The Auto Industry’s Big Bailout Bounce
The rescue of GM and Chrysler came with a cost, but it put them back in the game and even benefited Ford.(originally published by Booz & Company)
Title: Restructuring of the U.S. Auto Industry in the 2008–2009 Recession (fee or subscription required)
Authors: Thomas Klier (Federal Reserve Bank of Chicago) and James M. Rubenstein (Miami University)
Publisher: Economic Development Quarterly, vol. 27, no. 2
Date Published: May 2013
One of the dominant story lines during the Great Recession was the plight of U.S. automakers. The failure of the Detroit Three—the Chrysler Corporation, Ford Motor Company, and General Motors Company—was deemed an unthinkable prospect by many analysts, who warned that their demise could cripple the economy. Ford decided to bull its way through the downturn without Washington’s assistance, but Chrysler and GM applied for and eventually received a controversial government-sponsored bailout from the Bush and Obama administrations.
This paper, the most comprehensive analysis to date of the overarching effects of the bailout and related bankruptcy reorganization, explores how the three carmakers emerged from the wreckage as highly competitive players in a fundamentally changed industry. GM and Chrysler not only came out of the restructuring with dramatically lower labor costs, the authors reveal, but were also able to close many plants and consolidate production in a tighter geographic area, leading to higher capacity utilization. And although Ford made it through the crisis without government help, thus skirting Washington’s oversight, it also benefited from the bailout, wringing many of the same concessions from its stakeholders that the other two companies received in bankruptcy. Now, the Detroit Three are much more in line with their foreign-based competitors and have already won back some of the market share they lost during the crisis.
The recession hit the carmakers especially hard, causing the steepest decline in their sales, production, and employment levels since World War II. After almost two decades of steady performance, the companies saw their combined sales plummet from 8.4 million vehicles in 2007 to less than 4.7 million in 2009, and their collective market share slump from 52 percent to 44 percent. What’s more, skyrocketing gas prices during the first half of 2008 caused a sharp falloff in the sale of light trucks, a highly popular category.
In December 2008, Chrysler CEO Robert Nardelli told Congress that GM and Chrysler “could no longer secure the credit they needed to conduct their day-to-day operations.” Although Ford wasn’t facing an immediate cash crunch because of large loans it took out in 2006, it pressed the government to aid Chrysler and GM, arguing that if even one of the Detroit Three failed, the ripple effects on shared suppliers would be devastating.
After months of debate over whether the government should step in to save private companies, President Bush extended the Troubled Asset Relief Program (TARP)—originally intended only for financial firms—to the desperate carmakers. Chrysler and GM were held to a number of conditions, the most important being that they had to lay out a path toward financial viability, taking into account all current and future expenditures.
Ultimately, according to this study, GM and its credit affiliate received US$67.4 billion through TARP, and Chrysler and its financial arm got $12.4 billion. GM also received $10.6 billion and Chrysler $3.8 billion from Canada, and further subsidies from Mexico.
The restructuring process overseen by the government had profound effects, the authors write. For example, GM’s North American hourly labor costs declined from $16 billion in 2005 to $5 billion in 2010. This was achieved through layoffs and a decrease in the hourly wage. Employment at the Detroit Three plunged from 250,639 in 2007 to just under 170,000 in 2009. And negotiations with the United Automobile Workers union led to the carmakers assuming less liability for retirees’ healthcare costs and instituting a lower wage for new hires. As a result, by 2011, average hourly labor costs for Ford ($58), GM ($56), and Chrysler ($52) were competitive with those of Honda ($50), Toyota ($55), and other foreign-based carmakers at their U.S. plants.
During the recession, another problem facing the auto manufacturers was an inability to keep their plants running at or near full capacity. In the first quarter of 2008, overall capacity utilization fell to about 32 percent, and in January 2009 the utilization rate for light vehicles sank to a record-low 25.9 percent. By comparison, the overall rate averaged 77.6 percent between 1972 and 2007. In 2010 and 2011, the first two years after the restructuring, capacity utilization shot back up to 70 percent overall, much higher than in the aftermath of the recessions of the 1980s and the early 1990s, when utilization one year after the lowest point averaged about 60 percent.
The improvement in utilization is, of course, largely a reflection of how many plants the Detroit Three closed during the recession and recovery. Between the end of 2007 and the beginning of 2010, they shut or planned to shut 16 plants, compared with six plants closed during the recession of the 1980s. This rapid reduction in capacity helped the three companies become profitable while producing fewer vehicles.
The restructuring also affected the industry’s geography by accelerating the concentration of nearly all U.S. production in the so-called Auto Alley, a narrow corridor stretching from the Great Lakes to the Gulf of Mexico. The corridor’s share of U.S. assembly, which had risen from 62 percent in 1985 to 78 percent in 2007, blossomed to 83 percent by 2010.
Was the bailout worth it? That depends on your perspective. The White House has consistently said that the government-assisted restructuring of Chrysler and GM was essential to their survival, and by extension to Ford’s survival. But in 2011, the Congressional Oversight Panel objected to what it called the “moral hazard” posed by the bailout, declaring it “sent a powerful message to the market¬place—some institutions will be protected at all cost, while others must prosper or fail based upon their own business judgment and acumen.” And Washington will likely lose money on the bailout by the time it sells the last of its GM shares in April 2014, the authors add.
That said, the Detroit Three still exist, and things are looking up for all of them. Overall sales for the three companies jumped from nearly 4.7 million vehicles in 2009 to 6.0 million in 2011, a year in which market share increased for the first time in decades and all three turned a profit. After their roller-coaster ride through the Great Recession, the authors conclude, the companies are now benefiting from what seems to be “a genuine shift in momentum.”
The government-backed bailout of Chrysler and GM not only saved two of the United States’ biggest corporations, it also fundamentally altered some crucial characteristics of the U.S. auto industry, helping to bring it in line with foreign competitors.
- Matt Palmquist is a freelance journalist based in Oakland, Calif.