Editorial: Detroit dilemmas

Attention in Washington DC has shifted from the financial sector to the automobile industry, as the US’ Big Three struggle to get funds from the government to stay afloat. Although the House of Representatives voted in favour of a rescue package, albeit significantly smaller than what the companies had asked for, the Senate turned it down. Now, the only hope for a package lies in the Bush administration using some of the already approved TARP funds for the auto companies—something that the US president had earlier said he would not do. A presidential bail-out now will not be free of controversy; there is an increasingly vocal body of opinion that opposes the use of taxpayer funds to bail out an industry which, almost everybody agrees, is itself responsible for its current problems. The only argument in favour of a bail-out is that the last thing the US economy needs just now is another major shock.

The striking feature of the negotiations that have been undertaken by the CEOs of the companies, supported by the United Auto Workers union, is the vagueness about how the industry plans to dig itself out of the hole. The bail-out will keep the companies solvent for a few months, at best. Subsequent survival depends, in the views of many experts, on their ability to do two things: sharply reduce costs and quickly reorient their product portfolios to what consumers are likely to demand in the next few years — relatively small and energy-efficient vehicles, particularly those that run on alternative sources of energy. On the overall issue of controlling direct and indirect labour costs, the union appears to be fully co-operating, giving the companies some breathing space. However, on the second, there is huge scepticism. The US auto industry had done extremely well over the past several years with its dominant position in the SUV (sports utility vehicle) segment, which grew rapidly, but has shrunk equally rapidly in the wake of rising interest rates and fuel prices. In the process, the companies virtually abandoned the very segments that they are now expected to rely on for a turnaround. Even if the companies could bring new products to market fairly quickly, which is a doubtful proposition, the Japanese automakers in particular have such a head start that it is difficult to visualise any serious competitive threat from the American firms. In fact, the only realistic scenario in which the Big Three will survive is if falling fuel prices and interest rates revive the demand for the large vehicles that are their source of competitive strength. This cannot be ruled out, although it does run up against President-elect Obama’s oft-stated commitment to energy conservation and alternative fuels.

So, do the arguments against a bail-out prevail? It is a difficult choice. Under the current macro-economic circumstances, the threat that the companies’ collective bankruptcy poses to the economy as a whole cannot be ignored. Lots of jobs will be lost, right up the supply chain, and many related businesses will fail, putting further pressure on an already fragile financial system. This and this alone supports a case for a limited bailout, provided all stakeholders — employees, management, creditors, shareholders, et al — take what investment bankers call a hair-cut; the last thing anyone would want is for taxpayer money to be used to bail out equity investors and bond-holders in these companies. Even then, a government bail-out can only buy some time at best—the $15 billion mentioned in the bail-out discussions may not be enough to last the companies more than a couple of months. So the real action has to be elsewhere. If the Big Three cannot respond adequately to market signals, then there is no case for their being kept alive indefinitely by artificial means. That, after all, is what free markets are about.