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Citi and GM

posted by Adam Levitin

If I were a line-worker at GM, I’d be pretty pissed right now. My boss flew into DC on a private plane and came away with bupkes. Citi, on the other hand, just got a fourth big bailout. (Bailout 1: Bear Stearns; Bailout 2: AIG; Bailout 3: TARP preferred share investment; Bailout 4: the Citi-specific bailout. The first two bailouts propped up Citi and other financial institutions by protecting their counterparties.)

What’s most troubling about the GM non-bailout and the Citi bailout is the disparity in the moral hazard angle. It seems to me that from a moral hazard perspective (and I recognize that is not the end all and be all here), we have our bailouts exactly backwards.

GM’s fundamental problems are not the creation of current management. These are problems that go back decades and were inherited by current management. GM’s fundamental problem is not whether it was pushing fuel-efficient vehicles are not. GM’s core problem is that it was and is paying its blue collar workers above-market wages (including benefits).

Citi’s problems, on the other hand, are very much the making of many current Citi managers. Many of the same folks who made bad bets on the market and gambled on unknown and untested speculative products are still working at Citi. Bailing out Citi, but not GM thus strikes exactly the inverse moral hazard chord. We are letting people off the hook for their own irresponsible behavior while refusing to help those who inherited deep-seeded problems of others’ making that arguably helped the economy overall (see below). That's perverse.

To be clear: I don’t like the idea of just throwing money at GM. Federal funding without a viable business plan is a waste of taxpayer dollars. But when we think about GM's past management mistakes, it's worth framing the counterfactual: GM's in trouble because it paid above-market wages to blue collar workers. But would we rather than GM have not paid above-market wages to blue collar employees?

I think it's hard to answer this with an unqualified affirmative. The rest of us might have been able to purchase marginally cheaper cars from GM, but that's not a huge boon, because we were already able to purchase cheaper cars from other auto makers. Sure, GM might have forced inefficiently high wages at competitors, but the cost savings here strike me as small. Moreover, by paying blue collar employees above market, GM contributed substantially to the economy. These employees went to spent the money on consumer goods. And the money GM paid for health care meant that there were fewer demands on public health care resources. It is hard to argue conclusively that GM should have been squeezing blue collar employees or that the country would be better off if GM had done so. For better or for worse, GM's problems are part of a story of democratized prosperity in the post-WWII years, and the bill for that party is catching up with us now. The whole country benefitted from democratized prosperity in a way we didn't from a brief exploding mortgage boom. And that's why I'm so bothered that the taxpayers are being asked to pay for the later, but not the former. We've gone through the bailout looking glass.


I think it's unfair to blame GM's problems on paying "above market wages" to its workers. How is a negotiated union contract not a market wage?

The worker wage issue is a result of GM management, past and current, taking on unfunded or severely underfunded future liabilities instead of sharing profits with their workers in the form of bonuses or wage increases.

The US auto makers are in trouble because they make crappy cars that people don't want to buy. They spent the last couple decades raking in profits from gas-guzzling SUVs and fighting tooth and nail any increase in fuel economy standards. GM killed off its electric car, opting to spend money lobbying to remove CA's requirements to make them instead of spending it on R&D to make the EV1 better. GM, until a couple years ago, steadfastly refused to develop a hybrid vehicle. Now they're playing catch up with their Volt program.

The car makers didn't get bailout money from congress because they couldn't answer the question, "What changes will you implement to make your companies profitable again. What's your plan?". No plan, no money -- corporate jets and such notwithstanding.

By "above market wages" I mean that GM (and other auto) line employees were getting a wage and benefit package that they couldn't get anywhere else. Blue collar workers in most other industries with equivalent skill sets and experience just don't get paid as well. That's what I mean by "above market".

The US automakers have had some bum products, but they also have some lines that do well. Their products aren't their central problem. They're reasonably competitive in terms of products. Gas guzzlers are an issue that has sprung up recently and might be the last nail in the coffin, but GM could have weathered that mistake if it didn't have its huge employee and retiree benefit cost overhang. Those costs like a sea anchor weighing down the company ship. That's not a new problem, but that, more than anything else, is the issue GM needs to fix.

Let me also make clear that I am not arguing for a bailout of GM. (Some e-mails have also assumed the same). Perhaps I was unclear, but I was really just aiming to show the distinction between GM and Citi. That said, should we consider federal funding conditioned on a bankruptcy or federal DIP lending or exit lending? Sure. Obviously the precise terms matter, but the necessary precondition for that is a viable business plan. Without that, it'd be good money chasing bad.

GM is the business model for the entire United States and GM's long term viability parallels that of the republic. GM's corporate owners were dependent upon the workers for a transient symbiotic but unsustainble long term business model. The money made and forwardly borrowed by GM was well plowed into the economy and the product was useful. Compared with the hand outs in the health care and pharmaceutical industries which produce little value added, GM represents a lessor poor business model. Compared with the larger picture of a debt driven forward economy the United States corporate and political 'owners and deciders' are dependent upon the banks and financial industries to provide forward credit to continue the much larger scale bad business model. The implosion of the the finacial industries' and Central Bank's created housing bubble has resulted in waning demand for GM worker dependent products paralleling waning larger scale demand for bank-abled credit. Workers can make cars which will sit on full lots without demand. Banks given massive injections of low interest credit to pass along will have that credit sitting on their books if there is no credit demand based on declining jobs in the real economy from prexisting oversupply. Existing debt is becoming relatively greater and the greater debt dependent system - just like GM will implode. While alternatives of doing nothing may be more immediately worse, all of these interventions based on the future wages of world citizens represent the greatest historical futile act of pushing on a string.

I'm not a GM line-worker, but I'm pretty pissed. On Monday, I received notice that Citigroup plans to increase the APR on a credit card I have with them from 9.99% to 24.99%. Back in May, twelve seconds after the Federal Reserve proposed rule changes that would forbid raising APRs on existing credit card balances, Citi increased the APR from about 7% to 9.99%. (At first that increase was to 13.99%, but when I spoke to a representative from Mr. Pandit's office, they pulled it back to 9.99%.)

I'm 45, have never defaulted on any credit card or other debt, nor have I ever been late with a payment, over-limit, etc. I pay no more than 10% on two other cards I have with other banks, and on another Citi card I've been paying 0% for 2 1/2 years in an offer that will expire in a year. On the card whose rate they're jacking, I was offered a 2.9% deal less than a year ago. (I had a Wells Fargo card last year whose APR was 6.7%.)

Fortunately, I can opt out of the increase and let my account close in May 2010, and I'm in fair financial shape. My heart goes out to other folks out there who're going to be killed by usury like this.

So, Monday's announcement that part of my income tax bill will be bailing out a bank that's engaging in loan sharking didn't sit well.

Like the Airline industry, I think 11 would be helpful on that “above market rate” compensation. Of course we are talking about the benefits program. The profit sharing, retirement, etc… I may be wrong but I think part of the problem was the unions. That is why GM has that above market rate compensation. And that is why I think 11 would be good as it seemed to help the Airline Industry reorganize. Maybe they can get some of those federal guarantees on retirement matching contributions. I think lower wages and compensation packages are better than massive layoffs. Citi on the other hand, I don’t believe has “Union” problems which I think is the key difference. Ya, the auto execs didn’t come with a “plan” which they should have but the companies are apples and oranges. Citi may also be a bigger player in “portfolios” than GM and Ford. Citi just had its hand in a whole bunch of “Pots”. Risky pots at that. That being said, I am not whole heartedly for Citis’ bailout either, it did jump the markets up a bit though. I saw it in my Mutual fund.

The decline of the US auto industry (it's not just GM) is a little bit everyone's fault. Management chose to invest in easy profits from SUV's rather than take the risk to be innovative and ahead of the curve on alt fuels, etc. But they were encouraged in that by regulatory structures that imposed tougher requirements on cars than trucks.

Labor held out for high wages and benefits (can we reasonably expect them to do anything else?), and the result after several decades is that every vehicle coming out of Detroit is burdened by several thousand dollars of legacy costs that Hondas and Toyotas don't have. The result is something frighteningly Ponzi-like in its structure. It works fine as long as new sales keep going up and up to support the base of retirees, but you can never downsize a business like that; the house of cards collapses. However, labor had to look to the employers for those bennies because of a series of social and governmental decisions we have all made, and keep making, about how we fund health care and care for the aging in this country.

Funny thing is, we all end up paying anyway, through Medicaid, unemployment compensation, and now interest on the debt incurred to fund the bailout.

FJP hit it right about the decline of the US auto industry being partly the fault of eveyone. I did neglect to mention that even the regulations that imposed tougher requirements on cars than SUV's were in part lobbied for by the auto manufactures. Both they and the unions are responsible for the heavy burden they are now facing.

And fractalist is right about GM's business model being the model for the nation. And we need to change that. Why do I keep hearing that "consumer spending is 2/3 of our economy"? That is only true if the boat anchor and balast help propel the boat (and yes, in a twisted way, they do). We need to be consetrating on the portion of our economy that produces a product. And we need to be telling people to downsize their expectations for the next several years until we can get paid for, the stuff we have been squandering our national fortune on, fot the past several decades.

I myself, would argue for a bailout of GM, long before I argue for a bailout of the banks. Banks produce nothing, and only facilitate production by the movement of moneys from one person or plact to another. But the auto makers need to have a plan. And a little fear in their hearts (chartered jets! for crying out loud!). Once it becomes clear that both the unions and the corporate big wigs have to sacrifice and work both smartly and hard, I suspect the automakers will be able to pull out of this. Then maybe we taxpayers can give them a hand.

I did, of course mean to say at the beginning of the previous comment, FJP negleted to say. Got into too much of a hurry rewriting to get other things correct and messed that one up.

just to follow up on my own comment about pensions and how Ford and GM play into it :


Im sorry "Adams" comment about pensions and the "overhang". Credit where credit is due. Props bro. My bad. But the article link above does point to the thory on why 11 may be better for the "big 3".

I don't have a dog in this fight, but props to Adam for his disclaimer that moral hazard is not an end-all-and-be-all.

Remember, seat belts cause moral hazard. That's no argument for removing them from cars. Moral hazard is a real cost, but costs are often well worth the package.

The danger with blogging is that when one tries to make a very limited point, it opens the door to a much wider ranging discussion. I appreciate that Joe S. recognized my disclaimer that moral hazard isn't the whole picture.

Let me suggest that there is a countervailing story to moral hazard here: bankruptcy can't help Citi, but could possibly (through a well-conceived prepac) help GM. And because bankruptcy can't help Citi, the only way to help them is a direct bailout; because the BK option exists for GM, a direct bailout isn't necessary.

I'm not sure that I'm convinced by this story, but it is certainly something to consider. Of course, we do have a well-established bank receivership mechanism, which works much faster than BK, and which makes it hard to distinguish the Citi and GM cases based on the existing options.

I disagree that the fault lies with everyone. While I am not into worker-comp details, I am sure Honda and Toyota pay their US workers the same benefit that the US automakers do. In fact, I read somewhere that Toyota also pays for their workers to learn new skills.

If anything, the downfall of the American automakers should be blamed on their misplaced idea about customers need. Most Asians buy either European, but mostly Asian autos, why? It is not due to nationalistic pride, nor due to anti-US sentiments. It is because those autos last a long time with little maintenance, can you say the same for US autos? Gone are the days of auto enthusiasts who are willing to spend time, elbow grease, and money on their autos. Autos are now a commodity item, it should work without much attention (and take a lot of abuse -- thank goodness there is no car-protection-agency, otherwise most Honda's and Toyota's will be in protective custody).

I have driven a my share of American auto, but mostly rentals. A new auto is luxurious, and shows good performance, but even a 6 month old auto will make rattling noises that puts my grandmother's ancient bullock cart to shame. If are thinking that rentals are not handled with care, think again, I did not have similar problem with much older Nissan rental car.

I will not even get started on efficiency, that is not something that US will every understand.

You said that "GM’s fundamental problem is not whether it was pushing fuel-efficient vehicles are not. GM’s core problem is that it was and is paying its blue collar workers above-market wages (including benefits)."

Before the United States deindustrialized, auto's compensation rates were not so far above market. While the Big 3 led the manufacturers and other employers in pay scales and benefits (to all of our benefit here in working class Detroit), steel, textiles and other industries were not that far behind. The automotive sector stands out now because in so many ways it stands alone.

I don't see how tossing our last big manufacturers overboard helps anyone. When those jobs go, who will be able to buy anything?

Frank- I don't think bankruptcy is overboard or has to be the end of any company. I always heard it this way: Companies file bankruptcy to leverage the assets they do have in order to reorganize their debts so they can emerge post-bankruptcy in a much stronger position. My friends all surf so when explain BK to them I say: Its like a huge wipeout and when you "go over the falls" you don't want your arms, legs or any other part of your body (you want to keep) flailing around like a flounder on dry land. You pull in your arms, legs and cover your head. Wait for that wave to let go and swim up. In fact bankruptcy even gives you time to catch your breath. And that is something Mother Nature will not guarantee. I know because I’ve asked (Mexico summer 1994 huge waves!!!).

We have a huge storm surge battering the big 3. The easiest way to get past that huge wave is not to coast over but to “duck dive” under. Even if the big 3 got a bailout, that may help for a little while but if demand never increases for their products. No dice! And where would all of that money go? It will all go towards “Interest” and “finance charges”, same as you and me. In producing actual tangible “things” I don’t think the Big 3 can risk “coasting” over that “wave”. If it works, it is true that they would lose less energy and be a bit further but if it doesn’t, they would be further behind than they were to start and twice as spent. You have to leverage that energy to work for you and that is what I think Bankruptcy can help do. Is it the best option? Who knows? Maybe. But I don’t think they can risk coasting.

Adam proposed bank receivership (maybe for Citi ???). I know very little about that subject and wonder if the receivership can reorganize labor contracts, or can address vendor issues and contracts if you are a manufacturer? (I guess I have to do some poking around a bit about “receiverships”). How do you continue to operate without critical vendors and stave off lawsuits from the vendors and leases that are “low on the list”? Almost any other solution would be faster than BK but would it be as effective? I just don’t think the Big 3 has or had enough leverage on the Economy to get a bail out. I think the mentality is or was that Citi filing Bankruptcy would hurt more than the Big 3 because Citi is “financials”. You just can’t build or re-build “financials” like you can a car or truck. The Government is already trying it with “Financials”, pumping huge amounts into the market; to me anyway, it looks like taking a wave on the head and using every bit of your energy to poke thru the top. Wasted Energy! You need lots of people willing to invest “the extra” to build financials as opposed to needing people to buy a car or truck or a “fat” tricked out Escalade! People will always need that stuff so that’s why I think it’s not over for the Big 3 if they file BK. People will always need to get to work. If the Big 3 doesn’t file BK (God willing), I do think they need to “pull in their arms” a bit, maybe at least think about protecting vital parts because its going to be a wild ride. “Washing Machine” is what surfers call it.

Is the different reception to bailing out the financial firms/Wall St versus the automakers really that difficult to fathom after nearly forty years of cultural celebration of 'the rich and famous", ceo's, and investment bankers versus forty years of bashing, reviling and condemning unions in general and auto workers in particular?

GM Prez said BK was not an option because it would erode consumer confidence and “we want them to be confident in their ability to buy our cars and trucks.” So they he says ... "to win, you've got to win with product and technology. ... And we do not want to give consumers a reason not to buy our cars and trucks." What the heck does Bankruptcy have to do with people wanting to buy their cars?

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