Too many cars?

There is an important parallel between the housing crisis and the crisis that the American auto manufacturers find themselves in.  Each has too much inventory which is driving down prices and threatens the long-term viability of each manufacturer.  Why shouldn’t the solutions be similar?

In the housing industry developers overbuilt — each trying to get in on the boom while it lasted.  When the bubble burst and increasing numbers of people found themselves unable to pay their mortgages, sellers outnumbered buyers and as a result, prices started coming down.  That cycle in turn caused problems for other home owners and for mortgage lenders as the amount owed on many homes exceeded the market price and the ability of home-owners to repay.

One part of the solution was for the developers to stop building, which to a large extent they have done.  The last estimate I saw claimed more than one year’s inventory of homes are still on the market.  Until people feel the prices have bottomed out and it’s safe to buy, it will remain difficult for the housing market to recover to the point where developers might once again think about building more houses, apartments and condos.

Some developers in the meantime have gone out of business. Others have laid off a large percentage of their workforce.

Now let’s examine the auto situation.  As in the case of home builders the capacity for producing cars outgrew demand.  Manufacturers thought the boom would continue forever.  They didn’t take into account the fact that cars are built better today than ever before and therefore last longer and they didn’t foresee the increase in the price of gasoline.

Thus, today there is a glut of unsold vehicles sitting on lots at the dealers and at manufacturers.  As a result manufacturers are cutting prices in an effort to get rid of that inventory, but the public is hesitant about buying and when they want to buy many find it difficult to get auto loans at decent interest rates.

The auto manufacturers are in the process of reducing capacity.  That is good. It shows that they are still capable of some degree of rational thought.  Meanwhile, however, President-Elect Obama and the Democratic Party want Detroit to start manufacturing the car of the future.  That puts the big three in a bind.

The auto manufacturers have a big problem. They need to remain profitable in order to survive.  Today they are losing money at a rate that defies the imagination.  For GM this fall it’s been $2 billion a month. To restore profitability means Detroit must continue to sell the cars they already have in inventory or in production.

The time needed to produce radically new cars — whether hydrogen-fueled or electric or cars propelled by using large rubber bands that you have to twist tightly like the toy airplanes we played with as children — is years off.  Detroit will not be capable of producing such vehicles profitably for 5 to 10 years at best.

Few believe that the $25 billion they already have received from the government to increase mileage coupled with the $25 billion they say will get them through this crisis will do the trick.  They assumes a lot more sales of SUVs than they have any reason to believe they can sell…even if the price of gas stays under $2/gallon, which it will not.

The cost to society when one developer fails is relatively small.  A few dozen people may lose their jobs. When 100 developers spread across the country close, it’s still a manageable event.   If an auto manufacturer fails, the number of jobs lost would be greater and certainly Michigan would be hit much harder than any other state.  Yet why should we assume that the solution is to sell more cars?

If Detroit stopped manufacturing cars for one year, car buyers would not have to walk to work or to the mall.  There is enough inventory of unsold new cars, enough capacity available from non-US manufacturers and enough used cars so that the car buyer might not be able to get the exact model she or he wants, but a car would be available at an affordable price.

What would happen to Detroit?  What if they the majority of their plants and put most of their people on unemployment, but took the $50 billion in our tax dollars to develop the cars of the future with a goal of resuming production in five years?  By focusing all of their resources on the development of new cars they would move ahead of Toyota, Honda and their competitors who are also in the race to build those wind-up cars of the future.

The cars those companies produced could restore the US as the center of automobile manufacturing and give the big three a chance to regain their lost market share.   If it’s right for the housing industry, why isn’t it right for Detroit?

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