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The recent stock market decline, mortgage / credit crisis and gas price increase (the recent decline notwithstanding) have had a dramatic effect on the auto industry and the “Detroit 3” in particular.  Total industry sales fell 32% in October to 838,592 – the lowest level in 25 years.  General Motors’ sales were down 45%, Chrysler’s 35% and Ford 32% – overall the D3 were down over 250,000 units for the month or 39%.  They have met with congressional leaders asking for a cash infusion of up to $50 billion – yes, with a “B”.  It may take the form of low-interest loans, a government “investment” or a simple bailout a la Wall Street’s.  GMAC may convert itself into a bank to be eligible for part of the $700+ billion bailout.  GM and Chrysler’s parent, Cerberus, have been discussing a GM takeover of Chrysler.  Desperate times, indeed, are apparently calling for desperate measures.  Many voices from around the country have been critical of any help from the government.  At first, many in Congress and the Bush administration voiced the opinion that Detroit’s failed decisions should not be rewarded with taxpayer money.  When businesses make bad decisions, that can and should lead to that business’s failure, the thinking goes.  That’s capitalism.  Sometimes it doesn’t seem right, and sometimes it hurts.  But capitalism results in the most efficient allocation of scarce resources, and it works, ultimately, to the benefit of our society.

But what happens if the economy isn’t pure capitalism?  What if the government, in the interest of society, regulates this business and forces its costs higher?  What if the government policies lead to the evaporation of the credit that is required for its industry to function?  What if the government’s lack of an energy policy has led consumers to value gas-guzzling behemoths until a gas shock makes the bottom fall out?  What if the government’s lack of a coherent trade policy allows foreign competitors to have an unnatural advantage over the domestic industry?  Then the government must acknowledge its complicity in the situation and do something about it.

“Too big to fail” is a phrase we have heard often in the last few months.  AIG, Lehman Brothers (what happened to Shearson?)  and others were bailed out recently using this logic.  Some seem to think that GM, Ford and Chrysler are not too big to fail.  The reasons are too numerous to go into here, but include the lack of a trade policy mentioned above, and our national attitudes of “Who cares?” and “Whatever.”

The Center for Automotive Research (CAR) in Ann Arbor, Michigan published a study on Election Day called, “The Impact on the U.S. Economy of a Major Contraction of the Detroit Three Automakers”.  They looked at 2 scenarios: 1. the impact of all 3 domestic automakers ceasing operations in the U.S. and 2. a 50% reduction in all production and employment in the U.S.  CAR states that, given current circumstances, one of these scenarios is “probable” in the next 12 months.  The impact of either of the scenarios is devastating to the U.S. economy, as not only would the domestic automakers suffer, but so would the foreign makers.  The domestic supply base would crumble without the domestics as customers, so they would also be unable to supply the foreign makers here in the US.  Domestic production would fall to ZERO, and all of the nation’s auto needs would have to be supplied by imports.  Production of the foreign automakers would recover by the third year, and would make up for about 20% of the domestic makers’ lost production.

Scenario 1 results in a loss of 3 million jobs in the US in the first year, recovering somewhat to a loss of “only” 1.8 million in the third year.  This includes all supplier and “spin off” employment.  In economic terms, the cumulative effect for the 3 years studied would be a loss of $400 billion in personal income and a loss of $156 billion in tax revenue.  Scenario 2’s numbers are hardly encouraging either.  The year 1 job loss is 2.5 million, recovering to 1 million in  year 3.  The personal income loss totals $275 billion and the tax revenue loss is $108 billion for the three years.

Think that’s bad?  The study only considers the direct impact to the US economy.  A permanent contraction of the US auto industry would impact the Canadian and Mexican industries also, which would result in further negative effects to the U.S.  The failure of any of the D3 would also place a huge burden on the government in the form of pension plan failures that would have to be absorbed by the Pension Benefit Guarantee Corporation also.

Given all of this, it is naive to think that you will not be affected by the failure of any major part of the domestic auto industry.  The $50 billion mentioned at the beginning of this article seems like chump change compared to what the government will be forced to do if any of them fail.  The auto industry has the biggest multiplier effect of any industry in the nation.  The job losses may not be yours or your family or your neighbor – but they might be, even if none of you work in Detroit or for the auto industry.

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2 Comments »

  1. What a downer!

    Comment by kikimart — 7 November 2008 @ 1:06 pm

  2. […] other than how it affects the overall economy (which, incidentally, is the same position I am in). Part 1: Think you won’t be affected by Detroit’s troubles? Part 2: An open letter to all those cheering Detroit’s demise I would encourage everyone in North […]

    Pingback by New CTS-v or E39 M5? - The Unofficial BMW M5 Messageboard (m5board.com) — 24 November 2008 @ 5:40 pm

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