America's Economic Collapse
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|James Quinn||March 3rd 2009|
Cutting Edge Financial Crisis Analyst
|GM CEO Rick Wagoner|
General Motors was founded in 1908 in Flint, Michigan and grew to be the largest corporation in the world. Its market capitalization reached $50 billion in 2000. In the past week its market capitalization has dropped below $1 billion to levels last seen during the 1920’s.
The story of General Motors is in many ways the story of America. In 1953, at the peak of its dominance, its President Charles Wilson declared before Congress that what was good for the country was good for GM and vice versa. Edwin Black’s award-winning book Internal Combustion quotes his exact words when during a Congressional hearing Wilson was asked whether he saw a conflict of interest in his becoming Secretary of Defense: “I cannot conceive of one." replied Wilson, "because for years I thought what was good for our country was good for General Motors, and vice versa. The difference did not exist. Our company is too big.”
GM’s rise to power and decline towards insolvency parallels the rise and fall of the Great American Republic. Overconfidence, hubris, lack of courage, foolish decisions made and crucial decisions deferred have been the hallmarks of GM and U.S.
American carmakers have seen their market share drop from 85 percent in 1985 to 43 percent today. GM’s market share peaked at almost 50 percent in the 1960’s. It reached a historic low of 19.5 percent in January. Their sales plummeted 49 percent from a year ago. GM has too much debt, too much bureaucracy, too many plants, too many car lines, too many employees, and too many future healthcare and pension obligations. Of course, the only way a company can find itself in such a disastrous position is through decades of mismanagement.
The only logical solution now is for GM to enter a pre-packaged bankruptcy with financing provided by the U.S. government if bank financing is unavailable. Shareholders and bondholders will be wiped out. They made a bad investment. Plants will be closed, UAW contracts restructured, management replaced, employees fired, debt written off and future obligations reduced. A much smaller, viable company that can compete in the twenty-first century would exit bankruptcy in a year or two. A profitable, low market share is preferable to a high market share with billions in loses.
The decline of GM is a testament to how poor strategic decisions over the course of decades will ultimately lead to collapse. The United States has followed the GM model of failure for the last three decades. The U.S. has too much debt, too much bureaucracy, too many government supported industries, too many agencies, too many employees, and $53 trillion of unfunded future liabilities. See any similarities to GM? Can the U.S. avoid the fate of GM, or is it too late? If we can learn the important lessons of the GM decline, it may not be too late to reverse our course. Or, we can continue on the current path and follow the advice of Will Rogers: “If stupidity got us into this mess, then why can’t it get us out?”
GM President Alfred P. Sloan created the concept of annual styling changes that kept consumers coming back. He also established a pricing structure for each of GM’s brands from lowest to highest (Chevrolet, Pontiac, Oldsmobile, Buick and Cadillac). The idea was to keep a family coming back to GM over time as they become wealthier. He was a pioneer who drove GM to become the largest and most profitable industrial enterprise the world had ever known. His words reflect that spirit. He stated, “There has to be this pioneer, the individual who has the courage, the ambition to overcome the obstacles that always develop when one tries to do something worthwhile, especially when it is new and different.”
In the midst of the Great Depression, Mr. Sloan was able to keep General Motors profitable. That is an indication of a smart, realistic businessman who didn’t make poor decisions during the Roaring 20's. Only an executive like Sloan, comfortable in his own skin and tolerant of other opinions, would speak the following words: “If we are all in agreement on the decision - then I propose we postpone further discussion of this matter until our next meeting to give ourselves time to develop disagreement and perhaps gain some understanding of what the decision is all about.”
The best business decisions are made after open debate that includes dissenting opinions and arguments. Only great leaders allow this type of decision making. Alfred Sloan led GM for over 30 years, retiring in 1956. GM’s profit in 1955 had reached $1.2 billion ($8 billion in today’s dollars). It was on top of the world. In 1955, GM employed 624,000 Americans. Their market share peaked at 54 percent in 1954, the same year they sold their 50 millionth automobile. After the retirement of Sloan, a visionary leader failed to materialize. GM began to show signs of overconfidence as the 1960's arrived. They started to believe their own press clippings. They failed to heed the advice of another well known auto man, Lee Iacocca, who declared, “The most successful businessman is the man who holds onto the old just as long as it is good, and grabs the new just as soon as it is better.”
As the 1960's arrived, GM began decades of reacting to competitors rather than showing the way. New car controversies plagued the company during these decades. Every decade, a major new product line was launched with defects of one type or another showing up early in their life cycle. In every case, improvements were eventually made to fix the problems, but the resulting improved product ended up failing in the marketplace as its negative reputation overshadowed its eventual quality. GM forgot that superior products developed by superior people lead to profits.
The 1970's were marked by more disastrous product launches. Who could forget the Vega? Quality was not “job one” for GM. The last major strike by the UAW also occurred in 1970. After that, management continually gave in to the union demands in all future contract negotiations. They promised tremendous pension benefits, lifetime healthcare benefits, huge pay increases, and onerous work rules that gave management no flexibility. GM evidently didn’t have any bean counters who could extrapolate beyond a five-year horizon. If they had, they would have seen that they would eventually have an unsustainable cost structure with more retirees being paid than workers on the assembly line. The troubling facts were ignored because GM still had a 45 percent market share during the 1970’s. GM's U.S. employment reached 618,365 in 1979, making it the largest private employer in the country. Worldwide employment broached 853,000. It has been downhill ever since.
Poor product quality, labor unrest and lawsuits over unsafe vehicle designs affected sales volumes in the early 1980’s, which led to GM losing market share at an alarming rate to foreign automakers. A culture of mediocrity and poor quality led to continuous decline rather than continuous improvement. Ross Perot liked to say that getting GM moving again was like teaching an elephant to dance.
GM sold its soul to the devil of debt and its high margin to low mileage vehicles in the 1990’s. SUVs generated a profit of $10,000 to $15,000 per vehicle, even with GM’s bloated cost structure. Rather than improve their assembly line efficiency, product design and quality, or solidify their balance sheet, the company chose to use its GMAC subsidiary to make loans to subprime borrowers at 120 percent of the car’s value. After 9/11, GM showed their dedication to the flag by giving cars away with 0 percent financing. Amazingly, when you provide 0 percent financing to people with 550 credit scores, you can indeed sell millions of Escalades and Hummers.
Giving away cars for free was so successful, GM decided to parlay their expertise into giving homes away for free. They bought Ditech in 1999, just in time to catch the greatest housing bubble of all time. Ditech was a pioneer in offering 125 percent loans, in which the borrower could get more than the property was worth. It specialized in no-documentation mortgages and stated income loans. How could lending someone 125 percent of a home’s value with no proof of income or assets possibly go wrong? To quote Claude Rains from Casablanca, “I'm shocked, shocked to find that gambling is going on in here!” GMAC surprisingly lost $8 billion in the last two years.
Luckily, the American taxpayer has stepped in to provide GMAC with $5 billion of TARP so they can continue to allow GM to sell more cars at a $2,000 loss per car. No need to worry, they’ve hired some Wall Street wizards from Citicorp who have figured out that they can make it up on volume. General Motors has lost $72.5 billion in the last three years. Yet the American taxpayer is still propping up this failed entity!
The United States peaked as a manufacturing economy in 1960, with manufacturing employees making up 26 percent of the workforce. They now make up less than 10 percent of the workforce. The U.S. decided to outsource manufacturing jobs because we were going to do the thinking for the world. Why get your hands dirty creating things when our brilliant MBA trained geniuses could turn loans to deadbeats and frauds into AAA rated Mortgage Backed securities? The U.S. decided to take the easy path of financial engineering rather than the hard path of creating products that other countries would buy.
The trade deficit caused by decades of choices by government and industry reached $677 billion in 2008. These deficits were always unsustainable. Borrowing from the Chinese and Japanese to buy stuff produced by China and Japan could never go on forever. Instead of realizing this imbalance and taking actions to gradually rebalance the world financial system, our financial leaders and Federal Reserve reduced interest rates and encouraged the imbalance to grow, until it collapsed in 2008. Now their solution is to lower rates to 0 percent, devalue the currency, and encourage further borrowing. Sounds like choices made by GM in 2001.
When the country produced products that the world wanted, median family income rose at an annual rate of 3.7 percent above inflation. Since 1970, using government-manipulated inflation statistics, median family income has been stagnant. If a true inflation factor was applied, the median family has lower income today than they had 30 years ago. The only way people have “achieved” a better life is through the use of debt, which has been encouraged by the government, Federal Reserve and banks. This encouragement led to the collapse of the great American Ponzi scheme in 2008.
The decades of allowing our economy to be hollowed out and shipped to China is coming home to roost. Our financial geniuses have essentially brought down the worldwide financial system by selling foreign countries an alphabet soup of MBSs, CDOs and ARMs. Manufactured economics--not manufactured goods--has been our contribution to the world in the last eight years. Now, we have delegated the responsibility of our corporations to the U.S. government bureaucracy. Lee Iacocca explained years ago how well the government runs things, when he quipped, “One of the things the government can't do is run anything. The only things our government runs are the post office and the railroads, and both of them are bankrupt.”
Rather than address the structural problems of our healthcare and social security systems, our government politicians push off the issues until after the next election. They have been doing this for 30 years. This is why former U.S. Comptroller General David Walker has described these cowardly politicians as displaying “laggardship” rather than leadership. Our elected leaders flounder from crisis to crisis using stopgap methods to plug holes in the ship of State while ignoring the huge iceberg on the horizon.
While the U.S. Titanic steams full speed ahead toward the iceberg of unfunded Social Security, Medicare, and Medicaid liabilities, our politicians spend our tax dollars on digging holes and then filling them up again. As these future unfunded liabilities continue to rise, the government’s solution is to print money, keep interest rates at 0 percent, devalue the dollar, and hope for the best. The U.S. depends on foreigners to buy more than 50 percent of our newly issued debt. When you owe $10.7 trillion to others, you usually don’t get to dictate the terms. Today, the U.S. is asking foreigners to lend us money for 30 years at 3.5 percent while telling them that we will pay them back in dollars that will be worth 30 percent less in the next five years. Even a Wall Street CEO could figure out this isn’t a good investment.
The burning platform that is the U.S. economy is now a “ten alarm fire." Many say collapse is imminent. Where are the signs indicating that is not the case?
Cutting Edge Economic Crisis Analyst James Quinn is a senior director of strategic planning for a major university. This article reflects the personal views of James Quinn. It does not necessarily represent the views of his employer, and is not sponsored or endorsed by them.