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NRO’s domestic-policy blog, by Reihan Salam.

The Party of the Auto Bailout



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During this year’s Democratic National Convention in Charlotte, there was surprisingly little discussion of the Affordable Care Act and the American Recovery and Reinvestment Act relative to the extensive and enthusiastic celebration of the “quick rinse” bankruptcies of Chrysler and General Motors. Vice President Joe Biden put it particularly well:

We listened to Senators, Congressmen, outside advisors, even some of our own advisors say–we shouldn’t step in, the risks were too high, the outcome too uncertain. The President patiently listened. But he didn’t see it their way. He understood something they didn’t. He understood that this wasn’t just about cars. It was about the Americans who built those cars and the America they built.

I would be interested in hearing the details of these conversations. Specifically, I would like to know the names of the Senators, Congressman, outside advisors, and White House officials who claimed that the risks involved in infusing two large employers with government subsidies in a politically-sensitive industry in a swing region were too great. There were, of course, significant long-term risks, as we’ll discuss. But it’s not clear that there were significant downside political risks to intervening, not least because Republicans, including the former Massachusetts Gov. Mitt Romney, favored federal intervention, albeit of a somewhat different kind. 

In those meetings, I often thought about my dad. My dad was an automobile man. He would have been one of those guys-all the way down the line-not in the factory-not along the supply chain-but one of those guys selling American cars to the American people. I thought about what this crisis would have meant for the mechanics, the secretaries, the sales people who he managed. And I know for certain, that if my dad were here today, he would be fighting for this President, who fought to save all those jobs, his job, and the jobs of all the people he cared about. He would respect Barack Obama for having the guts to stand up for the automobile industry, when others walked away.

This raises questions about jobs in sectors that don’t have the same emotional resonance for the Vice President, yet that matter to those who hold them and to those who depend on those who hold them. 

When I look back now on the President’s decision, I also think of another son of an automobile man–Mitt Romney. Mitt Romney grew up in Detroit. His father ran American Motors. Yet he was willing to let Detroit go bankrupt. It’s not that he’s a bad guy. I’m sure he grew up loving cars as much as I did. I just don’t think he understood — I just don’t think he understood what saving the automobile industry meant to all of America. I think he saw it the Bain way. Balance sheets. Write-offs.

Folks, the Bain way may bring your firm the highest profit. But it’s not the way to lead your country from its highest office. When things hung in the balance, the President understood it was about a lot more than the automobile industry. It was about restoring America’s pride. He knew what it would mean to leave 1 million people without hope or work if we didn’t act. He knew the message it would have sent to the rest of the world if the United States of America gave up on the industry that helped put America on the map.

It is worth noting that Chrysler and General Motors did go bankrupt, as David Skeel of Penn Law School explained in his June testimony to the House Subcommittee on Capital Markets and GSEs. Skeel describes the various ways in which these bankruptcy procedures were highly irregular, and he addresses the arguments raised by defenders by offering a counterfactual of his own:

Defenders of the carmaker bailouts have pointed to the car industry’s recent resurgence as evidence that the bailouts were a shining example of successful government action. Two assumptions underlying these claims are that Chrysler and General Motors would have been swept into the dustbin of history if the government hadn’t commandeered the bankruptcy process, and that the costs of running roughshod over the rule of law are not great.  Neither assumption is true.

Let me start with the likely outcome if the government had not commandeered the bankruptcy process.  Chrysler and General Motors could, and surely would, have been restructured without violating basis bankruptcy law principles.  It was common knowledge both that General Motors needed to file for bankruptcy and that it was precisely the kind of company for which Chapter 11 is well designed—a company with a viable business but excessive costs.  Many of the terms of the restructuring could have been negotiated prior to the bankruptcy filing, and it could have been quickly reorganized in Chapter 11.  Chrysler would have been either restructured or many of its assets sold to a buyer such as Fiat.  This is essentially what actually happened, except that the government altered the treatment of Chrysler’s creditors and it rather than Fiat footed the bill for the transfer of control to Fiat.

The principal obstacle would have been financing the bankruptcy process.  Both companies were low on cash and needed to borrow funds for the restructuring process, at a time when the credit markets were very weak.  General Motors might well have been able to arrange funding from private banks.  Moreover, even if this proved impossible, the government could have facilitated borrowing by offering to guarantee the financing, or by lending the money itself.  If the government decided to step in, it could easily have provided guaranties or lent the money without insisting that its preferred terms be locked up, and without dictating that some creditors got paid and others did not.

The government’s manipulation of the process already has had adverse repercussions.  After the Chrysler “sale” was announced, Warren Buffett speculated that it will “disrupt lending markets in the future” and warned, “We don’t want to say to somebody who lends and gets a secured position that that secured position doesn’t mean anything.”  A recent study suggests that his fears may be well-founded.  Studying investment in other politically sensitive industries, three finance scholars found that companies in these industries faced a steep increase in their cost of credit as a result of the Chrysler transaction.  Ironically, the violation of rule of law principles in the carmaker bailouts may put more pressure on the government to bail out companies in politically sensitive companies in the future, since these companies could find it difficult to raise money when they are in financial trouble.

Buffett is, it is worth noting, a staunch supporter of the president. 

P.S. Earlier on, I neglected to add that Joseph Weisenthal of Business Insider published a short post yesterday explaining that Mitt Romney favored a managed bankruptcy, which is the vehicle used by the Obama administration. Where Weisenthal goes astray is in his apparent view that there was no difference between the approach embraced by President Obama’s auto task force and an approach in which shareholders and bondholders weren’t given a free pass, yet traditional investor protections had remained in place. 



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