Leeham News and Analysis
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Leeham News and Analysis
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Pontifications: ExIm reform
By Scott Hamilton
July 6, 2015, © Leeham Co. The US ExIm Bank authorization expired last week. As readers know, I’m a strong advocate of renewal of the authorization. Boeing, and other companies, hope reauthorization can be achieved this month.
I won’t restate the reasons I think ExIm should be reauthorized, nor my utter disdain for the right-wing Republicans and Tea Party types who don’t get that the Bank helps Boeing sell airplanes and sustain or create jobs. I’ve written about this many times, and the competitive disadvantage Boeing will have vs Airbus, whose European Credit Agencies will take full advantage of this.
But there are some points on the “other side” to revisit.
Judson Rollins, who reports on Skywriter Aviation, has an interesting perspective on the reauthorization. It’s interesting because he formerly worked for Boeing, and he favors letting ExIm go away, and further says Boeing will see no harm. (So much for any chance of Rollins returning to Boeing, I imagine.) Among other things, Rollins writes:
What are Boeing’s short-term options if Ex-Im authorization isn’t renewed? It could opt to retain some aircraft on its own balance sheet and finance them directly until alternative funding can be secured, or work cooperatively with lessors to arrange competitive lease terms. Longer-term options might include writing guarantees to third-party lenders or lessors, or possibly some sort of “buy-down” mechanism where Boeing would small upfront payments to banks in exchange for smaller loan or lease payments to be paid by an airline. Of course, such arrangements would be dilutive to Boeing’s margins, but they would be essential to stay competitive with Airbus, which still has access to European export credit assistance schemes.
This view, of course, is blasphemy to Boeing.
Delta Air Lines, which started the drive to kill ExIm several years ago, complained ExIm provided financing guarantees at below-market rates, enabling users to finance airplanes cheaper than Delta could. In 2011, the rules changed to double the fees, and today Delta, and other US airlines like United and American, can go to market and get cheaper money than ExIm-guaranteed carriers.
Figure 1. Click on image to enlarge.
Delta then shifted gears slightly and said no wide-body airplanes should be guaranteed by ExIm. Wide-bodied airplanes, of course, are used by Delta for most of its international service so, eliminating guarantees in this type of aircraft would inhibit competitors on the profitable international routes.
One should note that Delta has no issue with using export credit financing for its Bombardier CRJs, or potentially, the Embraer E-Jets or the Bombardier CSeries, the latter which is a direct competitor to the smallest Boeing jets.
Boeing, of course, objects to excluding wide-body jets from ExIm support. No wonder.Aside from the competitive disadvantage that would exist vis-a-vis Airbus wide-bodies, look at the list of the top 20 ExIm Bank users we published last week (Figure 1), and note how many of these customers used ExIm funding–including the hated Emirates Airline–but also Etihad Airways, Cathay Pacific Airways and Cargolux. Some of the other customers undoubtedly funded wide-bodies, but this list doesn’t provide this detail.
Note that this list in the last 10 years covers the period during the Global financial collapse in 2008 and the Great Recession that followed, a period in which even credit-worthy airlines couldn’t find money in traditional capital markets. Boeing’s reliance on ExIm to finance their airplanes to non-US customers (or, in the case of Aviation Capital Group, airplanes destined for non-US airlines), spiked to an all-time high during the Great Recession.
Figure 2. Source: Wells Fargo. Click on image to enlarge.
We also published the list last week of pending ExIm guarantee applications, compiled by Wells Fargo (Figure 2). There are some obvious credit-worthy airlines on this list: Air China, Air Canada, Cathay Pacific Airways, Korean Air Lines, Thai Airways and Emirates. Clearly there are some customers who fall into poor(er) credit category, among them TAAG, Silk Way and Biman Bengledesh. These are the types of customers ExIm was intended to serve.
And this brings me to the point that seems to be the greatest argument Delta, American, United and the Congressional critics have about ExIm’s policies: why are credit-worthy carriers gaining access to the loan guarantees?
Setting aside for the moment the obvious retort that these customers have the same access to Airbus ECAs, I think the ExIm critics have a fair point.
ExIm was created 81 years ago, in 1934 during the Franklin Roosevelt administration and at the height of the Great Depression. It was and is intended to help US companies sell goods to poor(er) credits outside the US. Critics point out that Boeing airplanes overwhelmingly dominate ExIm Bank business, to such an extent that ExIm is called “Boeing’s Bank.”
Why the loony fringe Republicans and Tea Party types can’t see the benefits to job create, retention, competitiveness and benefits to the US trade balance is beyond me. Killing ExIm is throwing out the baby with the bath water. Does it appear reform is needed? Absolutely. Credit criteria could be tightened. A reallocation of funding guarantees might be adopted, with a cap allocated “for the export of commercial airliners,” freeing up money for other companies and industries. Let’s remember that very soon, Airbus will be delivering airplanes out of its Mobile (AL) plant. Although Airbus intends that these are destined for US customers, I can foresee the day where US-assemble A320s with US-made engines (Pratt & Whitney and, to some degree, the CFM US-French competing engine), along with its high US component content might be delivered to non-US airlines and thereby become eligible for US ExIm guarantees (wouldn’t this be ironic?).
A real reform effort is needed to return to the original purpose of ExIm and to reallocate the guarantees to open access to more companies. But killing ExIm altogether? Dumb idea.
And speaking of dumb ideas
The US Department of Justice is considering whether to launch an anti-trust investigation of American, Delta, United and Southwest airlines–the Big US Four that control 80% of the domestic market–and whether they’ve colluded to reduce capacity in order to boost profits.
After a decade or more of over-capacity to gain market share, promoting fare wars in the process, the US airline managements, spurred by the Great Recession, finally understood that too much capacity is bad for the bottom line. I hate flying today at 85% load factors, and truly relished the days of over-capacity and 65% load factors. But those days led to failed airlines and ultimately consolidation. Airline managements are finally running their companies like businesses. Now DOJ is asking whether statements in public forums, like conferences, press conferences, media days and earnings calls, represent “signaling” competitors, resulting in collusion.
Whatever happened to First Amendment Free Speech?
Jamie Baker, one of the airline analysts at JP Morgan, issued this comment last week in a research update on Delta. I found it hilarious and reprint it here:
Introduction to Baker’s note: Lastly, and despite our best efforts to resist commenting on that which we consider immaterial, our views on the DOJ investigation are included below.
- Our thoughts on the DOJ. We didn’t originally intend to comment on yesterday’s DOJ investigation for a number of reasons. First, the implication that airlines currently enjoy pricing power flies in the face of current data. Second, roughly 80% of fare increases we track have failed in recent years – so we can’t help but find humor in the suggestion of collusion. Third, our investment thesis was never predicated on illegal behavior by management teams. Fourth, the industry is already one of the most transparent imaginable, in our view, as ticket prices and schedules are publicly available, in most cases up to a year in advance. Nonetheless, investors have asked us whether the DOJ’s investigation is likely to stall any upcoming capacity cuts. Our answer is no. The DOJ is not investigating whether airlines have pricing power or are gouging customers. The DOJ is not investigating whether Southwest should grow 3% or 8%. Rather, the DOJ is investigating whether managements illegally coordinated pricing and capacity decisions with each other. Southwest responding to its owners and cutting its 2016 growth plans after the equity shellacking it received last month (in response to a potential 8% growth rate) is not illegal. Southwest responding to an e-mail from a competitor declaring, “Raise your [expletive] fares 20%. I’ll raise mine the next morning,” would be (this is an actual quotation from 1982 between the CEO of American and the CEO of Braniff). We are comfortable presuming no such malfeasance took place, and that managements will continue taking legal steps to ensure respectable returns for investors, thereby advancing the widely embraced pursuit of higher valuation multiples.
Fares paid by consumer continue to rise in part because the Federal government taxes the ticket prices at rates that exceed “sin” taxes (tobacco, alcohol, etc), more than 25%, and shows no signs of mitigating this. Instead of investigating the airlines, DOJ should look at the taxes.
The Tea Party needs to find causes to fight and push it’s ideology. It has huge funding and so has to push to views of it’s donors – it does not have to make sense as we see that there are many rich people with money to burn.
I wonder if lacking ExIm finacing is more of a competitive disadvantage for Boeing, or, having it is a competitive advantage vis-a-vis Airbus wide-bodies.
The first assumption sounds way more sympathetic then the second, depending which side of the pond you sit.
“I can foresee the day where US-assemble A320s with US-made engines …. thereby become eligible for US ExIm guarantees (wouldn’t this be ironic?).”
Not if it helps create preserve / create American jobs, benefits to the US trade balance. Or is there more?
All is justified by the “European Credit Agencies” doing the same. No further details / proof / references needed. Is “The other one does it too” is good apparently enough for domestic use? Maybe some further research into this is required. The recent subsidy row and WTO verdicts showed things can be a little more “complicated”.
The name calling is hardly productive, and it shows a serious inability to consider the arguments of intelligent and informed people who are in favor of free trade.
Just because “the other guy does it” does not justify the Ex-Im Bank. One could make the same argument that the government should subsidize absolutely everything (using Scott’s arguments in favor of jobs, etc.) – but we know precisely where that leads. Socialism has failed: why should we seek to reinstate its mechanisms?
The Ex-Im Bank should have a stake driven through its heart. Boeing’s products should stand and fall on their own. If the business risk is a good one, there is plenty of capital available. The American Taxpayer should not be guaranteeing Boeing risks.
actually, democratic socialism (as practiced in western europe) has not failed, it has succeeded explosively.
it is unrestrained capitalism as preached by the tea party lunatics that is both a failure and a recipe for disaster.
the american taxpayer should not be subsidizing oil companies, or banned from having medicare negotiate volume pricing on medications, but the Tea Party Nutjobs will fight to the death to preserve those subsidies because that is where their money is coming from.
See what Boeing says when a bit more ‘democratic socialism’ tells them where they should put their factories and then have german style ‘works councils’ involved in the running.?
The response would be to ‘get the government off our back’
I think the way Boeing treats its workers is shocking!!
While I don’t agree with what you’re saying, you don’t sound looney, so I’m doubtful you a real Tea Party member.
It was Barack Obama, who is not a right wing extremist, who once called it “corporate welfare”. There are valid reasons to let it remain dead, including that its original charter to increase trade with the Soviet Union, has expired. Without Obama there would be no “tea party” contingent in the U.S. House though.
http://www.wsj.com/articles/republicans-should-kill-the-export-import-bank-1402264988
Does the 737 really need its own taxpayer funded bank?
ExIm financing could be re-instated if the aeronautical sector is excluded (read Boeing).
In the last decades this financing did nothing to force Boeing maintaining jobs in the USA (even less creating any outside of natural growth!). Boeing contracted out big part of the 767 (including the tanker version), the 777, the 787 (about 30% of the whole plane!) and soon the 777X to Japan and many other countries.
The ExIm financing has just helped Boeing on the stock market, allowing his top managers & shareholders to pull away insane $ amounts t the detriment to R&D.
What is needed (urgently) is to create a system inspired from the RLI which benefit Airbus; tying the helps to US-based job & IP creation. These help would be welcome for Boeing, allowing the cheap financing of the much needed R&D for the new models that must be designed & build in the USA to allow Boeing to survive and regain its market shares.
“Whatever happened to First Amendment Free Speech?”
Free speech rights aren’t unlimited, but that’s not really a relevant issue here. The Justice Department is going to look for evidence of willful collusion. Just following another carrier’s fares isn’t going to be enough. They’ll looking for cooperation and agreement between management. If there’s no evidence of collusion, they’ll drop the investigation.
The other corollary to so called “First amendment free speech” is the Miranda warning- ‘you can remain silent but anything you do say can be used against you’
This doesnt strictly apply to the airline execs public comments either but it can lead to a further investigation. All it takes is one whistleblower or an email and its all on.
Is there someone who can explain why Exim cost money to US taxpayer !!
European export credit assistance schemes are based on insurance statistic that are now non private insurance company !!
I suggest Exim busines is taken over by private insurance companies … Tea Party then will not cry !!
I do not understand Delta desire to eliminate Exim … they can play on a level field in buying Airbus aircraft …
The only company for which Exim or private Exim must stay is Boeing however as stated above I am not sure they have a much higher content of “US made” than Airbus … FAL is quite a small part of total manufacturing cost
I won’t even pretend that I have much of an understanding of economics,but the money that is being lent by the U.S. Government has first to be borrowed by the U.S. Government.There thousands of better ways to help improve export performance than lending that money on to foreign airlines.Spending the money on improving the education system helps the entire economy.Possibily more to the taste of the right wingers,would be to simply not borrow the money in the first place and not burden individuals and businesses with the additional taxes.
Encouraging Delta to buy Airbuses isn’t really going to help Boeing is it?
I really need to see more data on the European equivalent schemes before I can make a proper judgment,if it’s the same,as a European taxpayer I will be equally unhappy.
On the last point I can only agree,Boeing has been very cunning in playing the national victim card.Airbus has been great for the American aerospace industry as a whole.
Loans they guarantee ends up with higher interest rates than fixed term rates to the airline. This is a big big worry as the current interest rates are very low and could spike up for all sorts of reasons. This produced an over $8 bill blowout previously, and thats before the airline construction boom.
On the DoJ front, I find it fascinating that they allowed all these airline mergers in the first place and now worry about collusion. Didn’t take a rocket scientist to see this coming. For those who say price increases have not “held” – while true, what has “held” is pricing in the face of a massive decline in the single biggest input cost (fuel) combined with record low costs for the second or third biggest input cost (capital). Move along – nothing suspicious here.
Re Exim, has no one ever thought that maybe if the US led with the elimination of this subsidy to Boeing, Europe might just follow suit.
Why should Europe follow?
Boeing is going to sell less aircraft and Airbus will sell more.
Before the race you shoot yourself in one foot. Then you ask the opponents to do the same…
The idea of a free market is just an idea. Therefore there is no real Nobel Prize for strange ideas.
Because we Europeans have better things to do with our money as well.Also,like the U.S. We are hugely in debt.
Most European countries do not act as a bank like ExIm. The system is quite different e.g.:
https://en.wikipedia.org/wiki/Hermes_cover
That could be a solution for the US, too.
Killing ExIm without a proper replacement is plain stupid.
The purity of the marketplace is a myth and the Tea Party is living in a world of ideology not common sense or practicality. What is needed is compromise and adjustment as Scott has suggested. Delta is not going to get the world to do what it wants… it will at best only slow the changes down. Delta needs to figure out how to compete with the ME3…
Why drag down Boeing, which is arguably one of the few national elite manufacturing companies the US has?
If the Europeans give companies like Microsoft or Google the biff because of their commercial practices, then US can do the same to their finance vehicles .
Why cant the ME3 get guarantees from their own governments ( who are the shareholders! )
It is many years since I lived in England, but Finance for overseas deals went through ECGD(Export Credit Guarantee Department) a government body. The actual money was put up by the marketplace. ECGD merely offered the lender of the money a sovereign guarantee should the project fail for any reason.
Really not sure if this is still the case in Europe, but ECGD ran as a business and used to do fairly well.
It’s very difficult to find out anything about the losses, but they are huge.£1 billion following the invasion of Kuwait,£200million owed by Zimbabwe ,£200 default for Hawks for Indonisia and loads more.Sometimes the loans are rescheduled but it seems that they are often very quietly written off eventually.Just like in the U.S. there is a dominant client,in this case Bae systems.If the market is not prepared to insure something there is usually a very good reason.
Scott,
You lumped American and United together with Delta as opposing ExIm. Do you know that to be the case? Or are you mixing this up with the opposition to the open skies agreements with the Gulf carriers.
I am not sure I have seen comments from American and United on ExIm.
@LarryR: Yes, you are correct, that is AA and UA are part of the DL trioka on Open Skies.
The principle of export financing is generally accepted as a good thing by most governments because it reduces the often massive risks associated with dealing with overseas trade. As such this should be a no brainer and the EXIM bank should be refinanced.
The company traditionally pays a premium for risk over and above the financing cost at commercial rates. The premium should cover the credit risk suffered by the government offering the guarantee
The problem arises where the export credits introduce moral hazard ie encourage commercial behaviour that is excessively risky and also where the EXIM forgets its mandate and offers financing at less than commercial terms. These however are details which can through effective checks and balances be managed. There is a massive risk of too cosy a relationship existing between Boeing and EXIM
The EXIM bank should be allowed to continue but possibly with a clearer remit of what it should and should not be financing and at what rates. Unfortunately it seems to be a political issue when it should only be a technical issue
Scott, thanks for sharing my viewpoint with your audience. However, I’d hasten to point out that I never actually called for “Ex-Im to go away.” Not taking a position may seem like a cop-out to those on either side, but I don’t claim to have the correct policy solution. What I can tell you is that export credit subsidies create an inherent conflict between OEMs and their customers, both lessors and airlines. It’s up to policymakers on both sides of the Atlantic to decide which constituencies they value most, because there is no Goldilocks solution for all the stakeholders involved.
I appreciate your differentiating me from “types who don’t get that the Bank helps Boeing sell airplanes and sustain or create jobs.” The Bank most certainly does help Boeing sell airplanes … and therein lies the problem. Basic economics teaches us that lowering the price of a good — and financing cost is a part of total price, to be sure — will cause more of that good to be sold. Subsidizing the price of a good pushes out the supply curve, causing more units to be sold than the market otherwise would have bought. More here: http://economicsonline.co.uk/Competitive_markets/Subsidies.html
Those incremental sold airplanes increase the total of available airline seats worldwide, driving higher-than-equilibrium capacity, lower yields, and disproportionately lower profitability for airlines. Avitas’s Adam Pilarski and others further argue — correctly, in my view — that increasing production rates (particularly for single-aisles) is leading to a “bubble.” If true, this means well-financed airlines will be incentivized to dispose of aircraft sooner, residual value curves will fall (harming lessors), and barriers to entry for new airlines will be lower — further exacerbating the airline capacity oversupply problem.
The “bubble” will eventually boomerang back on the OEMs as well. Cheaper used aircraft will become an increasingly serious alternative for established airlines, especially ones that have robust in-house MRO operations, driving down prices and margins for new aircraft. We’re already seeing this at the likes of Delta, United, and Southwest, which have been actively acquiring used A319s, A320s, and 737s for their mainline operations. Delta has been known to keep certain airplanes in service, notably DC-9s, in service well beyond 40 years. I believe this model of established carriers operating fully depreciated — i.e., zero ownership cost — aircraft well beyond our traditional notions of “economic life” is on the leading edge of the industry. We’ll see much more of it in the years to come, as residual values drop and “bargain” used aircraft become more available.
In our offline conversations, I’ve said that I believe the optimal solution is for all of the relevant governments involved to agree to “multilateral disarmament” in subsidizing aircraft sales. You called that “naive,” and you may be correct. However, I believe there’s a path forward if governments in the US and Europe are willing to rewrite the Aircraft Sector Understanding to say “commercial aircraft sales are no longer authorized for export credit subsidy.” If threatened with tariffs on new aircraft in their largest potential markets, I think you’d see Canada, Brazil, Japan, and other ASU signatories fall in line quickly.
The US “Big 3” airlines and some of their European brethren, notably Air France-KLM and Lufthansa, have been lobbying their respective governments to curtail traffic and/or landing rights for Emirates, Etihad, and Qatar. It’s a battle they are highly unlikely to win, not least because of the extensive damage such limits would do to air traffic liberalization efforts worldwide. If their goal truly is to fight excess capacity in longhaul markets, their resources would be much more wisely spent on a multilateral effort to end aircraft credit subsidies.
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