Thursday, November 20, 2008

Auto Bailout: Throwing Good Money After Bad

There is a big difference between the financial crisis and the plight of U.S. automakers. The financial crisis affected all financial institutions everywhere. U.S. automakers are being crushed by foreign competition. The financial crisis is definitely making things far worse for U.S. car companies, but the fundamental problem is that Asian companies make better cars.

I’m not necessarily arguing against some sort of assistance for the U.S. auto sector, but it has to be with an eye toward becoming competitive. Unless GM, Ford, and Chrysler start making better cars, they will keep coming back to government looking for more handouts.

Some people dispute the fact that Asian cars are generally better than American cars. This is largely patriotism rather than reason, but let’s examine it anyway.

It is actually quite challenging to find unbiased information about car quality. Almost everything written in magazines and newspapers about cars is heavily influenced by the auto industry. The best source of real information I’m aware of is Phil Edmonston’s Lemon-Aid books that come out each year. (Disclosure: I have no affiliation with Edmonston other than having bought a few of his books.)

The Lemon-Aid guides rate all cars on a scale from one to five stars. I have the 2002 and 2007 editions for new cars and minivans, and I collected the ratings for all American and Asian cars. Here are the results:

This is a huge edge for Asian cars over American cars. Unless a bailout comes with a realistic plan to become competitive in car quality, the U.S. government is just throwing good money after bad.

This brings us to the reason for American car companies being uncompetitive. One guess is that U.S. car companies have ploughed money into advertising at the expense of designing better cars. This may be a symptom rather than the underlying problem. Some commentators blame the unions for high costs and low productivity. I don’t know if this is true or not. If it is true, then lawmakers should make some tough decisions and solve the problem before giving out money to failing companies.

There is no doubt that if any of the big three U.S. automakers fail it will cause huge problems for the economy. However, a bailout without a plan to become competitive is a step toward a planned economy where subsidies suppress innovation.

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