Decline of an Empire
Roger Smith ran GM from 1981 until 1990. During his reign, GM’s market share dropped from 46% to 35%. His biggest claim to fame is being the subject of Michael Moore’s first documentary Roger & Me, which was extremely critical of his laying off of thousands of employees in Flint, Michigan. He took over GM in 1981 while it was losing $750 million, its 1st loss in 60 years. Poor product quality, labor unrest and lawsuits over unsafe vehicle designs affected sales volumes in the early 1980s, which led to GM losing market share at an alarming rate to foreign automakers. In 1981, U.S. Union autoworkers responded to the Japanese threat by bashing Japanese automobiles with sledgehammers. I’m sure this made them feel better, but it was a futile and useless gesture. Smith attempted to institute Japanese manufacturing techniques, but the ingrained bureaucracy resisted change and foiled his efforts. A culture of mediocrity and poor quality led to continuous decline rather than continuous improvement. The acquisition of EDS from Ross Perot in 1984 was a failure. Perot attempted to change the culture of GM, but failed. Perot liked to say that getting GM moving again was like teaching an elephant to dance.
General Motors had a chance to take a commanding lead in the mid 1990s. It developed the 1st electric car, the EV1 in 1996. Instead of taking advantage of this opportunity to change the automotive world, GM scrapped this car and destroyed all of the models. It decided the future was in trucks, SUVs, and Hummers. It continued to roll over to the unions every time a contract came up for renegotiation. This ultimately led to an average hourly labor cost of $73.26 for GM by 2006, a 65% premium to what the Japanese pay their autoworkers.
GM sold its soul to the devil of debt and high margin, low mileage vehicles. SUVs generated a profit of $10,000 to $15,000 per vehicle, even with GM’s bloated cost structure. Rather than improve its assembly line efficiency, product design & quality, or solidify its balance sheet, it chose to use its GMAC subsidiary to make loans to subprime borrowers at 120% of the car’s value. After 9/11, GM showed its dedication to the flag by giving cars away with 0% financing. Amazingly, when you provide 0% financing to people with 550 credit scores you can sell millions of Escalades and Hummers. While Rome was burning GM management continued to fiddle. There hundreds of Presidents, Vice-Presidents, and Directors continued to fly around in their fleet of 7 corporate jets. As Rick Wagoner and his top cronies secluded themselves in executive suites on the 14th floor of their palatial headquarters, eating steak and lobster in their executive dining room, served by minions, GM was rotting from within.
Giving away cars for free was so successful, GM decided to parlay its expertise into giving homes away for free. It 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% 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 it can continue to allow GM to sell more cars at a $2,000 loss per car. No need to worry, it's hired some Wall Street wizards from Citicorp who have figured out that they can make it up on volume. Paul Kedrosky recently provided a fascinating look at how two decades of profits could be wiped out in seven months. With 260,000 remaining employees, the end is near for this fallen giant.
Source: Paul Kedrosky Infectious Greed
A corporate governance study at ragm.com sums up the reasons for GM’s decline.
The history of GM is an instructive story in how success can breed failure; how being the biggest and the best can lead to arrogance and an inability to adapt. GM was the premier car company in the world for so long that it failed to see the need for change. The company was so used to being leader that it couldn’t contemplate following others. It was this mindset, this overwhelming belief that it was GM’s divine right to be the most successful automobile company on earth that condemned the company to two decades of disaster. When GM did finally see the need to adapt, it did so with wild ineptitude, spending tens of billions in the 1980s for little reward.
General Motors has lost $72.5 billion in the last three years. Why is the American taxpayer propping up this failed entity?
Long Road to Ruin
Bill Gross, one of the wisest and deepest thinkers in the financial world, wrote a report in May 2006 that compared the plight of GM with the plight of the United States. Mr. Gross’s words of almost three years ago ring even truer today.
I think it is important to recognize that General Motors is a canary in this country’s economic coal mine; a forerunner for what’s to come for the broader economy. Their mistakes have resembled this nation’s mistakes; their problems will be our future problems. If the U.S. and General Motors have similar flaws and indeed symbiotic fates, they appear to be conjoined primarily by the un-competitiveness of their existing labor cost structures and the onerous burden of their future healthcare and pension liabilities. Perhaps the most significant comparison between GM and the U.S. economy lies in the recognition of enormous unfunded liabilities in healthcare and pensions. Reportedly $1,500 of every GM car sold in dealer showrooms goes to pay for current and future health benefits of existing and retired workers, a sum totaling nearly $60 billion. The total future healthcare liability for all U.S. citizens can be measured in the tens of trillions.
General Motors failed to find a solution to its problems. CFO Fritz Henderson admitted in 2006 that, “I have a social security system hooked to our balance sheet.” The reason he had a social security system hooked to his balance sheet was because previous management had made commitments that could never be kept in the long run in order to keep the party going in the short run. Sounds like GM management would do extremely well in government jobs.
The United States peaked as a manufacturing economy in 1960, with manufacturing employees making up 26% of the workforce. They now make up less than 10% of the workforce. Total manufacturing jobs peaked at 19 million in the late 1970s and now have plummeted below 14 million and continue to fall. 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%, devalue the currency, and encourage further borrowing. Sounds like choices made by GM in 2001. The Sage of Omaha, Warren Buffett explained the dilemma.
In effect, our country has been behaving like an extraordinarily rich family that possesses an immense farm. In order to consume 4 percent more than we produce — that’s the trade deficit — we have, day by day, been both selling pieces of the farm and increasing the mortgage on what we still own.
The mortgage is now due.
Source: US Census Bureau
Uncompetitive Labor Costs
By devaluing the currency and producing never ending inflation while manipulating the CPI statistics to understate true inflation, the government and Federal Reserve attempt to keep America competitive through gimmicks rather than hard work and sacrifice. When the country produced products that the world wanted, median family income rose at an annual rate of 3.7% 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.
American families will see their real household incomes plunge in the coming years to 1970 levels. The backlash against immigrants, both legal and illegal is likely to intensify over the next few years. The decades of allowing our economy to be hollowed out and shipped to China is coming home to roost. Besides weapons and movies, what does America produce that anyone wants? Our financial geniuses have essentially brought down the worldwide financial system by selling foreign countries MBSs, CDOs, etc. That 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.
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.
Let’s See How Far We’ve Come
The lyrics to the Matchbox 20 song "Let’s See How Far We’ve Come," describe the country’s $56 trillion unfunded liability dilemma.
I believe the world is burning to the ground
Oh well I guess we're gonna find out
Let's see how far we've come
Let's see how far we've come
Well I, believe, it all, is coming to an end
Oh well, I guess, we're gonna pretend,
Let's see how far we've come
Let's see how far we've come
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 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. There is one thing I am sure of. The deficits projected by the CBO over the next four years will be hundreds of billions higher. They haven’t taken into account emergency stimulus packages 2 & 3.
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%, devalue the dollar, and hope for the best. The U.S. depends on foreigners to buy more than 50% 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% while telling them that we will pay them back in dollars that will be worth 30% less in the next five years. Even a Wall Street CEO could figure out this isn’t a good investment. The U.S. will default on this debt. It is just a matter of when.
Bill Gross laid out the choices for the U.S. in 2006.
How are we to pay for this future burden of healthcare and social security expenses? Aside from contractual legislative changes to both areas (which are surely just around the corner), the way a reserve currency nation gets out from under the burden of excessive liabilities is to inflate, devalue, and tax.
The U.S. is hard at work on inflating and devaluing, while Mr. Obama is working on the details of the taxing. The Burning Platform for GM has already collapsed. The Burning Platform for the U.S. is a ten alarm fire. Collapse is imminent, unless a leader with guts and courage is willing to lead the U.S. back to fiscal sanity. If you believe in fiscal sanity, please join me at TheBurningPlatform.com.
Disclosure: No position.