On February 10, 2016, the Indiana-based furnace company Carrier announced that it would close two factories in the U.S.—one in Indianapolis and one in Huntington—and shift production to Mexico. Just three days later, presidential longshot Donald Trump bragged on Twitter: "I am the only one who can fix this. Very sad. Will not happen under my watch!" Then on April 20, just 13 days before the May 3 Indiana primary, he promised to impose stiff taxes on companies that moved jobs out of the country, singling out Carrier as part of the problem. On July 12, he attacked Carrier again.
On November 8, of course, Trump won the presidential election. Less than three weeks later, on Thanksgiving, he tweeted that he was "working hard" to keep the plant in the United States. On November 29, Carrier announced that it had reached an agreement with Trump to keep about 1,000 jobs in Indianapolis.
"Donald Trump's Carrier Deal is Pure Crony Capitalism," read the headline of a Newsweek op-ed by American Enterprise Institute fellow Claude Barfield. Trump supporter Sarah Palin denounced the deal as "crony capitalism," too, insisting in a op-ed of her own that "intrusion using a stick or carrot to bribe or force one individual business to do what politicians insist…isn't the answer." Certainly they had a basis for that reaction, especially after Vice President–elect Mike Pence's statement that "the free market has been sorting it out and America's been losing."
But a closer look reveals Trump's up to something a little different, and potentially more damaging. His actions will almost certainly lead to more cronyism than we have now. But his behavior in the Carrier case looks more like President John F. Kennedy's treatment of U.S. Steel in the early 1960s and President Barack Obama's treatment of General Motors and Chrysler bondholders in 2009. And it has disturbing implications both for our economic well-being and for our freedom.
Bribe The day before Trump's triumphant press conference, Carrier gave two reasons for its decision: first, that "the incoming Trump-Pence administration has emphasized to us its commitment to support the business community and create an improved, more competitive U.S. business climate," and second, that the "incentives offered by the state [government] were an important consideration." Carrier did not specify which incentives it had in mind.
By December 2, one of the incentives was publicized: a $7 million tax credit over 10 years from Indiana's state government. Now, $7 million might sound like a lot. But stretched out over 10 years, it's really not. It's hard to believe that this amount was enough to keep 1,000 jobs in town. The tax credit amounts to $700 per job per year. Is that enough, on its own, to keep Carrier from moving the jobs? It seems unlikely. Companies don't relocate factories on a whim; the firm would have expected significant and lasting gains from the move. In fact, according to a Washington Post story, Carrier had claimed that its move to Mexico would have saved $65 million per year. That's two orders of magnitude more than the new tax credit. Moreover, Indiana's governor, Vice President–elect Mike Pence, claimed that United Technologies, Carrier's parent company, had turned down a similar package of tax incentives in March.
"I was born at night, but it wasn't last night," United Technologies' CEO said. "I also know that about 10 percent of our revenue comes from the U.S. government."
That suggests that other factors were involved. One prime candidate would be a threat to go after United Technologies' military contracts. Of the parent company's $56 billion in annual sales, about 10 percent is to the military. That's about $5.6 billion. Again, just a smidge of basic math: If Trump's retaliation were to cause United Technologies to lose 15 percent of these sales, or $840 million, and its profit were, say, 8 percent of sales, that's an annual loss of $67 million. Compare that to the $65 million in expected gains from moving to Mexico, and we can start to see one good reason for Carrier to stay.
Of course, this suggestion of a threat on military contracts is hypothetical. I wasn't there when the deals were made. But it's plausible.
What is not hypothetical is United Technologies CEO Greg Hayes' comment to Mad Money host Jim Cramer: "I was born at night, but it wasn't last night. I also know that about 10 percent of our revenue comes from the U.S. government." Also not hypothetical is the language that Trump used in a post-election phone call to Hayes. According to Trump, after Hayes told him that the company had already built the new facility in Mexico, Trump said, "Rent it. Sell it or knock it down. I don't care."
The president-elect could be lying about how aggressive he was, or overstating his willingness to see economic assets of American companies destroyed for political ends. But if there's one thing that seems to be a constant with our incoming president, it is Mr. You're Fired's willingness to threaten people.
Bully It's tempting, looking in from the outside, to see the Carrier deal as classic cronyism. But cronyism is generally thought of as involving companies going to the government for special favors. That favor could take the form of subsidies, as when Barack Obama's administration gave hundreds of millions of dollars to a failing solar firm in California. It could take the form of protecting firms from foreign competition, as President George W. Bush did in 2002 with a 30 percent tariff on imported tin mill steel. It could be a regulation that hurts the favored firms' competitors, as with New York state's rules designed to benefit hotels by hobbling Airbnb.
None of these categories of cronyism fits the Carrier case. It's possible that Donald Trump made a larger commitment to give special favors to Carrier or United Technologies in return for keeping furnace production in the United States. But it's far more likely that United Technologies perceived—or actually received—a threat on its lucrative military contracts.
And that's a different model entirely. Though not one without precedent.
Consider John F. Kennedy's clash with U.S. Steel in 1962. With mediation from Labor Secretary Arthur Goldberg, 10 steel companies and the United Steelworkers of America agreed to a contract on March 31 of that year. Kennedy praised the deal, saying that it was "non-inflationary" and that both sides had shown "industrial statesmanship of the highest order." But on April 10, U.S. Steel Chairman Roger Blough visited Kennedy in the White House to tell him his company was about to raise prices by $6 a ton, an increase of 3.5 percent, and that other steel companies were about to do the same. (Parenthetically, I wonder how Blough knew other companies would do the same. Was he aware that, under antitrust laws then and now, companies aren't supposed to share private information about future price increases?)
Kennedy was enraged. Twitter did not exist then, so the president used a large part of his April 11 press conference to lambaste the companies. He accused them of "a wholly unjustifiable and irresponsible defiance of the public interest" and claimed that they showed "utter contempt for the interests of 185 million Americans." The one company he singled out by name at the start of the press conference was U.S. Steel.
Secretary of Defense Robert McNamara then announced that the Defense Department would shift a contract for submarine construction from U.S. Steel to a firm that had not raised prices. Kennedy's younger brother, Attorney General Robert Kennedy, announced an antitrust investigation of the steel companies and subpoenaed U.S. Steel. Then Inland Steel, the eighth largest steel company, refused to raise its prices. Bethlehem Steel, the second largest company, cried uncle too. And then U.S. Steel, the largest company, backed down on the price hike.
Beg and Borrow Or consider Obama's bailout of Chrysler and General Motors. On the surface, it looks like a straightforward case of cronyism in which Obama helped both the auto companies and the United Auto Workers' union. But in a 2011 National Journal article, "The Auto Bailout and the Rule of Law," George Mason University law professor Todd Zywicki looks beneath the surface. He finds that the Obama administration put its thumb on the scales of what should have been a straightforward bankruptcy procedure and violated the rule of law. "In the years leading up to the economic crisis," Zywicki notes, "Chrysler had been unable to acquire routine financing and so had been forced to turn to so-called secured debt in order to fund its operations. Secured debt takes first priority in payment; it is also typically preserved during bankruptcy under what is referred to as the 'absolute priority' rule—since the lender of secured debt offers a loan to a troubled borrower only because he is guaranteed first repayment when the loan is up. In the Chrysler case, however, creditors who held the company's secured bonds were steamrolled into accepting 29 cents on the dollar for their loans. Meanwhile, the underfunded pension plans of the United Auto Workers—unsecured creditors, but possessed of better political connections—received more than 40 cents on the dollar."
Obama violated standard bankruptcy procedures. How did he get away with it? By lambasting various hedge funds in public. In an April 2009 speech, he claimed that a group of investment funds and hedge funds were holding out for an "unjustified taxpayer bailout." Further, he claimed, they were demanding "twice the return that other lenders were getting." Well, sure. That's because they would not have lent if they hadn't expected to be first in line for repayment. And as for the "unjustified taxpayer bailout," it was Obama who insisted on, and carried out, the bailout. He gave special treatment to the United Auto Workers. That's the cronyism part. But both Kennedy and Obama initiated actions against various parties—Kennedy against steel companies and Obama against holders of secured bonds. To the extent that Trump's actions were threats against Carrier and its parent company, they were a lot like Kennedy's threat against steel companies and Obama's abrogation of bondholders' rights.
Steal Larry Summers, formerly Obama's chief economic adviser, has eloquently denounced Trump's actions as a violation of the rule of law. It's too bad he apparently didn't express the same view when he and his protégé, Treasury Secretary Tim Geithner, were busy violating the rule of law in the auto bailout. Better late than never, but I fear that Summers' respect for the rule of law will fade or even disappear the next time a Democratic president takes office.
Someone who doesn't worry about the implications of Trump's actions but instead actually likes them is Steve Pearlstein, a columnist for The Washington Post and a professor of political and international affairs at George Mason University. In a Post column titled "Donald Trump's Carrier deal could make American capitalism better," Pearlstein writes: "[Trump] knows that he and his new commerce secretary will have to engage in a few more bouts of well-publicized arm twisting before the message finally sinks in in the C-Suite. He may even have to make an example of a runaway company by sending in the tax auditors or the OSHA inspectors or cancelling a big government contract. It won't matter that, two years later, these highly publicized retaliations are thrown out by a federal judge somewhere. Most companies won't want to risk such threats to their 'brands.' They will find a way to conform to the new norm."
These predictions are, unfortunately, very plausible.
Most instances of crony capitalism are facilitated by the discretionary power of government. Because of past power grabs by presidents and past failures by Congress to exert its authority, the U.S. president, whoever he is, has an enormous amount of discretionary power. And Trump has never seemed like a man who worries about executive overreach.
Once firms recognize that Trump can pull discretionary levers to get the outcomes he wants, they will look for ways to kiss the emperor's ring.
The stage is already set for a great deal of cronyism because so many firms rely on government contracts. So Trump's exercise of his coming power over government contracts will inevitably lead to crony capitalism. Once firms recognize, as they probably already have, that the Trump administration can decide whatever narrow outcome it wants and then find the discretionary levers to pull to get that outcome, they will look for ways to kiss the emperor's ring. Then those firms that do so might well be rewarded with subsidies, tariffs, regulations that hobble their competitors, and so on.
Unlike Pearlstein, I see this as awful news. One of the basics of a free society is that if you obey the law, you are not in trouble. We have already gone far beyond that, with asset forfeiture, for example. But Trump's action with Carrier takes us one step further down that road. And if Trump follows Pearlstein's suggestion—sending in tax auditors and Occupational Safety and Health Administration (OSHA) inspectors, not as part of a regular tax audit or OSHA inspection but as part of a threat by a government that wants to get its way on something else—that would take us several steps more.
In his 1944 classic, The Road to Serfdom, economist Friedrich Hayek wrote eloquently about the danger to people of accumulations of government power: "As the coercive power of the state will alone decide who is to have what, the only power worth having will be a share in the exercise of this directing power." Larry Summers, drawing on his inner Hayek, actually said it well also. "Reliance on rules and law has enormous advantages," he writes. "It greatly increases predictability and reduces uncertainty. It reduces expenditures on both guarding property and seeking to appropriate property. It promotes freedom because most of the people most of the time do not take political positions with a view to gaining commercial advantage. The advantages of the rule of law are so great that I would claim that there is no country more than 2/3 as rich as the United States that does not have a strong tradition of the rule of law based capitalism. And I know of no country where the people are free where the rule of law does not largely govern market interactions."
We're already well along the path away from the rule of law, as Summers well knows, given his prominent role in the G.M. and Chrysler bailouts. The Trump maneuvers on Carrier, in themselves, are but a small further step away. But they are a step.
The less predictable are the rules, the less secure are our property rights. Making property rights less secure reduces the incentive to invest. Summers probably overstated the bad effects of Trump's move: We might not wind up objectively poorer, but we will certainly be poorer than we would have been. And we will definitely be less free.
As Donald Trump would say, "Very sad."
Correction 1/29/17: An earlier version of this story mistakenly described Robert Kennedy as John F. Kennedy's older brother.