A Voice of Reason Puts Automakers on the Road to Rescue

By Steven Pearlstein
Wednesday, November 19, 2008

Even before being sworn in, Barack Obama has confronted his first big test as president and passed it with flying colors.

The test is the urgent request of Detroit's Not-So-Big Three automakers for a $25 billion "bridge loan" to get them through what they want us to believe is a "short-term liquidity crisis" -- a crisis that has been caused by the "perfect storm" of soaring oil prices, a credit crunch and now a strike by consumers, none of which is their fault, not one little bit.

Democratic leaders in Congress were initially willing to prostrate themselves before the United Auto Workers union and write the companies a blank check. Republicans, by contrast, said no way, promising a Senate filibuster and a White House veto. Another partisan stalemate seemed in the offing.

Then, in steps Obama with the utterly reasonable proposition, delivered in a television interview, that while the failure of General Motors, Chrysler and Ford posed as much of a risk to the economy as AIG and Freddie Mac, he wasn't about to provide three uncompetitive companies with a bridge loan to nowhere. As a condition of his support, he would require that all the constituencies -- the shareholders, creditors, workers, pensioners, managers and dealers -- make the necessary concessions needed to restructure these companies and put them on sustainable, competitive footing.

Yesterday, before the Senate Banking Committee, top company and union executives stuck to their story of victimization and imminent transformation. But the Bush administration, Democratic leaders and many Republicans in Congress seem to have embraced the Obama principles. The haggling now is over the appropriate mechanism. My guess is that the whole thing will be wrapped up shortly after Thanksgiving, perhaps in a holiday package that will include congressional approval (but delayed implementation) of the free-trade agreement with Colombia.

So what would such a rescue look like?

Several weeks ago, I suggested that the only way the government should get involved in a bailout was as part of a "prepackaged" bankruptcy that would result in a major restructuring of the automakers' finances and operations. Going through the bankruptcy process is a necessary legal step to wipe out the interests of current shareholders, replace failed executives and directors, force creditors to accept less than they are owed, abrogate labor contracts, reduce pension obligations and override state dealership laws. And by negotiating many of the details ahead of time, a "prepackaged" bankruptcy could be completed in a matter weeks or months, reducing the risk of scaring away people from buying new cars.

For starters, Congress could create a special bankruptcy court to handle the car company reorganizations, setting strict time limits on the negotiations among the parties and expediting any appeals.

Any bankruptcy process requires a lender to come in and provide interim financing, and that's what the government could do in this case, providing low-interest loans so that the companies could continue to operate as the restructuring is carried out.

During the bankruptcy process, the companies could be authorized to offer government-backed warranties for any new vehicles sold, to allay consumer concerns.

Once the companies emerged from bankruptcy, Congress could direct that its loans be converted into preferred stock that come with warrants to buy as much as half the common stock of the companies. The government would retain control of the boards of directors until the loans are repaid. And if the restructurings prove successful, taxpayers could eventually turn a profit by selling their shares.

Congress could also authorize the General Services Administration to negotiate an advance order, with a big down payment, for millions of new fuel-efficient cars and trucks to be delivered over the next decade as the government's fleet needs replacing. Such an order could not only prod the companies in the direction of more fuel-efficient cars, but also help to finance the research and development necessary to achieve breakthroughs in battery and other technologies. Another $25 billion in loans has been authorized to retool factories to produce the new vehicles.

And to restore the flow of liquidity to the auto finance market, the Treasury could be ordered to use some of the next tranche of money under the $700 billion bailout program to buy packages of auto loans, with an emphasis on loans made after Dec. 1, 2008.

Such a multipronged rescue might require the outlay of a bit more than $25 billion, but it would significantly increase the likelihood that taxpayer money would be repaid. The government could get a nice discount on a new fleet of fuel-efficient cars and trucks. Most importantly, a vital industry would be required to complete a restructuring that was too long delayed.

Let's be clear: While recent improvements have been made, these companies had been badly managed for decades. If they hadn't taken so long to respond to the challenge from imports, if they hadn't thrown away billions on ill-advised acquisitions, if they hadn't agreed to pay wage and benefits well above market rates and make ridiculous promises about job security, if they hadn't so stubbornly ignored fuel efficiency, they would not be in this pickle. Going into this economic crisis, they would have more market share, fewer legacy costs and a whole lot more cash in the bank.

That said, the rationale for rescuing auto companies is the same as it was for rescuing Wall Street banks -- they're too big and too interconnected to the rest of the economy to be allowed to fail. No, it's not fair and, yes, it sets a lousy precedent. The only reason for doing it is that the rest of us will wind up better off than if we did nothing.

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If you know of examples of companies that have made extraordinary efforts this year in support of a charity or nonprofit organization, I'd like to know about it for my annual holiday column. Just send an e-mail with details of what was done, by who, for whom, to pearlsteins@washpost.com. Include the name and phone number of somebody to contact for more information. And be sure to put the words "Holiday Column" in the subject line, or it is apt to be inadvertently misplaced. Deadline is Dec. 12. Thanks.

Steven Pearlstein will host a Web discussion today at 11 a.m. at http://washingtonpost.com.

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