Smith Faculty Opinion Article
On Tuesday, December 9, 2008 I testified on the auto industry bailout before
the House Select Committee on Energy Independence and Global Warming. Here is my
testimony. C-Span link:
House Select Committee on Energy Independence and Global Warming
“Innovation, Jobs and Energy Independence
Reinvigorating the Domestic Automobile Industry”
Professor, Robert H. Smith School of Business
University of Maryland, College Park MD 20742
My name is Peter Morici, economist and professor of business at the
University of Maryland Business School. Thank you for inviting me to provide
Automobile manufacturing is a central component of the U.S. economy. Its
health and vitality is critical to the prosperity of vast regions of the U.S.
economy, and through its purchases, the industry is central to U.S. industrial
leadership in activities ranging from microelectronics to metallurgy.
More germane to the work of this Committee, the automobile industry is
central to any effort to reduce U.S. reliance on imported oil, curtail global
warming, and recover from the recession that now plagues the nation.
The tailpipe offers among the greatest opportunities to both reduce C02
emissions and curtail reliance on imported oil. The domestic industry offers
equally significant opportunities for creating vibrant export industries that
would support hundreds of thousands of high paying jobs in research labs and
high-technology manufacturing and services.
The domestic industry has in the pipeline significant new products that will
dramatically reduce energy consumption—advanced fuel-efficient internal
combustion engines, hybrids, plug-in hybrids, all electric vehicles, and
hydrogen-electric vehicles. As we move down the commercialization curve,
learning by producing, costs will come down for the more innovative
Seemingly exotic forms of propulsion will become commonplace. Americans will
have more alternatives to internal combustion engines, and the opportunities to
remove oil from the personal transportation equation will multiply.
The country needs viable personal transportation—U.S. patterns of settlement
and urbanization make mass transit impractical for most commuters and
impractical for even more of non-commuting travel. Plug-in hybrids, and
ultimately electric and hydrogen vehicles, offer the opportunity to greatly
reduce CO2 emissions if paired with smart additions to the national power grid.
U.S. leadership in these forms of personal transportation can ultimately
create vital export industries—vehicles, components and intellectual property.
Failure to lead, ultimately, will require Americans to import what they need and
result in a lower standard of living.
The U.S. automobile industry has two components—the Detroit Three and the
transplants. Both components are vital to American prosperity but it must be
recognized that vehicles made by the Detroit Three have more U.S. content, as
measured in technology, components and jobs.
In the global transformation of the basic design of the automobile, the
survival and leadership of the Detroit Three will be central to Americans
reaping the full benefits of the coming technological transformation in personal
transportation. Without them, Americans will miss out on key opportunities in
global manufacturing, and be less prosperous in the bargain.
Sadly, the Detroit Three have less capital to develop more fuel-efficient
internal combustion systems and alternative vehicles than their competitors.
Cash strapped, they have smaller vehicle development budgets than foreign
competitors that produce comparable numbers of vehicles. As we have heard in
recent weeks, Chrysler and General Motors may be forced to file Chapter 11
reorganization within the next few months. Disruption in the production and
payments to suppliers of either of these companies could disrupt the production
of the remaining two (including Ford) Detroit Three.
The gradual erosion of market shares of the Detroit Three over the last
several decades, and now their hemorrhaging losses stem from higher labor
costs—having origins in wages, benefits and work rules--poor management
decisions, and less than fully supportive government policies. These conditions
have been exacerbated, though not fundamentally caused by, the recent financial
crisis and recession.
Although the U.S. government has been sympathetic to the needs of the
automobile industry, the industry has fallen victim to currency manipulation and
other forms of protectionism in Japan, Korea, India, and China. In addition, the
reluctance to raise CAFE standards until recently and less expensive gasoline in
the United States have encouraged reliance on less fuel efficient technologies
here than in Europe and Japan.
Proposals to save from Chapter 11 one or all of the Detroit Three with a
federal bailout would be a poor policy choice if such assistance is not
accompanied by specific requirements for systemic reforms that would ensure
their long-term profitability and financial capacity to develop more
fuel-efficient internal combustion systems and alternative vehicle platforms.
Strong profits are essential to their participation in the global transformation
in personal transportation technology we are about to witness.
If the Detroit Three, with the cooperation of the UAW, cannot present plans
to Congress that would fully and completely align their labor costs and work
rule flexibility with Japanese transplants and demonstrate how their vehicle
development and distribution costs can similarly aligned, it would be better to
let them go through Chapter 11 and reemerge with new labor agreements,
dramatically reduced debt and strengthened management.
That would permit these companies to produce cars at costs comparable to
those enjoyed by their Japanese and other foreign competitors assembling
vehicles in the United States, and to devote adequate resources to
environmentally essential new technologies. Even with that, these companies
would be challenged by the unlevel playing field in competition vis-à-vis
Japanese and Korean competitors, who enjoy great advantages owing to currency
and trade policies pursued by their governments.
Circumstances are dramatically different today than in 1979 when Chrysler
received assistance from the federal government. In those days, the challenge at
Chrysler was to become competitive with Ford and GM, and Lee Iacocca had a clear
plan to achieve that objective and succeeded. Today, the Detroit Three, though
improved in productivity and with lower labor costs thanks to concessions from
the United Auto Workers, are still not as competitive as the Japanese
Margins in automobile manufacturing are thin and there is no such thing as
being competitive enough. Either an auto company is competitive or it is not
competitive—either it accomplishes the cost structure enjoyed by Toyota and
Honda, operating in the United States, or it will continually cede market share
and run into financial difficulties. That will mean it cannot compete in the
development of advanced technologies and adequately contribute to the future
prosperity of the nation.
By assisting the Detroit Three, Congress can delay one or all of them going
through Chapter 11 reorganization but sooner or later one or all will face
reorganization. The communities and suppliers dependent on these companies would
be better off going through that process now than by delaying it with assistance
from the federal government.
Without a new labor agreement that brings wages, benefits and work rules in
line with those at the most competitive transplant factories, without reduced
debt and other liabilities and without other management reforms, the Detroit
Three will continue to lag in product innovation and field too few attractive
new vehicles, because their higher costs, debt and other liabilities will
require them to spend less on new productive development than they should.
They will continue to be inclined to field products with less desirable
content to compensate for higher costs. As consumers find vehicles made by
Japanese and other transplants more attractive, like those imported from Korea
and eventually from China, the Detroit Three will cede market share of one or a
few percentage points each year, and their smaller profit margins will give them
fewer resources for vehicle development and new technologies.
If Chapter 11 is put off several years through federal assistance, the
successors to GM, Ford and Chrysler that emerge from a bankruptcy reorganization
process will be smaller and support fewer jobs and less innovation than if these
companies endure this difficult transition in 2009.
If Chapter 11 reorganization is endured now, rather than several years into
the future, more jobs can be saved among GM, Ford and Chrysler and their
suppliers, and better prospects for U.S. leadership in new technologies can be
The Congress could take steps to improve the attractiveness of making cars
and parts in the United States by improving the public policy environment. This
would include finally addressing, directly and forthrightly, undervalued
currencies in Asia—currencies kept cheap by intervention by foreign monetary
authorities in China and elsewhere. In addition, assertive efforts to develop
fuel efficient vehicles could strengthen the industry and create export
For example, Congress could offer an incentive for car buyers to trade in
their gas guzzlers—the newer and the bigger the clunker, the more the car buyer
would receive under the condition the vehicle is destroyed. This would raise the
price carmakers receive from selling smaller vehicles.
Congress could provide substantial product development assistance to
U.S.-based automakers and suppliers. The latter includes Toyota, Nissan and
Honda, as well as the Detroit Three, battery makers and other suppliers to
accelerate the production of innovative, high-mileage cars.
The condition for assistance would be that beneficiaries do their R&D and
first large production runs in the United States, and share their patents at
reasonable costs with other companies manufacturing in the United States. The
huge U.S. market would help attract producers from around the world and
rejuvenate the U.S. auto supply chain.
These kinds of smart industrial policies would contribute to national efforts
to reduce CO2 emissions, reduce oil imports, create high paying jobs and
contribute to lasting prosperity.
Peter Morici is a professor at the University
of Maryland School of Business and former Chief Economist at the U.S. International