A Motor City Mess

Story Highlights:

• General Motors, Ford, and Chrysler are lobbying Congress for federal aid because they are losing too much money to stay in business.
• Policymakers seem eager to sidestep the possible economic implications of the three largest US automotive companies filing for bankruptcy.
• On the surface it's easy to understand the importance of the auto industry to the US economy.
• Unfortunately, a US auto industry bailout now may just be one of several down the line because problems appear more fundamental.

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Can a government save an industry? Detroit's Big Three are hoping so.

General Motors, Ford, and Chrysler are lobbying Congress for federal aid because they are losing too much money to stay in business. Both GM and Ford issued grim third quarter earnings reports last Friday. GM reported a third-quarter net loss of $2.5 billion—capping off $21.3 billion in losses so far this year—while Ford announced a net loss of $129 million for the quarter. These losses have led GM and Ford to warn they may not have enough operating cash by early next year. The situation is estimated to be the same for Chrysler (which is privately held and did not issue public earnings reports).

Policymakers seem eager to sidestep the possible economic implications of the three largest US automotive companies filing for bankruptcy. Congress has already approved a $25 billion federal loan package for the auto industry and seems to support plans for an additional $50 billion. Congressional leaders have even the Treasury Secretary to funnel funds from TARP to aid automakers.

On the surface, it's easy to see the importance of the auto industry to the US economy. The US auto industry accounts for 4% of GDP, and a recent report by the Center for Automotive Research a GM bankruptcy would cost 2.5 million jobs in the first year among automakers and related businesses (even though GM employs 266,000 people around the world). Plus, the US auto industry is deeply rooted in American culture and history—making it difficult for politicians to easily dismiss.

Unfortunately, a US auto industry bailout now may just be one of several down the line because problems appear more fundamental. GM, Ford, and Chrysler have steadily lost market share over the years and plants often operate at below-capacity levels. Some suggest the Big Three's problems are linked to their labor structure. Steep concessions on wages, healthcare, and pension benefits negotiated by automotive unions to steeper labor costs than Japanese counterparts—hurting the ability of US automakers to cheaply build comparably priced fuel-efficient cars demanded by US laws. A federal bailout of the automotive industry wouldn't amend these problems unless a complete of management and boards were required.

Bankruptcy would make a much-needed restructuring in the industry more plausible. Most associate bankruptcy with the processes governed by Chapter 7—the liquidation and cessation of business operations—but bankruptcy can take other forms too. Companies declaring bankruptcy under Chapter 11 are permitted to reorganize under US bankruptcy laws while remaining in business. This avenue could help US auto companies work out debts, contract obligations, retirement benefits, union contracts, etc., while alleviating fears of production disruptions and lessening the potential costs to taxpayers and consumers.

In this political climate, a federal bailout looks the most But it isn't clear to us what long-term benefits a bailout would provide to the economy, consumers, and to the companies themselves. More worrisome is if the bailout delays the necessary changes the US auto industry needs to become competitive once again.