Tag Archives: fiscal cliff

Let’s Keep This Simple: Default is NOT an option

Henry V“Once more unto the breach, dear friends, once more;
Or close the wall up with our English dead!
In peace, there ’s nothing so becomes a man,
As modest stillness and humility:
But when the blast of war blows in our ears,
Then imitate the action of the tiger;
Stiffen the sinews, summon up the blood.” Henry V, III (1)

What is a default? 

A default is a default, is a default: “failure to fulfill an obligation, esp. to repay a loan or appear in a court of law.”  Or, “The omission or failure to fulfill a duty, observe a promise, discharge an obligation, or perform an agreement.” [Black’s]  That’s it. Once an obligation is not met, once a loan payment has not been made, once part of an agreement has not be performed — there is default.  There are no little defaults, middling defaults, or big defaults.

What are the consequences of default?   If a person defaults on a student loan the school, the financial institution holding the loan, and the federal government may all take action to recover the money owed.  A person who has defaulted may experience difficulty signing up for utilities, getting a cell phone plan, or passing a credit check for almost any financial transaction.   An individual may negotiate with a lender to repay a loan, but the loan is still a binding legal document.

There was some talk of “strategic defaults” in the wake of the Financial Debacle of 2007-2008.  Homeowners followed this advice at their peril.  Bankrate describes three of the consequences, and none of them are good.  The person’s credit rating will be wrecked, there will be extreme difficulty getting another mortgage, and in some instances there are tax liabilities involved.

The same misery accompanies default on auto loans — repossessed property, wrecked credit, and the inability to secure future lines of credit.

If we are clear that a default is a default, and defaults have serious and obnoxious consequences, then why would any person with a lick of common sense believe that a national default wouldn’t be a serious and dangerous action?

Remember all those members of the right wing chatterati who railed against those irresponsible borrowers who bought houses they couldn’t afford and brought pain and suffering to those poor innocent bankers?  If those families were castigated for their irresponsibility and their failure to meet their obligations, then what are we to think of those who are now advising the federal government not meet its obligations?

A Default is NOT a Deferment

A deferment is a completely different beast than a default.  A person, caught in a financial bind, may negotiate with his or her creditors for a deferment on payment, and if the two sides can hammer out an agreed upon solution the obligation may be deferred — but not eliminated.   Some members of the Congress are sounding like they think the U.S. government can “prioritize” its payments — rather like a person can hold off paying one bill until the next pay check, or as a person might make the mortgage payment but get a deferment on the car loan.   Sovereign governments are not financed this way.

The Government and the Bond Market

The United States government does not take out loans.   The Chinese have not made any loans to us.  Nor the Caribbean bankers, nor the British, nor the Germans, nor the French, nor anyone.   The Chinese, the Japanese, the Caribbean banks, the British… invest in the United States by purchasing Treasuries.

Treasuries are bonds, and bonds are:

“A debt investment in which an investor loans money to an entity (corporate or governmental) that borrows the funds for a defined period of time at a fixed interest rate. Bonds are used by companies, municipalities, states and U.S. and foreign governments to finance a variety of projects and activities.”

There are short term bonds and long term bonds, they range from 90 days to 30 years, and each comes with a statement of the interest rate (coupon) and the date at which the bond matures.   The better the quality of these bonds (the less risk of default) the lower the interest rate demanded by customers for the bonds.

At this point we run into another problem for the Default Deniers: What to do with the bond-holders?  Which bond-holders?  Bonds are maturing every day.  Interest is due on bonds usually every six months.   If a person holds a 30 year Treasury bond then interest is automatically paid into his or her bank or brokerage account every six months.  The government doesn’t cut checks for interest payments.

Treasury bills, bonds, and notes are are all marketable securities.  A Treasury bill is a short term transaction for one year or less, and because they are short term they don’t pay any interest until maturity.  A Treasury notes are also short term, ranging from 2 years to ten years, and Treasury bonds are longer term, beginning at 10 years and ranging up to 30.   And, there are lots of them:

“The amount of marketable U.S. Treasury securities is huge, with $8.85 trillion in outstanding bills, notes, and bonds as of the end of 2010. Trading volume in Treasury securities averaged $949.8 billion a day in 2010.”  (emphasis added)

That’s right — $949.8 billion PER DAY.   Now, who was saying that it would be “easy” to have the U.S. Department of the Treasury reschedule electronic payments of interest and handle more than $949.8 billion or more in trading volume PER DAY?  There’s a reason the financial news anchors don’t talk about Treasury “transactions,” they talk about Treasury “volume.”

What’s tied to the Treasury Bonds?

Lots of stuff.  Some of it better than others.  For example, the rate on a home mortgage is tied to the 10 year and 30 year Treasury yields.  Bond yields go down, and  interest rates on bonds  go up in an inverse relationship.  Or, put even more simply — if the interest on a 10 yr. Treasury goes up, so does the cost of your 10 yr. loan.   Interest rates go up on a 30 year bond, so does the cost of getting a mortgage.  We know from experience that when home mortgage loans are more expensive the housing sector tends to stall.

Remember all the flap about the Student Loan bill signed into law by President Obama last August?  The interest rate on student loans is now tied to the interest rate for 10 year Treasuries.  Supposedly because these are nice, safe, low-risk government securities.  Therefore, if the interest rate on those 10 year securities has to go up to entice buyers spooked by default noises, what happens to student loan costs?  (You only get one guess.)

What else is tied to the Treasuries?  Just some not-so-minor details like the calculations involved in determining  the Gross National Product, the Consumer Price Index, and the Producer Price Index.  If we start tacking that “default premium” onto the costs associated with U.S. Treasuries, all manner of dominoes start to fall into each other.

Collateral Damage

Because U.S. Treasuries are supposed to be the safest investment on Planet Earth, they are used as Tier One collateral, the best capital in the bank; the core of the banking system.   If we thought the freeze after Lehman Brothers collapsed was a beauty, the potential collateral damage to the financial sector in a government default is described by Warren Buffett as a nuclear bomb.  What would make one of the world’s Super Investors use that kind of language? The answer lies in the hard fact that there is at least $2.8 TRILLION  worth of U.S. securities out there which are serving as collateral for those repo and reverse repo loans on which Wall Street is dependent.

The next time some Congress Creature blithely observes that the federal budget and financing system is “just like your family budget,” ask if there’s $2.8 trillion worth of family marketable securities out there underpinning the economy?

Stiffen the Sinews

In short, this is why the Financial Services Forum, and Goldman Sachs, are ready to “imitate the actions of the tiger,” and “stiffen their sinews.”   The central nature of the U.S. Treasuries is such that the IMF, and the Chinese and the Japanese, have weighed in on the prospect of a U.S. default.

The previously unthinkable has become a political equivalent of a loaded firearm, pointed directly at the heart of the American economy, held by  individuals who in light of  their own statements show little, if any, understanding of the disastrous consequences of pulling the trigger.   It’s high time to decide the only blood involved is going to be that summoned up by the adults in the room.

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Filed under Economy, Politics

A Quick Lesson In Chart Reading: Boehner’s Graph

What is Wrong Boehner Chart

Read the original article here.

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Filed under Boehner, Congress, conservatism, Economy, Federal budget

Yes, We Could Be Having A Serious Deficit Reduction Discussion?

Tea Party FlagAt some point in the ongoing discussion about federal debts and budget deficits everyone needs to get serious.  Serious, that is, about doing that which will reduce our federal deficit spending.  Really serious, not as in “let’s wave a Debt Crisis Flag every three months to advance an agenda including the privatization of Social Security and the voucherization of the Medicare program.”

Let’s start with the obviousSocial Security doesn’t add a dime to the national debt.  If the words of a progressive blogger won’t suffice, how about listening to former President Ronald Reagan?  (video here)  So, discussing “reforms” to the self funded Social Security program as a means to reduce the national debt is extraneous to any serious deficit reduction discussion.

One way to approach the privatization of Social Security is to change the frame of reference, such as altering the connotation of “entitlement” from some earned benefit to which we are entitled because we paid for it, to one which has a tinge of “welfare” about it.  Social Security is not a welfare program — it is an earned benefit.  People who have paid into it all their working lives have every right to expect to be getting something back.  Social Security is not a retirement program.  It is a program which seeks to prevent abject poverty for elders.   Nothing in the Social Security program prevents anyone from maintaining a self-contributory retirement account of any shape or form.   Indeed, the benefits from Social Security are low enough that retirement to the Gated Golf Paradise Of Your Choice can only happen if you have a self-contributory retirement savings program. Anyone suggesting that “entitlements” such as Social Security “have to be reformed” to ease the burden on the federal debt (1) doesn’t have a clue what they are talking about, and (2) is regurgitating anti-safety net talking points from radicals who want to privatize all retirement income programs to the benefit of Wall Street investment firms.

Medicare does have some issues.  The first, and most readily apparent, is that the Medicare Part D (prescription drug) segment is, and always has been, underfunded.  However, the really big monster under the Medicare bed is the increasing cost of health care in America.  When private health care corporations started buying up religious organization/private, state, and locally supported hospitals the profit motive surged in the sector.  Health care must now generate a profit.  Savings, which were once achieved for the purpose of reducing costs for local tax payers or donors to religiously based institutions, now accrue to the corporate bottom line — not to taxpayers, donors, or patients.

The second factor is technology.  We do have the best medical treatment providers in the world.  However, best often translates into “most expensive.” We have all manner of devices and gadgets and equipment and gear to save or sustain lives.  Our hospitals take it as their mission to save or sustain life, which is all well and good until the emotional meets the economical.  There are “death panels” in this country, but they aren’t governmental — they are familial, with families making ‘end of life’ decisions which horrifically in some instances are based on what the family can afford.   Frankly speaking, we don’t do a very good job of educating our citizens about advance directives.  Some conservatives set up a howl when they noticed the Affordable Care Act provided for paying physicians or other medical professionals who provided ‘end of life’ counseling for their patients — however, a little counseling might go a long way toward reducing the anxiety of hospital personnel and the trepidations of family members.  It could also provide some savings in the long run.

Returning to the Big Problem — the Medicare Part D component; we knew in 2003 that the Part D segment would  cost approximately $534 billion.  [Foster pdf] Simply put, “the drug benefit had no dedicated financing, no offsets and no revenue-raisers; 100% of the cost simply added to the federal budget deficit,..” [Forbes]  The part about “dedicated financing” is important.  While the Social Security trust funds have dedicated financing (payroll taxes) there were no provisions to increase the revenues available to finance the Part D enhancement.   There is something unappealingly ironic about the current GOP insistence on “entitlement reform” because “Medicare is broken,” when it was the GOP majority in 2003 that Broke the Program.

Ways to ‘reform’ the Medicare program have been suggested which do not require “voucherizing” the entire thing and sending seniors back to pounding pavement in order to find affordable health insurance plans.  We could consider means testing for the prescription drug benefit.  We might take under advisement lifting the earnings cap for payroll taxes from the current $110,000 level and dedicating a portion of the revenues toward the Part D program.  We could allow the Department of Health and Human Services to negotiate for prescription drug prices the way the Veterans Administration bargains for prescription drugs for VA hospitals and clinics.

If we are REALLY REALLY SERIOUS about ‘reforming’ Medicare then it would be helpful to get past the silly voucherization proposals, referred to as “structural reform” in Speaker Boehner’s response to the President, [Boehner pdf]  and get to the core of what makes health care expensive — we could talk about health care cost containment, dedicated financing for Medicare, and lifting the earnings cap.   We might also want to take a deep breath and see if the Affordable Care Act’s provisions, such as eliminating tax payer subsidies for profitable private Medicare Advantage insurance policies, could achieve some savings over the next decade.

However, it’s getting relatively obvious that the Republicans aren’t terribly serious about deficit (debt) reduction when their offers are strictly ideological (privatize and voucherize) and the proposals don’t address the monster of their own creation — the lack of financing for Medicare Part D.

Buzz Words and Generalities.   Speaker Boehner is offering (pdf) “pro-growth tax reform that closes loopholes and deductions while lowering rates.”   This phrasing is coming perilously close to the older verbiage: Waste, Fraud, and Abuse.  As if we could make up any gaps in program funding by simply cutting out the WFA.  Most anti-tax advocates cite the WFA as some massive potential figure which if reduced could cure all our fiscal woes.  When pressed to provide total figures associated with the largely mythical WFA these advocates provide outlier examples of welfare fraud, some particularly egregious Pentagon payments to contractors, and perhaps a bit of information from Internet e-mail chain letters.  The WFA numbers have yet to yield up the level of financing needed to close budget gaps in the Pentagon or any other government activity.

The arithmetic from “loopholes and deductions” doesn’t add up either.  The same sort of fantastical thinking is required to equate the WFA savings and the L&D revenues.  These mythological creatures are based on the same gossamer upon which anti-tax advocates conjure up the notion that an inordinate amount of the U.S. budget is allocated to foreign aid.  The average American has come to believe that foreign aid takes up 10% of the federal budget, when if fact it consumes only 1%. [NYM]

The Republicans also appear to be consuming their own rhetoric on savings associated with reductions in federal employee compensation.

“Cutting pensions and benefits for government workers is popular, but once again most Americans overestimate how much that costs the government. On average, Americans think the federal government spent 10 percent of its 2010 budget on pensions and retiree benefits; the OMB figures indicate the real number is about 3.5 percent.” [CNN]

The moral of this story is that if the amounts of spending on pensions and benefits, or the amounts that can be retrieved by closing loopholes and eliminating deductions, are grossly inflated, then the resulting policy and budget decisions will be widely off the mark.

Unfortunately, the same type of ideologically based proposals which are the core of Speaker Boehner’s “structural reforms” i.e. voucherization and privatization of Medicare appear to inform his suggestions about federal employee compensation, and another favorite GOP target, SNAP (food stamps.)

The program is already under assault from all sides, considering the appropriations being entertained in the agriculture bill.

The Senate’s version of the farm bill would reduce overall funding by $23 billion, with a reduction in food stamps of $4.5 billion over five years. The House Agriculture Committee is proposing to cut funding by $35 billion — with nearly half the overall cut coming from reductions in food stamps by $16 billion over five years. [Atlantic]

But there’s a problem here.  Food stamps have a beneficial effect on the national economy.

“Those who believe in cutting SNAP funding as a cost-saving measure should know that food stamps boost the economy — not put a strain on it. Supporters of federal food benefits programs including President George W. Bush understood this, and proved the economic value of SNAP by sanctioning a USDA study that found that $1 in SNAP benefits generates $1.84 in gross domestic product (GDP). Mark Zandi, of Moody’s Economy.com, confirmed the economic boost in an independent study that found that every SNAP dollar spent generates $1.73 in real GDP increase. “Expanding food stamps,” the study read, “is the most effective way to prime the economy’s pump.” [Atlantic]

If the object of the game is to increase federal revenues by generating a higher GDP along the formula proposing that a growing economy produces jobs, and more jobs yield more taxable income, and more taxable income means more revenue — then the GOP has the SNAP portion of the argument exactly backwards.  They are proposing to cut a program which actually generates more economic growth.   If one seriously believes that economic growth means more revenue and hence less indebtedness, then one can’t seriously advocate cutting programs which elevate levels of economic growth.

All Pain and No Gain.  The two sides don’t seem to be speaking to the same fiscal slope, cliff, gully, whatever.  From the Republican perspective the damage to the economy might be done by The Specter of Rising Taxes.  Those legendary Job Creators — who are now seeing record corporate profits while wages continue to stagnate — might not invest, and hence there will be no economic growth.  This is fundamental Supply Side Hoax thinking.  That it has been, and still is, a hoax is demonstrated neatly by this graph from the Federal Reserve Bank of St. Louis:

Corporate Profits Low Wages

The blue line represents wages, the red line corporate profits.  If corporate well being were the driver of overall economic growth and  well being then why has the blue line been trending downward since 1970?  The answer is simplicity itself: Supply Side Economics is a Hoax of the First Water.

A deficit reduction plan predicated on ideology, urban legends, misunderstandings, and economic illiteracy isn’t SERIOUS.   That conclusion further advances the argument that the Republicans aren’t really serious about debt or deficit reduction, but merely see the issue as a flag to be waved in the van of their attack on the social safety net, a banner of privatization signaling their allegiance to Tea Party politics.

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Filed under Economy, Health Care, health insurance, income tax, Medicaid, Medicare, national debt, Social Security

To Heck With It? Rep. Heck Tries To Explain The Inexplicable

As if Nevada Representative Heck (R-NV3) didn’t make sense on the Benghazi Bluff, he’s released a little video of some 2.07 minutes to offer up his explanation of his “position” on the Fiscal Cliff/Austerity Bomb/Bunny Slope GOP poutrage du jour.

Representative Heck seems to have missed the part of the election in which the President won.  He does appear to cling to the message that the electorate wants the Congress to cooperate and negotiate with the Administration on how to address deficit reduction.   Let’s go back to the beginning.

There would be NO Fiscal Cliff, Austerity Bomb, or Bunny Slope had the Congressional Republicans not decided to make the debt ceiling such a humongous BFD, as the Vice President might say, in 2011.   Here’s the core of the problem:

“* 2010. Obama signs healthcare overhaul into law. Obama creates Simpson-Bowles deficit reduction panel. Its plan for drastic fiscal reform is largely ignored. Led by Tea Party conservatives, Republicans win control of House of Representatives in midterm elections. Obama agrees to extend Bush tax cuts for two years. Deficit shrinks to $1.3 trillion. (emphasis added)

* 2011. Treasury Department request for increase in U.S. debt ceiling becomes focus of fight in Congress. Republicans, Democrats settle dispute by forming “super committee” to examine fiscal reform. Debt ceiling raised. U.S. credit rating downgraded. Super committee collapses in discord. Deep, mandatory budget cuts triggered for 2013. Stock market makes choppy advance. Deficit estimated at $1.6 trillion.” [Reuters/Yahoo]

One might think a shrinking deficit, followed by economic recovery weak enough to create a bulge in 2011, would be sufficient to take some of the wind from the Free Marketeer Frigate sails, but since “Tax and Spend Democrats” have been the target of choice for Republicans since the New Deal, the GOP/Tea Party can’t quite manage to free itself from the bonds of its traditional narrative long enough to make sense in a reality based universe.

Here’s the reality:

Slowest Spending in Decades

Yes, that’s right — St. Ronald de Reagan’s terms showed annualized federal spending growth of 8.7% and 4.9%.  George W. Bush’s administrations saw annualized federal spending growth of 7.3% and 8.1%.  Even if we attach the 2009 stimulus package to the Obama Administration, his first term only saw annualized spending growth of 1.4%.  [HuffPo] [WSJ/Marketwatch]

So, terms like “out of control spending” and similar hyperbole from the right wing of the right wing party, become a fictional narrative rather than an accurate description of our current federal fiscal issues.   Representative Heck seems to prefer the comforting fiction of campaign rhetoric to current economic realities.

But wait, there’s more!  Representative Heck is worried about our fragile economic recovery… “We should not be raising anyone’s tax rates.”  This is boilerplate.  If the economy is booming, by GOP lights we can’t raise taxes because this would impinge on our prosperity; and, if the economy is fragile we can’t raise any taxes then either.  In short, we can never ever never raise anyone’s taxes even if we have to pay for two wars and keep the basic government services afloat during a recession.

Thirty seconds into Rep. Heck’s presentation he notes the House has passed a bill that would continue the Bush Tax Cuts of 2001 and 2003 for another year so we can “work on a permanent solution.”   Yes, that would certainly make the top 1% happy little campers.  This is also known as kicking the can down the road.  Anyone notice the conflict here?  On one hand Representative Heck is telling us that the federal deficit is a horrible no good thing which MUST be addressed — while telling all who will click on his little video that it’s perfectly all right to take yet another year to deal with it.

There’s more boilerplate to come, “the tax increases,” by which he means rate increases will cost 700,000 jobs.  In this instance he’s parroting Speaker Boehner, who in turn is mashing up a study by Ernst & Young:

“Boehner repeatedly cited an Ernst & Young analysis to claim that raising taxes on upper-income earners would “destroy nearly 700,000 jobs in our country.” But that analysis assumes revenue from the taxes would be used “to finance a higher level of government spending,” even though Obama would use the added revenue to reduce the deficit. The analysis also takes an extremely long view: Only “two-third to three-quarters of the long-run effect” is expected to occur within a decade.”  [Politifact]

Thus, even if we take the Ernst & Young study at face value, the effects are far less dramatic than Representative Heck’s intonation.   Those who looked into the Chamber of Commerce sponsored study found the assumptions flawed: “It is telling that when the additional tax revenues are used for across the board tax cuts, then the negative GDP impact is largely washed out and the employment impact is positive,” Zandi says.”  (Moody’s) [TPM]  However, removing the assumptions from the study wouldn’t achieve the Chamber of Commerce’s political interests, nor the interests of the Wall Street traders who are delivering Republican marching orders.

So, no one should be surprised when Rep. Heck parrots another line, this time from the Romney Campaign that we can fix all our troubles with “pro-growth tax reform which eliminates loopholes and deductions…”

OK, which ones?  Let’s look at the deductions first.   The most common tax deduction is on home mortgage interest.  In the reality based portion of the United States of America about 70% of the tax benefit from home mortgage interest deductions goes to taxpayers earning less than $200,000 per year. [NAHB]  Further, “Households with incomes between $40,000 and $75,000 receive, on average, $523 from the mortgage interest deduction. Households with incomes above $250,000 receive $5,459, or more than 10 times as much.”  [AProg] [Original Wharton Study pdf]

The second most common tax deduction is for charitable contributions.  Needless to say, some eleemosynary institutions are loath to see caps on this kind of expenditure.  However, the deductions nearer and dearer to people’s hearts are the deductions for state, local, and real estate taxes.  “You can deduct state and local income taxes paid during the year with one important exception: You cannot deduct state and local income taxes you pay on income that is exempt from federal income tax, unless the exempt income is interest income.” [Daily Finance]  And, “You can claim a deduction for real estate taxes on any state, local or foreign taxes on real property so long as they are based on the assessed value of the real property.” [Daily Finance]

Finally, the last on the list of most commonly itemized deductions are for medical expenses.  “You can deduct expenses for the diagnosis, cure, mitigation, treatment or prevention of disease. This generally includes the costs of physicians, surgeons, dentists and other medical practitioners as well as medical equipment, supplies and diagnostic devices prescribed by a physician. Deductible medical expenses also include the cost of health care insurance premiums and the costs of getting to and from your appointments.” [Daily Finance]

So, if we cap all itemized deductions at some contrived number like the 2% Solution, what happens?   We get a big middle class tax hike, illustrated below:

Tax Expenditure Cap

If we look specifically at what the Republicans were offering in the last presidential election another reality comes to the fore — the ARITHMETIC doesn’t add up:

“According to the Tax Policy Center, “the Romney plan would lower federal tax liability by about $900 billion in calendar year 2015 compared with current law, roughly a 24 percent cut in total projected revenue.”

So for Romney’s tax plan to be revenue neutral, as he has pledged, he would need to close tax breaks to the tune of $900 billion in 2015. That is not going to happen. Every tax break together costs about $1.1 trillion annually according to the Congressional Research Service — so Congress would need to make a nearly complete sweep to get the math right under Romney’s plan, a politically unrealistic outcome.” [HuffPo]

If we conclude that the deductions aren’t going to make the numbers, then what about those “loopholes?”

No one’s given a precise answer to this question — and we may not get one.  One insightful article may have grasp the key point, “Tax loopholes have become the modern equivalent of wasteful spending–a generic and vastly overestimated pool of money politicians can cite as offsets for their expensive policies.” [USNWR]   When some members of Congress have been pressed for details the minutiae makes its appearance — close the deduction for luxury skyboxes in athletic arenas, close the deductions for rum manufacturers and racetracks, eliminate deductions for second homes… [HuffPo]

While it might be nice to eliminate some of the special interest deductions in an overhaul of the tax code, (1) it shouldn’t take a year to find them — most of them are well known to those who make the tax code their life’s work, and (2) closing them won’t provide nearly enough revenue — unless we start talking about The Big Five Deductions, and the attendant tax hike on the middle class.

We’re only a bit over a minute into Representative Heck’s video when he observes the horrible state of affairs we must face if the Pentagon budget faces the Sequester Monster… but that’s a post for another day.

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Filed under Economy, Federal budget, Heck, tax revenue, Taxation

Cliffs, Hostages, and Charts: Passing S. 3412 is good policy

The one element of the current fiscal flap which has attracted most people’s attention is the expiration of the Bush Tax Cuts, and the reversion to the tax rates of the Clinton Administration.  Senate Majority Leader Harry Reid (D-NV) commented today:

“It took four months, but Republicans are finally realizing the way back from the fiscal cliff has been right in front of them all along.  In July, the Senate passed legislation to give economic certainty to 98 percent of families and 97 percent of small businesses – to every American making less than $250,000 a year.  For four months we’ve been one vote away from a solution to this looming crisis.  And for four months, House Republicans have refused to act.  Instead they have held the middle class hostage to protect the richest 2 percent of taxpayers – people who have enjoyed a decade of ballooning income and shrinking tax bills.”(Senator Harry Reid, 11/29/12)

The bill to which Senator Reid is referring is S. 3412, passed in the Senate on July 25, 2012 on a 51-48 vote.   Interestingly, Senator Dean Heller (R-NV) voted against the bill.  The bill has since languished in the Republican controlled House of Representatives.

To restate the obvious, since the end of July 2012 the Congressional Republicans have made it abundantly clear that they will not accept any tax increases on the upper 2% of American income earners.

Every pundit from Bangor to Chula Vista has opined about the various political implications and ramifications of this GOP position.  If we step away from the Chattering Cable-ites momentarily, we can see that tax policy is (1) a rather blunt instrument by which to manipulate economic behavior, and (2) while a reversion to the Clinton area rates is advisable, there really is more that can be done to better secure fiscal stability.

With all due respect to the mathematicians who have crafted all manner of elegant algorithms to predict economic behavior — even if the entire transaction is computerized there is still a very human element involved.  An algorithm is written with a human purpose.  In this case it might be to automate the purchase or sale of particular “things” at a specific price.  The essential problem with capitalism is that prices are determined by human beings who pre-judge the value of the “things” in terms of their own desires and motives.  The motive might fall anywhere along the spectrum from pure speculation to pure long term investment strategies.

Given this context, consider momentarily the currently popular Republican refrain that if marginal tax rates are “too high” investment will be stifled and economic expansion constrained.   The essential economic question at this point is not how many petulant plutocrats does it take to impede any political action in regard to tax rates — but, at what marginal rate does tax information become a significant factor in the investment decision?

As the chart from the IRS indicates, the marginal rate of taxation on the highest income earners has dropped since the mid 1960’s.  The taxation on capital gains is now below 20%.   The next question: What is the statistical relationship between marginal tax rates and investment?

The Congressional Research Service (pdf) studied the relationship between top marginal rates and private savings ratios and created these illustrations of the data:

If the data points look a bit scattered — it’s because they are.  The CRS drew the following conclusion:

“The bottom charts in Figure 3 show the observed relation between the private fixed investment ratio (investment divided by potential GDP) and the top tax rates. The fitted values suggest there is a negative relationship between the investment ratio and top tax rates. But regression analysis does not find the correlations to be statistically significant (see Table A-1 in the appendix) suggesting that the top tax rates do not necessarily have a demonstrably significant relationship with investment.”

Translation: While the charts tend to lead the eyeballs toward seeing a negative relationship, when we actually crunch the numbers the results could just as easily be the result of good old fashioned chance.

There is a place for anecdotal evidence from financialists whose self interest dictates the championing of lower marginal tax rates as a significant factor in their investment decisions, however it’s not in the midst of a rational argument about economics.   Therefore, investor extraordinaire Warren Buffet’s question remains valid:  ‘If I called you in the middle of the night and told you I had the best investment opportunity ever seen in the world — would you ask me about the tax rate?

This ragged relationship between effective rates on capital gains and the returns investors receive as a percentage of GDP is illustrated below:

The first points to note are along the pink line (circa 1996) when the average effect tax rate on capital gains was 25.5% but the trend line for realized gains was going up.  The ‘conventional wisdom’ held for the period between 1996 and 2000, at which point the trend lines no longer support the contention that lower average effective tax rates mean greater realized gains.  Between 2000 and 2004 the average effective tax rates decline, but so do the realized gains, and from 2004 until the last data available from the Tax Policy Center in 2007 the tax rates remain essentially the same but the gains increase.  Go Figure?  What we could conclude with more certainty is that the tax rates and the realized gains aren’t operating in tandem, and there’s more to “economic decisions” than considerations about marginal tax rates on capital gains involved.   Again, Buffett is probably right.

If reducing the effective tax rates on capital gains isn’t a sure fire way to increase earnings and entice yet more investment, then what about tax rates in general?  That doesn’t quite work either as illustrated by the following chart from Business Insider:

… and we know what happened in 2007 through 2008.  If a relationship cannot be demonstrated between lower capital gains taxes and the gains coming from economic growth AND we cannot demonstrate a relationship between overall marginal tax rate reduction and economic growth, WHY are the Republicans so intent on preserving the tax breaks for the top 2% of the nation’s income earners?  George W. Bush may have stated more truth than he meant when he quipped during the 2000 Alfred E. Smith banquet attendees, “This is an impressive crowd. The haves and the have-mores. Some people call you the elite. I call you my base.”

For all of Senator Reid’s efforts to move the Congressional Republicans into the real world of average Americans, nothing has worked thus far to convince them to abandon frivolous pledges from scions of anti-tax activists, which at this point serve little purpose other than to widen the income gap, and to deplete the capacity of middle income earners to generate the aggregate demand necessary to stimulate the economy.

It really can’t be argued that all economic decisions are dictated by human behavior, but neither can it be successfully asserted that an economy is not essentially a very human institution.   There are reasons well beyond the political optics of S. 3412 for Republicans to give serious consideration to pass the bill in the House of Representatives; it’s good economic policy.

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Filed under Economy, Heller, Reid, Taxation

Mark Amodei, A National Debt Primer – With Charts and Pictures

Representative Mark Amodei (R-NV2): “As a fiscal conservative, I believe that our nation’s deficit is out of control. We now borrow 42 cents for every dollar we spend. The bloated federal government spends some of that money on frivolous projects that benefit only a select group of special interests and other needless expenses. A significant portion of revenue also goes to fund Medicare, Medicaid, and Social Security — programs that are headed towards insolvency and need significant reform to become financially viable.”

Not. So. Fast.

#1.  I believe that our nation’s deficit is out of control. We now borrow 42 cents for every dollar we spend.   Really?  Easy there Lone Ranger, there’s something breathless about this that doesn’t reflect historical reality.  For example, as of 2009 the federal deficit stood at 10.1% of the U.S. economy. However, during World War II our debt stood at 30.3% — and the nation didn’t collapse, and we won the war.  In FY 2012 we’re looking at a deficit of some 7.6%, not a happy number, but nowhere near the historical high; and, before we become even mildly hysterical about the figure we should note that March 2012 budget projections (pdf) from the Congressional Budget Office the projection should decline to 6.3% in FY 2013, and drop to 5.8% in FY 2014. [MJ]

How is something “out of control” when it’s actually declining?

#2.  From whence comes the borrowing?  Of the current (March 2012) totals,  $15,885.5B debt, $6,397.2B is owned by the Federal Reserve and Intergovernmental holdings, another $9,185.1B is privately held.  $184.8B is in the form of U.S. Savings Bonds.  State and Local governments hold $436B of our national indebtedness, while foreign investors hold $$5136.0B of it. [Treas.doc]  If the Debt is a monstrous, heinous, horrible problem — we should ask again — why hasn’t the yield curve moved? As we can see from the chart for today’s yield curve, it’s costing us less that 1% to “sell” American debt for most securities.

Further,  if we look at the trends in interest rates for U.S. securities, the trend is generally downward.

One doesn’t need to be an academically trained economist to observe that someone (indeed, lots of people) think U.S. securities are a good investment.  If the DEBT was a horrible, heinous, terrible, icky thing this would not be the case.

#3.The bloated federal government spends some of that money on frivolous projects that benefit only a select group of special interests and other needless expenses.”   What, pray tell, is a frivolous project?  Would it be the TARP disbursements to our national banking system in the wake of the Crash of 2007-2008?

Of course, we could have let the financial system collapse in a messy heap and launched another Great Depression…

How about wasted taxpayer dollars in the Pentagon?  The New York Times offers a person the chance to figure out how to save money in the Defense Department, in order to meet the “cuts” deemed necessary above the current savings proposed by the Obama Administration.  By the way, good luck with this exercise!

OK, what about the inevitable Solyndra talking point/question?  Return with us now to the Jon Stewart Show (video) , which pointed out that the private sector rate for investing in eventually bankrupt companies as exemplified by Bain was a generous 22%, while the number of Department of Energy’s record is a more reasonable 8% bankruptcy rate.  (October 25, 2012)

#4.A significant portion of revenue also goes to fund Medicare, Medicaid, and Social Security — programs that are headed towards insolvency and need significant reform to become financially viable.”

Here comes the “we gotta reform entitlements” argument.  In a reality based world we “don’t gotta do much reforming.”  And, we certainly don’t need to hand the Wall Street Wizards the coffers of the Social Security Administration.  As has been discussed numerous times on this blog, Social Security is NOT going bankrupt.  In 2011 Social Security ended the year with a $2.7 TRILLION surplus.

“So why all the talk about Social Security “going broke?” That theme filled the news after release of the latest annual report of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Funds, as Social Security is formally called.

The reason is that the people who want to kill Social Security have for years worked hard to persuade the young that the Social Security taxes they pay to support today’s gray hairs will do nothing for them when their own hair turns gray.

That narrative has become the conventional wisdom because it is easily reduced to a headline or sound bite. The facts, which require more nuance and detail, show that, with a few fixes, Social Security can be safe for as long as we want.”  [Johnson, Reuters]

Medicare and Medicaid are another matter.  We DO need to do something to reduce health care costs.  And, if we’re serious about adding resources to the trust funds which support Medicare and Social Security we could increase the capped rate of $110,100 in earnings.   There is no question of Social Security viability.  We do have some work to do to make the savings in the health care segments — there will be some savings with the implementation of the Affordable Care Act — the infamous $716B cut — which turned out to be $716B in savings in part from reducing the taxpayer subsidization of profitable private Medicare Advantage plans.

Before Representative Amodei, and his Republican cohorts, take the jump off the fiscal cliff, which they created, (pdf) they might want to attend to the FACTS concerning entitlements — those programs to which we are entitled because we paid for them — and to consider the proposition that it is not a good thing to balance the federal budget on the backs of the elderly, the ill, and the disabled.

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Filed under Amodei, Medicaid, Medicare, Social Security

Six Talking Points about Fiscal Cliffs and Austerity Bombs

Senate Majority Leader Harry Reid (D-NV) has a message for the middle class this morning:

“Nevadans and Americans across the country agree that we can strengthen the middle class by adopting a balanced fiscal policy that requires millionaires and billionaires to pay a little more. In July, the Senate passed a bill to cut taxes for the 98% of Americans and 97% of small businesses making less than $250,000. House Republicans should stop trying to protect the wealthiest Americans from contributing their fair share and pass this bill immediately. Middle class Americans will have more opportunities to succeed when we level the playing field and make tax policy fairer.”  Senator Harry Reid (D-NV) 11/19/12″  (emphasis added)

In order to effectively expound on this message it is necessary to plant oneself firmly in the Reality Based World, and to dismiss some common misconceptions being promoted by the plutocrats and their GOP allies.

#1.  When the GOP says “your taxes will be raised” they are not talking to 98% of the American public who earn less than $250,000 in adjusted gross income annually.  The Obama Administration’s proposal is to allow the Bush Tax cuts to expire on earnings above $250,000; and to KEEP the Bush era tax rates in place for those individuals earning less than $250,000 in adjusted gross income annually.

#2. When the GOP says taxes will increase on small businesses, they are including those 3% of “small businesses” which are lobby shops, major law firms, large hedge funds, etc.  They are NOT speaking of the 97% of American small businesses which are small partnerships, single proprietorships, or small corporations which constitute the backbone of the American economy.

#3. Social Security and Medicare are called “entitlements” because they are earned benefits, which individuals have paid for and therefore are entitlements. These programs are not the problem, they are simply the target of choice from the Republican leadership which wants to cut Social Security and privatize Medicare.   These programs have NO place in budget negotiations concerning the reduction of the federal debt.

#4.  The legislation to which Senator Reid refers is S. 3412.  The terms of which can be generally summarized as:

“The Senate bill (S. 3412), passed on July 25, 2012, would extend current tax rates for lower- and middle-income persons, would increase tax rates on higher-income persons, would extend for one year (through 2013) certain tax provisions that expire at the end of 2012, and would patch the alternative minimum tax for one year only (2012).” [source]

#5.  “Harry and Louise” style ads from the Edison Electrical Institute (DefendTheDividend) notwithstanding,  S. 3412 and the Obama Administration proposals are  NOT an attack on retirement savings.  Remember the threshold levels:  “Individuals with incomes above these threshold levels, would have some of their itemized deductions and personal exemptions limited by phase-outs, would have a 20% rate on dividends and long-term gains, and would face tax rates of 33%, 36% and 39.6%”  [source]  The current rate for investors is 15%.

Who would  be affected by the Obama Administration’s tax proposals on capital gains?  Information from the Tax Policy Center is helpful.

Things to note — there are NO changes for those individuals in the bottom four income quintiles.  Only those individuals who are in the TOP income brackets (the top quintile, especially those in the top 1% or the top 0.1%) would be affected by the proposed changes in tax treatment of dividends.

#6.  There is NO correlation between low tax rates and economic growth. The non-partisan Congressional Research Service came to this conclusion after studying data from the last 65 years.

“The results of the analysis suggest that changes over the past 65 years in the top marginal tax rate and the top capital gains tax rate do not appear correlated with economic growth. The reduction in the top tax rates appears to be uncorrelated with saving, investment, and productivity growth. The top tax rates appear to have little or no relation to the size of the economic pie.

However, the top tax rate reductions appear to be associated with the increasing concentration of income at the top of the income distribution. As measured by IRS data, the share of income accruing to the top 0.1% of U.S. families increased from 4.2% in 1945 to 12.3% by 2007 before falling to 9.2% due to the 2007-2009 recession. At the same time, the average tax rate paid by the top 0.1% fell from over 50% in 1945 to about 25% in 2009. Tax policy could have a relation to how the economic pie is sliced—lower top tax rates may be associated with greater income disparities.”  [CRS pdf]

In short, the only economic feature impacted by a reduction in tax rates is income inequality.   Nothing says “Support The Plutocrats and Financialists” better than saying we can’t raise taxes on the top 2% without cutting earned benefit programs like Social Security and Medicare.

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Filed under Economy, income tax, national debt, Politics, Reid, tax revenue, Taxation