatives and the bill passed the House getting past presidential insistence that the money didn’t come from the financial bailout funds (the T.A.R.P. funds if you will), I knew it would be a tough vote in the Senate, but I was hoping that Washington would do what it had to do. I’m still hoping, but now it appears up to a lame duck president or the Treasury Department or the Federal Reserve to step in and approve use of the T.A.R.P. funds.

“It’s the economy, stupid”, is a phrase that was first used a few years back but this is the biggest reason why, the Big Three need a bridge loan now and why the Federal government should do something to help. Given the U.S. economy hadn’t already been in a recession for a year and in the shape that it was (over 500,000 jobs were lost in November of this year alone), it might be able to weather the storm of losing part of the Big Three (but even then it would be a big bitter pill to swallow), however given the sheer numbers of people that would lose their jobs directly and indirectly, this is too many people to be thrown into the unemployment lines without dragging the economy down further. If there were some other sector of the economy that could absorb even half the people, it might be an option, but there is no part of the economy at the moment that could step up, in fact you hear more and more each day about layoffs around the globe.

From what I’ve heard and read, some Senators wanted to tie the bridge loan to the U.A.W. agreeing to lower their wages to match that of autoworkers working for the foreign competitors in the South in 2009 and the U.A.W.’s president didn’t want to appear before the Senate to discuss it. This is nothing that had been imposed on any of the financial firms that have received a lot more funds than the Big Three were asking for, in fact, there have been very little conditions applied to companies that have received any of the Federal financial bailout loans period! This was purely a political move aimed at making the U.A.W. look bad, and many people are pointing their fingers at the U.A.W. for the problems that have plagued the Big Three, but this not really understood by many people and the “overpaid” American autoworker is an easy scapegoat.

The figures that are often thrown out for the wage differences and what the Big Three autoworkers receive are often misleading and are more complex that just how much money they’re paid for hour. A lot of articles and news stories have been throwing around a figure of $73 and hour, which is truly misleading. I ran across and article in International Herald Tribune (Wage Cuts Won’t Save the Big Three, David Leonhardt 11 December 2008) that explains how this figure is derived and how it is misleading (here is a similar version of that article online). The figure comes from the car companies and is part of their public relations strategy during contract negotiations. The figure does show that for every hour worked by a unionized worker, $73 is paid, but this is made up of three different parts. The first part is made up of the purely cash amount, which is what most people with think when they hear about compensation. This includes straight hourly pay, overtime, vacation pay, and so on and comes to about $40 an hour (these do vary a bit by company). The next part is the fringe benefits like pensions and health insurance. These come to about $15 an hour. Added together the two parts come to $55 an hour. Granted this is more than most other workers in the U.S. but it isn’t so much higher than $45 an hour being made by the non-unionized workers at Toyota and Honda in America. Most of the difference between the unionized and non-unionized figures then comes from less generous benefits. The remainder of the $73 figure comes from costs associated with benefits paid for retired workers. These tend to be fixed costs that don’t change regardless of how many vehicles are produced and sold. They are a “real” cost, but not truly associated with the payment to “current” workers. A crucial point not to be overlooked here is that the third part of the calculation isn’t just a difference of how generous the benefits are but that there are a lot of retirees. This pool of retirees was built up long before Toyota and Honda opened up plants in the U.S.

The Big Three and the U.A.W. had the luck (some might say bad luck) of helping to create the middle class in a country where companies (and not society or the government) have to cover much the responsibilities of retirement. If this gap between the Big Three and their competitors producing vehicles in the U.S. were taken out of the equation and the U.A.W. agreed to take the actual wage being made by the non-unionized workers at their competitors, this would still only reduce Detroit’s cost per vehicle down to $800. Given all the attention that labor costs get, they really only make up 10% of the price of a vehicle. While $800 per vehicle is still substantial, the Big Three often sell their vehicles about $2,500 less (factoring in various incentives and so on) than the equivalent Japanese models (according analysis from the International Motor Vehicle Program).

One of the other “real” problems being faced by the Big Three is a “perceived” lack of quality to the public. There was definitely a time when they had reputation for producing inferior product and this reputation or image has stuck with much of the American public. Many Americans have experienced vehicles that broke down a lot, didn’t seem to be put together well, or didn’t seem to last very long. While the Big Three have made a lot of effort to correct these problems, the perceptions still exist and so often “perception” becomes “reality”. Add to this that the designs have often not been as flashy as many of the imports that are sold in the U.S. and you’ve seen a constant deteriorization of market share for the Big Three over the last couple of decades. Many of the critics of the Big Three will point out how they haven’t made enough effort to get away from the gas guzzlers of the past, certainly the whole S.U.V. wave the past decade or so has not silenced the critics.

The recent financial meltdown has only put the Big Three’s problems on steroids and has made their situation truly dire. Because so many people don’t have “confidence” in their own jobs and future, they’re holding off buying or leasing new vehicles and the banks have tightened their lending down so much that they’re hardly making any vehicle loans. Just think about this for a moment, in any other industry could the market just disappear overnight and companies would be able to weather the storm, and for how long? In any other industry if the market just dried up overnight and you aren’t able to make adjustments (like getting into another industry or line of products or services), you could only hold out so long before going out of business.

Some critics of providing any aid to the Big Three had said that they should go through bankruptcy, to which the Big Three have responded that it wasn’t an option. I’m not truly aware of too many companies that have been truly successful after emerging from bankruptcy (maybe some exist). A point that is often lost is that people will be hesitant about making the huge investment of buying or leasing a vehicle, if you don’t know if that company will be around and you’ll be able to get your warranty honored, any necessary repairs made, or just be able to buy replacement parts. Normal bankruptcy in the U.S. is a complicated and slow process and if the Big Three were to go through this, it would surely detrimentally affect their suppliers who have their employees to pay and their bills to pay as well. This process would likely bring down some of the Big Three’s suppliers. This would eventually affect even the non-unionized companies producing vehicles in the U.S. as suppliers begin to run out of money to operate and supply their other non Big Three customers. Multiple that by all the “just in time” supply chain management that companies have adopted the last couple of decades and this becomes a recipe for disaster. If you’re a bank or other financial institution you’re not likely to make the loans necessary for these companies to continue their day to day operations. The cycle goes on and on. Providing the bridge loans gives the Big Three time to work on the restructuring, which they don’t have at the moment. A restructuring is needed but doing it by the normal bankruptcy channels would be disaster and it likely wouldn’t help the economy out either.

Much of the blame for the condition of the Big Three can be directly attributed to management, no doubt about it. Back in the 70’s, they all should have seen the writing on the wall that they would eventually have problems with oil and that “cheap” gas would not last forever, nor would the oil supplies. Later they saw the profit to be made on “high-priced” S.U.V.’s but they had to know that it wouldn’t last and needed to plan for the future. One argument that has often been made by the management of the Big Three for not being more aggressive in producing fuel-efficient and alternative fueled vehicles has been that they were only producing the cars that the public wanted. Good management needs to have an eye on the future, if you want to have a future that is. There are many things that they could have done differently, but hindsight can always illuminate things that weren’t clear in the past. I wouldn’t be opposed to changing management, before kicking any of them out, I’d like to see some qualified replacements lined up so that little valuable time is wasted. At the moment there doesn’t appear to be too much time left and things are of an urgent nature.

Globalization has taken its toll on the manufacturing jobs in the U.S. Companies that used to produce and build things in America and Western Europe have now moved much of the manufacturing jobs to lower labor cost countries, and in large part, these jobs haven’t been replaced by jobs that paid anywhere near the jobs that left. America can’t afford to see all the auto worker jobs “disappear”, propelling millions more into the unemployment lines and further eroding the pool of good paying jobs that are available in America. Even in our modern society, not everyone will get a university/college education and therefore blue collar work is needed. As more and more manufacturing jobs are “off-shored”, the educational system needs to produce workers that have the right skills and education to do the work that is needed within that country, or the next wave of jobs disappear as well. This is already happening with more and more white collar jobs moving off-shore. You have to wonder how far off the companies are from “off-shoring” management positions, they could save millions in salary and benefit costs there.

Another point against Washington helping out the Big Three that is sometimes mentioned is that of international trade. There were some cries from the European Union that aid to the Big Three could result in trade wars. The argument goes that by propping up inefficient domestic automakers, they’re only being made less competitive, and you’re throwing good money after bad. This discussion becomes a bit hairy while many big companies try to use their national government to legislate advantages for them against foreign competitors. This has been done via weakening various currencies, thus making their product “cheaper” when they’re exported. It has also been done by enacting traffics and quotas on imports, and so on. There are some industries and services that are badges of national honor that governments don’t typically like to see fail, airlines are one (especially when the country only has one national carrier) and car companies are another. Given the scope and reach of the Big Three, you would hope that the nations likely to make a stink about “protectionism” and trade wars, will realize the stakes involved here. Certainly Europe and much of the world would be hurt if any or all of the Big Three were let fail.

The bill that failed in the Senate was for bridge loans. This was intended to keep G.M. and Chrysler a float until a better more thought out solution could be reached and agreed. Because the situation is so dire, if action is not taken soon, G.M. and Chrysler won’t be able to pay their bills and operate. Ford was asking for a line of credit, only to be enacted if G.M. and/or Chrysler went under or the economy worsened. Bearing this in mind, the likely price tag for “helping” the Big Three will no doubt be higher than the $14 billion that was in the failed Senate bill, but just letting any or all of the Big Three fail would be far more expensive.

The effects of Washington not acting with more haste can be seen already. G.M is halting construction on a plant that is supposed to produce engines for the Chevy Volt, its electric car in an effort to hold onto desperately needed cash. This is a sign of a company just trying to hang on, not one thinking about its future. G.M. and Chrysler have both announced layoffs and major cuts in planned production going into the first quarter of 2009. Perils of the current economic situation are causing other manufacturers to reconsider their strategies as Honda has pulled out of Formula 1 racing and Suzuki and Subaru have announced that they’re pulling out of the World Rally Championships.

The world seems at a point of enormous change. The automobile industry seems destined to embark on tremendous transformational changes. Certainly, nobody can know what will emerge, but given the current economic climate, the world is not ready for an “uncontrolled transformation”. Now could be the time to truly make use of alternative energy, and to produce vehicles that are more environmentally friendly. This could also explode beyond the auto industry as more and more suppliers make more environmentally friendly products that spillover into other industries and markets. Such a transformation gives all of the companies license to look at everything they’re doing and rethink many of their past strategies, it is almost like starting with a clean sheet of paper. Washington needs to act and quickly, or the Big Three’s ghosts of Christmas past might just become their ghosts of Christmas present and future. I’m still hoping that Washington will help.

Photo credit: "At Rest" courtesy of eieio1948

Blogged with the Flock Browser
blog comments powered by Disqus