Too Big to Fail?

by Don Boudreaux on December 11, 2008

in Current Affairs, Myths and Fallacies, Reality Is Not Optional, Seen and Unseen

In this op-ed in today’s Wall Street Journal, I argue against the bailout of GM, Ford, and Chrysler.  Here are some key paragraphs:

Bankruptcy doesn’t make assets — such as factories, machines,
contractual options to buy raw materials, workers’ skills — disappear.
If markets still exist for products produced by these firms, Chapter 11
is the best way to discover this. Some workers might lose their jobs
and some suppliers might lose their markets, but there would be no
industry-wide collapse of the sort portrayed by the bailout’s
cheerleaders.

But what if refusal to bail out these firms results in their
complete failure? Even then — especially then — the case for a
bailout crashes. Really big firms such as GM, Ford and Chrysler are
really big users of productive inputs, like rubber and steel. Almost
all of these inputs have alternative uses and could be used by other
firms or in other industries.

A government bailout of the Big Three keeps huge amounts of
productive inputs in firms that can’t use them efficiently. Forcing
taxpayers to subsidize the continued employment of gargantuan
quantities of raw materials, labor and capital goods in unproductive
pursuits is a recipe for economic stagnation. The popular and
politically convenient myth has matters backwards: The bigger the
unprofitable firm, the more vital it is that it be allowed to fail.

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{ 16 comments }

interested observer December 11, 2008 at 7:38 am

Don,

Great argument; this is exactly what more politicians need to understand. The resources don’t go away, they just get reallocated to more efficient and desirable uses.

If “The People” wanted to save automakers we could have done so by buying their inferior and/or overpriced vehicles. We’ve been voting on this issue (with our dollars) for the past forty years and the verdict is pretty clear.

I.O.

indiana jim December 11, 2008 at 8:26 am

Don,

I really like your point that: "The bigger the unprofitable firm, the more vital it is that it be allowed to fail" because not doing so means, as you say: "Forcing taxpayers to subsidize the continued employment of gargantuan quantities of raw materials, labor and capital goods in unproductive pursuits is a recipe for economic stagnation."

This leverages the general notion in economics that open and competitive markets direct resource to "highest valued uses." Your point is that the more resources involved in application X, the more there is to be gained from subjecting X to the discipline that open market competition implies. With the exception of applications where there are significant "public good" consideratons (as there are NOT in the case of automobile production), the way you have highlighted the power of basic economics is brilliant: BRAVO!!!!!!

Per Kurowski December 11, 2008 at 8:49 am

There’s another reason why a prior Chapter 11 could be better namely that it always is better to come in with fresh new resources after an agreement between shareholders and creditors has been worked out, or to induce such a work-out. The only thing that putting in fresh money before an agreement has been reached helps to guarantee is that creditors will get more… something that has very little to do with either jobs or green cars.

Flash Gordon December 11, 2008 at 11:20 am

Some people say that no one will buy cars from a company in bankruptcy. That such cars will not be able to be serviced or repaired. Their would not be spare parts. Blah, Blah, Blah.

I think the opposite it true. If GM, Ford and Chrysler were able to use the tool of bankruptcy to make themselves competitive, the cars would be better and so would the service. Actually, the cars are already pretty good so a little cleansing in the bankruptcy court might be just the solution to the other problems standing in the way of a dynamic new American Auto Industry.

But people think bankruptcy is an end game. They don't realize it just a change of ownership. The only people who get screwed are the creditors, and since when does anybody care about them?

Flash Gordon December 11, 2008 at 11:22 am

Wish there was an edit button so I could fix my spelling of "their" to "there" in the third line of the above.

David Peterson December 11, 2008 at 11:36 am

Every time a member of congress speaks in favor of this bailout I just hear "but what about the jobs?" and the sound of JB Say spinning in his grave in RPMs that would make a car engine overheat.

Sam Grove December 11, 2008 at 12:03 pm

Well done point making.

dg lesvic December 11, 2008 at 12:54 pm

Congratulations and thanks to our own Beethovens and Gershwins.

Keep doing what you're doing, and don't let yourself by distracted by the rest of us yapping dogs.

Moggio December 11, 2008 at 3:51 pm

Don, did you read this article by Milton Friedman about Chrysler's bailout in 1979 entitled "Chrysler: Are Jobs the Issue?" (Newsweek, Sept. 10, 1979) ???!!!

Mark T. December 11, 2008 at 9:55 pm

In no way will there be an industry collapse due to the decrease in the demand for materials such as steel and rubber, because there will still be the same demand for cars. Just because one company failed to run properly, the general public is not going to lose all faith in the car industry. Regardless, there are few plausible replacements for modes of transportation. This means rubber and steel will still be used, the only difference being what company replaces GM and makes them.

True_Liberal December 11, 2008 at 11:06 pm

Your colleague Dr. Walter Williams said basically the same thing in this week's column. The media and the politicians (and as a result, the public) have a misunderstanding of bankrupcy; maybe some of them will open their eyes.

Doug December 12, 2008 at 7:44 am

That was an excellent editorial. In fact, bankruptcy may be the best thing that ever happened to the Big 3. The pension plan can get restructured, the union contract can be torn up, and hard decisions can be made about stale brands like Buick.

Airplanes didn't fall out of the sky when USAirways (and almost all of their other competitors) filed for Chapter 11.

John Dewey December 12, 2008 at 9:43 am

Doug: "Airplanes didn't fall out of the sky when USAirways (and almost all of their other competitors) filed for Chapter 11."

Excellent point, Doug. Both United and U.S. Airways actualy became more competitive after restructuring. Some air carriers – especially the smaller ones – did not survive bankruptcy. On the other hand, every one of the existing legacy carriers except American Airlines has taken advantage of Chapter 11.

SheetWise December 13, 2008 at 7:19 pm

Bush I and Bush II have both been political disasters. My perspective comes from them being identified as conservatives — which neither one of them was. Either of them could have easily run as Democrats by simply changing position on policies that they never intended to promote or support in any event. Bill Clinton fits the same bill. That's 20 years of the Presidency held by people who really don't give a damn what the people want or think.

Prepare for at least two more years of the same. Obama and Bush seem to be on the same page. Obama wanting to conserve and Bush wanting to liberate, neither having a clue what's at stake or what's in play.

God Bless America.

indiana jim December 13, 2008 at 9:24 pm

Someone get SheetWise a Zoloft or something; he/she seems way too depressed.

Clint December 14, 2008 at 8:02 am

If I fail, perhaps instead of arguing I'm too big to fail, I should argue that I'm too small to fail. I could base this on Chaos Theory and compare myself to a butterfly flapping its wings in some faraway place, an action which will eventually lead to the destruction of mankind. Yes, it makes no sense, but neither does the "too big to fail" argument. Imbeciles!

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