Ford Canada Receives a $80m Handout, Cuts 500 Jobs

On September 3rd (with a federal election looming) Steven Harper announced his Government’s decision to “invest” 80 million dollars into Ford’s future. Everyone looked happy: The Government of Ontario, the Opposition, the CAW… The Opposition and the CAW said that this decision was long overdue. Canada‘s Industry Minister Jim Prentice claimed that this “investment” will help make the Canadian automobile industry more competitive and will “create or sustain” up to 750 jobs. A week later came another sobering announcement: Ford announced the elimination of one of its shifts and the layoff of 500 workers from the same plant where Jim Prentice had made his announcement the week before.

What went wrong? What exactly did the government pay $80m for? It is understandable why the CAW would lobby to save the jobs of its members, but politicians should have taken the interest of the broader public into consideration. Who will benefit from the $80m that Canada gave to Ford, and who will be the losers?

  A subsidy, not an investment  

To start, let’s get the facts straight: The claim that the $80m given to Ford was actually an investment does not stand to much scrutiny. When investing, you get an asset in return: You buy shares, and you get equity in a company. Buy real estate, and you get a house, land, etc. The Government of Canada did not acquire equity for its $80m. Apparently, it did not even get a promise from Ford to keep workers employed for longer than 10 days.

  

If the Government of Canada did not acquire anything, then its $80m does not qualify as an investment. If it is not an investment, then it is a plain old-fashioned subsidy. There are a number of practical reasons why subsidies are bad for the economy, but here are the perhaps most important ones:

  

  1. Subsidies distort free markets, by rewarding losers, curbing competition, and giving public taxpayers’ money to private investors. This is nowhere more obvious that in this particular deal. Take Toyota and Volkswagen as examples. They surpassed Ford in size thanks to their ability (and Ford’s failure) to understand the world’s consumers and produce competitive and innovative technologies that appeal to them. They carved out this advantage for themselves by investing the money of their private investors. Ford didn’t and is now trying to catch up – partially by investing the money provided of Canada‘s taxpayers. If you are a Canadian taxpayer and you hold shares in Toyota or Volkswagen, you have all reasons to be upset: Your money was used to create competitive advantage for the company you invested in, and your taxes are now being used to eliminate that advantage.

  

  1. Since subsidies distort competition, they amount for unfair trade practices and could trigger reciprocal penalties from Canada‘s trading partners. This is important because the Canadian auto manufacturing industry depends heavily on its ability to sell the products made here in other countries. Most cars manufactured in Canada are sold abroad, and the CAW often complains that Canada is being treated unfairly by some Asian countries like South Korea because cars made here do not receive the same access to their markets as cars made there get to the Canadian market. If the Government of Canada was hoping to ever alleviate this problem, they just shot themselves in the foot: It will be hard to convince any foreign government to grant unobstructed access to its market for products of subsidized companies, because subsidies artificially drive down the cost of the subsidized companies, thus creating an unfair (non-market-driven) cost advantage for them. Letting subsidized products into your own   market diminishes the value of investment made by your national manufacturers, and would be unfair to them.

  80 million dollars makes little difference to Ford  

$80M sounds like a lot of money to the average Canadian, but on average, Ford was burning more cash every single day of the second quarter of 2008: Ford reported   a $8.7b losses in Q2 of 2008, which translates to a loss of more than $90M per day. Earlier, in December of 2006, Ford announced that it was going to mortgage all of its assets to raise $23.4 billion in cash needed to fund its restructuring through 2009. What does this tell us?

  

Ford executives could have easily gained access to extra $80M in capital if they could convince their investors that this will solve Ford’s problems. It seems that Ford found it easier to convince the Government of Canada to cough up the cash instead: Investors – and their representatives on Ford’s board of directors – knew already that solving Ford’s problems will cost a lot more than $80 million. They knew that because they understand well the reasons behind Ford’s problems go far beyond lack of cash.

  Poor choices made in the past are behind Ford’s problems today  

Indeed, the fundamental reason behind Ford’s decision to eliminate jobs has nothing to do with shortage of cash. Ford is cutting production capacity because its market share has declined. Ford simply sells less cars now than they did 10 or 20 years ago, so they don’t need the manufacturing capacity that they have built up in better times. This is a long-term trend that cannot be reversed easily.

  

The reason why sales of Ford vehicles have been in a steady decline in recent years is that Ford as an organization has failed to see the direction that their market was taking and adapt to new trends.

  

Ford (together with GM and Chrysler) worked hard to resist the environmental revolution in car manufacturing, and little to adapt to it. Less than a year ago, Ford, GM, and Chrysler were lobbying the US Congress against proposed legislation that would have obliged them to achieve a fleet-average fuel consumption of 35 miles per gallon (mpg) by 2020, claiming that it could not be done. In the 90’s, while Toyota and Honda were working hard on improving the technologies behind their hybrid vehicles, Ford, GM, and Chrysler were spending their cash on convincing North American consumers that they actually “need” large, gas-guzzling living-room-on-wheels-type trucks and vans that are typically sold at higher profit margins. When they finally succeeded, the likes of Honda and Toyota were quick to enter into the lucrative market for larger vehicles as well, because Ford and GM had failed to build a compelling technological advantage that would keep them ahead of their competitors. Now Ford is paying the price for its failures.

  

But the problems of Ford did not start in the past year, or even a decade ago. They started long ago. Ford has been loosing the confidence of the average consumers for decades, by bringing products on the market that consumers did not like. At the time when Honda came up with its first Civic model, Ford was offering its notorious Pinto as an alternative. In more recent years, Ford was satisfied to offer its Taurus model as an alternative to Honda Accord and Toyota Camry. Perceived poor quality and reliability issues drove down the residual values of several year old Ford vehicles, making it a fraction of comparable Toyotas and Hondas. Ford seemed to focus on finding innovative financial solutions to attract buyers, instead of revamping their products and processes to make them more competitive. Many shoppers who bought new Ford vehicles lived to regret their choices and ended up defecting to Ford’s competitors.

  On balance, the Ford subsidy will not create jobs  

If the reason behind Ford’s decision to cut manufacturing capacity is that it cannot sell the cars it manufactures today, then giving money to Ford accounts for nothing more than an incentive to shut down factories in other countries that cannot – or will not – pay the same amounts. Ford will still have to cut manufacturing capacity, it will just not be in Canada this time around.

  

Long-term, however, to avoid axing the production capacity in Ontario in the future, the $80m that Canada is giving to Ford need to somehow change the worldwide trend and make people buy more Fords made in Canada.

  

Let’s look at the best case (though admittedly unlikely) scenario and imagine that the $80M of Canada‘s taxpayers goes into a productive research and development activities that produce a technological break-through. Ford’s sales soar high and the company needs to expand capacity. What will happen then?

  

First of all, it is not at all clear that Ford would manufacture in Canada all the Fords that consumers would suddenly need. Technological know-how is easily transferable between different divisions of the same company, and Ford will manufacture its vehicles in a location where manufacturing makes the most economical sense – and not necessarily in the location where a technological breakthrough originated. Given the high salary levels in Canada compared to other countries, it may make sense for Ford to keep only its engineering activities in Canada but move the manufacturing to other less expensive countries. This will hardly help the majority of Ford’s workers.

  

And even if Ford managed to start selling more cars and decided to make those in Canada, chances are that this would not be due to global demand for cars increasing, but rather because of people choosing to buy Fords instead of buying, say, GM, Toyota, or Honda vehicles. This will be bad news for workers at GM, Toyota, and Honda factories worldwide – and this includes the thousands of workers in Ontario.

  

Ford’s workers may keep their jobs, but other workers will loose theirs. The CAW union would probably not be too concerned because Toyota and Honda are not unionized – but the Canadian government should be.

  The subsidy amounts for unequal treatment of taxpayers  

When announcing the deal, Mr. Prentice said that this move will “create or sustain” 750 jobs. If we assume that for each job in the Auto industry, 4 jobs are created in supporting industries, then the move will “create or sustain” no more than 4,000 jobs in total. This calculation is based on the very optimistic assumptions that Ford will choose to deal with Canadian suppliers instead of foreign ones. Ford has never made such commitment (neither should it be expected to), so it is not clear if the 1:4 ratio will even apply in this situation.

  

So the government of Canada paid more than $20,000 (likely a lot more) for each job it claims this move might create or sustain. If invested properly, this amount would be enough to help the people who would be laid off by Ford to get retrained and enter careers in more competitive industries.

  

Tens of thousands of people in Ontario lost their jobs in the past few months, and the assistance that the vast majority of them will receive from the Government of Canada is worth far less than $20,000. It is not fair for the Government to give preferential treatment to certain group of people at taxpayers’ expense just because they were lucky enough to be employees of Ford. It is fundamentally wrong for the Government of Canada to spend a vast amount of tax dollars on protecting the jobs of a few selected individuals, knowing that it cannot provide the same level of protection to other taxpayers.

  Manufacturing cars in Canada makes less economic sense than it did decades ago  

The history of the auto manufacturing industry in Canada also can provide some hin of what is to come. To predict the result from the subsidy that Canada is granting Ford, we need to understand what drove the auto manufacturing industry to invest so heavily in Canada in the first place.

  

In the 50’s and early 60’s, Canada‘s largest industry was pulp and paper manufacturing. Automobiles manufactured in Canada were made mainly to be sold locally. In 1964, only seven percent of vehicles made in Canada were sent to the United States, and only 3% of the cars sold in Canada were imported from the United States. Since most of the parts used to manufacture cars in Canada were made in the United States, overall, Canada was in a large trade deficit with the United States in the automobile sector.

  

The Automotive Products Trade Agreement (APTA) signed in January of 1965 changed all that. APTA removed tariffs on automobiles and automotive parts between the Canada and the US, and General Motors, Ford, and Chrysler made a commitment that automobile production in Canada would not fall below 1964 levels and that for every five new cars sold in Canada, at least three new ones would be made here. By 1968 – only 3 years later – 60% of all Canadian made vehicles were sold in the United States, while 40% of all cars sold in Canada were made in the United States. Thousands of jobs were created in Canada. The automobile industry quickly surpassed the paper and pulp manufacturing industry to become Canada‘s biggest.

  

When car manufacturers – including Ford – invested into building up and expanding their manufacturing facilities in Canada after 1965, their decision was driven largely by the fact that the cost of labour here was lower than in the United States. The jobs that were created in Ontario were jobs that would have probably gone to Michigan, Ohio, and perhaps New York state, had these not been too expensive compared to Canada. Luckily for Canada, the US did not reverse its decision and restrict access to its market for cars made in Canada.

  

Thanks to a great extent to the investment that car manufacturers made in Canada, the economy grew, and Canadians became richer. The fact that Canada was exporting more than it was importing resulted in the appreciation in the value of the Canadian dollar in recent years. The gap between labour cost in Canada and the United States evaporated. For a while, Canada managed to maintain its competitive advantage by improving its productivity and infrastructure, but as wages and life standard kept rising, the competitiveness of Ontario as a car manufacturing location eroded.

  

The world’s markets opened gradually over the past decade, and the same forces that brought the car manufacturers to Canada are now motivating them to look into countries that offer access to cheaper labour, such as Mexico, Brasil, Malaysia, China, India, etc. Complaints that those countries are “stealing” the jobs of Canadian workers (as some CAW members have claimed publicly) and calls for the Government to interfere sound unserious and are unlikely to be met with much sympathy abroad. Canada benefited greatly from attracting the thriving automobile industry in the 60’s, and replacing the ailing paper and pulp industry. Had the government of Lester B. Pearson focused on saving the paper and pulp industry instead of attracting the automobile industry, we would probably not be as prosperous as we are today. The automobile industry played an important role in the development of Canada‘s economy, but its role is now coming to an end. The Government of Canada needs to spend its money and energy more wisely on finding and attracting the next big emerging industry. It is time to stop trying to save the industries of the past, and focus on building up those of the future.

  

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