A Zombie Auto Industry

From the 1990s until today, Japan has sufferered anemic economic growth.  This poor performance is largley due to governmental policy mistakes which crippled their financial system.  In seeking to avoid the sharp pain of loss realization,  Japan created “Zombie Banks,” institutions that were technically insolvent, but still existent.  This industry of the living dead was crippled — the weak institutions represented a drag on growth, but still offered competition so they prevented better run institutions from gaining pricing power and strength.  

The proposed government support of the auto industry runs a similar risk.  It would not have the far-reaching impact of the Japanese banking decisions – financial institutions permeate economies more than any other industry.  However, three crippled automakers competing against ever-growing competition is not a recipe for long-term success.  It may well be that allowing one or more of the Big Three to go through a bankruptcy filing would allow for the rightsizing process that would allow for a truly competitive industry to move forward.  There’s precedent for this, most notably the U.S. steel industry which, despite a painful adjustment, is now globally competitive.  The airline industry, too, has a long history of bankruptcy filings — allowing many to fail has allowed survivors to strengthen.  The list of defunct airlines is frankly staggering.  Others have written well about the possibilities of the bankruptcy route, including a recent column by Steve Pearlstein, the terrific, Pulitzer Prize winning business columnist of the Washington Post, and a blog by Justin Fox , Time magazine’s business and economics columnist.

The economic issues at stake should largely be manageable — there is little potential for the type of spiraling crisis prompted by Lehman’s demise.  Manufacturing companies are fundamentally different enterprises that can, and have, emerged from bankruptcies.  Financial companies simply disappear.  Would the recession become more severe if there is no support for the auto industry?  Probably, but the economy would emerge stronger on the other side.  There would also be a stock market decline, although, after all crises we’ve seen this year, the impact would likely be muted; the bond market has already been trading at bankruptcy levels for specific issuers.

The real issue is one of fairness.  How can the government bail out Wall Street “fat cats” and not help the assembly line worker in Detroit?  There is no comfortable answer, since the truth is that we had to support the financial system, but we don’t have to support three individual car manufacturers.  Rather than broadening government economic intervention, we’re better off ensuring that we never again have to bail out financial institutions.  It would be better to channel the desire to be “fair” into providing support to individuals impacted by restructuring.

How did the Big Three go so wrong?  It’s a tangled tale that ultimately reflects poorly on our regulatory process and the leadership within the industry.  Essentially, voters approved safety and fuel-efficiency requirements which, as consumers, they were unwilling to actually pay for.  Executive management within the industry allowed “good to be the enemy of great” when the success of SUVs and pickup trucks blinded them to the need to strengthen their other product lines.  Ed Wallace, a columnist for the Fort Worth Telegram and blogger, wrote a great piece on Detroit’s missteps.  It’s a sad tale, and one that may be writing a final chapter.

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