Why Should a Failing Automaker Receive a Bailout?

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Sixty-three percent of people polled believe that ATM fees are a bigger waste of money than lottery tickets. Thirty-seven percent believe the reverse.

~ Compass Bank survey, reported in "USA Snapshots" in USA Today

Just when I think economic literacy cannot descend to a lower level, I come across a tidbit like the one above from USA Today. (Consider: With ATM fees you're paying voluntarily for a service you receive. With lottery tickets you're paying voluntarily for, well, nothing!) It's at times like these that I have no doubt that monumentally stupid ideas, like a bailout for the Big Three automakers, will get approved by the U.S. Congress. Certainly, the fact that Congress isn't spending its own money plays a part. Certainly, it makes perfect sense for an automaker to ask the government for money, since that well has been tapped before, despite the lunacy of such an action.

Just the Facts, Ma'am

Okay, so let me get this straight. The Big Three Automakers — General Motors, Ford, and Chrysler — are in financial trouble. This trouble is a result of [basically] not being able to sell the products they make in a high enough volume to generate revenue that is greater than or equal to their expenses. Ergo, they are losing money. (They are losing lots of money.) If they keep losing money, one or more of these manufactures will have to declare bankruptcy or go out of business, which could lead to hundreds of thousands of direct job losses. The failure of any or all of these firms could also lead to a substantial number of indirect job losses, as domino effects among their suppliers, many of whom depend upon the automotive industry, cause those suppliers to also go out of business.

I don't think my synopsis is unfair or misses any significant points. I also won't argue with the possible negative outcome(s). I have little doubt that many thousands of normal, law-abiding citizens could lose their primary incomes from a crash-and-burn scenario in the U.S. automotive industry. (The best and brightest of any of the Big Three could also end up at a competitor, making even more money!)

First of all, any displaced worker won't be displaced forever, if at all. Secondly, when a business is not meeting the needs of its clientele or when that business is mismanaged, it is supposed to go out of business. This is what makes way for another business. Thirdly, I'd argue that keeping a bad business operating via State coercion, causes new businesses to be excluded from or limited in penetration of the market. (I'll talk about this technological and/or market exclusion, from which I think the Big Three massively benefit, later.)

Have a Heart!

One could debate this issue via all manner of economic logic, and maybe I'll get to that later, but let's examine this situation morally first. Is it the responsibility of the U.S. taxpayer to make sure these automakers remain solvent? No. Is it the responsibility of the U.S. taxpayer to make sure that people who work for the Big Three keep working? No. Is it the fault of the U.S. taxpayer that the Big Three are currently insolvent? Yes, partially. (That's not a misprint.) Taxpayers comprise the market and, of course, it is a market response that causes firms like GM to be losing money. GM is selling stuff that people don't want to buy, for whatever reason and so, few buy. GM is supposed to be losing money! Until and unless the U.S. automakers manage themselves in a way that: a) creates products that people want to buy and b) at a price that supports the expenses of the business, they should lose money. That's the choice that the market is destined to make, unless the government intervenes and screws things up. (Yes, other issues are at play here, some of them further exacerbated by the State, but the bottom line is: A business is beholden to its customers, not the other way around.)

If the choices made by customers eventually cause a lot of people, people who previously made a good living dependent upon that business, to lose their income, those are simply the breaks. Furthermore, this contraction is necessary for a healthy economic future. (Peter Schiff covers this situation in wonderful detail in a recent LRC podcast.) No customer is bound by any moral responsibility to buy from a particular vendor, no matter the eventual recipient of the profit that business generates.

Stealing Money and the Future Along with It

As I noted above, the debate about bailing out the automakers has both a moral component and an economic component. One portion of the economic argument that I fear will get far too little emphasis is what I termed above as technological and/or market exclusion. This is in my view, the biggest unintended negative consequence when the State keeps a bad business afloat. Consider these points, made by Bart Frazier in a recent FEE column:

Think of what it was like 500 years ago. Plumbing was almost nonexistent. We burned trees for fuel or cut them up to make homes. Our transportation was defecating in the streets.

Frazier continues:

We now heat our homes in an immensely cleaner fashion. There is now more forest in Vermont than there was 100 years ago. Natural gas is incomparably cleaner than energy obtained from burning wood and coal. Who could have predicted the natural gas furnace 100 years ago? Who could have foreseen the advent of hybrid vehicles? The free market has ways to alleviate social ills in the future in ways that are utterly inconceivable to us now.

My point and I'm certain I'm not the first to make it, is this. When the State keeps a poorly-run or inefficient enterprise running, it negatively affects the probability of some better approach gaining ground. When so much of the technological know-how that could be applied to new approaches is soaked up keeping a poor one running, we all lose. Simply put, it is as Manuel Ayau opines in his wonderful monograph "Not A Zero-Sum Game": "Had we achieved job security in the Stone Ages, we would still live in caves."

All Hail the Paradigm Pioneer

To examine this phenomenon more deeply, I'll need to dig into the archives. Joel Barker, in his 1993 book, "Paradigms: the Business of Discovering the Future" suggested that all paradigms have a lifespan that follows an "S-Curve," a picture of which I show below.

A paradigm, using Barker's nomenclature, represents an approach to solving a set of problems. It can be a complicated methodology or a simple one. It could encompass whole industries, or it could apply to particular competitors in a specific industry. For example, how the Big Three approach the manufacture and sale of automobiles is a paradigm. The internal combustion engine represents a vital construct in that paradigm. According to Barker, paradigms are developed by people who are willing to take risks — "paradigm pioneers" — he calls them.

In the early days of a paradigm, immediately following its initial development — shown as Phase A — problems are solved at a modest, yet ever-increasing rate, until the paradigm reaches maturity. Generally there are few people or firms applying the paradigm during the development stage. It is unproven and frankly, the old ways of solving problems have a "stickiness" to which I'll return later. Recall that the car and internal combustion engine did not immediately supplant the horse and buggy.

At full maturity — shown as Phase B — more and more people or firms have successfully adopted the paradigm. By this point, massive numbers of problems are being solved relatively quickly. (And correspondingly from an economic perspective, massive profit is being generated, with all the commensurate lifestyles improvements as a consequence.) For example, the horse and buggy eventually lost all market share to firms manufacturing cars, and society was socio-economically massively better as a result.

It is during Phase B, which can be quite long, that more and more entities apply the initial paradigm in new ways and improve it incrementally. In Barker's parlance, people who adopt this proven paradigm are "paradigm settlers" and they reap the rewards of the paradigm pioneer's risk, while not incurring much, if any, of that risk themselves. It makes sense to copy a successful approach versus invent one. While Henry Ford can be credited with mass producing the first automobile, it didn't take long for lots of people to duplicate his approach, i.e., apply his paradigm, and for many ancillary industries to grow up around the automotive industry. Note that the operations of the Big Three differ from those of say, Honda or Toyota. They each apply the automotive manufacturing paradigm in unique ways.

You Gotta Know When to Fold 'Em

Eventually, a paradigm begins to get stale — depicted by Phase C — and fewer and fewer new problems are solved. Stated differently, and again returning to Barker's premises, problems that the original paradigm did not solve, or that have been discovered during its implementation, collect during the entire life of the paradigm and eventually begin to cry out for a new solution. It is inherent in the existing paradigm that these problems cannot be solved by it. Unfortunately, those who have mastered (and benefit from) an existing paradigm are reticent to abandon it for something new. (This is the stickiness of which I previously spoke.) There is risk. There is likelihood of failure as new ideas vie for supremacy. The current approach is making money! Market share is strong. Stock price is high. Why rock the boat?

Despite the attractiveness of continuing to "dance with the girl you brought" visionaries and entrepreneurs will eventually seek new approaches to solving the collecting problems. This is fortunate, because simultaneously, any sufficiently mature paradigm will eventually be old enough that it could fail suddenly. (As well, the effects of the problems that collect during the useful life of a paradigm will eventually become substantial.) Paradigms, particularly technological management paradigms, have a natural life and will therefore eventually need to be replaced. The struggles of the Big Three automakers — particularly when juxtaposed against the success of Honda, Toyota, etc. — illustrates that their paradigm has gotten stale. The march of progress is unending, and must be so for a society to continue to enjoy an ever-higher standard of living.

That is, unless there is interference from without. You guessed it; this is where the State comes in, generally to bailout those who are still riding an old, stale paradigm for all it's worth. New paradigms can also be squelched if those applying an existing competing paradigm can successfully mitigate the threat the new approach poses. Most firms do this via actions like negative advertising, or, in the case of both the automakers and large firms like Microsoft, actual purchase of the competing idea. If a firm is financially strong enough to do this, so be it. The customer is still able to decide for himself, most of the time, unless the State controls access to the market.


Do you ever wonder why all those exciting concept cars — flying vehicles and other whatnottery — ideas conceived and presented decades ago, never seem to hit the market? Me too. Yes, I understand that technological probability will almost always lag behind artistic possibility. Still, I suspect that Manuel Ayau's truism about the Stone Ages applies equally well to this discussion. If the horse-and-buggy manufacturers had been bailed out, we'd probably still be cleaning up behind our transportation. Maybe I'm being unfair, and maybe the Big Three have applied themselves aggressively to the seemingly interminable problems of engine efficiency, gas mileage, etc. but I wonder. The entire environment that supports, not only the types of cars we now drive, but also, where we drive them and how we drive them, is rife with statist intervention. And yet, these iconic car manufacturers need more help from the State? You're kidding, right?

Again, I ask a simple question: If the Big Three's paradigm appears to be reaching the end of its useful life, why shouldn't one or all of them go out of business? If the government swoops in — toting a gargantuan bag of stolen money — is it more likely to drive these automakers (pardon the pun) to solve old problems in new ways or allow them to keep on milking the same old cow? The answer seems obvious to me. Even more obvious is this: The Big Three struggle while other automakers make money. Says Cato's Daniel J. Ikenson:

…the car industry itself is not in crisis. Even if one or all of the Big Three failed, there would still be plenty of strong auto companies operating throughout the United States. The Big Three currently account for slightly more than half of all light vehicle production and slightly less than half of all light vehicle sales in the United States.

I read a great quote in a recent Casey Research Update. It comes from GATA’s secretary treasurer, Chris Powell, who says, "There are no markets anymore, only interventions." That certainly seems to be the case in the U.S. The unfortunate thing is, the average (read: non-Austrian-trained) citizen and the statist economic pundits who mislead him all seem to think we do have a free market. Worse yet, they think that it is a failure of that market that causes GM and its cohort to need a ton of stolen money to survive.

At the risk of seemingly harsh, I can only offer one answer to such an assertion: B.S. (As an interesting aside, one entrepreneur who would appear to know of what he speaks, particularly when it comes to the automotive industry, agrees with me!)

Wilt Alston [send him mail] lives in Rochester, NY, with his wife and three children. When he's not training for a marathon or furthering his part-time study of libertarian philosophy, he works as a principal research scientist in transportation safety, focusing primarily on the safety of subway and freight train control systems.

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