Seeking Alpha
Macro, long/short equity, economy
Profile| Send Message|
( followers)  

By Karl Smith

By Adam Ozimek

Karl responded to my request for a GM bailout proponent to analyze a BP bailout, and he highlights some crucial differences between the two scenarios. By the commodity nature of oil, a BP competitor would know they could take over BP wells and immediately keep pumping, and not face as much uncertainty as a potential buyer of a GM plant would. This is a big point in favor of GM vs. BP.

Karl also argues:

…all three US manufacturers were tied together through the supply chain. This not only magnifies the intensity of a collapse but also has unique consequences for labor. US manufacturers used UAW labor while foreign manufacturers do not. This makes the two imperfect substitutes and would have contributed significantly to a difficult transition.

With respect to the supply chain impacts, that depends on whether the bankruptcy disrupts the supply of oil enough to affect prices. A disruption in the supply chain of oil would be much worse than one in autos because oil is non-durable, so you can’t just use yesterday’s oil again today like you can with a car, and because it’s an input into almost every industry and product. James Hamilton has presented persuasive empirical evidence that oil shocks can cause recessions, while no such evidence exists for auto shocks. Regarding the UAW issue in this paragraph, I’m not sure why defunct union status would add frictions to hiring for whoever buys GM’s factories and brands. I suspect that former union workers would probably pretty quickly accept new jobs at lower wages. It’s not like the alternative employment prospects in the rust belt present many alternatives.

He also argues that because oil is a classic perfectly competitive product, the market should respond without problems:

BP on the other hand produces the classic perfectly competitive product. It's completely fungible. Its' traded on an exchange. It has a healthy futures market. It's exactly what a textbook economic product should look like. Shortages will be sorted out in the markets, prices will respond and equilibrium will be restored.

As Hamilton shows, though, high oil prices can cause serious macroeconomic problems. The key question, I think, is whether a BP bankruptcy has any chance of disrupting oil production enough to cause a significant spike in prices. As Karl points out, the commodity nature of the product suggests that new owners could keep pumping and selling oil without much of a problem. However, I can imagine scenarios where supply would be disrupted. When Texaco went bankrupt in 1987, credit and supplies were being cut off:

In an affidavit filed in a Texas appeals court, Texaco outlined in detail the pressures it was under. Chase Manhattan had demanded that Texaco maintain new minimum balances in its accounts before the bank would transfer funds to satisfy commercial obligations. Worse, Manufacturers Hanover Trust had canceled a $750 million line of credit.

At the same time, some of Texaco’s suppliers were refusing to do business, or setting tougher terms. According to the Texaco affidavit, Venezuela’s state-owned oil companies had at least temporarily stopped pumping oil for Texaco. (Venezuela denies that it has cut Texaco off.) Southern California Edison started requiring Texaco, its largest customer, to pay its electric bill every week.

The BP bankruptcy would be inherently more uncertain because litigation damages have a much higher potential upside than Texaco’s worst case scenario of $10.2 billion. As Andrew Ross Sorkin reports, the final tally for BP could possibly (although unlikely) be in the hundreds of billions. In addition, we have an administration and a populist electorate that has shown itself willing to intervene in bankruptcy precedings. All of this could deter mergers or buyers. And selling off assets may be complicated by long-term leases, regulatory approval and other legal matters. Given all of these uncertainties, and difficulties in merging or divesting to a solution, I am not convinced that a disruption in production is not a possibility.

Karl also points out correctly that we were in the middle of an extreme credit crunch in 2008, and we aren’t right now. I grant that that is the strongest argument for the GM bailout. So my question is this: if Greece defaults or some other disaster like that occurs, and we begin once again to teeter on the brink of a credit crunch, would there then be a case for a BP bailout?

Source: A BP Bankruptcy: Case for a Bailout?