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Band-Aid Will Not Help U.S. Auto Industry, Says Washington and Lee Economist

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Mike Smitka on the State of the U.S. Auto Industry
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A disorderly collapse of the U.S. auto industry would not represent good public policy, but the successful solution to the current crisis requires more than a hurriedly applied Band-Aid, according to a Washington and Lee University economist who specializes in the automobile industry.

Michael Smitka, professor of economics in the Williams School of Commerce, Economics and Politics, focuses his research on the Japanese and U.S. auto industries, especially comparative analysis of the automotive parts industry and industry cost structures.

With Congress considering how to respond to the crisis confronting the Detroit automakers, Smitka argues that a quick fix is apt to be unsuccessful, even though he acknowledges that the industry, especially General Motors, is teetering on the brink of bankruptcy and has cancelled new products that are crucial to the firm’s long-term health.

Given a 35% downturn in industry sales, even Toyota is temporarily closing plants in the US. GM, which due to its health care and pension obligations entered the current market collapse with insufficient cash, and clearly needs emergency assistance. However, Smitka believes that a panicky approach to the immediate problems of one or two firms is merely first-aid, not a cure. "Instead," he said, "we need a more orderly set of policies that looks not just at the Detroit Three, but at the industry as a whole, including suppliers and dealerships."

Rather than a panicky approach to the immediate problem, Smitka believes the solution is a more orderly set of policies that looks not just at the Detroit Three, but at the industry as a whole, including suppliers and dealerships.

“Applying a bad bandage can make cleaning the wound much harder,” Smitka said. “As much as President-elect [Barack] Obama will have a full plate in front of him, I think this automobile crisis is one that should be left on the plate for him. Congress should focus on simple measures to stabilize the patient, and not attempt surgery in the field..”

Smitka notes that the six primary U.S. automakers — Honda, Toyota and Nissan in addition to the Detroit three — are all heavily dependent on U.S.-based suppliers with a particular type of part frequently coming from the same manufacturing facility. The collapse of General Motors would lead to the demise of many of these suppliers and that, he notes, would mean that Toyota, Honda and Nissan would also have to stop production for lack of the parts.

“There would be no quick fix, either,” he said. “Keeping one part of a plant operating half-time when payroll, purchasing and other areas were all closed would not be feasible. Assemblers, suppliers, dealerships would all close. In pretty short order, we would see 3 million direct jobs and as local businesses felt the effects, another 3 million indirect jobs gone. That would boost U.S. unemployment into double-digits.”

Smitka believes that any plan to provide assistance to the industry must not only be comprehensive, covering dealers, assemblers and suppliers, but that everyone in the industry must be willing to take a hit.

“I have little sympathy with the level of compensation of the bonus rank of the Detroit Three,” he said. “There are plenty of hungry managers around. If someone thinks life is impossible without all the perks, then let them hunt for an employer in some other industry who will provide them. One of their underlings will gladly take their place. All managers should be offered a flat salary with no stock options. Let the executives buy and gas up their own cars, too. That might be a particularly good symbol. If they want to compare vehicles, which surely they ought to be doing, then they can go to a test track or rent one out of their own pocket. My guess is that UAW executives do pretty well, too, and should also be asked to make sacrifices.”

Smitka is now convinced that a potential GM bankruptcy would occur before the end of January, due to the latest data that show an almost unimaginable drop in sales.

Suggestions that sales to consumers in developing areas outside the U.S. may help mitigate the significant decreases in domestic sales are no longer true, said Smitka. The developing world has been a major source of profit but the global economic downturn is already hurting profitability everywhere, according to Smitka. “Sales to China or Brazil or India, for example, do not represent a silver bullet,” he said. "Indeed, governments in the EU and Asia are also being forced to offer assistance to the industry."