If you are like me, you are pretty disgusted with the idea of bailing out the Detroit Big 3. In reference to that disgust, I was struck by this post at Think Markets channeling one of my favorite economists -- Frederic Bastiat.
Bastiat wrote an essay called "What is Seen and What is Not Seen" reminding economists to consider the consequences of particular policies in terms of opportunity costs. All economic decisions divert resources from one thing to another. It is a fine thing to say making cars is important, but it ignores what is not seen -- who will be put out of work by the decision to keep those making cars in business.
Here is what Bastiat says:
In the economic sphere an act, a habit, an institution, a law produces not only one effect, but a series of effects. Of these effects, the first alone is immediate; it appears simultaneously with its cause; it is seen. The other effects emerge only subsequently; they are not seen; we are fortunate if we foresee them.
There is only one difference between a bad economist and a good one: the bad economist confines himself to the visible effect; the good economist takes into account both the effect that can be seen and those effects that must be foreseen.
Yet this difference is tremendous; for it almost always happens that when the immediate consequence is favorable, the later consequences are disastrous, and vice versa. Whence it follows that the bad economist pursues a small present good that will be followed by a great evil to come, while the good economist pursues a great good to come, at the risk of a small present evil.
Here is what Gene Callahan at Think Markets has to add:
What brought that point of Bastiat's to my mind is the recent media focus on the proposed bailout of the US automakers. It is certainly the case that, if the government provides the US automakers with oodles of greenbacks they would not otherwise have had, then the automakers are more likely to make it through this recession. That, in Bastiat's formulation, is "what is seen." However, "what is not seen" is all of the other businesses that will fail as a result of that bailout.
To understand that point, we must recognize that what matters is not the quantity of pieces of paper with politicians' pictures on them that the auto companies possess, but the quantity of resources that those pieces of paper will allow them to acquire. The government, if it gives the automakers boatloads of those pieces of paper, has not created so much as a single new side-view mirror or brake pedal. To make those items will take real resources, such as workers, glass, rubber, and so on. If the government chooses to re-direct such factors of production to automakers, it is inevitable that some other, potential users of those resources will not be able to acquire them. Thus, there are marginal businesses that would have made it through these hard times in the absence of a "Big Three" bailout that will, instead, fail due to such a bailout. Some construction company, outbid for steel by the newly empowered auto firms, will not be able to acquire the steel it needs to complete its projects, and thus will go under. Some window manufacturer, now outbid for glass by Ford or GM, will as a result shut its doors. Some sneaker producer, unable to compete with the politically favored Chrysler Corporation for rubber, will go out of business. In Bastiat's lingo, "what is seen" is the auto workers who will not be laid off if this bailout goes through. "What is not seen" is the consequential failure of other businesses that lack the lobbying power of the auto industry.
It is remarkable that I have not encountered a single story or commentary about the proposed bailout that mentions the inevitable demise of businesses not favored with government largesse. Bailouts, tax breaks, price restrictions, and so forth, never create new, real resources, but only re-distribute existing resources from some economic actors to others.
Amen to that.
These are important things to remember when you consider the wisdom of a bailout. You see the autoworkers, and you want to help them. But you must remember all the other people who you are going to screw over by that policy -- all the people whose woes are substantially less televised.
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The fallacy of this argument is that it ignores the fact that there is a certain demand for cars. If GM, Ford, and Chrysler go out of business, the slack will be taken up by Toyota, Honda, and the other manufacturers who will assume the demand for glass, rubber, steel, etc. Therefore, allowing the big three to go out of business will not reduce the demand for these products and hence the alternate consumers of them will be no better off then if the former stayed in business.
Except that, without the Big 3 bailout, those resources you mention will be more competatively priced and the other businesses will be better able to compete for them.
The question is not, will the resources be available, but how much will they cost. If the Big 3 are bailed out, they will have no incentive to operate more efficiently, or less incentive anyway. The smaller company may already be operating more efficiently but its margin of safety or margin of stability is much less.
"The fallacy of this argument is that it ignores the fact that there is a certain demand for cars."
That would seem to be the question. Will more cars be built with the bailout money than without? And who is going to build them? Demand for cars is dropping fast, so the bailout money may be "pushing on a string," and result in no additional cars being built or sold. If GM and Chrysler survive at all, they will be smaller than they are now. But it's true: if the bailout doesn't affect the overall demand for cars, then it makes no difference in resource usage. Also, commodity prices are still trending down, which suggests that increased competition for resources isn't really the problem right now.
Re Moopheus
There is going to be a demand for cars and hence the resources to build them. The only question is, who is going to build them. If the big three go out of business, Toyota, Honda and the others will step in to supply the demand. I agree that the big three will have to be downsized but, if it is done efficiently, they can remain in business selling fewer cars.
Re T Hunt
Mr. Hunt is apparently assuming that, if the big three go out of business, the demand for cars will somehow be reduced. The demand has nothing to do with who builds the cars. If there is no big three to produce them, then, as I stated previously, Toyota, Honda, and the others will, and the amount of resources consumed will not change very much.
Not being from the US I haven't followed the detail of the news story here so forgive me if there is some other reason for the big 3 car manufacturers needing this bailout other than a significant (either expected or current) drop in demand?
Apart from "we employ lots of people" what exactly is their argument for receiving public funds? It seems to me that they are chancing their arm (apparently quite successfully) and asking for some public cash during a period of unusual (to say the least) Government largesse. What surprises me even more about this is the proposal leads to Govt. owning a whole bunch of non-voting shares as if to say, "sure here's a big wedge of cash but we wouldn't want to tread on any of your toes and interfere with your quality decision making by having any say in what you do with it!"
I'm no economist, but I think this argument suffers from a number of problems, including the very lack of foresight it pretends to address.
First, it assumes that there is a bidding process for rubber and other commodities that ultimately determines costs and locks some players out of the market. In fact, assuming a perfect market -- which the argument assumes -- supply will generally meet demand for manufactured raw materials like glass and rubber. The price may, in fact, go higher when demand is higher but, as steel and sneaker prices amply demonstrate, this raises the prices of finished goods and causes new entries into the market for providing raw materials rather than locking players out of the market. And, in general, there are substitutes for most raw materials that make up most finished products. So, the idea that some sneaker manufacturer will have to close its (already open?) doors because GM is buying all the rubber on the planet at artificially inflated prices thanks to government favoritism seems simplistic.
Second, as mentioned, this argument assumes a perfect market not currently encumbered by global government regulation. Part of this argument hinges on the unavailability of steel for other purposes if it is used to manufacture cars. This is a great example. In the real world, steel prices are determined globally, not by US demand. For instance, steel scrap prices reached record high levels earlier this year. The US is a major exporter -- yes, exporter -- of scrap. Exportation has tripled in the last eight years while importation has greatly declined. This has forced many steel-using industries in the US to raise prices. Meanwhile, more than twenty countries have erected trade barriers that artificially inflate the price of steel and globally raise the cost. Supply and demand in the US does not alone determine those prices. Supply and demand in the US, Japan, Korea, China, and dozens of other nations, along with the numerous trade restrictions having nothing to do with US policy, determines that end cost. Not one iota of that will be addressed by whether or not we bail out the auto industry and steel prices may or may not be greatly affected at all by the decline in demand caused by the death of the US auto industry. As others have pointed out, the death of the auto industry will increase demand in car-producing countries. But more importantly, nothing in this argument address trade barriers or other artificial global impediments to the perfect free market that it assumes. The US does not have a global monopoly on government largesse. Other nations favor their own industries and businesses as well, and that has nothing to do with whether or not GM gets bailed out. It does, however, have everything to do with the prices our hypothetical sneaker manufacturer and construction company will pay for steel and rubber.
Third, the side-effects argument has been used to justify rather than to dismiss a bailout. The logic works as follows: if US auto manufacturers fail, reliant industries fail. We're talking about industries that cannot divert their resources to other areas. Examples are the asbestos industry and auto dealerships. While asbestos is used comfortably in brake products, it is a hazardous substance that is needed elsewhere in the US in only limited quantities. And while auto dealerships could theoretically start selling Japanese and German cars, there is a finite need for such dealerships in a given geographic area. All existing dealerships could not simply switch their brands so that there are two Nissan dealers side by side in one town. So, a lot of subsidiary industries necessarily fail. Meanwhile, demand for steel and glass and rubber drops in the US. I know that this argument assumes that tomorrow some great American manufacturer comes along and buys up all the extra rubber and competes comfortably with all the foreign sneaker manufacturers that now dominate the footwear market. But it also assumes that, before that happens, at least in the short term before all those great businesses step in to dominate the global marketplace, demand plummets causing prices to plummet (assuming, again, a perfect market). This deflation will drop prices for many, many goods. Businesses that depend on the price structure as it now exists to meet overhead -- like most manufacturing businesses -- will simply fail if prices deflate enough and price competition gets intense enough so that they can't pay overhead. This will weed out the players in the game until supply matches demand and prices stabilize, but it is not a boon. It is a thinning out of the overall marketplace. It is not the creation of new businesses, but the continued destruction of old businesses. Sure, new businesses will eventually be born, but why must they be born in the US? Even assuming they must, in the short term the results could be catastrophic.
Fourth, as alluded to in the previous paragraph, this argument ignores the fact that many of the raw materials and finished products it discusses are not even manufactured in the US. If the US auto industry fails, steel producing countries will still be able to regulate and determine the cost of steel globally. They will still be able to create artificial shortages at will and to implement and utilize tariffs and trade restrictions to inflate prices. And our hypothetical US sneaker manufacturer and construction business will still be competing with the world for those materials. Isnt it just as likely that the sneaker manufacturer and construction business that benefit from the fall of the US automobile businesses and any greater availability of resources will, in fact, be in Taiwan or Mexico or Malaysia or the Philippines as in the US? While we can ensure that demand for these raw materials stays in the US with a bailout, a failure to bail these businesses out offers no such assurance.
Finally, this argument doesn't at all address two side-effects: the effect on the labor market of the failure of automobile businesses and the effect on American consumers. Tell me: where is this phantom sneaker business and this phantom construction business right now, when unemployment is high? According to this argument, those and other phantom businesses should be snatching up workers since the cost of labor has dropped due to lesser demand and greater supply. Is there some magic level of availability at which labor becomes so inexpensive that employment rises again? If so, wouldn't there also be some magic level of steel demand and rubber demand and how can we tell that bankrupting America's auto industry will bring us to that magic level? Or, like labor, will the cost simply plummet without any big buyers stepping forward? In any case, the effect on labor will immediately be that the entire country has outsourced automobile manufacturing. Will this benefit either American labor or consumers? Perhaps foreign manufacturers will build more plants here, but perhaps they will build in Mexico. In the years intervening until those plants are built, won't the price of cars increase and won't all of those GM, Ford, and Chrysler employees simply be unemployed? And, when the dust settles, whether or not foreign manufacturers build those plants in the US, the US will have lost its ability to compete and thereby will have lost its ability to help regulate prices in the auto industry. Like OPEC and the sneaker industry and the steel industry, we will be subject to foreign nations' determination of what cars should cost. Thats the end side-effect on American consumers. It could be great, but it could also be disastrous.
As I said, Im no economist, but this argument implies that, while Bailouts, tax breaks, price restrictions, and so forth, never create new, real resources, but only re-distribute existing resources from some economic actors to others, a failure to bail out a business somehow does magically create new, real resources. No, it does not. It only redistributes existing resources from some economic actors to others. In todays global economy, we have no guarantees whatsoever that the economic actors who benefit will even be in the US. With a bailout, the US can at least ensure that the economic actors benefitting from this redistribution are American.