Losing bet on Detroit

Steve Chapman

So anyone looking to participate in a viable business would look a lot of other places before they would look there. But the U.S. government thinks GM might just be a really smart place to put its money.

In its final weeks, the Bush administration lent the automaker $13.4 billion, along with $4 billion for Chrysler. On Monday, President Barack Obama gave GM 60 days to come up with a better plan before deciding whether to sink more cash into it. But he placed a large bet on its survival by promising to guarantee all GM and Chrysler vehicle warranties.

He also held out a shimmering vision of the Big Rock Candy Mountain, expressing faith that his policies can lead to "a 21st Century auto industry that is creating new jobs, unleashing new prosperity, and manufacturing the fuel-efficient cars and trucks that will carry us toward an energy-independent future."

Truth is, that industry already exists. The Big Three just don't happen to be a part of it. The United States has robust, job-creating, fuel-efficient automakers, in the form of companies like Toyota, Honda and Subaru.

But they don't count in the eyes of Obama, presumably because their employees don't belong to the United Auto Workers union. So he apparently couldn't care less how much they resemble what he fantasizes GM and Chrysler will soon become.

And a fantasy it is. On what basis could anyone expect GM or Chrysler to achieve greatness? It's like expecting a glacier to appear in Arizona. Just because it happened a long time ago doesn't mean it's going to happen again anytime soon, if ever.

At one time, GM accounted for 60 percent of the cars sold in America, but its market share has fallen to 22 percent. It has lost money for four straight years, including a staggering $31 billion in 2008, and things are only getting worse. Sales in February 2009 were less than half what they were in February 2008.

Chrysler has not exactly set the world on fire either. It torched $8 billion last year. Some of its investors now value their stakes at pennies on the dollar—or nothing. Its U.S. sales have plunged by nearly half over the last decade. In this year's Consumer Reports rankings of the 10 worst cars, seven are GM or Chrysler products.

The administration's own industry task force doesn't share Obama's unbounded optimism. In a report released this week, it noted that GM's supposed salvation, the plug-in hybrid Chevrolet Volt, "will likely be too expensive to be commercially successful in the short term."

It ridiculed GM's own cheery forecast, which assumes rising profits "despite a severely distressed market, lingering consumer quality perceptions and an increase in smaller vehicles (where the company has previously struggled to maintain pricing power)." Even under generous assumptions, it said, GM would keep losing money.

Given all these sad tidings, it's hard to avoid the conclusion that the only hope is bankruptcy court—where it could shed some of its obligations by stiffing creditors and rewriting union contracts. Obama seems to think the auto industry is too important to be subjected to such an indignity, though he has not ruled it out.

But to survive in the long run, a company has to provide consumers with products they want at a price that yields healthy profits. That is exactly what GM, like Chrysler, has consistently been unable to do.

In those circumstances, neither bankruptcy nor any other course offers a plausible route to prosperity. Plausibility, however, is not a consideration among politicians determined to keep the Big Three in business no matter what.

In recent months, we've been told that ambitious federal action is needed in the financial sector because unregulated commerce produced disastrously perverse results. But in the auto industry, competition has functioned reliably to reward sound companies and penalize bad ones. So clearly, there are only two occasions for massive government intervention: when the market fails, and when it works.

Ben's $1.2 Tril Bet

Ben's $1.2 Tril Bet

Monetary Policy: The Federal Reserve's plan to create $1.2 trillion out of thin air to buy Treasuries is a risky move, to say the least. If it doesn't boost output by an equal amount, the certain result will be inflation.

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Desperate times breed desperate measures, and clearly that's very much on the mind of Fed chief Ben Bernanke. On Wednesday he announced the Fed will print money to buy U.S. Treasuries in unheard-of amounts — nearly $1.2 trillion.

This move, so-called "quantitative easing," is both momentous and perilous. With interest rates now at zero, it's the only real arrow in the Fed's quiver to fight a deflationary economy.

But why is the Fed doing this now?

An academic expert on the Depression, Bernanke no doubt understands that the government during the 1930s did too much tax-hiking, tinkering and regulating, and too little on the monetary side of things, and that this was a big reason why the economy collapsed.

He's well aware that other experts, such as Milton Friedman and Anna Schwartz in their monumental 1963 tome on U.S. monetary policy, laid much of the blame for the economy's collapse in the '30s on Federal Reserve wrongheadedness.

And indeed, since the Fed let money supply contract more than 30% as the economy plunged 27%, it's hard to argue that fact. Bernanke hopes to avoid the same mistakes.

That said, we face a far different situation today, with neither a GDP down 27% nor a quarter of our people out of work.

More appropriate, however, is the experience the last time the Fed tried quantitative easing in 1961—in the so-called "Operation Twist." According to the Fed's own later assessment, it failed.

In the end, what did work were the broad-based tax cuts pushed by President Kennedy and passed after his death. That's how that booming decade became known as the "go-go" years.

Perhaps Bernanke sees an administration and a Congress recklessly layering on new spending, new regulations and needless government programs that will inevitably slow growth and crimp productivity. Absent any real stimulus, such as tax cuts, he may feel quantitative easing is a risk worth taking.

Yet this is the equivalent of applying monetary policy with a set of defibrillator paddles. It carries a huge inflation risk — especially if, as Bernanke says, the economy's second-half recovery is a tepid one. That $1.2 trillion in new money will have to be paid for one way or the other — through taxes or higher inflation.

As for those who argue a major cash infusion is desperately needed to end our "credit crunch," we'd only note that credit, while tight, isn't close to being in a crunch. Consumer and business loans are running 7.7% ahead of last year, and total commercial bank lending is up about 4.8%.

In short, money is being lent, and the economy is perking up even without benefit of a federal bailout effort that could add $9 trillion or more to our national debt over the next decade.

It may be that Bernanke, a good economist, is tired of waiting for Congress and the White House to do what needs to be done and is moving to do what he can. If so, we applaud his courage and leadership. We just hope we'll be able to applaud the results.

BAM'S BOLD GAMBLE

AN ENORMOUS BET ON BIG GOV'T

WITH a speech to match the most eloquent os State of the Union Addresses, with strains of FDR and JFK and a touch of Winston Churchill thrown in, President Obama has clearly staked his presidency on the outcome of the economic crisis.

Whether or not you agree with his prescription for recovery (I don't), it's clear that he's not hedging his bets. If it works, his place in history is assured. If it fails, so is his early retirement.

The speech made it apparent that the Obama administration's response to this crisis will either go down in history as a success that Americans will admire for decades, or become a case study in economic failure that students and scholars will study and pick apart for generations.

The speech began where it needed to begin, with a bold affirmation of faith in the rebuilding and recovery of America. Then Obama listed some of the more popular parts of his spending-stimulus program.

The specific items he recalled from the package were attractive. But Americans know, by now, that much of the program (largely unmentioned last night) is a mountain of pork - money spent for the sake of spending it to spur recovery, not to achieve particularly important ends.

Obama did not seek to justify the spending for the specific purposes to which it is dedicated. Courageously, he said that he passed it because it will work. For his sake, it better. But I doubt it.

Then he spoke unconvincingly about his bank-rescue plan. Promising to punish and regulate bankers even as he stressed the need to restore their confidence, he reminded me of the facetious sign posted in a friend's workplace: "The beatings will continue until morale improves."

How he plans to restore the nerve and confidence of our bankers as he castigates them is unclear. But, then, so is his program for financial rescue. One suspects that he knows full well that he will nationalize the banks. But even that step assumes that politicians can do what bankers can't: Act quickly, ruthlessly and honestly - never a notable attribute of elected officials.

Halfway through the speech, the president got to the minefields of Social Security and health-care reform. He avoided any specifics, but it's clear that he plans to salvage the former with increases in the payroll tax and implement the latter by government rationing of health care. If you like your HMO, you'll love Obama's health plan.

And then Obama affirmed that he'll support big tax increases on the richest 2 percent of American families. Disregarding the fact that these households already pay upward of half of all income taxes, while earning only a quarter of the national income, he has singled out the entrepreneurs, professionals, innovators and businesspeople of America for taxation.

Oh, but he won't raise taxes until he's had a few years to stimulate the economy. How many in that 2 percent feel like one of those huge hogs in the Chicago stockyards, being fattened up to slaughter the next year?

Can all this work? Can Obama get banks to lend even as he terrorizes them? Can he get the engines of our economy back to work even as he announces that he'll be taking away more of their earnings? Can he persuade the American people to accept bureaucrats deciding their health-care choices? And can his economic stimulus survive a huge increase in the payroll tax on the most productive citizens?

Probably not;Obama likely won't succeed. This speech will be viewed as his high-water mark - the time before we came to realize how flawed is his understanding of economics and how supreme is his commitment to expanded spending. It will be seen as a sort of age of innocence before we realized what he had in mind.

But it sure was a great speech . . . while it lasted.