Policy Responses to the Depression--February 2-May 1, 2009--Part II

I turn to the remaining components of the current depression-recovery package.

(4) I argued in my book that the government was right to lend money to General Motors and Chrysler in December to avert their being forced to declare bankruptcy. The shock effect of such bankruptcies, and their potential effect on employment because more than a million workers are employed by these companies or their dependencies (dealers and parts suppliers), provided compelling reasons not only for keeping the companies from having to liquidate but also for keeping them from having to reorganize in bankruptcy, until the economy stabilized. For even if declarations of bankruptcy would not have resulted in the immediate liquidation of the businesses and thus the sale of their assets at distressed prices and the laying off of almost all their employees, the effect on consumer morale and willingness to buy cars from bankrupt companies might well have been profound. It was not worth taking that risk. The government bailout moneys thus purchased a kind of insurance policy against macroeconomic calamity.

The bailout worked. At a relatively modest, though by ordinary standards very large ($17 billion), cost to the government, the auto companies were kept out of bankruptcy until the acute psychological phase of the economic crisis had passed. Last December, and indeed until sometime in March, government officials, the media, and the public were understandably fearful that the economy was in free fall and might land somewhere near where the economy had landed in March 1933 (25 percent unemployment, output 34 percent below the GDP trend line, 18 percent deflation). Such a fear can constitute a self-fulfilling prophecy, because by causing consumers and producers to hoard cash rather than to spend, it can push the economy into a very deep downward spiral. That fear has now abated. Moreover, General Motors and Chrysler (and Ford as well) have in fact partially liquidated since December, closing many plants and laying off (for good, probably) many hourly and salaried employees, and terminating many dealerships. As a result of these drastic measures (but spread out over months, which reduced their psychological impact), the incremental shock effect of the auto companies' declaring bankruptcy has diminished greatly. And government promises to back any bankrupt automaker's warranties have begun to sink in and reassure consumers. Chrysler has just declared bankruptcy and GM may follow suit in a matter of weeks, yet the perturbation caused by the bankruptcy of the one company and the prospect of the bankruptcy of the other has been slight.

Concern has been expressed that, subject to possible modifications by the bankruptcy judge, Chrysler will be controlled by the United Auto Workers and therefore managed inefficiently, as worker-managed firms typically are. But it is not true that the UAW will manage Chrysler. Not the union, but the Chrysler retirement plan, will be a shareholder in the reorganized company (in fact the principal shareholder), and it will have a fiduciary duty to maximize shareholder value rather than to increase the earnings and benefits of the current workers. More important, whether Chrysler is managed efficiently or inefficiently has little macroeconomic significance. It is an unimportant company in a highly competitive global industry. If it is inefficiently managed it will disappear and its place will be taken by better-managed rivals in the United States and abroad. GM is bigger but its gradual disappearance would have no greater consequence for the economy as a whole.

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Richard A. Posner

Richard Posner is an author and federal appeals court judge. He has written more than 2500 published judicial opinions and continues to teach at the University of Chicago Law School. More

Richard A. Posner worked for several years in Washington during the Kennedy and Johnson Administrations. He worked for Justice William J. Brennan, Jr, the Solicitor General of the U.S., Thurgood Marshall, and as general counsel of President Johnson's Task Force on Communications Policy. Posner entered law teaching in 1968 at Stanford and became professor of law at the University of Chicago Law School in 1969. He was appointed Judge of the U.S. Court of Appeals for the Seventh Circuit in 1981 and served as Chief Judge from 1993 to 2000. He has written more than 2500 published judicial opinions and continues to teach at the University of Chicago Law School. His academic work has covered a broad range, with particular emphasis on the application of economics to law. His most recent books are How Judges Think (2008), Law and Literature (3d ed. 2009), A Failure of Capitalism: The Crisis of '08 and the Descent into Depression (2009). He has received the Thomas C. Schelling Award for scholarly contributions that have had an impact on public policy from the John F. Kennedy School of Government at Harvard University, and the Henry J. Friendly Medal from the American Law Institute.

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