November 12, 2013

Michigan Automotive, More Than Production

By Thom Walstrum and Bill Testa

The dispersion of auto assembly line-type jobs from Michigan to the rest of the U.S. has been widely discussed. But it may be important to examine whether other jobs in the automotive value chain have also dispersed, particularly R&D and headquarters-administrative jobs. It is possible that a sizable part of automotive R&D and administration are spatially separable from production, with important implications for the economic health and growth prospects of Michigan.

To shed some light on this, we use microdata from the IPUMS CPS[1] to track trends in production, office, and R&D jobs in both Michigan and the rest of the U.S. We sort any individual who reports working in the auto industry into one of these three occupational categories. For example, we classify engineers and technicians as R&D and assembly line workers as production workers. (We further classify as “other” those occupations that could fall into multiple categories, such as security or janitor).

Figure 1 shows that total employment in the automotive industry has been relatively steady in Michigan, averaging 413,000 from 1970 to 2005. Since then, there has been a distinct decline; by 2012, Michigan’s auto employment was 262,000. In contrast, auto employment steadily increased in the rest of the U.S., rising from 588,000 in 1970 to a peak of 974,000 in 2007. The rest of the U.S. also saw heavy losses in the second half of the 2000s, with auto employment at 710,000 in 2012.

Trends in the R&D segment of the auto assembly are quite different. As figure 2 shows, R&D employment in Michigan grew steadily until the 2000s, from 28,000 in 1970 to a peak of 90,000 in 2001. Growth in R&D jobs in the rest of the U.S. generally kept pace, though with the exception of a couple years in the early 2000s, the majority of R&D jobs have resided in Michigan.

And so we see that R&D employment has made up an increasing share of overall auto employment in Michigan. In 1970, 6 percent of Michigan’s auto employment was found in R&D. By 2012, this share had climbed to 22 percent. This contrasts sharply with the rest of the U.S., where the proportion of auto employment in R&D grew from 1 percent in 1970 to 6 percent in 2012. Looking more broadly, 46 percent of Michigan’s employment is in either R&D or office occupations, compared with 24 percent in the rest of the U.S. At least by this measure, Michigan remains the nerve center and the creative engine of the U.S. auto industry, even as production jobs have dispersed.

This glimpse of the changed employment composition of Michigan’s auto assembly sector raises further questions. In particular, what is the outlook for Michigan’s R&D activities in light of the shifting geography of auto production activities? And what, if any, public policies might be influential to R&D’s continued success in the state?

[1] IPUMS CPS provides an occupation variable that is unified across changing occupational coding schemes from 1968 to present. The CPS survey combined Michigan and Wisconsin from 1968 to 1976. To allow the time series to extend back to 1968, we calculated by employment category the proportion of worker-years Wisconsin contributed to combined MI-WI totals from 1977 to present. We then used that proportion to scale down the pre-1977 MI-WI employment numbers to represent only Michigan and to scale up the ROUS numbers so to include Wisconsin. (Return to text)

Posted by Testa at 1:38 PM | Comments (0)

June 13, 2013

Mexico’s Growing Role in the North American Auto Industry

Thomas Klier

Mexico’s auto industry has experienced tremendous growth since the mid-1980s. Last year, 19% of all light vehicles produced in North America originated in Mexico (see table 1). That is up sharply from 20 years ago and puts Mexico ahead of Canada in terms of the number of vehicles produced.

Table 1: Distribution of light vehicle production in North America

Source: Author’s calculations based on data from Wards Auto Infobank.

On May 30, a panel of distinguished experts gathered at an event hosted by the Detroit branch of the Chicago Fed to discuss factors behind Mexico’s growth as a vehicle producer.

Most of the presentations are available here.
Also, see a recent Chicago Fed Letter on the same topic.

Mexico has a long history of vehicle production; by the late-1930s Ford, GM, and Chrysler were producing vehicles in the country. Over the years, the Mexican auto industry was shaped by economic development policies put in place by the Mexican government. Starting in the mid-1960s, a policy of import substitution favored production of vehicles and parts within Mexico. A number of years later, the policy focus changed to export promotion, which encouraged Mexican producers to seek international markets for their products. In 1995, Mexico, the U.S., and Canada signed the North American Free Trade Agreement (Nafta). It established a framework and set out a timetable for boosting trade among the three countries. In the process, Mexico has become a very attractive export platform for North, Central, and South America (see table 2). In fact, the country has negotiated more than 40 free trade agreements, more than any other North American country. In addition, Mexico has benefited from a general improvement in its manufacturing competitiveness during the past few years. Its productivity-adjusted wages are the lowest among major manufacturing countries, it is an energy rich country, and it has a history of manufacturing (35% of the country’s GDP is represented by manufacturing).

Table 2: Light vehicle exports from Mexico by destination region

Source: Brendan Case, Alan Ohnsman, and Craig Trudell, 2012, “Automakers boost investing on vehicle factories in Mexico,” Bloomberg, November 13, available at

In that context, it comes as no surprise that last year Mexico exported 83% of its light vehicle production. In fact, growing exports explain nearly all of the growth in Mexican light vehicle production during the last 30 years or so. Mexican light vehicle production is up by 2.4 million units since 1985. During the same time, its light vehicle exports rose by 2.3 million units. Lately it has been foreign-headquartered vehicle producers, such as Nissan, VW, Mazda, and Honda that have announced expansions of their Mexican production operations, continuing the upward trend of Mexican light vehicle exports.

Not as visible but at least as important is the ongoing growth of motor vehicle parts suppliers in Mexico. Companies large and small continue to invest in order to keep up with growing demand for parts in vehicle assembly in Mexico, as well as to feed the supply chain north of the border. Supply chain linkages, however, extend in both directions. Due to the integrated nature of the North American auto industry, growth in Mexico’s vehicle assembly has resulted in growing U.S. motor vehicle parts exports to our neighbor to the south.

Posted by Testa at 11:39 AM | Comments (0)

October 4, 2012

How Do High Gas Prices Impact Detroit Vehicle Producers?

by Thomas Klier and Ryan Patton

The Detroit automakers (Chrysler, Ford, and GM) appear to be making headway in their market shares during this era of high and volatile fuel prices. If so, this represents something of a turnabout.

When the price of gasoline rises quickly, Detroit usually tends to struggle in the marketplace. It is not surprising that increases in the price of oil can lower the demand for automobiles. But the Detroit automakers feel the pinch more than their foreign-headquartered competitors. Those companies produce a more fuel-efficient mix of vehicles, not least because their home markets face much higher taxes for gasoline and, therefore, they need to focus on fuel efficiency all the time, not just when gas prices go up.

Let’s take a closer look at the two most recent episodes when the price of gasoline in the U.S. rose quickly and to similar levels. Between October 2007 and July 2008, the price of gasoline rose by 45%, topping out at $4.06 per gallon in the summer of 2008 (see figure 1). Just over two years later, after giving back all of its increase and then some during the second half of 2008, the price of gas rose in a similar fashion from September 2010 to May 2011, when it peaked at $3.91 per gallon. (Figure 1 also includes a third episode of rising gasoline prices. It is shorter in duration than the other two, ending in April 2012 with gasoline topping out around $3.90.)

Figure 1

Note that these two episodes took place at different points of the business cycle. During the first half of 2008, the U.S. economy was in a deep recession: GDP was contracting, and light vehicle sales were falling fast. The second period takes place after the recession ended. At that time, vehicle sales were rising, albeit slowly. During both periods of rising gasoline prices, consumers purchased an increasing share of cars versus trucks, especially small and midsize cars (see table 1).[1]

In combining data on vehicle fuel efficiency (available from with vehicle sales, we can calculate the change in the fuel efficiency of all new vehicles purchased during the respective periods (see table 2). Not surprisingly, we find that during periods of high and rising gasoline prices, consumers on balance favor cars over trucks. This effect was more pronounced during episode 1, which mostly took place during the recession. In both episodes, consumers purchased a more fuel-efficient mix of vehicles. That effect was stronger during episode 1 when the sales-weighted fuel efficiency of light vehicles rose by 5%, and fuel efficiency increased in seven of the eight vehicle segment groups.

How well did the Detroit producers fare in the market place during these two episodes? Overall the Detroit producers lost market share during the first episode, but gained market share during the second episode (see figure 2).

Figure 2:

Given that consumers purchased a more fuel-efficient mix of vehicles in both episodes, it is possible that the improved market share gains of the Detroit automakers reflect improvements in the fuel efficiency of their products. To explore this hypothesis, we focus on the small and midsize car segments, the part of the market in which Detroit has traditionally not done well during periods of high gasoline prices. Tables 3 (small cars) and 4 (midsize cars) tell the story. During the second episode of rising gasoline prices, Detroit’s product offerings, even among the small cars, fared noticeably better than during episode 1. The tables highlight only the top five selling small and midsize models, measured in units sold, for both the Detroit producers and their competitors. For each model, the tables report the market share and fuel efficiency (averaged across individual trim lines and combinations of engines and transmissions on offer).

Note that all continuing Detroit models listed became more fuel efficient over time. In addition, new models, such as the Chevy Cruze, were successfully launched. But not only did the fuel efficiency of the Detroit carmakers’ products improve, so did their market share. In both segment groups, the five best-selling Detroit models as a group picked up market share—nearly 3 percentage points in small cars and just over 6 percentage points among midsize cars.

Click to enlarge

Click to enlarge

The previous two tables suggest that it was indeed improved product offerings that resulted in market share gains for the Detroit producers. There is, however, a caveat to this interpretation: Episode 2 took place shortly after the March 2011 earthquake and subsequent tsunami in Japan, which severely affected its manufacturing sector. It is possible that Detroit’s gains in this period were related to supply constraints among Japanese competitors.

We try to get some additional insight by looking at a more recent, though less sustained, episode of gasoline price increases. Between December 2011 and April 2012, the price of gasoline rose quickly to $3.90 per gallon. While episode 2 took place shortly after the earthquake, episode 3 covers a period that includes the recovery of the Japanese producers, notably Honda and Toyota, from production constraints related to the earthquake. (The industry press suggests that both companies had returned to full production by September 2011; see for example a story from Automotive News).[2]

Tables 3 and 4 also provide information from the last three months of episode 3, and we can see that a couple of trends continued: All of Detroit’s continuing models became more fuel efficient, and Detroit’s market share continued to be higher than in episode one in both segments, despite the abating supply constraints for the Japanese producers. On the other hand, the Japanese producers regained market share, especially for the midsize car segment. Note the strong increase in market share for the Toyota Prius, a vehicle exclusively produced in Japan, between episodes 2 and 3. Four of the five top-selling midsize cars not produced by the Detroit carmakers were produced by Japanese carmakers. The share of those four dropped by nearly 10 percentage points between episodes 1 and 2, likely reflecting supply constraints. By April 2012, it had recovered 3 percentage points. In small cars, the market share rebound of Japanese models was smaller in magnitude, with Detroit’s share barely falling back between episodes 2 and 3.

We conclude that, on net, the evidence suggests that the relative improvement in market shares of small and midsize vehicles produced by the Detroit automakers during the first half of 2011 was due to both product improvements in fuel efficiency and supply constraints experienced by their Japanese competitors.

Much has been written about renewed consumer interest in the fuel efficiency of vehicles (see for example here). Detroit appears to have taken note of this trend—leading to positive results in the marketplace.


[1]Consumers tend to substitute vehicles subject to the utility they expect to obtain from a specific vehicle, such as transporting a family, towing a boat, or mainly commuting to work. Substitutions across specific vehicle models likely involve vehicles within the same or closely related segment groups (Table 1 distinguishes four segment groups each for cars and trucks). Trucks tend to be less fuel efficient as a group. For example, in 2011 the sales weighted average fuel efficiency for cars was 26.0 mpg; for trucks it was 19.2 mpg. (Return to text)

[2]We do not have evidence of changes in the relative price of Detroit’s versus the Japanese companies’ products during this time. Note, however, that episode 3 includes the Chevrolet Sonic, the only subcompact currently being produced in the U.S. Its production is supported by a special labor agreement with the UAW that provides for a much higher share of entry-level wages being paid at the Orion, Michigan plant, where the car is being produced (see, for example, the following story in the New York Times).(Return to text)

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May 10, 2012

Auto Sales and the Seventh District

by Paul Traub

Continued improvement in U.S. light vehicle sales has been good news not only for the automotive industry, but also for the Seventh District. The chart below plots the percentage change in U.S. light vehicle sales against the percentage change in real gross state product for the District from 1991 through 2010. It should not come as any surprise that these two factors are very highly correlated (correlation coefficient of 0.82, where 1.00 would imply a perfect correlation) since four of the five states in the District currently have automotive assembly plants. If we add Ohio’s assembly production to that of the Seventh District states—Iowa, Illinois, Indiana, Michigan and Wisconsin—the region accounts for roughly 50 percent of the total U.S. automotive production. Given this relationship, we would expect last year’s increase in light vehicle sales (up 10.2 percent in 2011 over 2010) to have a favorable impact on the District’s overall economic growth for 2011—those numbers are due to be released later this year.

And so far in 2012, sales of light vehicles in the U.S. continue to outperform expectations. The seasonally adjusted annual sales rate for April 2012 was reported to be 14.4 million units; year to date through April, the rate has risen to 14.6 million units. In addition, the share of vehicles sold in April that were produced in North America was estimated to be about 77.3 percent. This is a significant increase from February 2009, when the percentage of North American produced light vehicles sold in the U.S. dropped to just 70.5 percent, reaching its lowest share since November 1986; at the same time overall sales volumes were bottoming at levels not seen since 1974.

So how do we assess the strength of the current auto sector recovery? The following chart shows the current light vehicle sales recovery compared with those that followed auto industry downturns in 1970, 1974, 1981, and 1991. For comparison purposes, an index for each downturn was created by setting the trough for each cycle to 100. This index comparison shows just how much more severe the initial sales decline was in the 2009 auto recession compared with the average of the previous four downturns. However, it is interesting to see that the current recovery has followed the average of those four recoveries fairly closely, except for two notable points in time. At both of those points in time, there were identifiable events that seem to have had significant effects on the auto industry.

The first event was the Car Allowance Rebate System (CARS), also known as “cash for clunkers.” This was a $3 billion program that was intended to provide an incentive for Americans to purchase more fuel-efficient vehicles by trading in their less fuel-efficient ones. The Department of Transportation reported that nearly 700,000 clunkers were taken off the road during this program, resulting in 684,941 new vehicle purchases. It's difficult to say exactly how many of those sales were incremental purchases, but it resulted in a spike in vehicle sales as purchases were pulled ahead from subsequent months. The decline in the sales rate immediately following the end of the program made it appear as if the recovery in vehicle sales might be stalling.

The second event that stands out clearly is the March 2011 earthquake in Japan. While it is difficult to calculate the earthquake’s precise impact on U.S. light vehicle sales, it is clear that the auto industry’s recovery was adversely affected by the supply disruptions that followed this disaster. Over time, however, this might have added to pent-up demand as consumers waited for product availability from their preferred manufacturers.

Even with these two outliers in the data, this auto sector recovery seems to track average past auto sector recoveries fairly closely for the 12 quarters following the bottom of the cycle.

The recent recovery of the U.S. auto industry has been good for the Seventh District for many reasons, but most notably for employment. Between December 2009 and March 2012, the District has seen a 2.9 percent increase in nonfarm payroll employment, compared with an increase of 2.7 percent nationally. Even better, the District has seen a 9.1 percent increase in manufacturing jobs, compared with an increase nationally of just 4.1 percent. In fact, the Seventh District has accounted for 38 percent of the entire nation’s manufacturing jobs added during this timeframe. And it looks like there may be potential for adding even more jobs in the Midwest if auto sales continue to rise.

The May 2012 Blue Chip consensus for U.S. light vehicles for calendar year 2012 now stands at 14.5 million units having been increased five times since bottoming in October of 2011 at 13.3 million units. That equates to a 1.2 million unit increase in the light vehicle sales forecast. And at 14.5 million units, this forecast is still 100,000 units below the industry’s performance year to date, which implies that there may be further upside potential for auto sales in the coming months. Next year looks even better— 2013 sales of light vehicles are now projected to be 14.9 million units.

This recent surge in sales appears to have taken some of the region’s auto producers by surprise. General Motors announced this week that it is increasing its U.S. light vehicle forecast for 2012 by 500,000 units, bringing its revised forecast up to 14.0 to 14.5 million units. Ford Motor Company’s expectations for this year seem to be even more optimistic, anticipating total sales of 14.5 to 15.0 million units. In fact, according to a recent article in the Financial Times, Ford plans to add 400,000 units of production capacity. However, its market share still might fall, because production increases are lagging demand. And Chrysler announced that it will not be observing its traditional two-week summer shutdown in four of its assembly plants, so that it can produce additional vehicles to address the increase in demand. This news from Chrysler is especially good for the District, which hosts three Chrysler assembly plants—two in Michigan, the Jefferson North Assembly Plant and Sterling Heights Assembly, and one in Belvedere, Illinois.

Even though the pace of this improvement seems to have come as somewhat of a surprise, there were indications that sales were getting ready to improve. As reported earlier this year by R. L. Polk, the average age of cars and trucks on U.S. roads hit a new record of 10.8 years on July 1, 2011. That is up from 10.6 years in 2010. Used vehicle prices have continued to increase, providing the consumer with added equity to use as a down payment at trade-in. Employment levels are slowly improving, helping to improve consumer sentiment, as measured by the University of Michigan’s Consumer Sentiment Index. In addition, Comerica Bank announced that vehicle affordability, as measured by vehicle price relative to median income, recently improved to its best reading since the third quarter of 2009. And finally, higher fuel prices might actually be working as an incentive for consumers to replace their less fuel-efficient vehicles with newer more fuel-efficient ones. So, all things considered, there may be more positive surprises in our future.

Posted by Testa at 9:59 AM | Comments (0)

March 28, 2012

Trends in Motor Vehicle Trade—A U.S. Perspective

by Thomas Klier

Motor vehicles tend to be sold near where they are produced. However, when local demand does not suffice to support a dedicated assembly plant, some vehicles are shipped across longer distances, including across oceans. The share of newly produced light vehicles (cars and minivans, sports utility vehicles or SUVs, and pickup trucks) exported from the U.S. to countries other than Canada or Mexico averaged only 4% of U.S. light vehicle production between 1996 and 2011. The share of new vehicles imported from outside the NAFTA (North American Free Trade Agreement) area was somewhat higher over this period, at 19%, as the U.S. has traditionally run a trade deficit in cars and light trucks.[1]

This blog updates our earlier analysis on U.S. vehicle exports and adds some discussion related to vehicle imports.


During the past two years, exports of new and used vehicles from the U.S. have continued the strong growth exhibited since 2003. After the sharp decline of activity during the latest recession, exports rose again sharply and, by the end of 2011, had nearly matched the pre-recession peak reached in 2007 for new vehicles and in 2008 for used ones (figure 1).

Figure 1

Source: USITC

Table 1 provides more detail regarding destination countries and regions for exports of new and used light vehicles from the U.S. While Canada and Mexico together represent the primary destinations, the relative importance of these two NAFTA partners has fallen a bit since 2007 (representing 55% in 2011, down from 64% four years ago), as most of the growth in exports of U.S. produced new vehicles originated from elsewhere (figure 2). Last year, Germany and China were as important as Mexico as destination for U.S produced new vehicles. Exports of used vehicles, on the other hand, are much more dispersed; Nigeria, Benin, and the United Arab Emirates jointly account for nearly one-third of all U.S. used-vehicle exports.

One of the factors behind this trend is the implementation of new trade agreements, such as the U.S. free trade agreement with South Korea, which was ratified in November 2011 and reduces South Korea’s tariff on passenger vehicle imports from 8% to 4%. Both the Detroit-based carmakers (Ford, General Motors, and Chrysler) and Honda and Toyota have announced a noticeable increase in exports of vehicles produced in the U.S. to South Korea. In the case of the Japanese-based carmakers, the decision to export to South Korea from North America instead of from Japan is likely influenced by exchange rate trends, which have strengthened the yen for some time.

Another phenomenon that has coincided with the increase in the share of non-NAFTA destinations has been the arrival in the U.S. of premium producers, such as Mercedes and BMW, that now ship output from their U.S. locations to countries around the world. While the U.S. and more generally, North America, very likely represent the largest single market for vehicles produced at the U.S. plants of these two producers, they tend to export a much higher share of their the U.S.-based production than a typical mass producer of vehicles. Furthermore, their U.S.-based plants are the sole producers of specific products, suggesting that their role in motor vehicle exports from the U.S. is not being jeopardized by the current lower rates of capacity utilization in the European motor vehicle industry.

Figure 2

Source: USITC

Table 1

Source: USITC


Data on imports of vehicles sold in the U.S. are available for a much longer time frame. Vehicle imports have averaged 20.6% of U.S. sales since 1980. That share declined rapidly during the decade between the mid-1980s and the mid-1990s—a time when foreign-based producers quickly expanded their production capacity within North America, ramping down their imports of finished vehicles from overseas in turn. This “onshoring” of vehicle production has a corresponding impact on the trade in motor vehicle parts. When an overseas producer’s vehicle assembly plant is first set up in the U.S., the so-called domestic content, that is, the share of parts sourced from within the U.S., is noticeably lower than that of a comparable native assembly plant. Over time, however, the domestic parts content of vehicles produced by foreign-headquartered producers tends to rise significantly.

Since the mid-1990s, the import share of U.S. sales has been trending up again as additional companies have entered the U.S. market. The small car segment, of heightened interest to consumers in times of rising gas prices, represents a relatively small share of the overall market in the U.S. and many of the small vehicles sold in the U.S. tend to be produced overseas. However, the import share of U.S. vehicle sales has declined by 4 percentage points during the past two years (figure 3) despite rising gas prices --gas prices were rising from the beginning of 2009 through May of 2011. Figure 3 also illustrates that cars continue to represent a large majority of imported vehicles.

Figure 3: import share in US light vehicle sales (blue line) and car share in US vehicle imports (red line)

Note: Imports are defined to originate in non-NAFTA countries.
Source: Ward’s autoinfobank

Figure 4 shows that the decline in the vehicle import share results from a decline in imports from Asia, as European imports have continued their steady increase exhibited over the last 15 years. Japan, by far the largest source country of U.S. vehicle imports from Asia, was negatively affected last year by the earthquake and subsequent tsunami. However, the decline in imports starts earlier than that, suggesting a contributing role of the yen/dollar exchange rate, which started a steady decline (strengthening of the yen) in 2007. In fact, while the share of U.S. light vehicle sales represented by imports from Asia peaked in 2009, the share of U.S. sales represented by vehicles produced in North America by Asian headquartered carmakers continued to rise through 2010, barely showing a decline in 2011. By the end of February 2012, that share had reached 30.4%, surpassing the previous peak from 2009 (29.9%). In other words, the share of U.S sales represented by North American production of foreign headquartered carmakers did not experience the same decline as that of vehicles imported from Asia.

Figure 4: Import share of US light vehicle sales by region of origin

Source: Ward’s autoinfobank

Combining both of these developments, rising exports of new vehicles, up 50% since 2009, and declining imports of light vehicles, nearly flat since declining by a million units between 2007 and 2009, have resulted in the smallest U.S. trade deficit in light vehicles since 1998 (see figure 5).

Figure 5: U.S. vehicle imports and exports

Note: The data for exports and imports are drawn from two different sources and don’t necessarily match up perfectly.

[1]Data on imports, sales, and production, are from Ward’s Auto Group, Auto Infobank, online database; data on exports are from the United States International Trade Commission website. Note that the definitions in both data sets don’t match perfectly. Ward’s data are based on individual vehicle models and their size classes. The trade data on vehicle imports are defined, at the most disaggregated level, by fourteen 10-digit codes and distinguish passenger vehicles from vehicles for the transport of goods, engine type, and engine capacity.(Return to text)

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January 24, 2012

Automotive Outlook and the Regional Economy

by Paul Traub

On Thursday, January 19, 2012, the Detroit Association for Business Economics (DABE) held its annual Automotive and Economic Outlook luncheon. This event is held each January at the Detroit Branch of the Federal Reserve Bank of Chicago in memory of Robert Fish—a past president and founding member of the DABE. Meeting in the Detroit area since 1975, the DABE is a chapter of the National Association for Business Economics (NABE). The DABE meets six times between September and May, and members and guests have the opportunity to hear from experts on various sectors of the economy. As the DABE’s premier event, the annual January luncheon always coincides with the Detroit International Auto Show, and it featured two experts on the automotive sector.

The speakers at this year’s event were Kristin Dziczek, who is the director of the labor and industry group at the Center for Automotive Research (CAR), and George Magliano, who is the senior principal economist for IHS Automotive. Both speakers have more than 20 years of experience in researching the automotive industry and manufacturing. Dziczek’s presentation titled 2011 Detroit 3 – UAW Labor Contracts was an in-depth review of the results of the 2011 UAW (United Auto Workers) contracts and their impact on the labor costs and competitiveness of the Detroit Three automotive manufacturers (Chrysler, Ford, and General Motors). Magliano’s presentation titled US – Light Vehicle Outlook was just that—a concise analysis of what to expect in the coming years from the U.S. automobile industry, particularly in terms of sales of light vehicles (cars and light trucks).

Dziczek provided automotive employment forecasts for the United States and Michigan, as well as an overview of the 2007 UAW contracts and details on the final 2011 UAW contracts. Additionally, she provided insights into issues that the Detroit Three and the UAW will need to address through 2015. Dziczek said that the Detroit Three’s U.S. automotive employment numbers had started falling years before the 2008–09 recession; Detroit Three domestic employment appeared to bottom out in 2009, at about 170,000 employees. She explained that by 2009 the Detroit Three had shed almost 240,000 employees in the U.S., or 58% of their domestic work force, in just eight years. In Michigan, the Detroit Three had seen their employment fall by 112,000, or 52%, over the same period. The good news is that CAR projects total Detroit Three employment in the U.S. to increase by 18%, or 31,000 employees, over the period 2009–15, reaching a level of 201,000. Also, Detroit Three employment in Michigan is predicted to jump by 32%, or 33,000 employees, over the same period, totaling 135,000 by 2015. Based on these forecasts, we can see that CAR is expecting U.S. automotive jobs to reconcentrate in Michigan—at least to a certain degree.

In 2007, the Detroit Three and the UAW were able to agree on labor contracts that Dziczek considered “a game changer.” Important aspects of the contracts included the use of voluntary employee beneficiary associations (VEBAs[1]); a two-tier wage structure that lowered the entry-level hourly wage to $14.00; and no pay increases. To compensate workers for no annual pay increases, the Detroit Three agreed upon a signing bonus of $3,000; lump-sum profit sharing distributions as a percent of an employee’s base pay of 3% in 2008, 3% in 2009, and 4% in 2010 (the last two were suspended in 2009); a cost-of-living adjustment, or COLA (also suspended in 2009); pension increases; and some product guarantees[2] (some of which were never fulfilled). The most significant result of the new labor agreements was that the average hourly labor cost was reduced from $72–$78 per hour to about $50–$58 per hour. All of these changes set the stage for the 2011 labor contracts, which involved some additional changes to the previous contracts that Dziczek called “evolutionary, not revolutionary.” These changes included such cost containment strategies as the elimination of the jobs banks (which paid laid-off workers a high percentage of their salaries for an indefinite period); the continuation of the suspension of the COLA; and no pension increases at this time. Like the 2007 contracts, the 2011 contracts helped keep the Detroit Three’s costs competitive with those of other major automotive manufacturers. Dziczek pointed out that one important issue that bears watching in 2015 is how the two-tier wage structure is addressed. The initial agreement had a cap on the number of entry-level workers—more specifically, only a certain percentage of total employment could be made up of such workers. The UAW would like to see that cap kept in place, while the auto companies would like to see it either increased or removed altogether. Other critical issues include limiting pension liabilities; pushing to increase employees’ share of health care costs; and staying the course on variable compensation (profit sharing versus wage increases).

George Magliano provided a detailed and informative macroeconomic outlook, on which he based his light vehicle forecasts. Magliano explained that, of course, the major risk to his economic forecast is the European debt crisis. According to IHS and Magliano, even though Europe is in a recession, the U.S. economy is expected to continue to grow slowly over the forecast horizon. Magliano’s forecasts for 2012 are as follows: Real gross domestic product (GDP) will grow about 2.0%, employment will rise by 1.2 million, Consumer Price Index (CPI) inflation will remain at 1.5%, oil prices will settle at about $91 per barrel, and housing starts will remain weak (at around 730,000 units). Long-run real GDP growth is expected to settle at 2.5%–3.0%, and payroll employment is predicted to remain below its previous peak (in 2007) until 2015. The slow growth in employment will keep income growth down while households will continue to save more, keeping the long-term trend for consumption at around 2.0 percent.

Even with these somewhat conservative assumptions about the economy, all is not doom and gloom for the auto industry. Light vehicle sales are expected to continue to increase over the coming years, driven by the pent-up demand that has been created over the past few years. Another positive for the automakers is that retail vehicle sales, rather than fleet vehicle sales, remain the main driver of growth. This is an important part of the industry’s recovery in that margins on retail sales are greater than those on fleet sales. This factor—along with stronger used vehicle prices, lower vehicle incentives, and reduced cost-pressures on the manufacturers—should help to keep the automakers profitable, even in the face of a slow-paced economic recovery. Magliano said that IHS predicts light vehicles sales will be about 13.5 million in 2012 and 16.2 million in 2015. Going forward, the mix between car sales and light truck sales will move back in favor of car sales (54% car sales versus 46% light truck sales), as the manufacturers deal with impending higher fuel economy standards. With the recent UAW contract concession discussed above and other capacity restructuring, the auto industry has become more profitable, as evidenced by the fact that it is already making money at volumes well below the peaks reached back in the early 2000s. The bottom line is that the auto industry is in the best shape it has been in many years and is therefore well positioned to withstand economic adversity, claimed Magliano.

As evident in these two presentations, there is much to be optimistic about when it comes to the U.S. auto industry—even the prospects for the original domestic manufacturers look better. The domestic auto industry should come out of this latest recession a lot stronger than it was in 2007, as long as the industry’s stakeholders are willing to continue to work together to keep costs in line with those of foreign competitors.

[1]A voluntary employee beneficiary association (VEBA) is a type of trust fund that can be used to provide employee benefits. The UAW agreed to a form of VEBA with the Detroit Three thus removing the liability for health care from the accounting books of the Detroit Three.(Return to text)
[2]A product guarantee is a type of commitment that identifies where future vehicles or components will be produced.(Return to text)

Posted by Testa at 11:09 AM | Comments (0)

August 23, 2011

Digging Out of a Hole – A View from Detroit

Paul Traub

Digging out of a hole sounds like an oxymoron, but that seems to be what is happening with this particular economic recovery compared with recoveries from past recessions. Rather than the more rapid growth we would expect from the type of recession the U.S. just experienced, the economy is experiencing very tepid growth. The latest gross state product (GSP) data show just how slowly the recovery is proceeding for the Seventh District. [1]

Even though the District is leading the nation during the recovery in its manufacturing and agricultural sectors, as of the end of 2010 its total output is still lower than it was in 2005. The District is making some progress, but the direction of the recovery does look more like tunneling out of a hole than a vertical assent.

To get a sense of how different this recovery is, we can look at past rebounds from recession. For example, on average, three years after the start of the previous two recessions, the region had already experienced expansion of over 10.0%. By 2010, three years after the start of the 2007 recession, total GSP for the District is still 2.6% below its 2007 level. This hole is pretty deep.

It is important to note that the recession was not evenly distributed across all District states. The following chart shows the GSP for each state in the District indexed to calendar year 2000. It can be seen here that Michigan never really recovered from the 2001 recession. In fact, Michigan’s previous GSP peak was eight years earlier back in 2003.

While Wisconsin, Indiana, and Illinois seem to have tracked each other very closely over the past decade, Iowa has shown the strongest growth of all the states in the District. In fact, Iowa has experienced 21.3% growth since 2000. Its growth has been supported by a rise in agricultural commodity prices and the fact that it didn’t experience a housing price bubble, which has allowed the real estate sector to continue to show growth over the last decade. On the other hand, Michigan’s economy, which has been hurt significantly by declines in auto sales, has shown the weakest growth, its 2010 total GSP is still below where it was in 2000.

The next chart compares real state product growth in the District states from 2009 to 2010 with the nation as a whole.

The District grew at 2.8% in 2010, compared with 3.0% for the nation. Two of the five states grew at rates greater than the nation and four out of five states grew faster than more than half the states in the country. Michigan, which has been struggling for the past decade, actually did quite well growing at 2.9% and coming in at 16th place among all the states. Indiana, Iowa, Wisconsin and Illinois placed 3rd, 13th, 23rd, and 32nd, respectively.

In terms of job growth, the region’s economy may be performing slightly better than the nation overall in 2011. Through June 2011, the District had created jobs at a faster pace (0.9%) than the nation as a whole (0.7%), albeit from a much lower trough.

Michigan, which lost population in the last census, actually led the District in the first half of this year with job growth of 1.9%, it ranked 4th in the nation in growth of nonfarm payroll jobs. On the other hand, Indiana ranked last with employment down 0.4% in July 2011 on a year-to-date basis.[2] Even though Indiana has seen a decline in total nonfarm July 2011 year-to-date, the state has experienced job gains in two sectors, mining and logging (1.5%) and manufacturing (1.2%).

Still, total nonfarm payroll employment in the District remains well below its previous peak. In fact, as can be seen in the following chart, nonfarm payroll employment for the District is still below where it was in 1996. In addition, the nation as a whole has also seen a sharp decline in nonfarm payroll jobs since the start of the latest recession -- nonfarm payroll employment for the country is currently about where it was in 2004.

If we take a closer look at manufacturing employment data for the nation and the District, we see an even more distressing picture. Since 1990, the nation and the District have lost about 35% of their manufacturing jobs. This is equivalent to over 6.0 million jobs nationally, of which the District accounts for about 1.1 million. At its peak in 2000, the District accounted for 19.1% of the nation’s manufacturing employment. By July 2011 its share had fallen to about 18.6%. Also at the peak in 2000, the region had 474,000 auto related jobs, which accounted for about 14.4% of the region’s manufacturing employment. As of July 2011, manufacturing employment in the region was 2.2 million jobs, of which 203,600 or 9.3% were in the auto industry.

Some of the employment declines have come about from labor-saving productivity improvements, but many are the result of declining U.S. auto sales together with declining market shares of the Michigan-based Detroit 3 auto makers and their suppliers.

In the past couple of months total light vehicle sales have been disappointing but, on the bright side, the traditional domestic manufacturers have been doing relatively well. In fact, on a year-over-year basis through June of this year, the Detroit 3 collectively saw sales increase by 15.5% versus an increase of just 7.6% for the industry as a whole. The Japanese manufacturers experienced a decline in sales on a year-over-year basis of 11.6%, largely due to supply disruptions as a result of devastating earthquake in Japan. In addition, some customers may be postponing purchases until the Japanese manufacturers can get their inventories replenished. Thus, absent the impact of the earthquake and related supply disruptions, auto sales overall would have been stronger in recent months.

It remains to be seen when auto sales will regain the positive momentum they had shown earlier in the year but despite recent setbacks, the August 2011 Blue Chip consensus for light vehicle sales for 2012 is 13.6 million units. This is a 30.1% increase from the 10.6 million units sold in 2009 and an increase of 1.4 million units from the July SAAR of 12.2 million units. In addition, Ward’s Automotive is projecting that by 2012, vehicle production in the District will be up by 2.3 million units from its low point in 2009. If these projections are correct we would expect to see some more positive gains in manufacturing employment for our region -- especially Michigan. Meanwhile, we just have to keep digging.
[1]GSP is the equivalent of GDP at the national level – the sum total value of all goods and services.(Return to text)
[2]State rankings include the District of Columbia. (Return to text)

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October 21, 2010

Auto Industry: Back to the Future? by Thomas Klier

As the sales of light vehicles (cars and light trucks) continue to move up ever so slightly from a deeply depressed state (see chart 1), many wonder about the outlook for the auto industry. How long will it be before we see another year of 16 million units sold in the U.S.? We need to remind ourselves that it’s been fewer than two years since this industry experienced a dramatic slowdown. For every month during the first half of 2009, we saw sales of below 10 million units, calculated at a seasonally adjusted annual rate. For January 2009, we also noted an all-time low capacity utilization rate in the production of light vehicles of 26%. Detroit closed a dozen of its U.S. assembly plants in just two years (2008 and 2009), and thousands of workers were laid off in the industry’s supply base. Things have improved somewhat since the first half of 2009.

Steven Rattner, who was in charge of the day-to-day operations of President Obama’s auto team, recently released a book on the historic restructuring of Detroit in 2008–09 [1]. The book is a fast-paced account of the many dramatic events that led to a massive government intervention and resulted in an equally massive restructuring of General Motors (GM) and Chrysler between December 2008 and August 2009. It provides a timely reminder of, and an invaluable perspective on, the scope and complexity of those restructuring efforts.

While the recent restructuring of Detroit’s operations was brought on by a sharp cyclical contraction in the overall economy, it also responded to long-running trends that had been insufficiently addressed in the past [2]. Detroit’s market share had peaked in the mid-1950s. Detroit’s subsequent decline was long-term and persistent, punctuated by milestone events such as the Chrysler bailout of 1979 (similarly brought on by a deep and sharp recession). Unfortunately, the hard lessons learned from the 1970s oil crises and the early 1980s recessions [3] were forgotten as soon as the real price of gasoline fell back to pre-1973 levels during the second half of the 1980s. During the late 1980s, consumers discovered minivans and sport utility vehicles (SUVs)—segments that the Detroit automakers dominated in profitable fashion at the time. Yet, as the growth in SUVs had run its course by the late 1990s, the fortunes of the Detroit carmakers began to deteriorate once again. In hindsight, corrective actions taken at the time—such as the 2007 labor contracts that addressed automakers’ health care liabilities—could not succeed in light of the sharp recession that followed soon afterward. Rattner’s account illustrates how in Detroit past corporate culture and structure, shaped chiefly during times of success, persisted even in the face of rapidly changing industry conditions.

After the recent restructuring, what’s next for this key manufacturing sector? It is too early to tell for how long the lessons learned over the past two years will be followed. But we know that the structure of the auto industry has changed profoundly during the past 30 years[4]. Instead of the Big Three (GM, Ford, and Chrysler), there are now six large companies (GM, Toyota, Ford, Honda, Chrysler, and Nissan) all of them with a global presence, representing 80% of the U.S. market. All of them produce a significant share of their products in North America. And all of them will have to respond to major uncertainties on the regulatory and technological front. The implementation of stricter fuel efficiency standards is under way, and there are a large variety of technical solutions from which to choose, ranging from improvements to the tried-and-true internal combustion engine to all-electric vehicles. Given such an array of options for new products, each automaker will have to make key decisions that will affect its competitiveness. Which company can most efficiently and flexibly produce vehicles? Which can best draw on the capabilities and innovation residing in the auto supply chain? And which can offer the right mix of technology?

The answers to these key questions will continue to shape the Midwest economy and its automotive communities for many years to come [5]. Owing to the profound changes resulting from the industry downturn and restructuring, public policies from the community level to the federal level will likely be shaped to address the auto industry and its communities [6].

Figure 1: Monthly light vehicle sales

Note: The sharp uptick in sales during August 2009 us due to the “cash-for-clunkers” vehicle scrappage program.

[1] Steven Rattner, 2010, Overhaul—An Insider’s Account of the Obama Administration’s Emergency Rescue of the Auto Industry, New York: Houghton Mifflin Harcourt Publishing Company. (Return to text)

[2] For a long-term perspective on Detroit’s decline, see here. (Return to text)

[3] See for example Paul Ingrassia and Joseph White, 1994, Comeback—The Fall and Rise of the American Automobile Industry, New York: Simon and Schuster. (Return to text)

[4] See, e.g. (Return to text)

[5] See, e.g., a recent Brookings report on economic recovery in the Midwest. (Return to text)

[6]See here for a conference on workforce adjustment. (Return to text)

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April 28, 2010

What’s ahead for the auto industry? A conference on the longer-term perspective

The last two years represent an extraordinary period for the U.S. auto industry. Gasoline prices rose fast during the first six months of 2008, topping out at a national average of just over $4 per gallon. Following the bursting of the housing bubble and the financial markets crisis, the economy slipped deeper into recession. Financing constraints for consumers and vehicle dealers as well as rising unemployment both contributed to a dramatic decline in motor vehicle sales (see chart 1). Towards the end of 2008 the Detroit carmakers went to Washington, hat in hand. Ultimately, GM and Chrysler received several tranches of emergency government funds to stave off collapse. After several unsuccessful attempts to restructure their business model, Chrysler (on May 1 2009) and GM (a month later) filed for bankruptcy (see this link for a detailed report by the Congressional Oversight Panel on the use of TARP funds in the support and re-organization of the Detroit-based industry) . Both companies emerged from a “quick-rinse” bankruptcy within 4 weeks, substantially restructured and with much reduced debt.

In the meantime, demand for cars remained extraordinarily low, averaging 9.5 million units during the first half of 2009. During the summer, a government-financed “cash-for-clunkers” program pulled up sales for a brief period. Since then sales have stabilized, albeit at historically low levels, averaging just under 11 million units during the first quarter of 2010. By most accounts, such a sales volume is below what is considered commensurate with replacement demand.

Recently GM announced it had paid back its remaining loans from the U.S. and Canadian governments. Chrysler stated it had operated profitably during the first quarter of this year (link to this story in WSJ from 04/22) . Finally, to the surprise of many industry observers, Toyota recently stumbled regarding the quality of its cars. Several major recalls were followed by Congressional Hearings during the month of February.

What are the lessons one can take away from this? To facilitate such a discussion, the Chicago Fed is holding a major conference on the auto industry. The event will take place at our branch in Detroit May 10 and 11, 2010 (follow this link to the conference website) . The meeting will focus on factors shaping the competitiveness of carmakers during the next decade. Four factors will receive special attention: the existing uncertainty regarding engine technology, the need for flexible production systems, the extent to which carmakers need to globally integrate their product strategy, and finally the importance of successfully managing the supply chain.

Steve Rattner, one of the key architects of the U.S. government’s auto industry restructuring efforts, will open the meeting with a keynote address. Other keynote speakers are Tom Stallkamp, Industrial Partner at Ripplewood Holdings, and Bob King, Vice President of the UAW. The program also includes topical sessions on the major changes of the last two years as well as the government’s regulatory efforts and programs in place (in Washington and Ottawa) to finance auto sector innovation.

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September 29, 2009

Work Force Adjustment Conference in Detroit

The Midwest automotive belt faces an extraordinary challenge of work force transition; namely, profound structural change in the auto sector on top of the cyclical impact of a deep national recession. At an upcoming conference, the Federal Reserve Bank of Chicago will partner with the Brookings Institution’s Metropolitan Policy Program, the Federal Reserve Bank of Cleveland, and the Upjohn Institute for Employment Research to gauge the dimensions of the challenge, provide conceptual and evaluative foundations for work force and human capital policies, and discuss regional and federal initiatives for workers and their communities in the Midwest.

Given the dismal national unemployment picture, the state of worker dislocation in Michigan and other Midwest automotive communities may not be fully appreciated. But unemployment in these communities is significantly worse than national averages. While the national unemployment rate has just now reached 9.7%, Michigan’s unemployment rate is now at 15.2% and has exceeded 10 percent since December of last year. Payroll employment in Michigan has fallen (year over year) in every year of this decade. Coupled with the current national downturn, an industry shift of automotive production away from Michigan has meant the state has lost more jobs in automotive than those jobs that remain. If current expectations are met, national economic recovery will offer only limited help. So, although job recovery is expected to unfold nationally, albeit at a slow pace, throughout 2010, areas dependent on the auto sector will lag significantly. Unlike the recovery period following the deep 1980-82 recessionary period, North American automotive sales are not expected to bounce back smartly this time.

In view of this bleak outlook, redevelopment of both industry and work force in the Midwest will be needed. Michigan communities are working hard to develop and attract new industries to the state and to attract capital investments. Most notable among emerging industry sectors here are energy technology initiatives, medical-related technology companies, health care, and tourism.

For workers, the current environment poses some particular challenges. Among these are fewer prospects for re-employment in other regions due to relatively high unemployment in many parts of the country. Neither do today’s demographics in Michigan favor easy out-migration; on average, the state’s work force is older and less educated. So too, falling home prices mean that households cannot easily tap pools of home equity to use in re-locating to job markets in other regions.

With so much working against the state’s economy, and with so much at stake, it is important that the many work force adjustment and re-training programs underway are effective. Rebuilding Michigan’s economy will require effective training, job placement, and other support services.

The central idea of the October 8–9 conference event will be to hold up work force programs and initiatives against the realities of current conditions and the state of knowledge about what works and what doesn’t work. Accordingly, conference sessions will be grouped by general category of work force initiative. Sessions will address first-response initiatives in the job placement and retraining arena, followed by discussion of worker training targeted toward the expected emergence of specific industries, such as health care and energy technology. The conference will also address entrepreneurial programs that promote both self-employment and the subsequent development and support of new firms and industries.

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July 10, 2009

“Clunkers for cash” sells cars, hikes fuel economy

by Thomas Klier

A few weeks ago, at the Detroit Branch of the Federal Reserve Bank of Chicago, we held a workshop that discussed the significant challenges in meeting the federal government’s new fuel efficiency standards. To help meet these challenges, the President recently signed into law a “cash-for-guzzlers” bill. Funded to the tune of $1 billion dollars, this program is designed to subsidize the sales of new vehicles in exchange for scrappage of older, less fuel-efficient vehicles. If this new program succeeds, it will take some older cars and trucks off the road, marginally improving the overall fuel efficiency of vehicles on our roads. It will also have the salutary effect of boosting sales at a time of great stress for automotive producers.

This bill is part of a broad-based policy effort by the current administration to improve fuel efficiency in the motor vehicle sector. This policy effort includes other measures such as accelerating the timeline from 2020 to 2016 for meeting the tighter corporate average fuel economy (CAFE) standards. In addition, there is the Advanced Technology Vehicle Manufacturing Loan Program, administered by the U.S. Department of Energy, which will fund innovative vehicle technologies designed to reduce our dependence on oil.

Technical details of the cash-for-guzzlers program, such as how dealers are to register for the program and how the payment of incentives is to be administered, will be worked out by the U.S. Department of Transportation by July 23, the program’s expected launch date (see Yet one can already comment on the broader aspects of this bill.

What incentives are available? Under this new program, a buyer can get up to $4,500 from the federal government toward the purchase of a new car or light truck (used cars do not qualify for this incentive). The actual amount given by the government is contingent on the improvement of fuel efficiency between the "trade-in" (the vehicle to be scrapped) and the new vehicle to be purchased. That is, this amount is staggered depending on the improvement in the miles-per-gallon (mpg) rating between the old and new vehicle. The vouchers available come in the amounts of $3,500 and $4,500. A "trade-in" is eligible for the lesser amount if the mileage improves by 4 mpg for cars and 2 mpg for light trucks. In order to get the maximum amount of $4,500, the mileage has to improve by 10 mpg for cars and 4 mpg for light trucks.

How long will government incentives be available? In its current version, the program is set to end November 1, 2009, unless the funding is depleted earlier.

Which vehicles qualify for trade in? There is no restriction as to where the vehicle was produced. Restrictions in the bill are of two kinds: the age of the vehicle to be traded in (it cannot be older than model year 1984), as well as its fuel efficiency (its mpg rating cannot be higher than 18).

Our estimate of the potential number of trade-ins

Two factors determine the eligibility of vehicles for the scrappage program: 1) vehicle fuel efficiency [1] 2) today’s resale value of vehicle models[2]

To approximate how many eligible post-1984 vehicles are still on the road today, we applied an estimate of vehicle scrappage rates to the number of vehicles sold in each model year[3].

The two charts below show the level of today’s surviving vehicles by model year for both cars and light trucks. Additionally, for each model year we identify the number of vehicles eligible for the scrappage program, distinguishing vehicles produced by the Detroit Three from those made by other producers.

We find that this program covers far more light trucks than cars. Just over 16% of all surviving car sales since model year 1984 are eligible,—85% of which are Detroit Three (Chrysler, Ford, and General Motors) products. Also, 66% of all light truck sales from the same period are eligible, and 88% of these represent Detroit Three sales.

Click to enlarge.

Click to enlarge.

What impact on motor vehicle sales is expected? Assuming an equal mix of fuel efficiency improvements, the average voucher handed out would be worth $4,000. The program is funded with $1 billion. That amount represents 250,000 vouchers of $4,000. To the extent these vouchers are taken up, they would increase light vehicle sales in like amount. At the seasonally adjusted annual sales rate of 9.5 million units recorded during the first five months of 2009, 250,000 additional sales would boost light vehicle sales by about 10% over the three months of this program’s existence. This estimated boost represents an upper bound as some of these trade-in transactions may have taken place anyway.


[1] Data on fuel efficiency is available at (Return to text)

[2] See this link for a list of eligible car and truck models by model year: (Return to text)

[3] Richard L. Schmoyer, 2001, unpublished study on scrappage rates, Oak Ridge National Laboratory, Oak Ridge, TN, as cited in Transportation Energy Data Book: Edition 23—2003, available at, pp. 3-13, 3-15. (Return to text)

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June 23, 2009

Fuel efficiency challenges in the auto industry

by Thomas Klier

A recent symposium at our Detroit Branch addressed the automotive industry’s challenges in meeting stricter fuel efficiency standards. The 2007 energy bill set a new target of 35 miles per gallon for the corporate average fuel efficiency (CAFE) of new vehicle sales . The new fuel efficiency requirements will be phased in beginning with model year (MY) 2011. Such standards are motivated by concerns for the global environment (e.g., global warming), as well as national security (since gasoline and petroleum are imported from volatile regions of the world). Yet, efforts to meet the stricter standards will impose higher costs on all automakers selling in the U.S., including the domestic ones, which are already strained.

Recently the Obama administration moved up the year by which the new requirements have to be met from MY2020 to MY2016. The National Highway and Traffic Safety Administration (NHTSA) is charged with issuing and monitoring compliance with fuel efficiency standards. The Obama administration also instructed the U.S. Environmental Protection Agency (EPA) to regulate for the first time greenhouse gas (GHG) emissions by automobiles. Although separate rules will apply as determined by CAFE and GHG standards, the two government agencies intend to harmonize and coordinate their efforts.

New rules regarding the fuel efficiency standards will be administered based on each individual vehicle’s “footprint,” meaning the area of the vehicle as one looks down from above. Per the new standards, each class of vehicle, as measured by its footprint, must meet a certain level of fuel efficiency by 2016. There was consensus at our workshop that the new standards can be met with existing technology. Yet, there was wide disagreement on how costly compliance will be. In any case, the cost of complying with the new requirements is expected to be higher for larger vehicles.

Tighter requirements for fuel efficiency could be quite onerous for vehicle manufacturers—especially were the price of gasoline to stay low. That is because consumers will continue to demand large cars and powerful (fuel-burning) engines. In contrast, during last summer’s episode of high prices for gasoline, consumers responded by switching to more fuel-efficient vehicles (see below).

Click to enlarge.

Click to enlarge.

As gasoline prices have fallen since then, there’s a shift once again toward larger and more powerful vehicles. With regard to future fuel prices, few believe that the current administration and U.S. Congress intend to raise the road-use tax on gasoline. However, the price of gasoline could go up if a carbon emissions “cap-and-trade” program were implemented. Such programs have been and are currently being considered in both the House of Representatives and the Senate. A Congressional Research Service study estimates that at a price of $15 per ton of carbon, the price of gasoline would rise by 14 cents based on its carbon content.

In order to meet the new fuel economy and greenhouse targets, automakers will be looking to use technologies available at the lowest cost per fuel economy improvement. There was agreement at the meeting that most likely we will see further improvements to the internal combustion engine as well as increased use of more advanced transmissions, such as six-speed automated transmissions and dual clutch transmissions. Reduction of a vehicle’s weight and engine size (a smaller engine in combination with turbocharging can provide similar power to that of larger engines) are also in the mix. Finally, there are several advanced engine management options, such as cylinder deactivation, variable valve timing, and gasoline direct injection. These technologies would improve fuel economy between 3% and 7% each, at a cost of up to $300 each. In addition, increased use of biofuels can represent significant benefits to carmakers in terms of achieving CAFE compliance. It is also widely expected that automakers will apply improvements to a vehicle’s air conditioning system to achieve reductions in GHG emissions.

The application of diesel-burning engine technology—popular and proven to be quite successful in Europe—will be more challenging in the U.S. because of stricter regulations related to the control of smog (which is associated with some noncarbon emissions). Finally, possible next generation technologies such as hybrid powertrains as well as fuel cells, while intriguing, were widely characterized as being not yet cost competitive.

The Federal government will assist domestic auto producers in improving energy performance. Today Energy Secretary Steven Chu announced the first tranche of funding awarded to support improvements in energy efficiency in the motor vehicle sector. The advanced technology vehicles manufacturing program, appropriated in fall of 2008, will provide $25 billion dollars in loans to companies making cars and components in U.S. factories that increase fuel economy at least 25 percent above 2005 levels.

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April 27, 2009

“Roads to Renewal” Conference

In the current environment of automotive plant shutdowns, the pursuit of economic adaptation and revival has become urgent for many communities whose livelihoods largely depend on the automotive industry. On April 15, knowledge experts, policymakers, and community representatives gathered at a conference event in Chicago. Its purpose was to explore opportunities to sustain and build on automotive assets in such communities, attract foreign direct investment, support automotive and energy-related research and development (R&D), build advanced manufacturing facilities, and diversify into other related industries. One notable audience participant was Ed Montgomery, newly appointed (National) Director of Recovery for Auto Communities and Workers.

The conference’s morning sessions addressed the forces impacting the Midwest automotive region, along with lessons midwestern communities might draw from the South. Sean McAlinden of the Center for Automotive Research presented a graphic overview of the region’s auto-intensive counties, as well as the market position and outlook for the North American auto industry. Over the past ten years, payroll jobs in the automotive sector have been halved because of wrenching industry restructuring. Communities in Michigan have experienced an outsized share of these declines. Moveover, McAlinden’s long-term analysis and forecast of automotive sales suggests that U.S. light vehicle sales are currently in the early stages of a deep cyclical trough.

The afternoon program asked how communities are responding and adapting to the loss of automotive activity. At one of the afternoon sessions, four economists offered their observations and advice to those communities that are transitioning to a post-automotive economic base. George Fulton, research professor at the Institute for Research on Labor, Employment, and the Economy at the University of Michigan, highlighted the sharp dependence of Michigan’s economy on the Detroit Three automakers (Chrysler, Ford, and General Motors). By his measure, economic concentration in the Detroit Three is 16 times greater in Michigan than the remainder of the United States. In that light, it is perhaps not surprising that Michigan’s overall employment growth has closely tracked Detroit Three domestic automotive sales since 1991, up to and including the recent plunge in sales. For Michigan, Fulton predicts that the sales plunge will be accompanied by a loss of 239,000 jobs from the end of 2008 to the end of 2009—the largest job loss since at least 1956. By the end of 2010, Michigan’s automotive industry will employ barely one-half of its 2007 work force.

In assessing Michigan’s longer-term prospects, Fulton offered a detailed industrial analysis that showed that a fair number of industries have been growing recently. Despite the fact that 641 industry sectors experienced falling job levels in Michigan from 2002–07, 298 industries not only had net hiring outcomes but actually outperformed their counterparts in the overall United States. However, a downside to his findings are that average wages in declining industries outweighed average wages in growing industries by $14,000 per year. In searching for Michigan’s industries of the future, Fulton recommended not only those offering high wage jobs but those having a strong export component, long-term growth potential, and regional advantage (or assets) in providing products or services. In Fulton’s opinion, the automotive industry fulfills these criteria except for its long-term growth potential in Michigan. Instead, Fulton grouped Michigan’s promising industries into three categories: knowledge-based industries (including auto engineering and R&D), tourist-oriented industries, and those sectors supporting higher-income retirees.

Another helpful perspective was presented by George Erickcek, of the W. E. Upjohn Institute for Employment Research. For Michigan and many other Midwest communities, what has been happening in the Detroit-Three-related automotive industry is too big to ignore; in particular, the recent negative experience is much more magnified in intensity, and what that portends for the long term weighs heavily on them. Car and light truck sales reached 16.1 million units in 2007, but are now forecast to go as low as 11 million units in 2009. In responding to plunging sales, Detroit Three producers have curbed year-over-year production by over 60 percent, and the top Three Asian-domiciled producers (Honda, Nissan, and Toyota) have done so by over 50 percent. The long-term outlook for the Midwest reflects structural decline rather than a swift return to activity. As recently as 2001, the Detroit Three controlled 74 percent of U.S. auto sales. By 2008, the share had fallen to 48 percent.

The employment size of the domestic auto supplier industry exceeds that of auto assembly by a factor of three. Domestic auto parts suppliers have been especially impacted by falling orders from the Detroit Three, and they widely report that long-term relations with the Detroit Three have soured in disputes over pricing and delivery terms. In seeking survival strategies, many domestic auto parts makers have attempted to diversify away from the Detroit Three to Asian- and European-domiciled assembly companies with production facilities in North America. More generally, Erickcek referenced the recent Klier and Rubenstein book which outlines three survival strategies available to parts suppliers: They must survive as 1) producers who integrate automotive systems of other suppliers and deliver them to assembly plants, 2) high-tech module developers, or 3) low-cost parts makers.

Given the recent upheaval in the automotive industry, Erickcek noted, displaced workers face strong headwinds in terms of expected earnings losses upon re-employment, slow expected recovery in job openings in the coming years, and age discrimination for older workers as they seek re-employment. Still, even in these difficult times, job opportunities exist because new products are being introduced, new markets are being serviced, and aggressive companies are taking market share from their competitors. To illustrate, Erickcek noted that over the current decade, net job creation in Grand Rapids, Michigan, has typically been negative but that new job openings have tended to exceed net job loss by wide margins.

How can the communities that have been affected by the downturn in the automotive industry help match their recently displaced workers with the new jobs? First, Erickcek recommended that they base their initiatives on a firm understanding of the local labor market and on the particular skills and abilities of displaced workers. Local efforts to identify a newly emerging industry sector and to subsidize its growth in the community is an extremely risky strategy. Instead, communities should determine their community investments in infrastructure and work force training by identifying interactions (and the intersection) of three key elements: the effects of the regional economic structure, global factors, and technological factors on the community and its economic base. In closing, Erickcek cautioned communities from jumping on the bandwagon in trying to attract the “next best thing,” such as life sciences, without a strong foundation for success. Competition is fierce for such prospects, and these industry sectors are often strongly anchored to existing clusters. Importantly, many of such industries are top- heavy with highly educated professionals so that “job chains” may not reach the community’s unemployed and underemployed work force.

Ned Hill, Professor and Distinguished Scholar of Economic Development at Cleveland State University, offered his considered assessment of the realities facing communities with strong ties to the automotive industry. Hill reported trends in automotive production from North America showing that much automotive work will continue to be done in the U.S and North America in the coming years. While world automotive production has grown rapidly since 1999, North American production remains sizable, with modest shrinkage and import penetration.

For companies and plants, Hill emphasized that the keys to survival have changed little from recent years. Successful plants and companies are those that operate with flexible work force policies and that employ workers who labor with flexible work force rules. In the current environment, low debt levels and ready access to capital are important factors in survival. On the national and global stage, Hill argued that the long-term value of the dollar also influences the health of assembly plants. According to Hill, the pending “card check” of the proposed Employee Free Choice Act (EFCA) that is under consideration in the U.S. Congress may exert a pernicious effect on automotive investment in the Midwest, north of Interstate 70. If passed, Hill contended that new plants will gravitate as far as possible from those communities that tend to support labor union representation.

In advising Midwest communities that are being impacted by automotive plant closings, Hill noted that a lot has been learned from the region’s steel plant closings in the 1980s and from defense plant closings. One lesson, said Hill, is that legacy costs—such as overly generous pension benefits and health care—must be shed if new companies are to survive and invest. Hill also cautioned towns and states and the federal government to avoid “lemon socialism.” That is to say, governments are especially inept at knowing which plants and companies that can survive; heavy subsidization of chosen “winners” is usually wasteful and prolongs the agony of readjustment.

In looking to assist new industries, plants, and investments, there is no silver bullet. Yet, communities must mobilize quickly and move toward new realities and opportunities. In doing so, communities must pay attention to market trends and forces, and reinvigorate the assets of their people (their skills) and their infrastructure. In identifying assets to protect when a plant has closed, Hill emphasized that land is the critical asset. Communities would do well to bring land back to the market for redevelopment through brownfield cleanup and land banking. In contrast, towns should be skeptical of fads. Who isn’t targeting wind, bio, solar?

Even with good practices, said Hill, we still have much to learn about community revitalization. The experiences involving mass worker layoffs in the 1980s were not kind. Approximately, one-third of workers retired, one-third successfully adapted, and one-third fell into poverty. Redevelopment has not always been successful. And when it has been, revitalization has often taken a long time—up to 20 years.

In my concluding presentation, I observed that each community has somewhat unique opportunities, assets, and challenges. For this reason, a “one size fits all” revitalization strategy will surely fail. All communities must start with a sound factual assessment of its own situation. In charting its policy course of action, a community must draw on credible information concerning the many demographic and economic trends that are at play. In choosing among policy actions, a community must be cognizant of the successes and failures of similar choices that have been made by others.

Posted by Testa at 2:28 PM | Comments (0)

December 12, 2008

Autos: A Further Loosening of the Manufacturing Belt?

This year’s Nobel Prize in Economics was awarded to Paul Krugman for his insights into spatial concentration of economic activity and the relationships among industry clusters, firm or industry-specific economies of scale, and patterns of international trade. In illustrating the flavor of his theoretical work at his Nobel Prize lecture, Krugman explained the surprising prevalence of worldwide trade among goods within the same general product category. Such trade can arise from acute economies of scale in production that are achieved by firms or industries that produce slightly differentiated products. If accompanied by the ability to easily transport and widely export its products, the location of a firm's product or of an industry's production will often become quite concentrated and rooted in particular countries or regions. By way of illustration, the 1860-1970 era of Midwest-Northeast dominance in manufacturing was said to arise from vast scale economies of mass production that came into play during the 19th century, accompanied by sharply lower transportation costs (via railroad) which allowed the manufacturing belt to export its wares to other U.S. regions and to the world. Krugman ended the lecture by discussing how the manufacturing belt had finally been shifting away from the Midwest, most recently the automotive segment. To do so, Krugman drew on the work of our Bank’s Thomas Klier.

In a series of journal articles and a recent book, Klier has been documenting and explaining this shifting geography of the North American automotive industry. Such work helps us to understand the situation of the “Detroit” automotive industry today, as does the more general spatial clustering of some industries and firms that has been observed by Paul Krugman and others.

Today in the industrial Midwest, we lament the tarnished star of wealth and income that once elevated our region’s standards of living above those of many other regions. During the glory years of Midwest manufacturing, the Great Lakes region’s share of manufacturing was phenomenally high relative to its population share. The chart below illustrates the rise and sustained dominance of manufacturing activity in the region. It is remarkable that the region sustained this high share of manufacturing, and high per capita income (shown below), even while population was ebbing away to the South and West.

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Click to enlarge.

Per Krugman, manufacturing gained a foothold here as profound economies of scale in industries such as steel and meat packing grew rapidly, along with the ability to export these goods by rail. William Cronon documents these transport advantages for 19th century Chicago for meat packing, farm machinery and lumber in his celebrated book, Nature’s Metropolis. Manufacturing also thrived here due to ready access to abundant natural resources and energy inputs to production, along with the ability to feed, house and transport a large work force to work site factories in the cities.

Once established, the spatial proximity of firms and related industries helped to sustain the region’s manufacturing dominance, as the totality of these firms and industries became greater than the sum of their parts. That is to say, the Midwest’s manufacturing sector became highly productive in part because firms and their suppliers bought and sold to one another in close proximity. Steel makers sold to machinery producers; machinery producers sold to car and truck makers; car and truck makers sold to both steel and machinery producers. These efficiencies played out at much finer detail among many highly specialized suppliers and producers. In this way, transportation costs were minimized and economies of scale and scope were realized within the tight agglomeration of the manufacturing belt. So too, not unlike Silicon Valley of today, mutual proximity created a sharing and dissemination of new ideas and technology that gave producers a leg up in locating within the Midwest.

Klier has researched these spatial relationships within the Midwest automotive industry—both parts and finished vehicles. For much of its history (but with several major eras that either stretched or compacted its geography), North American automotive production has clustered in Michigan and neighboring states, enjoying the insulating benefits of great economies of scale in mass production and mutual proximity of parts suppliers within the industry, as well as proximity to Midwest steel making, machine tooling and other key industries … all the while enriching generations of automotive workers.

Of course, things look very different today, as the Detroit 3 automakers struggle to remain viable in an era of increased competition for dwindling consumer dollars. In part, competition has shaken loose the original industry and its Midwest geography as imported autos finally broke through into the U.S. consumer market during the 1970s gasoline crisis. Foreign-domiciled competitors have since chosen to produce autos on U.S. soil, though not exactly with the same geographic footprint as the original Detroit 3 auto makers. In their recent JRS article, Klier and coauthor Dan McMillen document how the older spatial cluster of automotive parts makers has been giving way to a re-fashioned but densely configured auto cluster sited further South.

This shift in location raises some questions: How do we explain this shift southward? Could (or should) anything have been done about it? Can anything be done about it now? No doubt the cost advantages of spatial proximity and the early economies of scale in automotive manufacturing were highly advantageous. At the same time, however, the very success and unchallenged structure of the domestic industry may have failed to keep the region’s institutions, policies and companies sharp and competitive.

Posted by Testa at 12:02 PM | Comments (1)

July 22, 2008

U.S. auto exports on the rise

By Thomas Klier

For the past 11 years, sales of light vehicles have consistently been above 15 million units per year, representing an unusually strong run for this industry. Toward the end of 2007, the U.S. market for motor vehicles started to slow down. As the price for gasoline kept rising, recently reaching $4 a gallon, not only did vehicle sales continue to fall, but consumers rather quickly adjusted the mix of vehicles they bought, abandoning full-size trucks and large sport utility vehicles (SUVs) in favor of fuel-efficient cars and crossover utility vehicles (CUVs, or utility vehicles built on passenger car platforms).

However, amid the ongoing turmoil in the auto sector, there has been a bright spot that often gets overlooked. Exports of light vehicles have increased by 52% since 2002, with exports of new vehicles up 21% and exports of used vehicles up almost fourfold (see figure below).

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The figure below illustrates how exports of new light vehicles—that is, cars and light trucks, such as minivans and utility vehicles—have substantially outpaced domestic production as well as sales over the last eight years. As a result of this noticeable increase, last year's exports of newly produced light vehicles represented 16% of U.S. light vehicle production, up from 11% as recently as 2002.

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What’s behind this rather substantial increase in exports? We first analyze in some detail where vehicle exports are going.

Data available from the U.S. International Trade Commission (USITC) identifies the destination country for exported vehicles. In 2007, new vehicles, representing just over 70% of all vehicle exports, were being shipped primarily to the two North American Free Trade Agreement (NAFTA) partners: Canada received just over half of all new U.S. light vehicle exports, and Mexico took in 12% of U.S. exports (see table below). The strong linkages among the NAFTA countries reflect the fact that the production footprint of each of the multi-plant carmakers is highly integrated across the U.S., Mexico, and Canada. Many vehicle models are being produced at only one assembly plant within North America. It is therefore standard practice to serve the entire North American market from that one location, resulting in cross-border shipments. In fact, analysts often refer to a single North American motor vehicle industry (in terms of production and sales). Other destination regions for U.S.-made vehicles rank far behind North America: In 2007 Europe received 18% of all new vehicle exports from the U.S., and the Middle East came in third with 10%.

Yet the significant increase in new vehicle exports during the last few years followed a noticeably different geographic pattern: Between 2002 and 2007, exports to the NAFTA countries actually fell by 5%. In contrast, Europe received 52% of the net increase of 287 thousand in new vehicle exports over that period; the Middle East accounts for about 40%, likely reflecting spending from increased oil revenues. Incidentally, exports of used vehicles were much more dispersed than those of new vehicles, with each major region of the world receiving at least 10% in 2007 (see table below).

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At first glance export growth seems related to the exchange rate value of the U.S. Dollar (see figure below). (Note that the exports of new light vehicles from the U.S. to Canada and Mexico are excluded from this graph.) Subsequent to the dollar’s recent peak in 2002, exports of both new and used vehicles accelerated. However, more is afoot than currency fluctuations. This is evident because exports began to rise a couple of years prior to the dollar’s 2002 peak. By the same token, the strong increase in new vehicle exports took place during the last two years, well after the dollar started to decline.

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A better understanding may be found in the global nature of production employed by today’s automakers, many of whom have chosen to produce on U.S. soil. During the 1980s all the major Japanese carmakers opened their first production facilities in the U.S. The German carmakers BMW (Bayerische Motoren Werke AG) and Mercedes-Benz followed during the 1990s, and the Korean carmakers Hyundai and Kia entered during the first decade of the twenty-first century. Yet setting up production operations in the U.S. (or for that matter another country) for a foreign carmaker is neither done quickly nor reversed easily. In fact, the recent response of U.S. exports of light vehicles to currency fluctuations might well reflect the new reality of global production linkages common among today’s international carmakers. Indeed, exports of vehicles from the U.S. include production by many carmakers of different nationalities (unfortunately data on exports at that level of detail are not available). For example, both BMW and Mercedes now operate an assembly facility in the United States. Some of their models are exclusively produced in the U.S. from where they are shipped around the world. BMW recently announced a further expansion of its South Carolina plant, designed to increase its capacity by 50% by 2012. Both Honda and Toyota produce vehicles in North America. Yet the two companies’ production operations are linked not only within North America but also within their respective global operations. And so, rather than reduce production of certain models because of weakening U.S. demand, Honda recently increased exports of U.S.-produced models to Russia. Similarly, Toyota exports its Avalon sedan from the U.S. to the Middle East.

Volkswagen (VW), the largest German carmaker, decided in mid-July to locate a new assembly plant in Chattanooga, Tennessee, returning as a producer to this country after making cars in Westmoreland, Pennsylvania, over the period 1978–1988. Part of the company’s rationale is to increase the proportion of vehicles as well as parts produced in the U.S. dollar region so as to provide a natural hedge for its European base. Once the new factory is in operation, VW plans on exporting more than 125,000 North American-produced vehicles to Europe.

Finally, among the Detroit Three, Chrysler LLC is the most concentrated in North America, and it has been growing its exports overseas. Last year the company exported around 10% of its North American production to countries other than Canada and Mexico.

And so the recent increase in U.S. exports of light vehicles most likely reflects changes to the production system of international carmakers as well as changes in the value of the U.S. dollar. Because of their globally linked production operations many carmakers within North America can now readily shift production to serve overseas markets as demand conditions warrant. That aspect of the global auto industry could act as a buffer to a slowdown in a market like the U.S., which is home to production operations of many international carmakers.

This blog has been reposted as of July 29, 2008, reflecting domestic rather than total exports.

Posted by Testa at 8:57 AM | Comments (2)

May 22, 2008

Tracking Seventh District Manufacturing

By Emily Engel, Associate Economist

There is a greater concentration in manufacturing among the five states of the Seventh Federal Reserve District than in the nation. For example, as measured by the share of payroll jobs in manufacturing, Indiana ranked first among the 50 states in 2007; Wisconsin, second; Iowa, fourth; Michigan, seventh; and Illinois, 19th. For this reason, we at the Federal Reserve Bank of Chicago tend to closely watch the manufacturing sector. In fact, our watchfulness often becomes close scrutiny during times like the present when the U.S. economy shows signs of slowing. (Manufacturing activity has tended to be highly sensitive to general business downturns.)

The Chicago Fed Midwest Manufacturing Index (CFMMI) is a public statistical release that the Federal Reserve Bank of Chicago has been producing since 1987. This monthly release tracks manufacturing output for the Seventh District states (Illinois, Indiana, Michigan, Iowa, and Wisconsin) and compares it to the manufacturing component of the Industrial Production Index (IPMFG) produced by the Federal Reserve Board of Governors. The chart below, taken directly from the March release of the CFMMI, shows historical data comparing the CFMMI to the IPMFG. Over the decade, Midwest output growth has lagged the nation. During the current slowdown in national economic activity, both the IPMFG and the CFMMI have slowed and declined at a very mild rate in comparison with past episodes.

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Industry concentration in specific industrial sectors influences economic performance among District states. In particular, transportation equipment and machinery are bellwethers of state economic performance in the District.

Since the beginning of this decade, the automotive-intensive states of Indiana and especially Michigan have experienced a softening of their labor markets relative to the national average.

Meanwhile, by the same measure, the machinery-intensive states of Illinois and Iowa have outperformed the nation. The remaining state, Wisconsin, deviates from this pattern, being a machinery-intensive state with an unemployment rate that has deteriorated relative to the national average.

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The charts below compare these states’ concentration in both machinery and transportation equipment, respectively. Manufacturing activity in these industries is compiled by the U.S. Census Bureau’s Annual Survey of Manufactures (ASM). Specifically, the Census data measure “value added” by manufacturing establishments within each state. Value added roughly corresponds to the value of shipments of manufactured establishments, net of intermediate inputs to production, such as fuel, materials, parts, and components that are purchased from other establishments. In this sense, value added is manufacturing output.

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Click to enlarge.

It takes much time and effort for the U.S. Census Bureau to compile these data, so that detailed information on output by specific industry sector and location are issued with a one or two year lag. The data above, for example, refer to 2005 and 2006.

To keep more current than the Census statistics allow, our CFMMI constructs sector-specific estimates of manufacturing output for the overall Seventh District. These estimates are primarily based on data reported on payroll hours worked in manufacturing establishments across the District, and these data are usually available with only one month’s lag. When complete data on value added are issued by the U.S. Census Bureau, we adjust or benchmark our CFMMI data series to correspond to that data.

There are four major sectors of the CFMMI: auto, steel, machinery, and resource. The CFMMI is made up of 15 North American Industry Classification System (NAICS) codes of hours worked data. The breakdown of the NAICS codes is given under each graph (such as the one below) on the press release every month. The auto sector components are plastics & rubber products (326) and transportation equipment (336). Primary metal (331) and fabricated metal products (332) compose the steel sector. The machinery sector is made up of machinery (333), computer & electronic product (334), and electrical equipment, appliance, & components (335). There are five categories for the resource sector: food manufacturing (311), wood product (321), paper (322), chemical (325), and nonmetallic mineral product (327). The overall CFMMI is composed of the four sector components as well as these industries: printing & related support activities (323), furniture & related product (337), and miscellaneous manufacturing (339).

As seen by the two sector charts below, taken directly from the March CFMMI release, the District’s output growth paths in the machinery and auto sectors have diverged. While the machinery sector of the CFMMI is slowly outpacing the overall CFMMI, the auto sector of the CFMMI continues to fall below the overall CFMMI. Such developments can help us understand differences in economic performance around the Seventh District.

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Click to enlarge.

To see more information about the CFMMI, please check the Federal Reserve Bank of Chicago’s website. Additionally, some of the other Federal Reserve Banks also have manufacturing indexes/surveys. Please see below for some of those links:

Federal Reserve Bank of Philadelphia Business Outlook Survey

Federal Reserve Bank of New York Empire State Manufacturing Survey

Federal Reserve Bank of Richmond Manufacturing Conditions Survey

Federal Reserve Bank of Kansas City Survey of Tenth District Manufactures

Federal Reserve Bank of Dallas Texas Manufacturing Outlook Survey

Posted by Testa at 6:12 AM | Comments (3)

September 25, 2007

Transportation and GHG regulation

On October 15, the Detroit Branch of the Federal Reserve Bank of Chicago will convene a conference examining various policy approaches to reducing carbon dioxide and other greenhouse gases (GHGs). Following electric power generation, the transportation sector is the second largest source of carbon dioxide emissions in the Midwest, as well as in the overall U.S. (Carbon dioxide emissions generally arise from the burning of fossil-based transportation fuel—gasoline more so than diesel fuel.)

Following the energy price spikes of the early 1970s, federal regulations were issued to improve fuel-efficiency of cars and light trucks. Corporate Average Fuel Economy (CAFE) regulations place fleet-wide fuel-efficiency limits on manufacturers for their passenger cars and separate standards for their light trucks (including so-called minivans and sport utility vehicles, or SUVs).

The CAFE standards are sometimes credited with maintaining fuel-efficiency during the late 1980s and throughout the 1990s, when gasoline prices plummeted and one might have otherwise expected vehicle size and fuel consumption to have grown once again. Nonetheless, CAFE standards are often criticized. For one reason, the added cost of introducing new fuel-efficiency technologies into the latest models may be counterproductive. That is because, in confronting higher vehicle costs, automotive buyers may delay scrapping their old vehicles, thereby keeping an older (and less fuel-efficient) fleet of vehicles on the road.

Fuel-efficiency standards have also been criticized for imposing unnecessary and distorting restraints on consumers’ choices of vehicles. Logically speaking, penalties to modify behaviors to align with socially desirable outcomes should be fashioned to most closely target those behaviors that give rise to social costs. Accordingly, rather than forcing fuel-efficiency standards on specific types of vehicles, a preferable approach would be to penalize the actual behaviors that give rise to carbon emissions regardless of vehicle type. That is, a tax on fuel at the pump would be preferred to vehicle fuel-efficiency standards. And a tax per unit of carbon associated with a particular fuel—such as gasoline over diesel—would be preferred to a general fuel tax. Nonetheless, to date, fuel-efficiency regulations have been more palatable to the American public than alternatives such as direct gasoline taxes.

Midwest-domiciled automakers, especially the Detroit Three (Chrysler LLC, Ford Motor Co., and General Motors Corp.), have so far found it more difficult than other manufacturers to achieve CAFE fleet standards on cars and light trucks. Going back to the 1970s and earlier, Detroit Three automakers have tended to offer larger vehicle models for sale, and this specialization has continued into recent years.

The figure below displays the reported average fuel economy in 2006 for major companies selling vehicles in the U.S. market. For both passenger cars and light trucks, the measures of fleet average fuel-efficiency for both Toyota and Honda easily exceed those of the Detroit Three. Indeed, for passenger cars, the fleet fuel economies of Honda and Toyota already approach the hypothetical standard that is being considered for the year 2020.

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CAFE standards may soon become even more onerous for automakers. In June 2007, the U.S. Senate passed legislation mandating stricter standards on both passenger cars and light trucks. By the year 2020, fuel-efficiency standards would rise for such vehicles so that they must achieve 35 miles per gallon. (Such revised CAFE standards will likely be considered by the U.S. House of Representatives during the fall of 2007).

The vehicle fuel-efficiency of major automakers has been changing in recent years. Per the figure displaying the fuel economies of passenger cars below, Toyota’s and Honda’s have gained markedly over those of the Detroit Three during the decade. In contrast, these Japanese automakers have not widened their fuel-efficiency advantages in the light truck category. Within the category, Honda and Toyota have been selling more models that are heavier and less fuel-efficient than they had before; these models would include the Honda Pilot and Toyota Land Cruiser SUV.

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Click to enlarge.

From a Midwest perspective, the region’s light vehicle production facilities tend to be those of companies that will likely find it most difficult to meet more stringent standards. The map below displays the assembly plant locations of the Detroit Three automotive companies, as well as those of the foreign-domiciled automakers. A large majority of the Detroit Three’s light vehicle production facilities are located in Midwest states. In the northern part of the U.S. automotive corridor, which includes the states of Ohio, Michigan, Indiana, Illinois, Wisconsin and Missouri, 24 of its 31 light vehicle plants are owned by the former Big 3 domestics. Accordingly, the region’s residents will be interested to see that any prospective carbon reduction policies are as cost-effective as possible.

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Not everyone believes that GHGs from human activity are significantly contributing to global climate change or, if so, that mitigation policies are advised. Still, it would appear that mitigation policies, including more stringent CAFE standards, will be forthcoming. An informed and judicious choice of alternative policies can contribute to achieving cost-effectiveness while reducing GHG emissions.

Posted by Testa at 12:10 PM | Comments (1)

July 18, 2007

Automotive wages in flux

As the “Detroit 3” automotive companies have experienced shrinking profits and market share, many midwestern communities have experienced falling jobs, income, tax revenues and public services—to say nothing of the households and families working in the industry. This summer, automotive workers and communities are watching closely as the terms of automotive employment—especially wages—are being renegotiated. On July 20, for example, the UAW labor union opens contract negotiations with Ford and Chrysler (July 23 for General Motors) for contracts that will run for 4 years. And earlier this month, auto parts maker Delphi announced settlement terms with its workers as it undergoes operational restructuring. Only four Delphi production plants will remain in operation in the U.S. as its customers will source parts from its overseas operations or from alternative suppliers. Remaining Delphi production workers will be on the receiving end of cuts to health care benefits, employment security, retirement and wages. Wages for production workers will be reduced from $27 per hour to a maximum of $18, $14 for new hires.

How should we view the wage settlements as they are announced in coming months? One perspective is to compare them to average wages for production workers in U.S. manufacturing. Production workers are typically those who have few or no supervisory roles in manufacturing plants; in other words, most assembly line workers would fall into this category. The chart below displays average wages for production workers back to 1967. These wages represent the average in compensation for overtime and regular time. The wages are expressed in current dollars, adjusted over time for changing prices by the Consumer Price Index.

The bottom line shows that, across all manufacturing industries, average wages have remained largely flat since 1967, ranging between $17 and $20 per hour. Wages were rising until 1980. With several deviations, the average wage settled at $ 18.59 in 2005, which is the latest available data from this particular source.

In the same graph, we can see that that production workers in motor vehicle parts industries (blue line) have fared somewhat better over time, but that their wages have been converging with the remainder of manufacturing workers since the 1980s.

Workers in the automotive assembly industry (green line) are smaller in number than those in parts production. In the U.S., there are approximately three workers in parts production for every worker in an assembly plant. Unlike their brethren in parts production, assembly workers’ wages have been generally rising since 1967. By 2005, the U.S. Census Bureau reported an average production wage of $35.84.

The second graph below plots the premiums in wages for automotive workers. This premium is expressed as the percent by which wages exceed the average of all U.S. production workers across all industries. As of year 2005, the average wages of automotive assembly workers topped their counterparts by 50 percent. For motor vehicle parts workers, the wage premium has fallen below 20 percent from a peak of 31 percent in 1980. Approximately one-third of workers in the parts industry are represented by labor unions versus three-fourths of domestic assembly workers.

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Click to enlarge.

Declining employment has accompanied softening wages in many instances. From a geographic perspective, declining automotive jobs is nothing new for many midwestern states and communities. The industry was highly concentrated in the Midwest throughout the first half of the twentieth century but afterward began to disperse—first to other U.S. states and later around the globe. Considering domestic employment in automotive parts and assembly combined, the next graph shows that the states of Ohio, Michigan and Indiana accounted for over three-fourths of automotive employment through World War II. By 2005, their employment share had fallen under one-half.

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During the current decade, the automotive job decline has been precipitous. The final graphic (below) indicates that the three-state decline in automotive jobs has fallen by almost one-third since year 2000, from 576,000 to 383,000 over the first half of 2007.

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The reasons for these employment declines are several.

 As always, productivity gains are reducing the labor content in automotive production. Labor hours per vehicle assembled by the “Detroit 3” car makers, for example, declined from 24–28 hours in 2002 to 22–23 hours in 2006. Beyond assembly, estimates by Martin Baily of the McKinsey Institute and the Institute for International Economics report that labor hours to produce an auto in North America, including parts, are decreasing at an annual average of 1.7 percent annually since 1987, and are now approaching 100 hours total.

 Globalization of production has resulted in both off-shore operations and competitive pressures on domestic producers. Since 1996, the import share of light vehicle sales has increased from 12 percent of sales to 20 percent, year to date. Approximately one-quarter of domestically used automotive parts are now sourced abroad.

 Despite some periods of re-concentration over the past 2 decades and the siting of many new plants in various Midwest communities in recent decades, the overall industry continues to disperse to other states, especially in the South.

Note: Thomas Klier contributed to this entry.

Posted by Testa at 9:16 AM | Comments (0)

June 6, 2007

The mouse that roared: Putting the sale of Chrysler in context

By Guest Blogger Thomas Klier

On Monday, May 14, 2007, DaimlerChrysler Corporation announced it would spin off its Chrysler division by selling it to Cerberus LLC, a private equity company. The news ended speculation regarding a possible sale of Chrysler as well as the identity of its ultimate acquirer. The pending sale of Chrysler has since been widely covered in the media. Some have referred to the sale as a watershed event for the U.S. auto industry, which has been undergoing structural change for a number of years. In recent years such changes resulted in new ways to approach the industry’s underlying problems, such as rising health care costs. Witness, for example, the unprecedented mid-contract negotiations between the Detroit Three, comprising Ford, General Motors (GM), and Chrysler, and the United Auto Workers (UAW), which resulted in increased cost-sharing for health care by employees and retirees of Ford and GM toward the end of 2005.

What follows is a brief analysis that places the sale of Chrysler into context from a Midwest perspective.

Who and what

Chrysler represents one of the most venerable names in the U.S. auto industry. For many years, it was one of the companies simply referred to as the Big Three. In 1998, Chrysler merged with Daimler AG of Stuttgart, Germany, in what was then widely hailed as a merger with great chances of success. By way of a $36 billion transaction, the DaimlerChrysler Corporation (DCX) was born.

However, the bond that was then forged by the merger was not to last for even a decade. On May 14, 2007, DCX ended several months of speculation by announcing its intention to sell Chrysler to Cerberus. This transaction is expected to close during the third quarter of this year. According to the terms of the agreement, Chrysler will subsequently be incorporated as Chrysler LLC. Cerberus will own 80.1% of this entity. DCX, soon to be renamed Daimler, will retain a 19.9% stake.

Cerberus is a private equity company based in New York City. It has controlling interests in a number of companies, representing various industries. Among them are a number of auto supplier companies. In 2006, Cerberus made news by acquiring 51% of General Motors Acceptance Corporation (GMAC), GM’s financing arm.

Chrysler’s footprint

The newly incorporated Chrysler LLC will no longer be a Big Three company. It is now common to refer to the Big Six auto companies in the North American market; they are, ranked in order by U.S. market share: GM, Ford, Toyota, Chrysler, Honda, and Nissan. Chrysler will, however, rejoin GM and Ford as one of the Detroit Three.

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Chrysler is currently in the midst of a downsizing program that was announced on February 14, 2007. That restructuring will reduce its total number of employees in North America by about 13,000. The company is also cutting back its production capacity by closing one assembly plant and shutting down lines at two other plants. The new Chrysler LLC will be more concentrated in the Midwest in its production operations than the other domestic automakers (see map). It will also produce a higher share of its output as light trucks than any other Big Six automaker. Finally, of the Big Six, Chrysler will be the automaker most dependent on the North American market.

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Why does this matter?

These are challenging times for the domestic auto sector. The Detroit Three continue to lose market share, a number of auto parts makers are in Chapter 11 bankruptcy, and the domestic automakers have been in strained negotiations with their unionized employees for the past two years. Delphi—GM’s former parts subsidiary, spun off in 1999 and instantly becoming one of the largest auto parts supplier companies—filed for Chapter 11 in 2005. Negotiations between GM, the UAW, and Delphi about finding a way for Delphi to emerge from Chapter 11 have been going on for over a year.

At the same time, private equity and venture capital firms have been quite active in restructuring the U.S. auto industry for a number of years. Against this background Cerberus’s purchase of Chrysler is noteworthy in that it represents the first time a private venture capital firm has acquired an automaker. As a consequence, by way of becoming a private company, Chrysler LLC will likely have the ability to take a longer-term, strategic approach toward regaining profitability. Yet its owners will want to see a return on their investment along the way.

On the product side, these demands on the company may require refocusing Chrysler products so that they line up with consumer demand. On the cost side, this primarily means addressing the growing health care liabilities that Chrysler, along with the other Detroit automakers, is facing. The next opportunity to do this will arrive soon. This summer the Detroit Three and the UAW are scheduled to negotiate a new labor contract, because the current four-year contract will expire in September. The presence of Cerberus at the bargaining table is likely to change the dynamic of these negotiations.

As the Detroit-based carmakers are struggling to stem their market share losses, Chrysler, the smallest of the Detroit Three, has just been moved into the spotlight by way of its sale to Cerberus. In the process of addressing a number of difficult competitive challenges, Chrysler—the car company that invented the minivan and, in 1980 as it was teetering on the edge of bankruptcy, was bailed out by the federal government—could well set the course for the Detroit Three for years to come.

Posted by Testa at 5:12 AM | Comments (1)

February 14, 2007

The auto region continues to reshape

By Guest Blogger Thomas Klier

On Wednesday, February 14, DaimlerChrysler AG announced a restructuring of its North American Chrysler Group. Adjusting its vehicle production capacity to continued market share losses, the company will eliminate shifts at three different assembly plants (Newark, DE, and Warren, MI, in 2007, St. Louis, MO, in 2008) and idle the Newark plant in 2009 (that plant is identified in figure 1 by a blue star).

Conversely, Toyota Motor Corporation, in response to strong growth in the North American market, is about to announce where it will build its next vehicle assembly plant in North America. The company is looking to expand its footprint of production facilities to meet its goal of achieving 60% of local production. Several weeks ago a story appeared in the Wall Street Journal identifying a handful of locations that are being considered by the company (identified in figure 1 by the red stars).

What are the main drivers underlying a decision to locate an assembly plant? This blog suggests a number of influences.

First, let’s briefly outline the current industry geography. Today there are 68 full-size assembly plants (plus two currently under construction) producing cars and light trucks, such as minivans and sport utility vehicles, in the U.S. and Canada. Figure 1 shows them all with the exception of the lone West Coast plant (the GM-Toyota joint venture called NUMMI, which is located in Fremont, California, in the San Francisco Bay area).

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The striking feature of figure 1 is the high degree of clustering exhibited by this industry. The vast majority of the plants are located in the interior of the country, extending south from Michigan and Ontario in a rather narrow band. In addition, one can see the importance of transportation infrastructure. It is a key location factor for manufacturing industries, such as the auto sector, which are operating based on lean manufacturing principles. Interstate highways and rail lines (the map only shows interstate highways) are enabling assembly facilities to connect with their supplier base on a just-in-time basis.

In a second quarter 2006 issue of Economic Perspectives, Thomas Klier and Daniel P. McMillen analyzed how the geography of assembly (as well as auto parts production) facilities has evolved in the U.S. and Canada since 1980. They identify noticeable changes in the industry’s geography. These changes, however, occurred gradually, in evolutionary fashion over the last three decades.

Two major trends have shaped the footprint of today’s assembly facilities: Foreign-owned assembly plants gravitated towards the southern end of the auto region, preferring warmer climes and a work force that had not previously been employed in auto assembly. With two exceptions, all of foreign-owned assembly plants operating today have been so-called greenfield plants, i.e., newly constructed plants on land that was previously not a manufacturing site. The domestic assembly facilities, on the other hand, re-grouped in the northern end of today’s auto region after decades of serving the major population centers directly. They began shutting down their coastal plants in the late 1970s in response to the changing economics of transportation costs associated with serving the national market.

And so today’s auto region with a clearly defined north-south extension came about. Concentration of locations remains very important for this industry: Assembly plants need to be near their supplier base. Yet there are reasons for them not to be right next to one another. Assembly plants are large manufacturing facilities drawing their work force from an area larger than the immediate vicinity. Notice in figure 1 how many of the 50-mile circles drawn around assembly plant locations do not overlap.

How do the latest developments fit the ongoing re-shaping of the auto region described above? Chrysler, in line with recent restructurings last year by GM and Ford (plant closings in Georgia, Michigan, Minnesota, and Virginia as indicated by the other blue stars on the map), is trimming a production facility at the periphery of its manufacturing footprint. As a result, the domestic vehicle production has recently become more concentrated in the Midwest than it has been for many decades. For example, the announced closing of the Delaware assembly plant leaves only one vehicle assembly facility in the Northeast (there were six as recently as 1980). Should Toyota choose one of the locations mentioned in the press, it could best be described as "in-fill" development. It would fill a gap in the auto region which was extended considerably further south by assembly plants that located in Mississippi, Alabama, Georgia, and South Carolina during the 1990s.

And so the combination of recently announced plant closures and a soon to be announced plant opening are reinforcing the shaping of an auto region that is located in the interior of the country, with a north-south orientation, extending northeast into Ontario.

What are the implications of this analysis for Michigan and the Midwest? In Michigan especially, intense discussion is under way concerning what role, if any, public policy can play in shaping the region’s future. Currently, the competitive struggles of the domestic automotive companies (formerly known as the Big Three) and their suppliers are affecting the Midwest economy. Surely, much will depend on individual companies’ abilities to restructure and find ways forward. However, as the research by Klier and McMillen suggests, at the same time as traditional automotive companies are retrenching, they are also regrouping closer to the traditional (midwestern) center of the automotive industry. Actions speak louder than words in many instances. Here, locational decisions strongly suggest that the Midwest remains a highly productive place to manufacture automotive parts and vehicles. The region’s advantages lie in the fact that: 1) it is already the center of production so that proximity to suppliers makes it cost effective in many respects, 2) its transportation infrastructure is highly developed to serve manufacturing, and 3) its existing work force is highly skilled and trained in these industries. Accordingly, in addition to moving in new economic directions, local policy actions to help restore the region’s place in manufacturing seem not misplaced.

Posted by Testa at 4:19 PM | Comments (0)

February 5, 2007

Michigan Labor Market--Still Awaiting Recovery

Following the 2001 national recession, the labor market remained somewhat slack and slow-growing until mid-2003. Subsequently, the national economy accelerated, pulling along labor demand and employment growth. The year 2006 marks the third consecutive year of strong year-over-year employment growth (and falling unemployment) nationally.

Meanwhile, the Seventh District, which includes the state of Iowa and most of Michigan, Indiana, Illinois, and Wisconsin, also experienced an employment recovery. However, the pace of job growth in the Seventh District has fallen somewhat short of the nation over most of the post-recession period. From the fourth quarter of 2001 until the fourth quarter of 2006, payroll job growth is currently reported to have risen by 3.9 percent in the nation, versus 0.7 in the Seventh District states overall.

Much of the Seventh District weakness is confined to Michigan, and recent indications show little sign that the Michigan labor market performance is turning around. As illustrated below by a 3-month moving average of monthly unemployment rates, the U.S. and the rest of the Seventh District states (excluding Michigan) have reported a falling rate of unemployment over much of the past 3 years. Currently, the region’s unemployment rate lies very close to the nation at around 4.5 percent. In contrast, Michigan’s current unemployment rate, after improving in 2005, is now back where it was in 2004.

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Unemployment rates are not fool-proof indicators of labor market performance because they are conducted by household surveys which are subject to sampling bias. However, other independent indicators tend to corroborate these survey indicators. Among the other indicators, the survey of payroll employment at business establishments is reported for states by the Bureau of Labor Statistics. It too is based on a survey, and it is revised later as more information becomes available.

Below, year-over-year growth in payroll employment is shown for Michigan versus the District and the U.S. The payroll survey suggests that Seventh District job growth, though slower than the U.S., has shown steady growth over the past three years. Michigan’s year-over-year job growth has continued to decline—at an accelerating pace.

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So too, reported information on initial claims for unemployment insurance by laid off (or otherwise severed) workers exhibits the same pattern: deterioration at an accelerated pace over the past three years in Michigan, and improvement outside the state.

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In past decades, weak automotive-related performance in Michigan has sometimes been appraised as temporary or cyclical. However, this time around, as indicated by labor market performance in surrounding states, weak economic performance in Michigan appears to reflect structural problems for auto makers and automotive supply companies. Since early 2004, Michigan has lost 17.6 thousand net jobs at auto assembly establishments (a 24 percent decline) and 27.5 thousand jobs in motor vehicle parts production (a 15.8 percent decline).

Overall domestic automotive production is being eroded by imports and by enhanced production and sales of transplant automotive companies who largely produce outside the state of Michigan. Recent employee buyout programs at Ford, General Motors, and Delphi will result in a head count reduction of nearly 100,000 across the U.S. Approximately one-third of those jobs are situated in Michigan.

At least for the near future, the Michigan labor market situations does not yet look to be improving. The Michigan-domiciled auto assembly companies foresee or have announced continued employment reductions and facilities closings in both production and in administrative/R&D employees. Longer term, the Michigan economy's sharp automotive concentration means that the labor market will continued to be driven by developments in the industry.

Posted by Testa at 9:14 AM | Comments (2)

September 28, 2006

Michigan automotive and white collar jobs

Loss of market share from the traditional Big Three automakers to global competitors has impacted Michigan’s economy, leading to some deep concerns about its future. To date, most attention to this issue has focussed on job loss related to automotive production activity. Auto assembly and parts production continues at a strong (though eroding) clip in the United States, but it is rapidly shifting away from Michigan. So far, the “new domestic” carmakers have avoided siting new production plants in Michigan, preferring to site them in the South, as well as in Ohio and Indiana, such as Honda’s recent announcement to build a plant in Greensburg, Indiana. However, another important employment component for Michigan also relates to the health and sales market share of the Big Three—that is, the nonproduction activities of these auto assembly companies. These activities include research and development (R&D), sales, finance, and management operations, which form an outsized economic engine for the state. In what ways does the survival (and growth) of Big Three companies go hand in hand with the nonproduction jobs located in Michigan?

Nonproduction employment of auto assembly companies typically amounts to a surprising 35%–45% of total employment and an even larger share of payroll. While Michigan is highly concentrated in automotive production—with 15 auto assembly plants—it is also the domicile of the Big Three's headquarters along with significant company R&D and other operations. For this reason, it is not surprising in Michigan to find that nonproduction automotive employment is more concentrated than elsewhere. In counting Big Three nonproduction employment at their production plants, headquarters, R&D centers, and other auxiliary facilities in Michigan, nonproduction employment likely outnumbers production employment, making up a minimum of 55%–60% of total Big Three jobs in the state.

Moreover, additional Michigan personal income and jobs are generated from local services purchased by headquarters-type operations. As Chicago Fed economist Yukako Ono has found in recent studies, headquarters operations often purchase key services for the entire company network. These purchases may include financial services, R&D, information technology (IT) products and services, strategic management consulting, and many more. From the regional economy’s standpoint, these purchases are often sourced locally to a large extent. In fact, Ono discusses the possibility that the choice of location by headquarters may be influenced by the cost and availability of such business services.

Similar behavior of automotive headquarters makes Detroit and its surrounding environs much more than just a factory economy. Specifically, much of the value of Big Three automobiles derives from product development and design, and most of that R&D activity is conducted in Michigan. As derived demand from the domestic automotive industry, key business services are largely produced in Detroit. My blog entry from August 16 shows that the Detroit metropolitan area far and away tops other midwestern metropolitan areas in its concentration of professional and technical services employment. Among Detroit’s top sectors are engineering services (employment at 51,594 jobs in 2002) and scientific research and development (18,126 jobs in 2002).

Nationally, much R&D is funded and performed by automotive companies and their affiliates. According to the most recent survey of industry funds for research and development, which is conducted by the National Science Foundation, the automotive industry accounts for $14–$15 billion in annual R&D funding in the U.S. To be sure, in recent years, as auto assemblers have increasingly relied on their first-tier suppliers for entire components and automotive modules, some significant R&D responsibilities have been shifting away from assembly companies and toward automotive parts companies. Still, today, the lion’s share of this R&D is performed in-house, that is, largely by auto assembly companies themselves.

These practices have kept Ford, General Motors (GM), and Daimler-Chrysler among the largest R&D performers in the U.S., with Michigan at the hub of such activity. For this reason, Michigan ranks second only to California in funds for industrial R&D. And for 2003 as the figure below shows, the motor vehicle assembly and parts industries in Michigan accounted for $10.7 billion of the $15.2 billion industry-performed R&D in the state. The ties between these expenditures and local employment is apparent. According to a parallel survey by the National Science Foundation, the Detroit metropolitan area employed 102,500 research scientists and engineers in 2003—a concentration of 5.2% of the work force as compared to 3.9% nationally.

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Would Michigan retain this important function in the event that Big Three sales shares continued to decline? On the positive side, there are some indications that the Detroit area’s role in automotive research is in the process of growing beyond its historic roots. For example, the “new domestic” automakers have all sited research, development, and design facilities in the Detroit region, such as Toyota’s recently announced $150 million R&D center investment in Ann Arbor. Others, such as Hyundai and Nissan, have also recently expanded their facilities or announced plans for similar expansions.

So, too, Detroit’s attractiveness to automotive company headquarters operations displays some sparks of growth. Major automotive parts producer Borg Warner moved its headquarters from Chicago to the Detroit area last year. More generally, Chicago Fed economist Thomas Klier has documented an upswing in auto parts company headquarters moving to Michigan. The presence and growth of automotive parts headquarters in Michigan probably bodes well for company-sponsored R&D activity as well.

Still, competitive challenges are at play both here and abroad. Domestically, figures from the U.S. Bureau of Economic Analysis show that the annual R&D funding in the U.S. by Asia-domiciled automotive companies, at $125 million, makes up a very small share of automotive R&D in the U.S., amounting to less than 2 percent. And while the Detroit metropolitan area has so far attracted many of these transplant R&D activities, historically, it is not uncommon to find that attendant service activities eventually follow production in manufacturing. In this direction, the movement of U.S. automotive production from the Midwest toward the South is drawing the attention of those seeking R&D activities as well. For example, Clemson University in South Carolina has launched a research program and industrial park to foster technology development and transfer in cooperation with companies such as BMW and others.

And so, Michigan has several important economic activities at stake amidst the current upheaval among automotive companies.

Posted by Testa at 1:00 PM | Comments (0)

September 13, 2006

Where is automotive employment in the Seventh District?

Perhaps the most notable economic development taking place in the Seventh District is the market shift away from the traditional "Big 3" domestic auto makers--General Motors, Ford, and (Daimler)-Chrysler--and their parts suppliers. Lost sales are shifting toward the "new domestics" such as Toyota and Nissan and their parts suppliers. The sales gainers tend to be located outside of the Midwest to a greater degree than the Big 3. This shift is documented and analyzed in a recent Economic Perspectives article by Thomas Klier and Dan McMillen. This market upheaval is tending to idle and displace workers in many Midwest communities. Per Klier and McMillen, Michigan automotive employment is down almost one-third since 1979 while southern states such as Kentucky, Tennessee, Alabama, and the Carolinas have experienced a tripling of jobs.

But despite these shifts, Detroit and much of the Midwest continues to be the center of the production. Which particular communities remain most sensitive to future swings in automotive fortunes? The data below attribute automotive employment to particular metropolitan areas in the Seventh District. Those metropolitan areas with green shading had an employment concentration in automotive that exceeded the nation; those shaded in red had a lesser concentration. Looking across metropolitan areas in the entire Seventh District region, an east-west split in auto employment concentration becomes very apparent. The Michigan-Indiana corridor contains most of the metropolitan areas having an above-average concentration. Darkly-shaded metropolitan areas in southeast Michigan are exceptionally concentrated in automotive. So too, an east-west band of metropolitan areas across north central Indiana is steeped in automotive employment.

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A numerical listing of automotive employment below shows just how concentrated some communities can be. Metropolitan areas including Detroit/Livonia/Deaborn, Flint, Holland, Saginaw, Battle Creek, and Lansing/East Lansing in Michigan all reported concentrations over 5 times the national average, as did the Kokomo and Lafayette metro areas in Indiana.

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The final table below further illustrates the sharp geographic rift in employment fortunes over the 1990-2005 period. As a whole, the state of Michigan lost over 64,000 jobs in automotive, on net accounting for all job losses nationally. Largely due to the Michigan experience, the Seventh District states experienced an 18 percent decline in automotive jobs since 1990 while the remainder of the U.S. experienced a 3 percent gain in similar employment.

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Posted by Testa at 10:05 AM | Comments (0)

July 25, 2006

Mid-year jobs report

Looking west from Ohio to Iowa and Minnesota, there is a distinct falloff in economic growth, at least according to recent reports on payroll employoment. With only a three-week lag, the Bureau of Labor Statistics reports their estimates of payroll employment monthly for individual states. The reported monthly figures for June 2006, now complete the second quarter of this year.

The table below displays year-over-year payroll job growth in the seven Midwest states and the U.S. Note that job growth in all states except Iowa and Minnesota fell short of the U.S. growth of 1.4 percent.

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One reason that explains lagging job growth in many Midwest states is their heavy concentration in manufacturing industries. As the Chicago Fed’s Midwest Manufacturing Index suggests, real output growth in manufacturing has been growing strongly now for 3 years in both the nation and in the Midwest. In general, U.S. manufacturing growth has been buoyed by strong domestic demand for capital investment goods and by growth in U.S. exports. Some notable (and growing) Midwest capital goods sectors are mining and construction machinery, farm machinery and equipment, heavy trucks, and electrical equipment. However, strong output growth in manufacturing does not typically propel much payroll job growth because real output gains are generally being achieved through higher productivity rather than through more labor input.

With respect to total payroll employment, the three easternmost states of Ohio, Indiana, and Michigan show the weakest year-over-year growth. Further to the west, job growth in Illinois and Wisconsin have been stronger, with still stronger growth for Iowa and Minnesota.

For some states, such as Illinois, recent payroll job growth is especially encouraging since growth had been lagging since the last recession. Along with Indiana, Michigan, and Ohio, Illinois employment has not yet re-attained its previous peak which occurred in the year 2000.

Illinois' job gains are being led by growth in professional and business service industries even while manufacturing employment has been declining. The Chicago-area economy, which comprises the bulk of Illinois, has been shifting into business and financial services while moving away from manufacturing. Chicago’s business and financial services depend on customers in surrounding manufacturing-intensive states but they also serve some global and national markets.

At the other end of the spectrum, Michigan’s recent job performance remains very much in a league of its own, even when compared to other Midwest states. The chart below indexes total payroll jobs to the first quarter of 2001. While the rest of the region has almost re-attained its former employment peak, Michigan employment remains 6 percent to 7 percent below its previous peak.

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The troubles of domestic automakers Ford and GM, and their automotive parts suppliers, have been weighing down growth in Michigan. Since the year 2000, their combined share of U.S. light vehicle sales has declined from 51.1 percent to an average 41.3 percent year-to-date in 2006.

These companies are highly concentrated in Michigan. In addition to their global headquarters and many research facilities and part suppliers, for example, Ford and General Motors together maintain 12 of their 34 U.S. assembly plants (35%) in Michigan. For this reason, Michigan residents are closely following the strategic plans of these companies as they attempt to restore growth and profitability.

Posted by Testa at 7:26 AM | Comments (0)

July 19, 2006

Honda and tax incentives

Honda recently decided on a site in Indiana for its new North American auto assembly plant over sites in Ohio and Illinois. Indiana offered Honda generous incentives of EDGE tax credits, training assistance, and real and personal property tax abatements totaling up to $41.5 million. In addition, the state will provide infrastructure support for water, wastewater, and road improvements of approximately $44 million. This offer was generous relative to packages that have been offered lately by northern states to woo automotive plants. Did the incentives swing the deal for Indiana? And how can states hope to recoup these upfront costs and revenue losses? More importantly, is society well served by such raw-knuckled competition among states for production facilities? The answers are not definitive, but, though often condemned, the use of fiscal incentives may not be such a bad thing.

Large offers of this nature have become commonplace. Speaking at the Chicago Fed’s recent symposium on the automotive parts industry, Sean McAlinden of the Center for Automotive Research reported that the state of Georgia offered Korean carmaker KIA a package estimated to be worth $409 million. This was noticeably larger than the recent average offers of $57 million in tax incentives for automotive assembly plants for northern states and $44.2 million (plus free or subsidized infrastructure and job training) for southern states.

On completion of such deals, company representatives often proclaim that the incentives did not determine the choice of location, but were rather a sweetener or a comforting pledge of good faith. Professional site selection analysts tend to echo these sentiments. Taking such statements at face value, why do states offer such high stakes packages?

No doubt, there are benefits at the ballot box to those elected officials who can brag about bringing jobs and income to the state. It has been argued that these benefits, especially for investment projects that loom large in the media, result in overly generous offers and poor decision-making by state officials. This is one reason that some states enact legal requirements making the terms of such deals easily available to public scrutiny.

But how can states afford to make such offers? One reason is that the public service costs of hosting businesses are usually lower than the taxes paid by them; that is, there is typically a fiscal surplus inherent in state business tax systems that allows state officials to discount the public tax and service bills on new investment. When I examined the likely costs of public services provided to businesses in a 1996 study, I found that, across all U.S. regions, direct business taxes tended to exceed the value of direct service benefits provided to business by a ratio ranging from 1.5:1 to 2:1. This excess may allow room for governments to lower business tax bills through selective incentives.

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Even so, opponents of the use of selective tax abatements may argue that incentives were unnecessary and that businesses have an information advantage in bargaining with states for incentives even when they will end up choosing the same location in any event. Certainly, the proclamations of businesses that afterwards contend that incentives were not a primary consideration in their location decision bear this out. If so, states are arguably better off refraining from incentives and instead spending the business tax bounty on public services or returning personal taxes to state residents.

In the case of auto plants, it is interesting to note that even if individual states “give away the store” in luring a particular auto assembly facility, the end result may ultimately benefit the state’s economy. The reason is that the assembly plants typically attract auto parts suppliers to the area. As Chicago Fed economist Thomas Klier has shown (below), a typical assembly plant can draw a significant nearby supplier base. For recently opened assembly plants in North America, an average of 19 to 20 direct suppliers have typically opened up within 60 miles of the plant. More generally, assembly plants tend to pull in many more supplier plants within several hundred miles, and supplier plant employment generally exceeds assembly plant employment by around 3.5:1.

It is true that in the case of the Honda assembly plant in Greensburg, IN, many of the supplier plants will be outside Indiana’s border and tax reach. However, if all or many adjacent states are successful in attracting assembly plants, the spillover benefits of taxation and income will accrue in roughly equal measure to the states. A so-called cluster of automotive production capability may be achieved for the multi-state region.

Source: Thomas Klier and James Rubenstein.
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But are the incentives necessary to achieve or preserve the region’s cluster of automotive plants? At least for highly capital-intensive industrial activities such as manufacturing, the so-called business climate of the state is paramount. Placement of an expensive investment by a company in a state must be based on a strong conviction that future government leaders will not expropriate the facility’s value through regulation, over-taxation, or non-cooperation in future land use and public infrastructure needs. The situation is not unlike making investments in a foreign country. When the capital investment is fixed and not easily moved, confidence in local government is a key factor in assessing investment risk.

In this regard, Honda’s decision to locate in Indiana rather than Ohio is understandable. While proximity to its large suppliers in Ohio and vicinity was a compelling reason for considering Indiana, the desirability of diversification among government entities may have also been a factor. As for the incentive package, there is surely more to a favorable state business climate than a flashy offer of tax incentives. But at the same time, the offer of a fiscal incentive package may be a strong signal to the business that its presence will be valued. In addition, a sizable and highly visible tax incentive package may represent an implicit acknowledgment by the state that the investment is wanted, making it more difficult for future political leaders to renege on the state’s cooperative relationship with the company.

Of course, implicit tax incentive contracts of this sort work both ways. Companies that receive generous tax incentive packages, but later do not deliver on promised jobs and investments, are easy targets for retribution by state officials. In many instances today, “clawback” provisions are included upfront that eliminate favorable tax treatment if companies do not deliver.

Even so, the “gold standard” by which public policies must be judged is whether the state could possibly do better. Opponents of tax incentives for business argue that, because of such tax breaks, critical public services such as education remain underfunded. In particular, public education suffers, contributing to sub-par income growth and exacerbating social problems such as crime, poor electoral participation, and poor public health. If we accept this view, the economic returns to the practice of competitive business tax incentives are not optimal; the economic returns from any short-term job and income gains to the local economy are less than the foregone returns that greater education spending would bring locally and nationally.

In rebuttal, one might argue that business taxes are not the only possible source of revenue for highly valued public services such as education. An ideal of government is one in which citizens understand both the value of public services provided and the real costs of these benefits and, subsequently, make their choices known at the ballot box.

With the tendency among governments to over-tax business activity, the electorate may believe that they are getting a free ride for public services—that they are not in fact paying for these services. But they are usually mistaken. People and households end up (indirectly) paying for public services in any event. After all, business taxes are ultimately reflected in higher product prices paid by state residents or in lower wages and salaries paid to employees.

So why do many voters and even some policy analysts advocate the taxation of business activity to finance public services that primarily benefit households? Some argue that Americans like their taxes hidden and furthermore that this is a reasonable way for governments to finance high-payoff public services. But this approach has risks. If taxes and prices for public services are hidden, can the citizenry really make sensible decisions about what levels, types, and extent of services government should provide? What do you think?

Posted by Testa at 10:47 AM | Comments (0)

June 28, 2006

Score one (Honda auto plant) for the Midwest

Honda has announced its intention to build another U.S. auto assembly plant, this one in Greensburg, Indiana, 50 miles southeast of Indianapolis (see map below). Unlike many recent assembly plant openings by foreign-domiciled automotive companies, Honda sited its plant in the Midwest rather than in a southern state. Does this announcement denote the end of the southward movement of auto sector plants in the U.S.?

As documented and analyzed by Thomas Klier and Dan McMillen in a recent issue of Economic Perspectives, as well as by Jim Rubenstein at the recent automotive conference, the motor vehicle industry continues to be concentrated in the Midwest, with 47 percent of motor vehicle employment to be found in the states of Michigan, Indiana, and Ohio. However, a look backwards reveals that the industry’s footprint has taken a decidedly north–south tilt in recent decades. According to Klier and McMillen, “Since 1979, Michigan alone has shed almost one-third of its auto industry employment. During the same period, southern states such as Kentucky, Tennessee, Alabama, and the Carolinas, more than tripled their employment in the auto industry.” Further, the push southward is hypothesized to have now expanded past the middle south states of Kentucky and Tennessee to a second vanguard in the Deep South in recent years. Since 2001 alone, Honda and Hyundai have launched or announced assembly operations in Alabama, Nissan in Mississippi, Toyota in Texas, and Kia in Georgia.

Honda’s Greensburg assembly plant will pull the nexus of North American automotive production somewhat north. To date, speculation about the location of the new plant had centered on Illinois, Indiana, and, especially, Ohio, where Honda currently maintains the larger part of its North American operations. Media discussion about the Midwest siting decision derived from reported inquiries from Honda about available sites in these states. Moreover, the company currently operates the most geographically proximate supply chain in the industry, with over 75 percent of its supplier base located within a day’s drive of its central Ohio assembly plants (see map below). For example, its Lincoln, Alabama, assembly plant receives transmissions from a Honda transmission plant in Tallapoosa, Georgia, 60 miles to the east, and its Ohio assembly plants receive transmissions from a Honda, Ohio, transmissions plant 25 miles west.

Adding to the logic of the new assembly plant location close to Ohio, Honda has also shown a strong preference for keeping engine production close to its assembly plants. For example, Honda builds engines inside its Alabama assembly complex. In Ohio, home to its largest assembly operations, it also operates its largest engine plant worldwide, producing over 1 million engines a year. Recently, Honda announced a decision to build an engine plant near its Alliston, Ontario, assembly facility. That plant has been receiving engines made in Ohio. Once that new engine plant is built, it will free up capacity at the Anna, Ohio, engine facility.

The choice of the Midwest rather than the south is a company-specific story rather than a reversal of the industry’s southward movement. Honda’s decision to site its next assembly plant in the Midwest is very consistent with the crucial role that supply chains and logistics play in today’s manufacturing environment. In this regard, the Midwest’s continued high concentration in automotive parts and related industries keeps it a contender for future siting of North American automotive production facilities.

Posted by Testa at 7:23 AM | Comments (0)

April 27, 2006

Midwest Auto Suppliers at a Critical Crossroads

In regard to the economy, everyone associates the Midwest, especially Michigan, with the Big Three automotive nameplates of General Motors (GM), Ford, and Daimler-Chrysler. Also, most everyone is aware that the Big Three are closing some of their assembly plants, where finished vehicles are produced, in part because they are losing domestic sales to other international assembly companies. But the more acute threat to the Midwest economy comes not from assembly plant shutdowns but from the possible retrenchment in the region’s much larger auto supplier industry—the subsector that produces automobile parts for the assemblers. Automotive suppliers are the lesser known part of the auto sector, even though they employ three to four times as many workers as assembly operations. Today, many Midwest automotive suppliers are operating in bankruptcy or are under severe stress due to their current business environment. To assess the industry’s prospects, the Chicago Fed held a conference on the changing geography and business environment for auto suppliers on April 18–19 at its Detroit branch. Presentations from the event are now being posted on the Bank’s website.

Why are so many Midwest supplier companies beleaguered? There are several factors, including the rising costs of inputs, the restructuring of the traditional assembler–supplier relationships, a shrinking customer base, high labor costs, and heightened import competition.

Most generally, the role and tasks of many supplier companies have become more complex. As Michael H. Moskow stated in his remarks opening the conference, “traditional carmaker–supplier relationships are rapidly changing. Today, assembly companies are requiring more from their primary suppliers in terms of product design, engineering, and cost. But some assemblers and suppliers are finding it difficult to achieve the cooperative relationships now required to produce popular, high-quality vehicles.”

In this regard, some suppliers reported that their relationships are better with some of the new international carmakers than with the Big Three. Representatives from Ford and GM acknowledged that supplier relations have not been as strong as desired and outlined efforts being made to improve their supplier relations.

According to Michael H. Moskow, another challenge “is that many suppliers, particularly in the Midwest, are losing business because their Big Three customers continue to lose market share to foreign nameplate manufacturers located in other regions of the United States, especially the American South. The flipside to this, of course, is the opportunity for suppliers to increase sales to the foreign manufacturers who are producing an ever higher number of vehicles in the U.S. But the transition to new customers may be a formidable challenge for many suppliers. New customer relationships take a long time to build, and the costs of relocating operations closer to new customers or servicing these customers from distant production facilities can be significant.”

In reflecting on the new geography facing Midwest suppliers, Jim Rubenstein and Thomas Klier illustrated the heightened challenge that Midwest suppliers face in transporting parts from Midwest locales to the emerging auto assembly belt. Between 60%–65% of both assembly and parts plants remain in the Midwest today. Yet, assembly plant locales are shifting to the South (from 5 plants in 1979 to 15 today), pulling parts production along. Recently, the “pull” southward on parts production by assembly plant relocation places even greater pressures on Midwest parts suppliers. In particular, there has been a further southward drift in assembly capacity in recent years, well beyond the mid-south locations in Kentucky and Tennessee that were established during the 1980s and early 1990s. As illustrated by Thomas Klier and Jim Rubenstein in the slide below, for some particular types of auto parts, the increased shipping distances from the Midwest make for difficult “one-day delivery” times that are often desirable.

Many Midwest suppliers are also being challenged by import competition. The nominal value of direct imports of motor vehicle parts to the U.S. has more than doubled over the past decade, increasing from $37 billion in 1995 to $84 billion in 2005. So, too, indirect and unobserved parts imports have also climbed in all likelihood. One-half of the loss of Big Three market share since 1995 has come from increased imports of assembled autos. Many of the parts in those same autos were produced abroad as well.

Finally, some Midwest supplier companies are at a competitive disadvantage to both overseas supplier plants and some domestic supplier plants in other regions with respect to wage and benefit compensation, working arrangements, and legacy costs. In response, management-labor relationships are being successfully restructured in this industry. JCI and Metaldyne are examples of supplier companies that have successfully introduced competitive business environments in cooperation with the United Auto Workers, the industry’s major labor union.

Based on such successes, the conference participants hope and cautiously believe that the needed transitions to create a stronger business environment for the Midwest automotive industry will come to pass. Also, they maintain, there are a number of reasons why Michigan and the surrounding areas will remain an important location for the auto industry. These include the region’s abundance of skilled workers and associated training programs; a well-developed infrastructure for logistics and transportation; and a still dominant and highly concentrated network of materials suppliers, research and development, and parts producers—all of which make up the world’s most productive automotive region.

Posted by Testa at 12:03 PM | Comments (0)

March 22, 2006

Auto Parts Issues & Conference

A conference discussion on the issues facing automotive companies, workers, and communities will be held on April 18–19, 2006, in Detroit, at the Chicago Fed’s new branch building. The conference will center on the auto supplier industry. Suppliers employ three times as many workers as assembly operations, but as an industry, it is little known to most of us. However, as assembly operations are changing owners and shifting geographically, the responsive behavior of auto suppliers will have important implications and impacts for many Midwest workers and communities.

One of the conference organizers, Thomas Klier of the Chicago Fed, has been studying the behavior and geography of the North American automotive industry for over a decade. During that time, never have the questions and uncertainty about the industry’s future footprint in the Midwest been as portent for the region’s economy as today. The traditional assembly companies (the Big Three) and their (more-sizable) suppliers have been pulling in production from the coastal United States to the Midwest. At the same time, the Big Three and suppliers have seen their market share shifting southward from the Midwest to transplant assembly companies and their suppliers. This leaves the upper Midwest with an ever-greater concentration of the most vulnerable segment of the North American automotive industry.

Thomas offers the following analysis of the shifting geography of Big Three and transplant assembly operations to put this matter into perspective.

Click to enlarge image.

The U.S. auto industry’s footprint has been changing for a considerable time. Since the early 1980s the domestic auto producers have been losing market share to transplant producers setting up plants in the U.S. and Canada as well as a growing number of imported cars. Subsequently the Big Three closed most of their coastal and southern plants (red stars in the map) and pulled back to their traditional Midwest home.

The transplant assembly facilities opened since 1980 have been sited in the interior of the country, primarily in a north–south corridor formed by interstate highways 65 and 75, between the Great Lakes and the Gulf of Mexico. Since 1990, many of the new assembly plants have been located in the Deep South, centering on Alabama and Mississippi. That trend continued with last week’s announcement by Kia, a Korean automaker that is part of Hyundai Automotive Group, to build a new assembly plant in southwestern Georgia.

Table 1 highlights these geographic shifts with data for the last 6 years. A unit of observation is an assembly line (a measure of the output of an assembly plant, as assembly facilities can have multiple lines). Since 2000, the Big Three closed 8 assembly lines in the U.S. During the same time the so-called transplants, carmakers which are headquartered outside of North America, opened five assembly lines. None of these were sited in the three traditional auto industry states of Michigan, Indiana, and Ohio.

Click to enlarge image.

The Big Three restructuring summarized in table 1 includes two major capacity cutbacks by Ford (including the announcement from January of this year), GM’s announcement from November of last year, and Chrysler’s restructuring from several years ago.

The combined effect of these on the footprint of the Big Three assembly operations is a significant increase of their concentration in the core auto states (the share of Big Three assembly lines located in Michigan, Indiana, and Ohio will increase from 43% in 2006 to 51% by the time the recently announced restructurings will have been put into place) at a time when the domestic carmakers are substantially trimming output and capacity.

The April 18-19 conference in Detroit will discuss these trends in much more depth. More importantly, many of the nation’s experts will address questions that are key to the Midwest's economic future:

  1. What are the indications and plans for a turnaround of the Big Three assembly companies?

  2. How important are Big Three losses with respect to the region’s automotive parts industry, and in what ways?

  3. How are auto parts companies restructuring to put themselves on a firmer footing going forward?

  4. What role will changing labor-management relations and working conditions play in the re-configured auto parts industry?

Posted by Testa at 10:39 AM | Comments (1)

November 22, 2005

Driving Indiana’s and Michigan’s Economic Performance

The Midwest economy is lagging the U.S., but some states are doing better than others. These differences may help us understand the reasons for the region’s lagging economy.

Last week in Indiana, I presented some evidence that the entire region is growing more slowly than the nation. Payroll job growth in our Seventh Federal Reserve District is up only 0.6% for September from one year earlier, versus 1.6% in the nation. In some respects, this performance is not surprising since, nationally, manufacturing jobs are still declining (down 1% year over year through September), and the Midwest’s economy is steeped in manufacturing. In addition, the region’s economy is bogged down by the structural change taking place in the automotive industry. Foreign nameplates continue to gain market share from the domestic automakers (previous blog). Since the foreign nameplate companies and their parts suppliers tend to locate in the South, jobs and income are seeping away from the Midwest.

In this regard, comparing the performance between Indiana and Michigan is telling. Though both states rank among the top 3 nationally in manufacturing concentration, the unemployment rate in Michigan stands at 6.1% in Michigan (Oct.) versus 5.4% in Indiana. Year over year, manufacturing payroll job growth is virtually flat in Indiana, but down over 3% in Michigan.

Click to enlarge.

The economies of both states are automotive intensive, but Michigan to an even greater degree. Indiana’s automotive share dominates manufacturing inside the state, at 16%. But Michigan’s automotive sector accounts for 35% of its manufacturing employment. A weakening automotive sector, then, would be felt more sharply in Michigan.

On top this, the auto sector’s performance in Michigan has been worse. From 2001 to date, automotive jobs have fallen 24% in Michigan, compared to 8% in Indiana.

Indiana’s automotive performance is buffered by having a larger share of foreign auto parts and auto assembly plants than Michigan. According to senior economist Thomas Klier, 29% of automotive parts plants in Indiana are foreign owned, as are 2 of its 3 auto assembly plants.

Auto parts makers tend to locate close to their customers. In Indiana, the foreign-owned parts plants are more likely to supply parts to those automakers who are gaining market share—the foreign nameplates.

Michigan’s automakers are only 17% foreign owned; its only foreign owned assembly plant is the Mazda plant, versus its 15 domestic auto assembly plants.

If the current shifts in market share among automakers continue, it will be imperative for Michigan’s economy to attract investments from the successful auto suppliers and auto assembly companies.

Other performance differences between Indiana and Michigan are intriguing, though one cannot draw any hard conclusions. The chart below illustrates the population growth of the largest metropolitan areas in each state—Indianapolis and the Detroit MSA. Indianapolis’ population growth has exceeded the surrounding areas, and far exceeded that of the Detroit metro area.

Click to enlarge.

In searching for explanations, manufacturing concentration again comes to mind. As recently as 1969, only 26% of Indianapolis’ overall employment was manufacturing, versus Detroit’s 35%. Generally speaking, “factory towns” have had the roughest road in restructuring. As manufacturing employment shrinks, such cities must re-employ larger shares of their work force in new industries and activities. Otherwise, workers move from the area and create a different set of challenges to the town governments. That is, how to efficiently use and maintain their current roads and buildings for a less populous (and sometimes less wealthy) population.

Governance structures may also explain some of the challenges. Central city Detroit has been buffeted by job, population, and income flight, with concentrated poverty left in the wake. Detroit city leaders have been unable or unwilling to climb above the city’s fiscal problems to re-build its economy. To what extent has this failure come about because the central city was isolated from the rest of the metropolitan area (and state), and left to solve profound problems with its own (meager) resources?

Indianapolis and other cities have taken some modest steps in consolidating local governance to a closer fit with their metropolitan-wide economies. In the late 1960s, Indianapolis moved toward a “Unigov” structure. As Rick Mattoon discusses (working paper), the city’s boundary was expanded from 82 square miles to 402 square miles, with a legislative body responsible for governing the city. Though there remain many independent governments, taxing authorities, and school districts within the city, the consolidated city has six administrative departments below the mayor’s office.

Other Midwest cities with elements of regional governance include Minneapolis–St. Paul, which has a metropolitan sharing of property tax base. Columbus, Ohio, has not consolidated, yet its central city government has been aggressive in annexing land outward toward its interstate beltway. Both metropolitan economies have outgrown the broader Midwest.

Posted by Testa at 1:00 PM | Comments (1)

October 20, 2005

Delphi and Midwest Auto Parts

Midwestern communities that host automotive plants are especially concerned at the recent bankruptcy actions of Delphi Corporation. Such concerns are not misplaced, since the geography and problems of Delphi’s operations are similar to those of some other automotive plants.

Delphi, the nation’s largest auto parts supplier, filed for Chapter 11 bankruptcy on October 8. The bankruptcy covers only its U.S. plants; non-U.S. subsidiaries are not included. The company, which had 2004 revenues of $28.6 billion, is looking to the courts to allow it to cut costs by rewriting its contracts with its UAW-represented work force, closing plants, and restructuring its legacy-cost obligations for retirement and health care.

Delphi is a global company. It employs 185,000 people around the world. Of these, about 50,000 are employed in the U.S. Delphi makes a wide range of auto parts, including dashboards, air conditioning systems, electronics, and batteries.

Drawing from a variety of data sources, my colleague Thomas Klier and his research assistant, Cole Bolton, have put together a map of Delphi’s Midwest operations that displays current employment (figure 1). The Midwest is home to about 70% of Delphi’s U.S. employment. The two states with the highest concentration of Delphi employment are Michigan (just under 15,000) and Ohio (just over 13,000).

Figure 1 -- click to see larger image

Delphi’s Midwest footprint is very typical of the overall auto supplier industry; the Midwest is home to 61% of auto supplier plants located in the U.S. (figure 2) with other plant concentrations in the southern states, Ontario, and Mexico.

Figure 2 -- click to see larger image

This remarkable concentration in the Midwest has historically been lucrative for the region. But now, the traditional hub of the auto industry is facing some serious challenges, and Delphi is something of a bellwether.

Challenges to U.S.-produced automotive parts are either directly or indirectly linked to international trade and investment, though ongoing shifts in the domestic geography of parts production also play a role. First, the sales of the traditional “Big 3” domestic auto assembly companies have been giving way to transplant sales. Transplant vehicles are produced in the U.S. by foreign companies and, in some cases, their supply chain of parts reaches overseas to a greater extent than Big 3 auto production. The U.S. light vehicle sales share accounted for by these foreign nameplates has risen from a 15% share to a 22% share during the past decade.

In addition to having global supply chains, this sales shift threatens Midwest parts plants because the transplants and their parts suppliers tend to be located south of the traditional auto states of Michigan, Indiana, and Ohio.

At the same time, imports into the U.S. of light vehicles produced in countries other than Mexico and Canada have increased their market share by 8 percentage points (to 19%) over the past decade. Imported cars do not usually contain U.S. produced automotive parts.

And finally, parts for domestic vehicles—including those produced by the Big 3—are increasingly sourced overseas, with China’s share growing fast, albeit off a small base.

These international developments and regional shifts will be analyzed further by Thomas Klier in a Chicago Fed Letter to be released later this fall. (The CFL is now available -- link.) In addition, Klier is organizing a conference in the Detroit area to further assess the directions and challenges of domestic automotive parts producers.

To be sure, Delphi has some unique characteristics concerning its relative wage and benefit costs that are not mimicked by other domestic parts operations. But the scale and geography of struggling Delphi are enough to focus Midwest attention on both the similarities and the differences.

Posted by Testa at 5:09 PM | Comments (1)

October 4, 2005

Michigan Auto Woes

Michigan’s traditional heavy reliance on the domestic auto industry has been troubling its economy over the past five years. While GM and the other domestic auto makers have “kept America rolling” with continued auto sales and sales/finance incentives, the state of Michigan has shown the worst performance among the states. Michigan’s unemployment is the second highest at 6.7 %; and it holds the bottom spot for year-over-year payroll job performance with a 1.1 percent loss as of August. It is the only state to have lost jobs over this period. What are policy makers to do? The state’s heavy reliance on the automotive sector makes efforts to diversify a long-term and risky proposition at best. In the short term, hopes ride on a turnaround for the domestic auto makers and their upstream auto parts manufacturers, while long-term bets are being placed on new industries.


Light vehicle production in the U.S. has continued to average around 12 million vehicles since 2000. However, as discussed by Thomas Klier (Chicago Fed Letter) earlier this year, it is the geographic shift of production from Michigan and other parts of the upper Midwest southward that is adversely affecting Michigan’s economy. A shift southward has accompanied the slippage in sales share of the domestic nameplate automakers—GM, Ford and Chrysler, which has fallen from a 65% share of domestic sales in 2000 to 58% in August, 2005. Rising imports into the U.S. have contributed to this slippage, with the import share rising from 17% to 20% percent of domestic sales. And so-called “transplants,” which are foreign nameplate companies producing vehicles in the U.S., have captured the rest of the rising share from Big 3 auto makers. Transplant production largely takes place in the South. Michigan hosts only a single transplant(Mazda), which is partly owned by Ford, whereas it hosts 17 domestic assembly plants. Ohio is also laden with domestic assembly and parts makers, but it has two Honda plants as an offset. Indiana is the third state in the Midwest auto troika, and it hosts an Isuzu plant in Lafayette and a recent Toyota plant in Princeton in the southwest part of the state.

As a result, from 2000 through July, 2005 year-to-date, Michigan lost 42% of its auto assembly jobs versus a 14% loss in the U.S. located outside of the three Midwest auto-intensive states. Ohio assembly jobs are down 25% over the same period, while Indiana is actually up one-third.

Auto parts are a larger part of the story, since there are four times as many jobs in parts as assembly operations. Parts makers tend to be located near the assembly plants for historical reasons, and more recently because “just-in-time” production requires proximity for many parts such as seats and sub-assemblies. Michigan’s parts employment is down 34 percent since year 2000, versus 19 percent in the rest of the U.S.

These job losses are felt more keenly in Michigan since, even among the Midwest troika of auto states, Michigan is by far the most dependent on automotive. Michigan’s job base is 7 times more concentrated than the nation in automotive parts, versus 5 and 3 for Indiana and Ohio.


Policy makers in Michigan have long recognized the state’s heavy reliance on this cyclical and competitively-challenged industry. In response, state government is weighing large expenditures to fund life sciences research and is also promoting new company formation in advanced manufacturing and homeland security. Local communities such as Kalamazoo and Grand Rapids are also trying hard to move life sciences activities along. But such efforts to encourage diversification through public support are not without risk, and even if successful, the results often take a very long time. At times like these, many possible avenues of growth and adjustments to public policy will be considered in Michigan. Meanwhile, any signs of a Big 3 turn-around will be enthusiastically cheered.

Posted by Testa at 9:10 PM | Comments (0)

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