Mobilizing American Industry for War

The Wall Street Journal

As America mobilizes for war, Washington must think more clearly about what it wants from American industry. K Street is ablaze with proposed subsidies, loan guarantees, tax breaks, and regulatory relief for industries termed "vital" to the anti-terrorist effort. In war-fevered Washington, politicians of all stripes may be too eager to accommodate.

The airline bailout was notable not only for its size (its price tag exceeding the combined market value of United, American, Delta, Northwest, US Airways, America West, and Continental), but also the speed and near-unanimity with which it was granted. Senator John McCain warned his colleagues that "[i]f we don t act soon, I m afraid that it will be even more difficult to resuscitate this key industry in the future."

The attack has also fueled efforts to protect the American steel industry from lower-cost imports. Noting the renewed importance of steel to national security, Commerce Secretary Don Evans pledged last week that the administration will "diligently" pursue allegations that foreign producers have injured U.S. steel makers.

Legislation is being readied to help the insurance industry. Insurers say they can handle the estimated $40 billion in losses from the attacks, but need government assistance for dealing with risks of future attacks. Meanwhile, Republicans are repackaging their energy bill, which includes drilling in the Arctic National Wildlife Refuge, as a national-security initiative. And proponents of the new farm bill are using the attack to make their case for lavish price supports; Representative Terry Everett, an Alabama Republican, describes it as an anti-terrorism measure providing a "safety net" essential to "America s national security."

The public is understandably concerned about the effects of terrorism on our nation s economy, and the need to keep industry strong in order to keep us secure. But many of the arguments used to justify subsidies or protections are misguided, and some are patently cynical. And while the terrorist attack has imposed serious losses on particular industries, the losses themselves don t justify government handouts.

Part of the confusion stems from a failure to distinguish between an industry s capacity and its companies. The sharp drop in demand in the wake of September 11 has imperiled balance sheets, but it hasn t reduced capacity. On the heels of the attack, US Airways Group chairman Stephen Wolf warned that "the entire U.S. aviation system is in jeopardy," but he was wrong. Whatever might have happened to the airline companies, America s "aviation system" -- comprising aircraft, telecommunications equipment, pilots and crews -- wasn t about to disappear. Aircraft wouldn t have turned into automobiles, pilots and mechanics wouldn t suddenly become financial advisors.

Bankruptcy was looming for the airlines, and still threatens companies in many industries. But bankruptcy isn t the end of the world; it s a process for reorganizing financial obligations and, as a last resort, selling off assets. Bankruptcy doesn t destroy an industry s capacity, although it may redistribute that capacity -- delivering physical assets to new owners and causing workers to shift to new employers. Over the last several decades, aircraft have been repainted with the logos of new owners; pilots and crews have donned new uniforms. The steel industry, to take another example, practically lives in bankruptcy court. The terrorist attacks may spur further restructuring of capacity in troubled industries. There s no reason to suppose that bailouts would do a better job of it than bankruptcy proceedings.

Prior to the attack, as the American economy slumped, more and more of the nation s productive capacity was idled -- but it wasn t destroyed. Airline companies were experiencing their worst year in a decade, with $2.5 billion in potential losses. Steel making was also in the doldrums; at least ten steel makers were in bankruptcy. That the attack led to a further drop in demand is no reason why taxpayers should come to the rescue. In 1992, the double-whammy of recession and the Persian Gulf War caused the U.S. airline industry to post a net loss of $4.8 billion as potential passengers stayed home, but no one seriously suggested a taxpayer bailout. To be sure, part of the loss this time was due to closure of the nation s airports for at least two days. Yet government often closes public facilities and thoroughfares when safety is at stake -- fires, broken water mains, gas leaks -- without compensating businesses for consequential losses.

The insurance industry has a somewhat stronger case. It s not seeking compensation for terrorist-induced losses, nor protection against future losses that it could otherwise cover. It wants protection against possible future claims so large and unpredictable as to be difficult to assess in advance -- in effect, a new capacity it can t provide. Yet some skepticism may be appropriate here as well. After all, insurers are in the business of assessing risk and setting premiums accordingly; it s hard to imagine why no insurer or reinsurer is capable of doing this for future terrorist attacks.

A second confusion stems from failure to distinguish between a temporary drop in demand -- in this instance, due to an act of war -- and permanent overcapacity. If people are scared to travel for the next few months, assets like aircraft and hotels will remain idle until travelers courage returns. There s no reason to subsidize companies shareholders and creditors in the interim. To be sure, employees and communities especially hard hit may need some help to tide them over, such as extended unemployment insurance or disaster assistance. Yet none of the bailouts or protections already granted or under consideration includes such provisions. To the contrary, having received a bailout, the airlines promptly announced that over 100,000 of their employees would be sacked. The steel industry, even while seeking a new round of protection, has shed thousands of steelworkers.

On the other hand, if an industry has too much capacity, relative to the long-term demand for its goods or services, it s got to shrink. Productive assets should be turned to other uses or sold for scrap. Employees need retraining for jobs in different industries; some may have to relocate. Under these circumstances, government bailouts or trade protections have the perverse effect of postponing the day of reckoning, and slowing the necessary shift of resources and people out of the industry. If a significant percentage of Americans decide they never want to fly again, there s no reason why taxpayers should indefinitely subsidize more of an aviation system than passengers want. And if the industry is to consolidate further, investors and consumers are better positioned to determine which airlines should survive than a government board doling out loan guarantees. Public funds could be put to better use helping airline employees find new jobs outside the industry, get retraining, and relocate themselves and their families.

America s steel industry faces chronic overcapacity due to the productivity of new mini-mills, new materials such as hard plastics that have taken the place of steel, and a high U.S. dollar that s made foreign steel especially cheap. By most estimates, global steel makers are able to produce as much as 300 million more tons of steel than global buyers are prepared to buy. Protecting U.S. steel makers is a zero-sum game that only prolongs the agony, and distracts attention from the important task of helping workers and communities move out of steel. America s agricultural sector also suffers overcapacity, largely because our farmers are the most productive in the world. Lavish farm subsidies, such as those contained in the new farm bill, won t make the nation more secure. They only stimulate even more production, inflate land values, and make it more difficult for developing nations to export food to us, thus perpetuating world poverty.

Some proponents of subsidies or protections argue that America should have more capacity within its borders than the market demands, or risk not having enough oil, food, steel, jet airplanes, or other "vital" assets during wartime. But how much domestic capacity? And what s "vital?" As a practical matter, we can better reduce the risk by not becoming too dependent on imports from any one country or region, and stockpiling certain critical reserves, such as oil. The military itself doesn t require very much domestic capacity. Last year, it accounted for less than one-tenth of 1 percent the U.S. steel industry s deliveries. Even at the height of the Vietnam War, steel deliveries to the military accounted for just 1.9 percent of the total.

Finally, even if we d feel more secure with certain capacity inside the United States, subsidizing or protecting American-owned businesses is hardly the most efficient way to get it. American companies are developing capacity all over the world. During the week immediately after the attack, even as United Airlines was warning Congress it faced imminent bankruptcy without a cash infusion, its parent company was wiring $11.25 million to a French airplane manufacturer as down payment on an order of thirty luxury business jets, each of which will cost about $20 million. The purchase is United s prerogative, of course. Its business is to maximize the value of its shares, not to maintain jobs or aircraft-manufacturing capacity in the United States. But the transaction should at least raise the question of what public purpose Congress and the President thought they were achieving by bailing out the industry.

That we are at war and face terrorism, and that various American industries are simultaneously in financial trouble, raises the stakes of the current crisis. But high stakes are not, in and of themselves, sufficient grounds for subsidizing or protecting American industries seeking help. Even in times like this -- especially at times like this -- the first responsibility of our representatives in Washington is to ensure that the public interest is being served, and to recognize that the public interest is not necessarily the same as the profitability of American companies.

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