The Corporatist Legacy of the Auto Bailouts
Events of the past month have brought to a close the unique experience of the U.S. government’s auto bailouts. In early December the government sold its last remaining stake in General Motors. And at the dawn of the New Year the United Auto Workers health care trust sold its stock in Chrysler to Fiat for $4.35 billion, giving the Italian automaker 100% ownership of the company.
The Treasury Department estimates that in the end it will lose approximately $10 billion on its $49.5 billion investment in General Motors. Despite this extraordinary negative return on taxpayer dollars, President Obama took to the airwaves to tout the deal as a successful “bet [that] paid off,” and that the bailout saved the American auto industry from “collapse” and, implicitly, that the loss of billions of taxpayer dollars was worth it to save the industry. And despite assertions that the bailouts “saved” an “iconic American industry” Chrysler is now merely a subsidiary of an Italian company. If success is measured by a $10 billion loss on a $49.5 billion investment in one case, and the control of one of the “Big Three” American automakers by Europeans in the other, one is left to wonder what an unsuccessful program would look like. (Oh yeah, right). On top of that, special tax treatment by the Obama Treasury Department saved GM billions of dollars in taxes that typically would be owed.
But despite the massive losses and the shrinking of the “Big Three” to the “Not-Quite-As-Big Two” American automakers, it is true that both General Motors and Chrysler have survived and returned to profitability. Moreover, the automotive industry as a whole has added hundreds of thousands of jobs since the depths of the recession. But is this because the taxpayer bailouts “saved” the American automotive industry? (Notably, the President no longer says that his administration “saved Detroit.”) Or did GM and Chrysler survive despite Washington’s meddling?
Looking at the actual record of the auto bailouts paints a different story from that told by the Administration. In particular, looking at the record, there is little evidence that the most controversial elements of the federal government’s intervention actually helped to reorganize the companies—and in the end had an overall net negative effect.
To begin with, there was nothing extraordinary about these companies that suggests that a Chrysler or GM bankruptcy would have been fundamentally different from any other major bankruptcy proceeding. As I have detailed elsewhere, not only would a standard chapter 11 bankruptcy filing been appropriate for Detroit, in many ways General Motors (and to a lesser extent Chrysler) present the modern paradigm of companies for which the modern bankruptcy code was designed. Bankruptcy law asks the fundamental question whether a company is worth more alive than dead: does the current use of the human capital, financial capital, and physical capital generate its highest-valued use when kept together in its current deployment or would it be better broken up and reallocated to other uses in the economy? In that sense, both GM and Chrysler were prime examples of firms in need of reorganization, with skilled labor, large capital investments, and continued name-brand value and goodwill. Thus there was little chance that they were going to be liquidated, as opposed to reorganized or sold as a going concern, which is exactly what happened and likely would have happened any way.
To the extent that any case could be made for a bailout, therefore, it was not because they were unsuited for bankruptcy, but only on the narrow grounds that at the time of the automaker bankruptcies (late-2008 and early-2009) conditions in the global capital markets were sufficiently uncertain that these firms would have been unable to obtain post-bankruptcy operating financing. But even that narrow grounds for a taxpayer bailout remains contested. The argument is plausible—credit markets were still uncertain. But to date it has not been demonstrated that private financing was available. Supporters of the bailout justify the government’s role, saying that no other lenders were willing to come forward to meet the government’s offer. It is true that there was no alternative private financing available on the same ridiculous terms of the government’s offer—namely that a private lender would be willing to accept potential losses of billions of dollars by having its funds siphoned off to the UAW, rather than used for productive purposes by the firms. Other than that, the only claims that no private financing were available have been made by unreliable and self-interested parties such as President Obama’s “car czar” Steven Rattner.
But even if a limited government role for post-bankruptcy financing was appropriate under the circumstances, that only supports a very limited governmental role—either as a direct lender of post-bankruptcy financing or guarantor of a loan. But it doesn’t justify everything else that truly characterized the bailouts: the heavy-handed intervention of the Obama administration to transfer taxpayer dollars to powerful political allies, use of its leverage to plunder the property rights of less-politically connected Americans, and to turn America’s largest automaker into a vehicle for off-budget political policymaking. To argue that a temporary crisis in credit markets somehow justifies the cronyism and lawlessness that define the bailouts is to allow the tail to wag the dog.
Start with Chrysler. Fiat reportedly will pay the UAW’s health fund $4.35 billion for its remaining shares, a price that is generally seen as a steal for Fiat. Although considering that Fiat acquired its initial 20% stake in Chrysler for free (it simply promised to share some intellectual property with the company), at least it paid something this time.
One could reasonably wonder why using American tax dollars in order to give away Chrysler to an Italian manufacturer is really claimed as a success by the Administration? Does this also mean that if Honda, Volkswagon, or any other foreign auto company with plants and jobs in the United States ever needs a bailout, the American taxpayers will be on the hook for those enterprises as well? And, was there really any need for an infusion of American’s taxpayer dollars for Fiat to be willing to purchase Chrysler—for next to nothing? Even the bankruptcy judge who approved the Chrysler bankruptcy plan did so because he concluded that the only beneficiaries of the government’s largesse was the UAW and that there was no direct benefit to Chrysler from the taxpayer subsidy.
Moreover, as is well-known the distinctive element of the Chrysler bankruptcy was the unprecedented plundering of Chrysler’s secured creditors—including bond-holders such as the Indiana Police and Teacher’s retirement funds—in order to line the pockets of the politically-powerful UAW. A bedrock concept of bankruptcy law is that secured creditors hold higher priority in debt repayment over unsecured creditors (such as the UAW’s underfunded health benefit plans). In the Chrysler case, however, the UAW’s unsecured claims ended up being paid some 44 cents on the dollar whereas secured bondholders were paid a mere 29 cents. In fact, while apologists for the mistreatment of Chrysler’s secured creditors and other irregularities in the Chrysler case have claimed that there was nothing unusual about the Chrysler bankruptcy proceeding, rigorous analysis has demonstrated otherwise. Even more to the point, although bailout supporters claim that Chrysler was not unique, none has identified any prior case in which the distribution to unsecured creditors exceeded that of secured creditors by some 50%.
But the scrambling of property rights did not merely harm Chrysler’s bondholders at that time, it cast a shadow of political risk over the entire capital market. Warren Buffett warned at the time, there would be “a whole lot of consequences” from overriding the traditional creditor priority structure for arbitrary political purposes, and that it would “disrupt lending practices in the future.” As he put it, “We don’t want to say to somebody who lends and gets a secured position that that secured position doesn’t mean anything.” Subsequent empirical studies support Buffett’s fears. According to a study by Blaylock, Edwards, and Stanfield, by interjecting political risk into private contracts, the effects of the Obama Administration’s strong-arm tactics in Chrysler in rewriting contracts resonated through capital markets, raising the cost of capital for firms in unionized industries, as less-politically connected creditors recognized that their rights might be disfavored in the event of bankruptcy. Anginer and Warburton identified a shadow of political risk as well, although they found that the implicit too-big-to-fail subsidy given to highly unionized firms created an offsetting effect that could reduce borrowing costs for unionized firms relative to their rivals. That both studies find a significant market effect, but differential effects (either favoring or disfavoring unionized firms), demonstrates why the shadow of uncertainty caused by arbitrary political action is so damaging to the rule of law and why it is so essential to the infrastructure of a modern economy. Indeed, the fact that there was an identifiable market effect at all from the Chrysler deal demonstrates that what went down was anything but normal bankruptcy practice. Not to mention that although the Obama Administration bullied the United States Supreme Court into lifting its initial emergency stay of the Chrysler sale, in the end the Court vacated the opinion that had approved it, signaling its doubts about the sale’s legality in the first place.
And what about GM? While GM at least left the rights of its secured creditors intact (they were paid in full), in some sense the superior treatment that they were given compared to their Chrysler confederates is hardly reassuring from the perspective of the rule of law and economic stability—for if plundering the secured creditors in Chrysler was just, what was the justification for not plundering GM’s secured creditors? In fact, the only apparent difference between the secured creditors in the two cases was that there were more of them in Chrysler, and the government simply needed to roll them in order to achieve its ends, while in GM the government could respect the contract and property rights of secured creditors because taking from them wasn’t required by expediency.
Moreover, GM became a poster-child for the dangers of political ownership of private businesses. As one commentator observed, once General Motors went into business with Uncle Sam it effectively added 535 new members to its Board of Directors, not to mention the Obama Administration. Politicians intervened on behalf of politically-powerful auto dealers and home-state raw materials suppliers to override the companies’ business decisions. Former Congressman Barney Frank pushed General Motors into keeping open a warehouse in his district. Obama car czar Steven Rattner reported in his book that politics and polling were intertwined with the government’s takeover throughout.
And while it is true that the sales and profits of American automakers have surged since the end of the recession (sales of foreign brands have risen as well), this is because of resurgent sales of SUVs, light trucks, and luxury vehicles, not the matchbox-sized and green cars favored by the Administration. As reported by the Wall Street Journal in 2013 Ford sold 763,403 F-series pickup trucks, making it the best-selling model line in the U.S. for the 32nd year in a row. As for those green cars, Ford sold 35,210 its C-Max hybrid models and GM sold just 23,094 Chevrolet Volts, despite massive tax and other subsidies. Chrysler’s resurgence has been driven by booming sales of its Ram pickup trucks, the fourth best-selling vehicle in America; Chevrolet’s Silverado pickup truck is the second-best selling vehicle in America. Meanwhile, former community organizer turned de facto Chairman of the Board Barack Obama (who forced out Rick Wagoner as company president) instead wondered why American automakers “can’t make a Corolla.”
Moreover, as James Sherk and I demonstrated, the entire loss to the taxpayers from the bailouts resulted from the preferential treatment given to the UAW relative to how similarly-situated parties are treated in a typical bankruptcy case. Not only were the UAW’s underfunded health care plans treated far better than other unsecured creditors in those cases, as airline pilots and mechanics have learned the hard way, overcompensated union workers usually see their wages reduced to prevailing market rates in order to make the firm competitive (in this case, mainly foreign transplants), a fate that GM’s UAW workers largely avoided. As Steven Rattner later admitted, “We asked all the stakeholders to make very significant sacrifices. We should have asked the UAW to do a bit more. We did not ask any UAW member to take a cut in their pay.” Beyond that, the Obama Administration’s auto task force even approved the diversion of $1 billion of bailout money to “top off” the pensions of the UAW members at the bankruptcy auto parts manufacturer Delphi—a completely separate company that GM spun-off a decade before—even as they threw Delphi’s white collar workers and members of smaller, less-powerful unions under the bus.
As David Skeel observes, the structure of the Chrysler-Fiat deal also created a new paradigm for industry-government relations. Buried within the Fiat deal was an Easter egg promising Fiat a still-larger stake in Chrysler if the company’s fleet meets certain fuel mileage standards. As Skeel notes, the combination of the organized labor bailout and back-door maneuvering to advance environmental goals augurs a new sort of non-democratic corporatist relationship of using private corporations as vehicles to advance policy goals. This structure of tight bonds of reciprocal favoritism between private businesses, powerful interest groups, and government actors effectively provided the template for the Dodd-Frank financial regulation—and, indeed, for the Obamacare monolith.
Perhaps the most alarming legacy of the perpetuation of the myth of the auto bailouts is the important shift in perspective, touting the auto bailouts as a positive success of governmental industrial policy, not merely a short-term necessary evil. When George W. Bush ordered the diversion of funds from the Troubled Asset Relief Fund to be used to bailout the auto companies (a blatantly illegal use of TARP funds) at least he did so believing that at the time it was a necessary evil to avert what he feared was a bigger disaster and to kick the can to the Obama Administration. By contrast, the Obama Administration has moved beyond this cautious position and touted the bailouts as successful governmental industrial policy—despite taxpayer losses and the lack of any discernible benefit to anyone other than the UAW. More depressing, the auto bailouts were a decisive factor for President Obama’s reelection in 2012.
In the end, an accurate interpretation of the auto bailouts tells a story very different from that trumpeted by the Obama Administration and its media and interest-group supporters: while limited government intervention may have been justified to insure that GM and Chrysler had access to operating capital to fund their bankruptcy, the companies have survived despite not because of the signature elements of the auto bailouts—special-interest cronyism, government plundering of property rights, and political manipulation of the companies’ operations. At best, the government’s infringements on property rights and the rule of law were not necessary to “save” these companies—rolling Chrysler’s secured creditors and taking money from Indiana’s firefighters and teachers and giving it to the UAW wasn’t necessary to induce Fiat to “buy” Chrysler. At worst, the political interventions left the auto makers worse off than they would have been had they been permitted a clean, non-political bankruptcy process, from sparing UAW workers any of the discomfort from the role of their excessive compensation and work rules in driving the companies into bankruptcy, bending to the Obama Administration’s obsession with building unwanted “green cars,” or disrupting capital markets by interjecting political risk where it previously hadn’t been. Taxpayers and the American economy can’t afford too many more bailout successes like these.