On October 17, General Motors and the United Auto Workers agreed to a substantial cut in the medical benefits GM gives its UAW retirees. When this agreement is approved by the UAW members, GM retirees will have to make co-payments for doctor visits and pay about a fifth of their health coverage premium.

This benefits cutback will reduce GM's total medical cost liability by about $15 billion. A substantial saving for a company whose total market value is only about $15 billion. Paradoxically, GM gained this cutback agreement not because it is strong. On the contrary, it won because it is weak against more cost efficient foreign competitors. Compared with these competitors, GM has a cost disadvantage of some $1600 per car due to its generous benefits package to current workers and retirees.

GM's market weakness also forced UAW's hand in collective bargaining. UAW could either accept a less draconian benefits cutback or face a more drastic cutback if GM filed for Chapter 11 bankruptcy protection. Under Chapter 11 protection, GM could cancel all existing union contracts and impose a new package of compensations and benefits that restore its cost competitiveness to market reality.

Being the largest player in the largest industry, GM's achievement in cost reduction will have a domino effect on all other domestic auto companies and non-auto companies. The existing compensation and benefits packages of big U.S. companies were negotiated in an era of tight closed labor market where the most generous employers won. But this cost reduction is overdue in a global market where jobs could be easily offshored to lower-cost countries. Increasingly, it is the cost structure of the most efficient competitors (domestic or foreign) that sets the ceiling of U.S. workers' compensation and benefits package.

In the old model of collective bargaining, it was the big corporations against the big unions in one industry. Labor strike was a lethal weapon against the helpless corporations. Now there are always a number of constantly hungry low-wage third parties on the side willing to accept a much lower wage and benefit package. This is the so-called "China price". Delphi, a struggling auto-parts spin-off from GM pending a bankruptcy petition, wants its hourly workers to accept pay and benefits packages totaling no more than $25 an hour instead of the once $65 an hour.