Auto Bailout Redux: Warren Buffett

...it was Bush who bailed out GM -- Obama forced it into bankruptcy...

Steve Rattner's blog points out a February 27th CNBS interview with Warren Buffet that affirms what David Ruggles and I have argued from the start on our Autos and Economics blog, and reiterated here: that the alternative to the government provision of DIP financing for an orderly Chapter 11 restructuring of GM and Chrysler (as though bankruptcy is a bailout!) was a catastrophic dissolution via Chapter 7 ("close your doors forever" bankruptcy). As Buffett notes, capital markets weren't functioning, and there were no sources of working capital for firms seeking Chapter 11. Indeed, he himself told one of those firms "no" -- and unlike banks, he was not constrained by liquidity concerns and depleted capital. Rather, everyone was hunkered down, and clearly uninterested in what a priori was a very risky venture.

Now it's not as though the reorganization was perfect; lots of dealers had their franchises yanked, which neither lowered operating costs at GM nor improved their sales. That seems to have resulted from the input of a consultant who had worked for NADA (the National Auto Dealers Association). Of course every dealer wishes for one less competitor, but that's a tension with every franchise system: what's good for the franchisor is not always good for the franchisee. With hindsight there might have been wiggle room on other terms and conditions. But it's hard to fault what was done from a real-time perspective. Indeed, the speed with which the Chapter 11 restructuring was consummated should give creditors in other bankruptcies, who often shell out staggering legal fees for years on end, food for thought. And speed was critical to the revival of GM and Chrysler, and for keeping suppliers and the rest of the domestic auto industry afloat.

Let me close with a personal reflection. We will continue to quibble over the appropriate role of government in our society. We will always find fault, too, because by and large government is engaged in providing services that can't be quantified or for which market prices aren't available -- economists and environmental scientists can construct models to delimit how much less pollution is worth, but that's a far cry from trying to figure out how much a gallon of milk is worth.

Overall, however, I've always been impressed with the service orientation of those in the public sector, from local school teachers (the biggest component of Leviathan, and certainly not in it for the money!) to individuals such as Mr. Rattner (who incurred a pile of legal bills for the privilege of serving). Kudos! -- our society would be poorer without them

Mike Smitka
An essentially identical post is at the US and Economics blog.
My apologies if this shows up at an odd time; I may have forgotten to hit "publish" after writing it, or else went back to edit it without realizing I had to re-publish it.

Chrysler dies; bailout a success

Mike Smitka

Quite frankly, I don't expect Chrysler to last the year. Indeed, I would be surprised if the "new" Chrysler, to be announced before the end of June, will be successful in relaunching production. Too many of its suppliers are on the wrong side of the brink. At the low volumes of production that will prevail while 100 days of inventory remains in the system, it won't pay for them to keep the parts flowing to Chrysler's assembly plants. All it takes is one crucial supplier to say "no" – or to be unable to finance restarting production – and it's the end of the line. In several senses.
Nevertheless, I judge the Chrysler "bailout" to have already been a success.
Why? Well, let's think of the timing. Back in December 2008 the financial system was still close to implosion, as was General Motors. Confidence across the economy lay somewhere between gloom and doom. At the time Chrysler clearly was not viable – not that that has changed, with or without Fiat. The "rescue" is in that sense a bit of a misnomer, because the patient will never be resuscitated. With the final denouement, billions in government funds will vanish (I don't want to count, but remember there is indirect lending via the government-owned GMAC, not just the direct "bailout" money).
But given the timing, a Chrysler collapse Christmas 2008 would have been a present worse than a lump of coal in a child's stocking. It would have been fat on the fire of prevailing fear, marginal financial institutions burned critically. GM would have seen suppliers shut their doors, and once that happened, Toyota and the other new entrants ("Detroit South") would likewise have had to shut their assembly lines. Three-quarters of a million workers would get the post-Christmas message that for the time being they had no job to return to. The spin-on from that ("multiplier effect" in economist's lingo) would have been horrendous; unemployment would have jumped almost overnight to double-digit levels.
Now the economy can handle Chrysler's liquidation, and (with less assurance) that of numbers of key suppliers. GM will not collapse; financial panic has been quelled, and that Chrysler was expiring would not be news. Detroit would be in mourning; even I might shed a tear, since I paid college tuition with summer jobs at Chrysler plants. But the economy would not be pushed over the brink.
And I might be wrong. Chrysler has lived from crisis to crisis. But this time around I don't think they'll make it.

PS: David Ruggles, who sometimes posts here, makes a parallel argument from the "downstream" dealer side: no responsible financial institution will make loans to a Chrysler dealer to finance their inventory (offer "floorplan" in industry jargon). Nor should they finance consumers at more than (say) 50% of purchase price, given the uncertain value of Chrysler products as collateral. If indeed banks behave as banks (GMAC, under government ownership, isn't), then Chrysler will have no dealers left to whom they can sell vehicles. End of story.
I made this point in a forum at the Auto Finance Risk Summit in Miami on 20 May 2009, organized by Royal Media Group. Thanks to a discussion forum there for stimulating me to make various "devil's advocate" arguments. I've concluded that this line of argument is (sadly) more than just a good debating point.