Wednesday, May 11, 2005
Average Taxpayer Once Again Takes The Hit
Posted by Ned under EconomyCalifornia taxpayers were left holding the bag for the corporate greed at Enron. The same is about to happen on a much larger scale with airline pension plans. In 2002, the established airlines were hit by a sudden drop in revenues (post 9/11) and, because they were highly unionized, they couldn’t reduce their costs fast enough. The federal government set up the Air Transporation Stabilization Board to give the airlines loan guarantees so that they would have more time to sort out their problems and avoid bankruptcy. But the major airlines sent their lobbyists to Washington to campaign the Board to reject United’s request for $1.8 Billion in guarantees. United was the weakest of the majors and the rest thought this an excellent opportunity to reduce competition. The Board agreed that United was too risky and turned them down. United immediately went into bankruptcy.
Yesterday, the Federal Bankruptcy Court in Chicago allowed United to terminate its pension plans. United’s payments into the plans over the next five years would have been $3 Billion. United couldn’t afford that so the court cancelled the obligation. That’s not all. United’s unpaid pension plan obligations are a total of $9 Billion. So what happens now? Another branch of the federal government, the Pension Benefit Guarantee Corporation, will now pick up those pension obligations. In other words, the intense lobbying by the other airlines to eliminate a competitor, that saved a potential $1.8 Billion loss on a loan guarantee to United in 2002, has now cost the goverment $9 Billion.
And that’s only the beginning. Do you know who invented this trick of handing off pension obligations to the federal government? USAirways. They did the same thing last year to the tune of $3 Billion and they did get a fedreal loan guarantee back in 2002. And now who’s next? Delta. Their unfunded pension liability is $5 Billion and they’re looking for ways to walk away from that. United’s win is looking like a great strategy about now, for all the majors. The total cost to the US Taxpayer could be $40 Billion.
You wonder how all this might have been avoided if, back in 2002, the discussion weren’t so focussed on short-term corporate greed. And how come the members of the Stabilization Board were so easily convinced? For democracy to work, we have to believe that our government institutions are working for our best interests. That’s not what happened in this case. Short term corporate greed won; the taxpayers lost.
Technorati Tags: United Airlines, Delta Air Lines, corporate greed, pension liabilities, Air Transportation Stabilization Board, Pension Benefit Guarantee Corporation
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May 12th, 2005 at 7:34 am
Ned,
> saved a potential $1.8 Billion loss on a
> loan guarantee to United in 2002, has now
> cost the goverment $9 Billion.
Surely you do not mean to imply that it was the absence of that $1.8 bil guarantee that did UA in? This company has been toast for, oh, five years or so; its extended agony tells more about the general ability of airlines to stay in business (viz. many a European company), than about the business of this airline. So the government would be out $10.8 bil and face the exact same situation, had it propped UA up in 2001.
May 12th, 2005 at 8:00 am
No doubt that UAL was the weakest of the majors, but it was their inability to get the $1.8 B in loan guarantees in 2002 (when all their competitors got them) that put them into bankruptcy. Being in bankruptcy allowed them to void with the stroke of the judge’s pen their pension plans. If they had stayed out of bankruptcy, which they wanted to do, they could not have walked away from those obligations. I wanted to make the point that if all the airlines and the government had worked together in 2002 to find the best long-term solution for both the airlines and the taxpayers, rather than each looking for a short-term advantage, we might have been able to save the taxpayers the horrendous costs they are now facing in funding what I’m sure will be all the airlines’ pension plans. The lobbyists won, as they always do. If that’s how decisions are going to get made, why bother voting?
May 12th, 2005 at 8:54 am
I have one word to say about the whole airline industry and how it went to hell: DEREGULATION.
May 12th, 2005 at 10:39 am
MC,
>Surely you do not mean to imply that it was >the absence of that $1.8 bil guarantee that >did UA in?
Your mixing apples and oranges. It’s not that the $1.8 bil guarantee would have saved UA, it’s that the $1.8 bil guarantee would have saved the taxpayer the $9 bil bill as a result of them being able to jettison their pension plans.
May 12th, 2005 at 11:43 am
I mix apples and oranges only when I prepare sangria. On this occasion, Joe must have misread my post.
The original point I made was quite simple. Ned implied that the opportunity cost for the government of not furnishing UA with the $1.8b guarantee is that now it has to absorb a $9b contingent liability. I argue that UA would go out of business *regardless* of whether they did or did not receive said guarantee! After all, if you have $9b to pay off and a floundering business, the ability to issue a bit more debt at LIBOR + 1% rather than at LIBOR + 8% will do you no good. UA was just not a good business proposition (what with their recalcitrant union), and deploying more capital there was useless. Given that UA had to fold, not having the government pony up $1.8b to cover the losses of moral hazard investors seems like a good thing.
Onto Joe’s own argument now. If you accept that UA could not be saved and consequently had to file for bankrupcy, I fail to see how you can go on to say that the government could have dodged the $9b liability … The pension plan was insured (perhaps “guaranteed” would be a more accurate term, since I don’t think premiums had to be paid by UA to the government) by a federal agency, and so the fact that it passes on to Uncle Sam now is an automatic consequence!
Where I agree with Ned is that it’s wrong to have political mechanisms be employed to transfer costs around intra-industry, or between industry and taxpayers. In 2001, ALL of the major airlines should have declared bankrupcy, and the government should have adjudicated a fair settlement of the pension liabilities. It would have had to shoulder much of the burden itself, no doubt, but the companies could take on a fraction of it, and the pensioners would have to tighten their belts. After all, that’s what happens to you if you make a poor decision (tying retirement income with fortunes of one’s present employer is daft, obviously). If that had happened, today we’d have 5 Southwests and JetBlues.
May 12th, 2005 at 12:15 pm
MC’s argument rests on a very big assumption: “Given that UA had to fold.” I’m not sure that is correct, even today. I think there’s even money they will emerge from bankruptcy sometime this year. I’m even less sure MC’s assumption was correct back in 2002 when fuel prices were still within historical norms. MC is using 20-200 hindsight and a particularly dour point of view to make his argument. The fact remains: in 2002, the process was driven by none of the points MC raises, but by lobbyists hired by American, Delta and Continental who were trying to gain a short term advantage.
And, by the way, I think Joe’s comment was right. What the government did in 2002 was to save a $1.8 Billion contingent liability and completely ignored the resulting certainty of incurring a real cash-out-of pocket expense of $9 Billion, not to mention the precedent it sets for the rest of the industry to line up at the trough. It was a bad day for the voters.
Roscoe raises an interesting issue, the elephant in the room. The risks and downside of deregulation.
May 12th, 2005 at 12:53 pm
Ned,
At even money, you’re probably even underestimating the probability that UA will be back in business before long. Of course they will be, and I too remarked on the amazing staying power of airline companies all over the world. Actually, the reason is straighforward: a very large fraction of an airline’s assets are capital goods (planes, terminals, contracts for slots at airports) with long half-lives, so it makes no sense to discard them, and someone always poneys up new capital to get the show of the ground again. Whether it’s a good long-term business is a separate and interesting question (multi-decadal returns on airlines are rather poor given their volatility).
Anyway, the crux of the matter is that it will be back *precisely* because it has shed the pension liability under which it laboured before. Just look around: all across the US (and to some extent Europe, although there the process is less stark) major companies, which twenty years ago were encouraged to create these pension schemes, are now forced to abandon them or perish. The automakers are on their last legs too, and the paralels are amusing: strong unions, large unfunded contingent liabilities and bold competition (which just so happens not to have to worry about what hip transplants will cost ten years hence). Now, the fact that the corporation-friendly Bush is in the office probably does affect the *timing* of this distress, but the essential underlying economics are inescapable, unfortunately. The expected lifetime of a large, successful corporation in the US is ~25 years, if I recall correctly: it’s a marvel to me that anyone would think that such an entity should somehow underwrite retirement-related risks, which run for a lot longer and have a completely different profile from a single business.
Before I stop, I’ll note that the high fuel prices are a fair point, but the fact of the matter is that an unencumbered business in this day and age should be able to survive a price shock of this sort: Southwest certainly is doing so.
May 12th, 2005 at 1:19 pm
MC’s right: the underlying problem for many companies is that they were born in an era when strong unions were common, as was the assumption that an employee will stay util they retire and that once they retired they’d die in their 70’s. Oh, and that the company would pay for their healthcare, all of it, until they died.
Everyone knows what the solution is: change or die. IBM’s most profitable product used to be Selectrics. Pan Am, Eastern, and TWA were major airlines. I think that government should not take sides (in the 9/11 emergency, they gave loans to everyone except United), I think that if they do intervene, they should keep the interests of the public (not special interests) formost in their priorities, and that they make this Darwinian process as useful as they can by facilitating acquisitions of the weak by the strong so that the damage (unemployment, unpaid bills) is minimized. My problem is that I don’t think this is our current government’s vision. I think they care more about their special interests (who write checks come election time) and the investment community (who are their friends) than the average guy who’s just trying to feed his family.