What General Motors' Death Means For You

This editorial column was written by Francis Cianfrocca, a Senior Editor of The New Ledger.

After decades of decline which began with a confused response to the large-scale importation of small cars in the late Fifties, the storied General Motors Corporation is now part of the past. The path that GM took into bankruptcy was clearly discernible last December, as I wrote at the time in a series of blog posts. While there was no surprise about the timing, the rough dollar amounts, and the politically-favored parties, there were some interesting wrinkles along the way. And of course, we have to ask why the episode unfolded as it did, and more importantly, where GM goes from here.

Let's take a moment to reconstruct what brought GM to this point. A year ago, GM was in precarious financial condition, but had a plan to survive through most of this year while seeking additional private financing. When the financial crunch came last October, it triggered a huge reduction in consumer demand for vehicles that has yet to show even a flicker of reviving. Industry sources have said that there was a flicker of increased interest in buying Chrysler vehicles on the cheap after that company's bankruptcy in late April, but the flicker was short-lived.

That pushed GM over the edge, and by November it was apparent to anyone who was paying attention that the company would be flat out of cash by around year-end. I can't overstate the gravity of this situation. Because incoming revenue fell so far, so fast, GM simply wouldn't have the scratch to keep the lights burning. (In fact, they started turning out the lights in their Woodward Avenue headquarters buildings at night.)

Under such circumstances, a going concern goes to their bankers and borrows money at usurious rates. A sick company goes into Chapter 11 bankruptcy, and borrows money at usurious rates, usually pledging assets as collateral, to keep running while they work things out. Partly because of the global credit crunch, and partly because bankers aren't stupid, no private financing was available for GM under any terms, leaving them facing a liquidation, pure and simple.

That was the dynamic that entrained the subsequent events. GM and Chrysler cut a deal with Congress for an emergency bailout in mid-December, but Senator Corker (R-Tenn) noticed that it was a straight infusion of public money, with no penalties for the UAW and no protections for the taxpayers, and a slew of electric-car mandates thrown in for good measure. Corker complained loudly about the deal, and in response, the UAW basically said "Screw it. Next month our guy will be in the White House, there'll be half a dozen fewer Republican Senators, and we'll get a better deal."

But GM was still facing a flameout at year-end, and the Bush Administration wasn't going to let that happen in their last days -- so over Hank Paulson's loud objections, the White House sent GM a $13 billion bridge loan from the TARP. I did the math at the time, and figured the situation would be quiet until late March or early April.

That's what happened. There was another emergency cash infusion at the time of about $7 billion. Obama's auto task force then set a pattern with Chrysler, a much smaller and less complicated case, forcing them into something that was a lot like a prepackaged bankruptcy. Judge Arthur Gonzalez was put in charge of the proceeding, and he has acted to streamline the process at every step in favor of the government, and at the expense of secured bondholders. The process has been fairly devoid of messy controversy, although the expropriation of private property from Chrysler's dealers and bondholders will inspire debate for years to come.

In GM's case, the government (meaning, We the Taxpayers) will commit to another $30 billion in cash, for a total of $50 billion, in return for a majority share of the company's equity. The UAW gets a large chunk, and the existing bondholders get what's left. (According to some reports, the common shareholders will get a penny on the dollar. Look for GM stock certificates on people's walls in the future, as you sometimes see Confederate railroad bonds today.)

There's a key side point about bankruptcy in regard to GM, and it relates to the fate of ousted CEO Rick Wagoner. From the very beginning of the crisis, he stressed that bankruptcy was not an option for GM. His stated reason was that customers would refuse to buy from a bankrupt automaker, for fear of poor resale values and difficulty getting parts and service. When Obama fired Wagoner (something that technically was something only GM's board could do, but let's not be sticklers), he simultaneously announced the formation of a government-funded entity that would honor GM warranties. Those were the clues that a government-sponsored bankruptcy was inevitable.

Here's another side point about the bankruptcy. The taxpayers are converting $50 billion in bridge loans into a majority equity stake in New GM. What ought to be the shareholder equity carried on the company's balance sheet as a result? My small mind says it ought to be a number somewhat larger than $50 billion. But the entire common equity of GM before the bankruptcy hasn't been worth more than two or three billion dollars for well over a year. The taxpayers are getting an incredibly raw deal here. And it's real money, not balance-sheet gimmicks like the TARP funds given to large banks. GM has been spending your money and mine, to pay the difference between what they spend and what they make, nearly $5 billion a month.

And that's the challenging thing about where we go from here. With Chrysler's scalp on his belt, Obama knows he can force a bankruptcy to go through without a lot of fuss. But what we all need to be debating is what this company should look like going forward.

I recall a conversation late last year with a very senior Wall Streeter, an older gentleman with decades of experience at the top of major firms. He asked the question straight out: does America really need a domestic auto industry?

The answer to this question is not necessarily yes. No one has any clue when and how far demand for vehicles will recover in North America. It's currently running at an annual rate of about 9.5 million vehicles, far below the 2000 peak over 17 million. It takes a leap of faith to look at the future and see a strong recovery. And without that, nothing makes more sense than to allow GM to slowly wind down its operations.

If we did that, there's already have $50 billion of your money in, and there will be more later, depending on how long the process lasts. We would want to avoid the total disruption of a Chapter 7 liquidation, which could well have happened five months ago, and ease the blow for GM's workers, dealers, suppliers, service vendors, trade creditors, retirees, and the governments that feed off the taxes of all of the above. It's a tough outcome, but it does reflect econonic reality, and it's ultimately healthy.

If I had been in charge of the GM situation, this is the approach I would have taken. It's critically important that powerful people always recognize the limits of their capabilities, as well as on whose behalf they are acting. Government is not competent to make business decisions. That's the private sector's job. A proper (albeit controversial) role for government would have been to prevent the massive disruption of a forced liquidation of GM, acting modestly and swiftly to prevent real economic hardship. To fund a gradual liquidation of GM, stated upfront as the goal, would have been a proper course.

Instead, the government appears to have made two critical decisions, which ought to have been the subject of lively public debate. Nothing would interest me more than to know exactly how these decisions were made, if indeed this was done deliberately. But there's evidence that they were made even before Obama was inaugurated. They're clearly legible, in the framework of the draft bailout legislation that Congress failed to pass in December.

First: America does need a domestic auto industry. GM will not be allowed to shrink appreciably or exit a wide range of its businesses. Proximately, this benefits the UAW, who indeed will (contrary to published reports) not be making economic sacrifices that are anywhere near commensurate to GM's reduced circumstances. GM will continue to operate as a large, bloated carcass larded down with high costs. That's not a recipe for competitiveness. It IS a recipe for steady infusions of taxpayer cash, probably for years to come.

Second:Government can and should dictate business decisions to GM. This is the most critical aspect of the whole episode, and the one we should be debating the most. Obama has said repeatedly that GM is going to run itself, and that he has plenty to do without running a car company. But this is disingenuous in the extreme. GM exists, and will continue to exist, at the sufference of the President of the United States. The President is GM's customer and funding source, and no business ever operates without careful reference to those two.

The proof? Immediately to hand. Even before the GM bankruptcy, Obama announced that he would increase fleet mileage standards all the way to 39 mpg for cars, and 35.5 overall. These are numbers that simply can't be achieved with current technology, and in light of current demand from American consumers. Either Obama will need to walk back his goal, or GM and other automakers will start making more expensive cars that no one really wants, or We the Taxpayers will slowly change our minds about what we want to drive and how much to pay for it.

I will agree that it's legitimate for the government to have prevented a rapid decompression and crash of General Motors, and that this task rightly involves an expenditure of public resources. I do not agree that the company should be operated over the long-term in furtherance of social objectives determined by a political process, rather than consumer objectives determined by free markets. If one were to ask Obama in a candid moment, he might even say the same thing.

What I am very reluctant to accept, however, is that the Federal government can manage the transition of General Motors from a failed bankruptcy to a healthy and newly-independent business, generating good jobs, and vibrantly serving consumer needs. Even if some facsimile of that process unfolds, the economic inefficiency will be staggering. That translates directly to consumption and investment that we will all have to forgo.

Even worse than that, it's a usurpation by government of the power of free people to determine economic behavior as we see fit. And the regime which holds power in Washington gives every indication of being animated by a belief that it's entirely meet and fit for government to direct the economy toward social and political ends of its own choosing.