Pope Francis on Capitalism

With the Pope starting his visit to the US, most focus will be on Conservatives’ support for the Catholic Church’s views against abortion and gay marriage. Conservatives are far less enthusiastic about Francis’ views about climate change and capitalism, both of which are covered in Pope Francis’ encyclical, Laudato Si’.

While the Wrongologist has not read Laudato Si´, he did read an extensive and thoughtful review by William Nordhaus in the NY Review of Books, who says the Pope thinks that the degradation of our environment is a symptom of deeper problems: rapid change, unsustainable over-consumption, indifference to the poor, and the decay of social values.

Nordhaus notes that the encyclical contains an extensive discussion of the features of markets and modern capitalism. It emphasizes dysfunctional tendencies and distortions, witness his criticism of excessive consumption:

Since the market tends to promote extreme consumerism in an effort to sell its products, people can easily get caught up in a whirlwind of needless buying and spending. Compulsive consumerism is one example of how the techno-economic paradigm affects individuals. [Paragraph 203]

And Francis’ criticism of the distorting effect of the drive for profit:

Once more, we need to reject a magical conception of the market, which would suggest that problems can be solved simply by an increase in the profits of companies or individuals. Is it realistic to hope that those who are obsessed with maximizing profits will stop to reflect on the environmental damage which they will leave behind for future generations? [Paragraph 190]

Nordhaus quotes Francis, who argues that profit-seeking is the source of environmental degradation:

The principle of the maximization of profits, frequently isolated from other considerations, reflects a misunderstanding of the very concept of the economy. As long as production is increased, little concern is given to whether it is at the cost of future resources or the health of the environment; as long as the clearing of a forest increases production, no one calculates the losses entailed in the desertification of the land, the harm done to biodiversity or the increased pollution. In a word, businesses profit by calculating and paying only a fraction of the costs involved. [Paragraph 195]

Francis singles out financiers for special disapproval:

In the meantime, economic powers continue to justify the current global system where priority tends to be given to speculation and the pursuit of financial gain, which fail to take the context into account, let alone the effects on human dignity and the natural environment…. [Paragraph 56]

The Pope criticizes capitalism’s push to make ultra-consumers of everyone:

This paradigm [consumerism] leads people to believe that they are free as long as they have the supposed freedom to consume. But those really free are the minority who wield economic and financial power. [Paragraph 203]

Pure capitalism ignores two major shortcomings of those economies run by Mr. Market: The first is the emergence of monopolies, or things like unregulated pollution, which distort market outcomes. The second is inequality of opportunities and income. And much has been written about rising income inequality, particularly by Seitz and Piketty, and Joseph Stiglitz.

However, it would be inaccurate to point solely to the depletion of resources or pollution as major causes of rising poverty. Instead, it is forces such as the labor-saving nature of new technologies like robots, rising imports from low- and middle-income countries, and the capture of our income taxing system by corporations and the wealthy that have distorted our markets.

Specifically, as economist Arthur Okun has written, markets do not have automatic mechanisms to guarantee an equitable distribution of income and wealth:

Given the chance, [the market] would sweep away all other values, and establish a vending-machine society. The rights and powers that money should not buy must be protected with detailed regulations and sanctions, and with countervailing aids to those with low incomes. Once those rights are protected and economic deprivation is ended, I believe that our society would be more willing to let the competitive market have its place.

So, as this week rolls out, expect to hear many voices on the right argue that Francis is an unrealistic economic fool. In particular, expect to hear George Will’s arguments this week in the National Review echoed by the media. Here is a representative quote from Mr. Will: (emphasis by the Wrongologist)

Francis’s fact-free flamboyance reduces him to a shepherd whose selectively reverent flock, genuflecting only at green altars, is tiny relative to the publicity it receives from media…He stands against modernity, rationality, science and, ultimately, the spontaneous creativity of open societies in which people and their desires are not problems but precious resources. Americans cannot simultaneously honor him and celebrate their nation’s premises.

See what George Will did there? He says that climate denialism is pro-science, while belief in climate change is anti-science.

Know the enemy by their arguments.

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Monday Wake Up Call – September 21, 2015

Are you familiar with the “Bad Bank” strategy? It is a new bank set up to buy the bad loans of a bank that has a significant amount of nonperforming assets. Those assets are purchased at market prices. If the assets remained on the original bank’s books, they would be forced to take big write-downs. So, the “good bank” sells the assets to the bad bank, and clears their balance sheet.

And the “bad bank” goes off to fail, be recapitalized, or liquidated. The shareholders and bondholders of the “bad bank” stand to lose money from this solution but its depositors will be bailed out by the government.

Occidental Petroleum (OXY) made a similar deal last November by spinning off California Resources, (CRC) and since then, most investors that bought into the deal got burned.

CRC held OXY’s oil-and-gas exploration assets in California. CRC is CA’s largest natural gas producer and its largest oil-and-gas acreage holder with operations in Los Angeles, San Joaquin, Ventura, and Sacramento. OXY was the big player in the Monterey Shale formation, which had been hyped as the largest reserves of oil in the US. But, in 2014, the US Energy Information Administration (EIA) downgraded the amount of OXY’s known reserves in CA. From Wolf Richter: (emphasis and brackets by the Wrongologist)

The LA Times spilled the beans last week [May 2014] that the EIA is set to severely downgrade the Monterey Shale in California in an upcoming report. Once thought to hold 13.7 billion barrels of technically recoverable oil, the EIA now believes only about 600 million barrels are accessible. Slashing technically recoverable estimates by 96% could be enough to kill off the shale revolution in California.

Six months later, OXY exited CA shale by spinning off 80.5% of CRC to OXY’s shareholders. CRC’s shares began trading on the NYSE on December 1, 2014. As part of the spinoff, CRC paid OXY a special dividend of $6 billion. To fund the dividend, CRC issued bonds totaling $5 billion and leveraged loans for the remainder. This debt now costs CRC about $330 million a year in interest.

Back in 2014, hedge funds were clamoring for energy spinoffs. They’d buy a big stake in the parent company and push the board to do a spinoff that entailed loading the spinoff up with debt to fund a fat special dividend back to the parent.

“Unlocking value,” is the Wall Street term for this kind of financial engineering. Wall Street then made sure that there were enough unwitting or yield-desperate buyers for the bonds. The hedge funds made their money, and moved on.

Then CRC reported its second quarter earnings, which showed a net loss of $68 million on revenues that had plunged 45% to $609 million. And on September 15, Moody’s slashed CRC’s corporate rating from Ba2 to B1, and the bonds from Ba2 to B2. All of it with “negative outlook”. Moody’s described CRC’s relatively high costs of production and interest costs totaling $31.71 per barrel of oil equivalent. It pointed to low oil prices that it didn’t expect “to improve materially in 2016.”

So in 2014, no investor realized that CRC’s reserves had been cut by 96%? Or, that their break-even cost per barrel was $31+?

This Cali deal is Straight Outta Enron.

Now the question is can CRC survive without having to resort to a debt restructuring, bankruptcy, and a total shareholder wipe-out?

These kinds of deals are best pulled off in a credit bubble. Low interest rates force some investors to chase yield, and the unwitting buyers that have these fruits of Wall Street’s labor in their portfolios are the ones who feel the pain. Wall Street will tell you that the dividend and spinoff were disclosed in advance, so it’s not “fraud” by the company. It’s just “stupidity” by yield-hungry investors.

Why do you care? These securities could easily be in your 401k, or in an ETF that you own directly, assuming that you are among the 48% of Americans that have investment accounts.

So it is time for We the People to wake up to Wall Street’s financial engineering and what masquerades as legalized robbery. To help with the wake up, here is John Lennon’s “Power to the People”:

You will note the nearly completed Twin Towers at the end of the video. For those who read the Wrongologist in email, you can view the video here.

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Monday Wake Up Call – August 24, 2015

There was a curious story in the NYT on Saturday. They quote former Israeli defense minister, Ehud Barak in a new biography revealing that Israel came close to striking Iran’s military facilities in 2010, 2011 and 2012. The biographers spoke on Israeli television, saying that despite Barak’s and Prime Minister Netanyahu’s desire to do so, the Israeli military refused.

Recorded interview excerpts between Barak and the biographers were aired by Israel’s Channel 2, which stressed that Mr. Barak had sought to prevent them from being broadcast, but that they had been approved by Israel’s military censor. Mr. Barak later confirmed that the recordings were authentic, but said he had provided the information on background to Ilan Kfir and Danny Dor, whose book, “Barak: The Wars of My Life,” came out this week in Hebrew.

The interviews confirmed a longstanding view that Israel’s security chiefs held back the political leadership, particularly in 2010. In 2012, the timing did not work out because of a joint US-Israel military exercise and visit by Leon Panetta, US defense secretary. Barak said he recalled “demanding” to postpone the joint military exercise. The NYT quotes Barak:

You ask, you demand that America respect your sovereignty to make a decision that you want to do that, even if America is opposed to that and it is against its interests…

The news is that the civilian leadership really wanted to start a war with Iran but first, the military leaders demurred, and then so did the Obama Administration. This confirms that the past 7 years have not been all Israeli bluster intended to play bad cop to our good cop. The bad news is that the administration has known for years that Netanyahu and his administration are off their collective rockers, yet Congress continues to send Israel weapons and billions of dollars every year.

The sad part is that there isn’t anything really new here. It has been well documented previously. Juan Cole reported in 2011 that: (brackets by the Wrongologist)

Netanyahu appears to have forced out Meir Dagan, the head of the Israeli spying agency Mossad… Dagan went on to accuse Netanyahu and his Defense Minister, Ehud Barak, of grossly exaggerating the threat from Iran, calling a [potential] strike on that country “stupid idea that offers no advantage.”

In 2012, apparently Obama stood firm in opposition to an Iran strike, since Israel didn’t have the capability to really damage Iran’s nuclear facilities and needed support from USAF in the form of B-52s and bunker buster bombs. Mr. Obama later compensated Israel for standing down by providing them with the bunker busters.

Here’s a thought worth polishing and spreading: That the unspoken concern of the US and the world is not so much that a nuclear armed Iran might someday attack Israel and further destabilize the ME, but that a nuclear armed Israel is now ready, able, and rehearsing their plans to attack Iran. Imagine for a moment the hysteria in Congress if the headline of this story was reversed: “Khomeini was on the verge of attacking Israel 3 times”.

It’s time to cut Israel loose, to eliminate the undue influence this nation has on American foreign policy.

So, wake up Congress Critters, modeling Netanyahu’s foreign policy behaviors will lead America to failure. To help with the wake-up, here is a photo that shows those in Congress just another example of life in the food chain:

Life in the Food Chain

(H/T Naked Capitalism)

Your Monday Hot Links:

This is how Bernie Sanders could win. OK it’s a long shot, but FiveThirtyEight says that if Hillary implodes, Sanders vs. Biden could be highly competitive. Clinton won’t drop out before the primaries and a Biden run could split the establishment vote, giving Sanders an opening.

Billionaires keep flocking to architect Robert A.M. Stern’s newest limestone creation at 220 Central Park South. Next is billionaire hedge funder Ken Griffin, who we mentioned yesterday. Griffin’s new pad could cost him anywhere between $30 million and $160 million, which is really just chump change for the hedge funder who reportedly nets $2.2 million a day, and that’s after taxes!

In a related story in the Onion, a study finds it is easier than ever for American dollars to join the 1%.

First wolf pack found in California in nearly a century. On Aug. 9, the cameras photographed two separate black-furred wolves, believed to be adults. Five black wolf pups were photographed in the same spot. It was clearly a pack.

Doctors may have found a way to override the body’s evolutionary habit of storing fat with a discovery of a master switch for the body’s metabolism. Researchers from the Massachusetts Institute of Technology and Harvard Medical School discovered a new genetic pathway that controls human metabolism by prompting fat cells to store or burn away fat.

Grading Carly Fiorina’s tenure at HP. By a Silicon Valley journalist.

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Sunday Cartoon Blogging – August 23, 2015

Another bad week for many people in the public eye. But let’s start with Malcolm Gladwell’s rant in the NYT about university endowments in which he focused on Yale’s endowment. He says:

Last year, Yale paid about $480 million to private equity fund managers as compensation — about $137 million in annual management fees, and another $343 million in performance fees, also known as carried interest — to manage about $8 billion, one-third of Yale’s endowment.

He tells us that, of the $1 billion the endowment contributed to the university’s operating budget, only $170 million was earmarked for tuition assistance, fellowships and prizes. He reported that private equity fund managers also received more than students at four other endowments; Harvard, the University of Texas, Stanford and Princeton.

He makes another great point, that university endowments are exempt from corporate income tax because universities support the advancement and dissemination of knowledge. The tax advantage also benefits the fund managers whose carried interest is taxed at lower capital gains rates rather than ordinary income rates. It isn’t a coincidence that hedge fund managers return the favor to their large university clients. Kenneth C. Griffin gave Harvard $150 million in 2014. This year, Stephen A. Schwarzman, the chairman of the private equity giant Blackstone, pledged $150 million to Yale toward a new student center. John A. Paulson, another hedge fund manager, topped both when he gave Harvard $400 million in June.

Maybe these university endowments need to do more to support students and faculty, and less to support fund managers, if they are to keep their tax-exempt status.

On to cartoons. With the email server and new polls, Hillary did not have a good week:

COW Weekend at BerniesMaybe if the Obama years hadn’t decimated the Democratic bench for an entire generation, we wouldn’t have to rely on two senior citizens slugging it out for the chance to call the White House their retirement home.

Another senior, Mr. Biden, awaits the call, if Hillary falters:

COW Biden Awaits Call

Amazon also had a bad week:

COW Amazon Fail

Subway & Jared Fogel had bad weeks too:

COW Jared

Wannabe adulterers also had a bad week:

COW Ashley Madison

 

While Jimmy Carter gave us all a nice moment:

COW Carter

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Too Much Focus on GDP

(Wrongo is back from his project. Regular blogging begins again today.)

In our lifetime, Gross Domestic Product, or GDP, has been transformed from a narrow economic indicator to our universal yardstick of progress. This spells trouble. While economies and cultures measure their performance by it, GDP ignores central facts such as quality, costs, or purpose. It only measures output: more cars, more accidents; more lawyers, more trials; more extraction, and more pollution. All count as success in the GDP equation. In fact, our cumulative real GDP growth since 2008 is 6.9%.

But we need to focus on other yardsticks to understand what is really going on with our economy. First, take a look at the growth in job openings (blue line) vs. growth in hourly wages (red line):

fredgraph 81715

In the past, the two have usually moved in tandem, which makes sense, since the laws of supply and demand should also apply to employment. But since 2011, and most notably in the past year, they have diverged starkly, with wages drifting back to where they were in 2012, while unfilled job openings have skyrocketed: Job openings are now higher than at the height of the tech boom in 2000. And yet, worker’s wages um, suck.

What happened? Perhaps huge numbers of people are now returning to the labor market after years on the sidelines. We know that many people want a job, but stopped searching for lack of opportunities, while many others want more than the part-time work they’ve managed to find. The uneven pace of wage growth shows there is plenty of slack in the labor market. This is supported by Bloomberg’s report that we still need another 2.4 million jobs to reach “full employment”, (5.1%).

So by definition, we can’t be in a tight labor market.

Some of the difficulties driving American job growth are the problems in the global economy. We see low growth in the developed world, coupled with the continuing impact of automation and the movement of much of our remaining manufacturing jobs to low-wage developing nations.

Take a look at another chart, showing the growth in productivity vs. growth in wages:

Hourly compensation vs productivity 81715

Hourly compensation grew in tandem with productivity until 1973. After 1973, productivity grew, but the typical worker’s compensation has been relatively stagnant. This divergence of pay and productivity has meant that the majority of workers did not benefit from productivity growth.

This is another way of saying that the economy could afford higher pay, but didn’t provide it.

The analysis confirms that since 1973, the largest factor driving the gap between productivity and median compensation has been the growing inequality of wages. The divergence between wages and productivity we see above, along with increasing concentration of wealth in the very top of the social strata, are not just correlated, they have a causal relationship.

The two charts demonstrate the shift of income from labor to capital. Larry Mishel of EPI notes that from 2000 to 2011, there was a shift from income derived from labor to income derived from capital, accounting for roughly 45% of the gap shown above.

Workers have lost their share of gains in productivity. It was stolen by capital.

Thorsten Veblen distinguished between the Captain of Business, whose focus was on goods production, and the Captain of Finance, who concerned himself with manipulating money. He deplored the replacement of Industry by Finance; and the situation today is far worse than in the early 1900s. (Veblen died in 1929.)

The development of finance since the late 1970s has been near-pathological. It has been essentially unregulated, left free to become an oversized parasite. It has assimilated more and more of our traditional economic activity through “financialization“. The recklessness of that was made clear by its damage to the housing market in 2008, followed by the huge loss of jobs that occurred in its aftermath.

It is that crisis that leaves wages weak today. It is those jobs that we have been looking for the past eight years.

It is well past time to put finance back in its place. The Dodd-Frank law will never be enough, since it continues to allow the very innovations in finance that can take down the financial system, even while pretending to decrease them.

Capitalism has a phenomenal capacity to lift people out of poverty. But it does so at a cost. Capitalism changed before, and it’s time for it to change again. Free markets have existed for thousands of years; capitalism as we now know it, for fewer than 150.

Effective and productive free markets should also provide workers a living wage. If today’s capitalism isn’t the means to that end, it is time to change it.

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Monday Wake Up Call – June 29, 2015

Mylan, a generic drug maker based outside Pittsburgh, abandoned its status as a US corporation, gaining tax advantages by moving its headquarters to the Netherlands. The move reduced the taxes the company pays on profits from sales of drugs overseas, but Mylan continues to maintain most of its operations in Pennsylvania.

Mylan was viewed by some in Congress and the Obama administration as a symbol of corporate greed when they undertook a corporate inversion that placed profits above any commitment to its home country.

But now, Mylan is demanding that the US Federal Trade Commission (FTC) protect it from a hostile takeover bid by an Israeli company, Teva Pharmaceuticals. Mylan asked the FTC to examine Teva’s purchase of Mylan stock for possible violation of the requirement that large purchases of stock of US firms must be reviewed by antitrust authorities, because Mylan is still listed on the NYSE. The company claims that its principal office remains in Pennsylvania, which makes it a “US issuer” of stock for federal anti-trust purposes.

The irony of this is not lost in Washington. Rep. Chris Van Hollen (D-MD), the senior Democrat on the House Budget Committee said:

Mylan is trying to have its cake and eat it too…It is an intolerable abuse of a loophole when US corporations pretend they are based overseas in order to get out of paying their fair share and duck their responsibilities to the United States. It’s just plain hypocrisy when one of those same inverted companies claims that it is actually a US company because it needs the special protections US law gives to American companies.

Mylan may have a case. Its plea for help from the US government could pass legal muster but, the optics of a company that abandoned its US citizenship in order to pay less in federal taxes, and then seeking the protection of a federal agency is problematic.

Compounding the farce, Mylan is attempting its own hostile takeover of Perrigo, in order to stave off Teva.

Mylan’s unabashed lack of shame is impressive. Maybe the FTC’s decision-making on this case should take quite a while.

So, wake up Congress, and deal conclusively with corporate inversions! Our wake-up calls for the next few weeks will be songs about summer. We start with the Lovin’ Spoonful’s only #1 hit, “Summer in the City”:

For those who read the Wrongologist in email, you can view the video here.

Monday’s Hot Links:

The return trip often seems shorter than the initial trip, even though the distance traveled and the actual time spent traveling are identical. This is called the “return trip effect”. Two studies say it is real, but you already knew that.

Trucker jobs will be the first casualty of driving robots. Trucker salaries average $40,000/year. Most truck accidents are due to user error: Driving too fast, driving while tired, or driving while intoxicated. Robots don’t drink, don’t get tired, and won’t drive unsafely in order to get to a destination faster. Drivers will still be needed for inner-city driving (at least initially), but most long-haul operations will quickly vanish as soon as licensing is complete in most states.

Three years ago, Saudi Arabia announced a goal of building, by 2032, 41 gigawatts of solar capacity by 2032, slightly more than Germany has today. The Saudis burn about a quarter of the oil they produce—and their domestic consumption has been rising at 7% a year, nearly three times the rate of population growth. According to a British think tank, if this trend continues, domestic consumption could eat into Saudi oil exports by 2021 and make the kingdom a net oil importer by 2038.

Privail Diagnostics, has developed a simple, portable blood test that can detect the HIV virus (not antibodies) for the first time. That means an earlier diagnosis, and reduced infection rates. Privail’s at-home testing device is like a diabetes test, needing only one drop of blood. It shows the results in a color bar, like an at-home pregnancy test or digital output, like a diabetes meter. Invest at your own risk.

Hackers have apparently cracked the computer systems responsible for issuing flight plans to pilots of every airline. The apparent weak link? The flight plan-delivery protocol used by every airline. Ground computers calculate the appropriate flight plan for planes, and someone on ground approves the plan before distributing it to pilots. Pilots receive plans before taking off, as well as enroute, when a change occurs during a flight. Plans are uploaded to planes via a datalink. Once a hacker figures out those protocols, it is possible to issue a bogus flight plan. But, the industry says, not to worry.

Your thought for the week: Giving money to poor people is socialism, or even communism…..giving money to AIG or Goldman Sachs is capitalism, and that’s what made this nation grrrreat!!!

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Sunday Cartoon Blogging – June 14, 2015

Let’s talk taxes. Specifically, let’s focus on a Republican governor, Jindal of Louisiana. Louisiana faced a massive shortfall ($1.6 billion) due to the fact they are governed by Bobby Jindal and a bunch of Republicans who can’t admit that they are raising taxes because otherwise, Grover Norquist will get angry at them. From the NYT:

With less than two hours left in the 2015 session, Louisiana legislators agreed Thursday on a solution to the worst budget shortfall in decades, approving a funding arrangement that drew bipartisan criticism

The legislators had looked at raising taxes, but Jindal said that he would veto anything that violated his pledge to Norquist. The big losers if no deal was reached would have been public education and health care.

So, the governor consulted with Americans for Tax Reform, the Washington anti-tax advocacy group led by Norquist, and came up with a complicated plan that was an accounting fiction, in order to solve the budget crisis.

• The plan obligated $350 million of the revenue raised during the session to higher education, thus preventing cuts
• That was augmented by an “assessment” of $1,600 per student on the state’s public college students
• Nobody would actually pay the assessment because students would also be granted a tax credit against that assessment
• The student’s tax credit, in turn, would be transferred to the state Board of Regents, the body that runs higher education

The board would then use the credit to draw money from the Department of Revenue. It’s confusing, and not just to the accounting-challenged. But, under the plan, no one’s tax burden went up or down, which allowed the Louisiana Legislature to raise the cigarette tax by 50 cents a pack, increase costs for businesses by reducing a variety of tax credits and raise fees on car buyers and other Louisianians.

Lawmakers have called the provision everything from “money laundering” to “stupid,” and that was just the Republicans. Robert Travis Scott, president of the nonpartisan Public Affairs Research Council of Louisiana said:

There is no way you can explain that it’s an offset…This is a vehicle that allows Governor Jindal to raise taxes, period.

The fact that Norquist helped Republicans in Louisiana figure out a way around HIS OWN PLEDGE tells you that this “no new taxes” nonsense has become simply theater. Now Jindal can run for president with Norquist’s blessing. Isn’t that nice?

On to cartoons. The big news of the week included the Trade Fast Track fail, sending more troops to Iraq, and a new Jurassic Park movie.

Fast Track is side tracked:

COW Fast Track

The same old Iraq strategy reappeared:

COW Adjustment

With predictable results:

COW Iraq Surrender

New Jurassic movie brought out new GOP creatures:

COW Jurassic GOP

Like Jurassic movies, STEM in Congress creates BIG problems:

COW STEM

 

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End Government Subsidies of Private Equity

We have written about taxpayer-funded corporate subsidies this week. Let’s talk about the Private Equity (PE) industry, where profit margins are pretty high. By PE we mean investing in assets that include equity securities and debt of operating companies that are not at the time of the investment, publicly traded. Having a number of streams of income coming from a variety of investments or income generating assets is one of the best ways to build wealth. You see, hPE is a re-branding of leveraged buyouts (LBOs) which were the way Wall Streeters built wealth in the 1980s.

In the past 35 years, we have seen a finance-led revolution that has generated fantastic wealth for PE managers. PE has in large part, helped create the growing chasm between America’s most wealthy and everyone else. This is shown in the disproportionate numbers of private equity and hedge fund principals in the top .1% of American wealth. That wealth doesn’t only come from just making a killing when the target company goes public or is acquired, it also comes from favorable tax treatments for the PE company principals and investors.

Although the PE industry is often held up as an exemplar of free-market capitalism, it is surprisingly dependent on government subsidies for its profits. In a typical deal, a PE firm buys a company, using some of its own money and some borrowed money. It then tries to improve the performance of the acquired company, with an eye toward cashing out by selling it, or taking it public.

The key to this strategy is debt: the PE firms borrow to invest since, just as with your mortgage, the less money you put down, the bigger the potential return on investment. But debt also increases the risk that companies will go bust, so early on, the amount of debt PE firms employed was conservative.

That has changed in the last 10 years. After using debt to buy them, many PE funds now have their portfolio companies borrow even more. They then use that money to pay themselves “special dividends.” This allows them to recoup their initial investment while keeping the same ownership stake.

Before 2000, big special dividends were not common. But between 2003 and 2007, PE funds took more than $70 billion out of their companies. These dividends created no economic value-they just redistributed money from the company to the private-equity investors.

As an example, in 2004, Wasserstein & Company bought the mail-order fruit retailer Harry & David. The following year, Wasserstein and other investors took out more than $100 million in dividends, paid for with borrowed money. In 2011, Harry and David defaulted on its debt and dumped its pension obligations on the US government. And when an investment goes bankrupt, there are more fees, and maybe more tax write-offs for the PE partners.

Taxpayers are left on the hook. Interest payments on that debt are tax-deductible, and when pensions are dumped, a federal agency, the Pension Benefit Guaranty Corporation (PBGC) picks up the company’s pension liability. That means taxpayers are on the hook for those unfunded pensions.

And the money that PE dealmakers earn is taxed at a much lower rate than normal income, thanks to the US tax code’s carried interest loophole, which permits that income to be taxed at capital gains rates.

Most do not know that the single largest source of investment capital in PE funds is government pension funds. According to Preqin, a database company that tracks investment in PE, approximately 30% of capital in US PE funds is contributed by government pension funds. Government pension funds are usually called “public” pension funds, administered by government employees and governed by officials who are directly elected by the public or appointed by elected officials.

A key point about the power and reach of PE. They have more than $3.5 trillion under management. Assuming normal leverage (30% equity) that gives them $11.7 trillion in buying power. That’s about 40% of the value of publicly-traded firms in the US. Think about the political clout they have by investing government pension money. Not only do PE firms own a huge portion of America’s productive businesses, unlike the diffuse ownership of public companies, they control them outright.

So, PE is a government-sponsored enterprise, both via tax subsidy and via funding. We taxpayers are helping them to fabulous paydays, thanks to our Congress Critters.

If PE firms are as good at remaking companies as they claim, they shouldn’t need tax loopholes to make their money. If we capped the deductibility of corporate debt, and closed the carried-interest loophole, it would not prevent PE firms from buying companies or improving corporate performance.

But it would add to our tax revenues, and that might keep a bridge or two from falling into a river during rush hour somewhere in America.

The American Dream: You have to be asleep to believe it.” -George Carlin

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Monday Wake Up Call – May 18, 2015

The Amtrak accident in Philadelphia came hours before the House Appropriations Committee was due to meet to debate a transportation bill. Amtrak is a for-profit entity, but its board is appointed by the president, and it is entirely funded by the government, receiving roughly $1.4 billion a year in subsidies. It operates in the red, losing $227 million a year.

Congress has been considering tightening the purse-strings. The Senate has been slow to approve $7.8 billion in Amtrak funding that has been passed by the House. Much of the money would go to prop up sagging rails and refurbish rolling stock.

But John Boehner said discussing Amtrak funding in the wake of the crash was “stupid”. Boehner noted that the crash was caused by the train going too fast, not bad infrastructure. Republicans prefer to attack the national train system because only Democrats ride trains, not good truck driving folks. We should invest in modern high-speed trains to zip Americans around the country. We could also invest in a better safety infrastructure so that train wrecks don’t happen if they are the fault of the engineer or conductor. Instead, the rail industry and its Republican friends are pushing for the reduction of train crews on freight trains, which could cause more crashes.

Sadly, the Goldilocks Moment (when it’s “just right”) to discuss practical responses to a tragedy can be discerned only by Mr. Boehner. Yesterday was too early, and politicized the tragedy by pointing out how Republican policies and governance set the stage for eight people to be killed. At some point, John Boehner will tell us it’s now “too late” to get any legislation in the hopper.

Amtrak has received $45 billion in subsidies from the 1970’s to the present. That’s about one year’s taxpayer support for big oil. Democrats should absolutely push for greater Amtrak funding in the wake of the crash.

Don’t expect Boehner or any Republican to take any real heat for opposing this, but it makes their moral position on these issues completely clear.

Time to wake up America! Infrastructure upgrading is not anti-American. For your morning wake up call, here is the Veery Thrush, also called the Wilson’s Thrush:

For those who read the Wrongologist in email, you can view the video here.

Monday’s Hot Links:

The Antarctic’s Larsen “B” and “C” ice shelf’s are going away by 2020. NASA’s Jet Propulsion Laboratory says that the “B” shelf is now “approaching demise.” NASA adds that the ice shelf “is likely to disintegrate completely before the end of the decade.” But, global warming is a hoax…

A 10-year-old oil leak where an offshore platform toppled during a hurricane could continue spilling crude into the Gulf of Mexico for a century or more if left unchecked. No, it isn’t the BP leak. Taylor Energy Company owned the platform and has played down the extent and environmental impact of the leak. The Coast Guard provided a leak estimate that is about 20 times greater than one provided by the company. Quelle surprise! An American company tries to minimize its responsibilities.

A New Zealand company called Touchpoint Group is building a robot that will be angry all the time. The idea is to let angry customers speak to a machine instead of human call center agents. The robot will collect the data to better serve you with bullshit responses.

Inequality Watch: Scientists find alarming deterioration in DNA of the urban poor. Well, if you lived a life of constant worry over money and how you would pay your bills, raise your kids with enough food, clothing and self-respect, your DNA might deteriorate too!!!

Raul Castro says that Pope Francis may get him to return to religion. Mr. Castro said: “I will resume praying and turn to the Church again if the Pope continues in this vein.” This Pope may really be the Rightologist!

Here is an extra wake-up for you this spring morning. Unclear how this pose happened, but it is relaxing:

Frog

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Tax Day and the Estate Tax

Today is tax day, and most good American doobies will have filed their taxes by midnight tonight. It takes the temperament of an accountant who’s passed the relevant CPA exam parts to self-prepare your taxes, and Wrongo has that temperament for less than 2 hours a day, so doing the Wrong family taxes never gets easier.

You might like “Tax Rap” by Go Remy. It was a submission to a Turbo Tax contest. While it didn’t win, it is very funny:

For those who read The Wrongologist in email, you can find the song on YouTube here.

On Tax Day, we have to talk about the Estate Tax, or as the Republicans call it, the “Death Tax”. Why? Because House Republicans are going to repeal the Estate Tax this week. In their ham-handed way, they will link the two events to show Americans that Republicans are lowering taxes for the people.

But as Bloomberg points out, the Estate Tax is now paid by only 0.2% of US estates. That translates into about 5,500 households a year. The Hill reports that the Congressional Budget Office (CBO) estimates that repeal of the Estate Tax would add $269 billion to the federal deficit from here to 2025.

The Republican logic for repeal is that the tax unfairly steals the family jewels from ordinary hard-working Americans, but the current estate tax doesn’t kick in unless an individual has assets totaling more than $5.43 million. For married couples, the threshold for avoiding the tax is $10.86 million.

Not chump change.

Under the Republican plan, estates would pay no taxes. Furthermore, families would be able to pass assets across generations and avoid paying capital gains taxes on both real gains and so-called phantom income attributed to inflation, a loophole called “stepped up basis” in the tax code. Subsequent heirs could continue this strategy so that the gain is effectively never taxed.

Here are a few quotes from Republican supporters of Estate Tax repeal:

Rep. Paul Ryan (R-Wis.):

This tax doesn’t just hit the big guy, it hits the little guy — like the small business and the family farm.

Rep. Kevin Brady (R-TX) made the “double taxation” argument:

The death tax is the wrong tax at the wrong time, and it hurts the wrong people…They are double and triple taxed.

Sen. John Thune (R-SD):

The death tax imposes a tax rate as high as 40 % on family farms, ranches and small businesses, which hurts economic growth by discouraging savings and development.

But, the nonpartisan Tax Policy Center estimates that only 120 farms and small business, where at least half the assets are in farm or business assets, had to pay the estate tax in 2013. And double-taxation shouldn’t be so hard for Republicans to understand. No one claims that when a worker gets paid a wage, and pays a tax on that income, and who later spends some of that after-tax income paying someone to mow their lawn, that it is double-taxation for the lawn guy to pay income tax. This is really simple: Money moves from entity, to entity, to entity, and each time, tax applies.

So, the facts don’t support the case against the estate tax, but this does not matter to Republicans.

It has become an ideological issue, even if the data show that that relatively few small farms or businesses appear to be affected. Even if it’s only a handful, that’s apparently too many for Republicans.

The truth is that repealing the Estate Tax would mainly benefit the very wealthiest Americans. In 2016, the wealthiest 1,300 or so estates (those worth $20 million or more) would receive 73% of the benefit, with each receiving a tax windfall averaging roughly $10 million, according to the Joint Committee on Taxation’s analysis of the repeal proposal approved by the Ways and Means Committee.

This is a special kind of welfare. It is welfare for the rich. This will give multimillionaires, who are the only people we are talking about, an additional 40% of wealth transfer upon the death of a parent. This undresses Republicans as planning to create a permanent aristocracy based on inherited wealth.

And Republicans say they will address income inequality if only America votes for them in 2016?

The GOP proves again that they are not what they claim. They claim to be for balancing the budget and decreasing the deficit, but leap at the chance to lavish more $ billions on the rich, while increasing the deficit.

The facts mean nothing to President Nordquist, or to our right-wing friends when discussing taxes.

Happy Tax Day!

 

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