The 47% and the Flat Tax That's Already Here

The conservative wet dream is a flat tax. Cain, Gingrich and Perry endorsed it in the primaries, as it tackles two problems at once: it lowers taxes on the rich, and it gets the 47% to pay up.

Sadly, it's already here. (Click to embiggen.)

As The Atlantic's Matthew O'Brien points out:

We barely have a progressive tax system. People basically pay what they earn -- even the top 1 percent.  (Emphasis added).

So how does this square with Romney's indictment of 47% of America?

Well, there are lots of other taxes, and they're mostly regressive. The payroll tax and state and local taxes all hit poorer households harder than they hit richer households.

In fact:

Once you add up the progressive federal income tax and the regressive federal payroll tax -- which raise roughly the same amount of revenue -- with regressive state and local taxes, you only just get a progressive system overall.

As this graph from the Tax Policy Center shows, payroll taxes made up 40% of federal tax revenue, as opposed to 42% for the individual income tax. Corporate income tax, meanwhile, made up only a meager 9%.

And, just for fun, the amount of taxes paid by corporations has been on the decline for decades.

Revenue from the corporate income tax fell from between 5 and 6 percent of GDP in the early 1950s to 1.3 percent of GDP in 2010.

That's a drop of between somewhere around 75 - 80%. If you're looking for a reason why the deficit's been growing, you might want to look here.

When Romney limited himself to a discussion of income taxes, he gave the game the away. The taxes he pays counts -- and should be reduced. The taxes the rest of pay? Not so much. The 47% include 26% who pay payroll taxes -- you know, the other big revenue stream for the government. And the remaining 21%. They're the poor, the disabled and the elderly, with some students thrown in the mix.

But they still pay taxes! The pay sales taxes, excise taxes, taxes on cell phones. Now, they may not pay much, but that's due in large part to the fact that they have don't have much money.

Undiscussed (with one notable exception) has been the role of tax expenditures. They are (more or less) the flip side of entitlements. The government can subsidize you by paying for something -- your rent, healthcare, etc. -- and that's an entitlement. But the government can also subsidize you in the form of tax breaks. Those are tax expenditures.

When Mitt Romney pays only 14% in federal income taxes because most of his income was from capital gains, he's a beneficiary -- just like someone on welfare. Except that his subsidy is a lot bigger than anything you'll ever see.

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One last point. Conservatives will argue that a lower rate for capital gains is necessary, or else people won't invest and the economy won't grow.

This is horseshit, as we showed here. The vast amount of capital gains are derived from assets purchased in the secondary market, where $0 -- not a typo -- has been invested. When you buy a stock on the open market, betting that it goes up -- that's what you're doing. You're gambling, not investing.

And we have no problem with gambling. We just want the proceeds to be taxed like everything else e.g., earned income. And fully half of these gambling proceeds go to top .1%. Again, not a typo. Not the top 1%, but the top 0.1%. 

But what about the economy? Don't lower tax rates result in more growth? Let's ask our friends at the Congressional Research Service, who just published a helpful little document called Taxes and the Economy: An Economic Analysis of the Top Tax Rates Since 1945.

Analysis of [the data] suggests the reduction in the top tax rates have had little association with saving, investment, or productivity growth. However, the top tax rate reductions appear to be associated with the increasing concentration of income at the top of the income distribution. 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. The evidence does not suggest necessarily a relationship between tax policy with regard to the top tax rates and the size of the economic pie, but there may be a relationship to how the economic pie is sliced. 

There you go. Conservatives just want a bigger slice.

Your 10-Year Treasury Update

Hi!

Just a reminder that the yield on the 10-year Treasury has, over the course of the last five years, decreased by 67%. In English, that means it used to be a bit above 5%, but is now at 1.63%.

Now would be a good time to borrow a bunch of money for, oh, I don't know, a stimulus program to strengthen the American economy and serve as a bulwark against the on-going European meltdown.

Just sayin'.

Seriously, the World Would Like to Give Us Free Money

Remember when we wrote that the world wanted to give us free money, because the 10-year Treasury was trading at historic lows?

Well ... since then the yield on the Treasury has continued to go down.

Again, inflation is running at about 2.4%, and we can borrow at less than 1.7%. The rational response would be to borrow as much money as we can. Just sayin'.

Just for fun, here's the yield since 1960.

The World Would Like to Give Us Free Money

From the Wall Street Journal, sometime yesterday:

The rally in U.S. government bonds has put 10-year Treasury yields on the precipice of a new record low.

The benchmark note gained 18/32 in price by late-afternoon trading to yield 1.702% after sinking as far as 1.692%. The record low of 1.672% was matched in September and originally set in February 1946. Based on a 3 p.m. EDT finish, 1.702% would be the lowest yield ever to round out a session.

And from Yahoo Finance, at 6:22 this morning:

And here's a summary of current rates of inflation, from the Cleveland Fed:

With inflation running at about 2.4%, borrowing money at 1.7% means that -- in inflation-adjusted dollars -- there is no interest.

This would be an excellent time to spend a whole bunch of money on a new stimulus plan. Just sayin'. What with it being basically free and all.

What's Hedging, and How Did JPMorgan Lose $2 Billion by Doing It?

It's hedging, as in hedging a bet.

(Still yet another reminder that, at the end of the day, finance is mostly a fancy way of saying gambling.)

Some of the earliest (and most useful) hedges were in agriculture. A farmer would plant a crop in the spring, but wouldn't sell it until the fall. At that point, the price for his crop might be much higher (great news) or much lower (bad news) than he anticipated. The farmer, however, didn't want to speculate in commodities; he just wanted to sell his crop for a reasonable price.

Beginning in the 19th century, the future markets allowed him to do so. A farmer growing corn, for example, could sell all of his crop for $2.00 a bushel -- in April, when he was just putting seed in the ground. As he would not be harvesting his crop until, say October, this kind of transaction is called a forward transaction, as performance of the contract -- both paying the cash and delivering the corn -- don't  happen in the here and now. And because this kind of forward contract is standardized and traded on an exchange, this forward is actually a future. (So all futures are forwards, but not all forwards are futures.)

In October, though, the price might be $3.00 or it might be $1.00. But the farmer doesn't care, as he established a sale price of $2.00 in April. In financial terms, he hedged market risk (the chance that the price of his commodity would move against him) by selling futures on his crop. 

The idea of hedging moved into securities, where it spawned one of the more popular and profitable trading strategies -- the long/short strategy. The investor reviews companies within a given industry and tries to identify two things -- the most over-priced stock (e.g., the one least likely to increase in price), as well as the most under-priced stock (e.g., the one most likely to increase in price). 

Retail investors typically only look for the latter. People would buy Apple, for example, thinking that Apple would increase in value. But the long/short strategy is both a safer and, potentially, more profitable trade. So the hedge fund (as mutual funds can't really engage in short-selling, only hedge -- hey, there's that word again! -- funds engage in this kind of trading) would buy Apple (the long part), and borrow shares of Research in Motion (which makes the ill-fated Blackberries) to short-sell. 

The hedge fund ends up winning in these three scenarios:

• AAPL goes up, and RIMM goes down.
• AAPL goes up, and RIMM goes up -- but not enough to offset the gains made with AAPL.
• AAPL goes down, but RIMM goes down even more.

The hedge fund loses in these two scenarios.

• AAPL goes up, but RIMM really takes off.
• AAPL goes down drastically, and RIMM only does down a little.

And the hedge fund gets creamed in one scenario:

• AAPL goes down and RIMM goes up.

The problem with this trading strategy is that when the bets go south, they really go south. Fundamentally, this bet is on the spread between AAPL and RIMM. If the spread increases -- for whatever reason -- the bet is a winner. But if the spread moves against you, you get killed. This is what did in Long Term Capital Management, back in the '90s. 

With our agricultural example -- which is a true hedge -- the farmer was able to get rid of all of the market risk associated with his investment (his crop). Financial hedging just can't do that. A perfect hedge in the financial world would mean both buying and selling an identical amount of the identical securities, which makes no sense economically. So in the financial world, investors always look for imperfect hedges, meaning something which reduces risk, but doesn't eliminate it. Everything will be fine except -- again -- when both the original long investment and the hedge go against you. 

So what did JPMorgan do? According to Bloomberg: 

A JPMorgan Chase & Co. (JPM) trader of derivatives linked to the financial health of corporations has amassed positions so large that he’s driving price moves in the $10 trillion market, traders outside the firm said. 

The trader is London-based Bruno Iksil, according to five counterparts at hedge funds and rival banks who requested anonymity because they’re not authorized to discuss the transactions. 

... 

The trader may have built a $100 billion position in contracts on Series 9 (IBOXUG09) of the Markit CDX North America Investment Grade Index, according to the people, who said they based their estimates on the trades and price movements they witnessed as well as their understanding of the size and structure of the markets. 

The positions, by the bank’s calculations, amount to tens of billions of dollars and were built with the knowledge of Iksil’s superiors, a person familiar with the firm’s view said. 

And it didn't turn out so well.

JPMorgan Chase, which emerged from the financial crisis as the nation’s biggest bank, disclosed on Thursday that it had lost more than $2 billion in trading, a surprising stumble that promises to escalate the debate over whether regulations need to rein in trading by banks. 

Jamie Dimon, the chief executive of JPMorgan, blamed “errors, sloppiness and bad judgment” for the loss, which stemmed from a hedging strategy that backfired. 

The trading in that hedge roiled markets a month ago, when rumors started circulating of a JPMorgan trader in London whose bets were so big that he was nicknamed “the London Whale” and “Voldemort,” after the Harry Potter villain. 

To be fair, this one incident doesn't really mean a lot to JPM, which made $19 billion last year. But it does support the argument for the Volcker rule, which limits how much money a bank can risk in the kind of proprietary trading JPMorgan engaged in. The bad news is that the Federal Reserve is delaying implementation of the Volcker  Rule for (at least) two more years, until 2014.

The other way to limit the amount of money in play, and the one which we strongly prefer, is to limit the amount of leverage banks can use. Banks hate this idea as much as, if not more than, Volcker Rule, because both are serious restraints on the banks' ability to make money.

This is true. But the federal government will always be called on to clean up financial crises, so it's more than fair for them to limit the amount of harm that banks can do to themselves. This, oddly, is how the federal government hedges its risk.

In Which We Take a Victory Lap with Citi's Economists

From an earlier post:

The idea of the helicopter drop – where the government would literally throw cash out of the side of a helicopter – originated with conservative economist Milton Freidman as a possible tactic to fight price deflation.

Ben Bernanke spoke positively about the effects of a helicopter drop in a 2002 speech at the National Economics Club.

So how would this work? Easy -- we just take one of Bush's plan -- the Economic Stimulus Act of 2008 and double it. 

But why do this? 

From an economic standpoint, the best thing would be if people were to take each and every dollar and buy something with it. A direct infusion of cash into the economy would have the greatest multiplier effect. But that's not going to happen -- but the alternatives aren't half-bad. 

If you're middle or lower class, you may take that money and use it to catch up on your mortgage. That’s not a bad thing, as it would help stabilize housing prices as well as increase cash flows to mortgage holders, which tend to be things like pension plans, mutual funds and financial institutions.  It would also reduce strain on Fannie and Freddie, as more and more of their mortgage-backed bonds were being paid off. (We own Fannie and Freddie, so we've got skin in this game.) 

If you’re up to date on your mortgage (or have none), you could take the cash to pay down a credit card payment. This won’t really help much in terms of stimulus, but it will, as Ben notes above, “improve the balance sheet of potential borrowers.” Meaning, if you’re thinking about buying a house or a car in the future, this should help you down the ways. And considering that the average interest rate applicable to credit cards is 15%, paying down a chunk of the principal now will significantly lower interest payments going forward -- meaning the credit card gets paid off sooner. It means the stimulus money will get spent, just not right now. 

Finally, if you're upper class, you're probably just going to save this money. That, bluntly, doesn't help the economy much at all -- see the multiplier chart above -- but not every plan is perfect. And the payout to the upper class would start diminishing if you made more than $75,000 single/$150,000 married couple. So the bulk of this stimulus will be going to people who aren't going to hold onto it.

And from CNBC on May 9th:

Citigroup on Wednesday issued a client note that just a few weeks ago would have read like satire. “We think central banks in the U.S., euro area, Japan, and the U.K. could and should do much more” to stimulate growth, said the firm’s economists, led by Willem Buiter. Yes, these institutions, which have already pushed their respective interest rates to historic lows and made unprecedented efforts to buy government bonds and other securities, are not being aggressive enough, the firm argues.

Specifically, Citi advocates a three-pronged approach: First, lower interest rates “all the way to zero” in the two regions, the U.K. and euro area, where they aren’t basically at zero already. Second, carry out “more imaginative forms” of quantitative easing  of any or all types of “less liquid and higher credit risk securities” beyond government bonds. And third, engage in “helicopter money drops,” by which they mean the fiscal authorities in each region should join forces with the central bank to pump money directly into their respective economies.

In Which We Take a Victory Lap in Regards to Our Stimulus Plan

But, ultimately, are swept up with melancholia.

From an earlier post:

Let’s start with compensatory aid for the states. State (and cities) typically have a much worse time during a recession than the federal government because they (a) can’t print their own money and (b) have to balance their budgets. So when revenues decrease, states have few options save for trimming their own expenditures. 

Calculated Risk, an economics blogs, says that we’ve lost 232,000 state and city jobs so far this year. And in California, things look like they’re going to get worse. From the Huffington Post: 

Because revenue is projected to fall short by more than $2 billion, the state could cut public school funding by up to $1.4 billion, though that amount will have to be determined by Brown's finance director. Besides laying off school staff, cutting expenses and dipping into reserves, the state could allow school districts to reduce the school year by up to seven days, from 175 to 168. California had 180 school days before the recession hit.
…
 California's unemployment rate – under 5 percent as recently as 2006 – has remained above 11 percent for more than two years.... It projects California's jobless rate will remain above 10 percent through the middle of 2014 and above 8 percent through 2017.

In short, direct aid to the states is a very efficient form of stimulus because it can prevent exactly the kinds of lay-offs and cut-backs that California is facing. Also, according to the Congressional Budget Office, they also have a relatively high multiplier effect – somewhere between 0.7 and 1.8.

Now, from the notorious pinko rag the Wall Street Journal:

One reason the unemployment rate may have remained persistently high: The sharp cuts in state and local government spending in the wake of the 2008 financial crisis, and the layoffs those cuts wrought. 

... 

The unemployment rate would be far lower if it hadn’t been for those cuts: If there were as many people working in government as there were in December 2008, the unemployment rate in April would have been 7.1%, not 8.1%.

From TPM.

Um ....

From Zero Hedge:

It is just getting sad now. In April the number of people not in the labor force rose by a whopping 522,000 from 87,897,000 to 88,419,000.  This is the highest on record. The flip side, and the reason why the unemployment dropped to 8.1% is that the labor force participation rate just dipped to a new 30 year low of 64.3%.

If anybody thinks another stimulus package might be warranted, you can find our suggestion here.

Just sayin'.

Edward Conard is a Douche, Part Two

Remember this story from last year?

How's this for an example of just how porous the U.S. campaign finance system is? A recently created company made a $1 million donation to a pro-Mitt Romney political action committee, then went out of business, leaving no fingerprints from the money's donor. Michael Isikoff of NBC News reports on this fascinating example in an investigative piece. 

An excerpt: 

The company, W Spann LLC, was formed in March by a Boston lawyer who specializes in estate tax planning for "high net worth individuals," according to corporate records and the lawyer's bio on her firm's website. 

The corporate records provide no information about the owner of the firm, its address or its type of business.

Six weeks later, W Spann LLC made its million-dollar donation to Restore Our Future — a new so-called "super PAC" started by a group of former Romney political aides to boost the former Massachusetts governor's presidential bid. It listed its address as being in a midtown Manhattan office building that has no record of such a tenant.

... 

Isikoff writes that the contribution is the fruit of the Supreme Court's Citizens United decision: 

Campaign finance experts say the use of an opaque company like W Spann to donate large sums of money into a political campaign shows how post-Watergate disclosure laws are now being increasingly circumvented. 

Much of this, the experts say, is because of last year's Supreme Court ruling in the Citizens United case that allowed corporations to spend unlimited amounts on political advocacy, including giving to supposedly "independent" super PACs like Restore Our Future. That ruling also opened the door for newly created nonprofit groups — such as Crossroads GPS, started by Karl Rove — that spent tens of millions of dollars on attack ads during last year's campaign without disclosing any donors. 

Well ...

The anonymous donor behind the headline-making $1 million contribution to a pro-Mitt Romney super PAC is a former Bain Capital official with long ties to the candidate, who's asking the outside group to amend its filings, POLITICO has learned. 

The check-writer is Ed Conard, who was a top official at Bain, the private-equity firm Romney helped create, and who has been a strong supporter of his over the years.

The donation, made to the super PAC "Restore Our Future" - which was founded by former Romney advisers and is able to take in unlimited contributions, but must report them to the FEC - showed up in the group's first round of filings. It was listed as coming from a W Spann LLC. 

In a statement to POLITICO, Conard said, "I am the individual who formed and funded W Spann LLC. I authorized W Spann LLC’s contribution to Restore Our Future PAC. 

Edward Conard is a Douche

The New York Times is running an article by Adam Davidson entitled The Purpose of Spectacular Wealth, According to a Spectacularly Wealthy Guy, which addresses arguments around inequality put forth by Edward Conard of Bain Capital.

Conard understands that many believe that the U.S. economy currently serves the rich at the expense of everyone else. He contends that this is largely because most Americans don’t know how the economy really works — that the superrich spend only a small portion of their wealth on personal comforts; most of their money is invested in productive businesses that make life better for everyone. “Most citizens are consumers, not investors,” he told me during one of our long, occasionally contentious conversations. “They don’t recognize the benefits to consumers that come from investment.” 

This is the usual defense of the 1 percent. Conard, however, has laid out a tightly argued case for just how much consumers actually benefit from the wealthy. 

Davidson then goes to completely avoid that tightly argued case, perhaps because it doesn't exist. Davidson does retell a story about how investment and innovation in computers has made them affordable to nearly everyone. And he even gets known pinko Dean Baker of the Center for Economic and Policy Research to acknowledge this is a true.

Baker estimates the ratio is 5 to 1, meaning that for every dollar an investor earns, the public receives the equivalent of $5 of value. 

Wow, that's pretty good!

So what's the problem? It has to do with what qualifies as an investment. Providing start-up capital to a new business, or additional capital to an already existing company, is an investment. Buying stock in the secondary market -- what most investors think of investing -- is not. It's gambling.

As we wrote here:

Unless you're involved in a public offering, all of the securities you've purchased have been in the secondary market. This means that not one dollar of the purchase price you paid went to the issuer. Instead, all of the purchase price went to someone who purchased those securities before you. You've made a bet that the security will rise in price and, if you're right, you'll win! But you won't owe taxes on gambling winnings -- which are taxed as regular income. Instead, these winnings are classified as capital gains, and taxed at a much lower rate.

Here is another example of how the tax code works to the betterment of the 1%. Capital gains (and their preferential tax treatment) are very much skewed towards the wealthy. In fact, in 2001, 2002, 2003 and 2007 (the last year for which data is available), more than 10% of all of the capital gains in the country went to just 400 tax payers.  

And those 400 returns represents those filed by the the top 0.00026%. Not the top 1%, but the top 0.026% of the top 1%. The remaining 90% of capital gains is filtered down to the 99.99974% of us.

Except that it doesn't. The top 0.1% ends up with nearly half of all capital gains, so that leaves 50% for the 99.9% of us.  

And all of that is taxed at 15%, the same tax rate which would kick in at $17,000 if you actually worked at a job. So if you made $8.50 an hour (and worked a forty hour week, fifty weeks a year), you'd be taxed at exactly the same rate which applies to the gambling winnings of the nation's wealthiest individuals.  

But it's actually worse than that, because we haven't figured in Social Security and Medicare taxes. As we noted in our discussion of Social Security,  capital gains are currently excluded from Social Security (usually 6.2%, but currently 4.2%) and Medicare (1.45%) taxation, So that's an additional 5.65%. 

This means that the lowest combined tax rate applicable to working stiffs -- 15.65% - will always be higher than the combined tax rate -- 15% -- applicable to the gambling winnings of the well-off. Always.

And it's not like Conard is an investor, at least in his professional capacity at Bain Capital. As we discussed here, private equity firms like Bain Capital are merely the leverage buy-out firms of the '80s with a makeover. Josh Kosman explained to Mike Konzal:

JK: The whole industry started in the mid-to-late 1970s. The original leveraged buyout firms saw that there were no laws against companies taking out loans to finance their own sales, like a mortgage. So when a private equity firms buys a company and puts 20 percent down, and the company puts down 80 percent, the company is responsible for repaying that. 

Now the tax angle is that the company can take the interest it pays on its loans off of taxes. That reduces the tax rate of companies after they are acquired in LBOs by about half. Banks, also realizing this tax effect, were willing to finance these deals. At the time, you could also depreciate the assets of the company you were buying — that’s not true today. 

They saw that you could buy a company through a leveraged buyout and radically reduce its tax rate. The company then could use those savings to pay off the increase in its debt loads. For every dollar that the company paid off in debt, your equity value rises by that same dollar, as long as the value of the company remains the same. 

MK: So the business model is based on a capital structure and tax arbitrage? 

JK: Yes. It’s a transfer of wealth as well. It’s taking the wealth of the company and transferring it to the private equity firm, as long as it can pay down its debt.  

James Surowiecki of the New Yorker noted:

The rewards can be extraordinary: when Romney was at Bain, it supposedly earned eighty-eight per cent a year for its investors. But piles of debt also increase the risk that companies will go bust. 

And:

[B]etween 2003 and 2007 private-equity funds took more than seventy billion dollars out of their companies. These dividends created no economic value—they just redistributed money from the company to the private-equity investors.

Spectacular.

How to Make 30-40% More Right Now!

First, get a time machine. Then, travel back to the late '70s. Finally, prevent the benefits from increases in productivity from going mostly to capital instead of labor (to, in labor, to the top earners instead of the middle).

Paul Krugman explains.

Larry Mishel has a systematic breakdown of the reasons for worker income stagnation since 1973. He starts with the familiar divergence: productivity up 80 percent, the compensation (including benefits) of the median worker up only 11 percent. Where did the productivity go? 

The answer is, it’s two-thirds the inequality, stupid. One third of the difference is due to a technical issue involving price indexes. The rest, however, reflects a shift of income from labor to capital and, within that, a shift of labor income to the top and away from the middle. 

What this says is that widening inequality makes a huge difference. Income stagnation does not reflect overall economic stagnation; the incomes of typical workers would be 30 or 40 percent higher than they are if inequality hadn’t soared.

Raise Social Security Benefits

Atrios proposes it. Political Animal seconds it. And all because Joe Nocera is screwed.

My 60th birthday is less than a week and a half away, and if there is one thing I can say with certainty it’s that 60 is not the new 50. 

My body creaks and groans. My eyes aren’t what they used to be. I don’t sleep as soundly as I did just a few years ago. Lately, I’ve been seeing a lot of doctors, just to make sure everything still more or less works. 

I’ve also found myself with a sudden urge to get my house in order — just, you know, in case. Insurance, wills, that sort of thing. Sixty is when you stop pretending you’re going to live forever. You’re officially old. Or at least old-ish. 

The only thing I haven’t dealt with on my to-do checklist is retirement planning. The reason is simple: I’m not planning to retire. More accurately, I can’t retire. My 401(k) plan, which was supposed to take care of my retirement, is in tatters.

Last year, CNN reported that:

A quarter of middle-class Americans are now so pessimistic about their savings that they are planning to delay retirement until they are at least 80 years old -- two years longer than the average person is even expected to live.   

It sounds depressing, but for many it's a necessity. On average, Americans have only saved a mere 7% of the retirement nest egg they were hoping to build, according to Wells Fargo's latest retirement survey that polled 1,500 middle-class Americans.  

While respondents (whose ages ranged from 20 to 80) had median savings of only $25,000, their median retirement savings goal was $350,000. And 30% of people in their 60s -- right around the traditional retirement age of 65 -- that were surveyed had saved less than $25,000 for retirement.

But, as we discussed here,  we can "save" Social Security very easily -- mostly because it's not really in trouble. If we remove the cap on earned income subject to Social Security taxes -- currently set at $106,800 -- we would add about 0.6% worth of GDP back into Social Security. And the expected shortfall is expected to be about 0.6%. It's that easy.

But how could we raise enough money to increase Social Security benefits? We quote ourselves:

The magic words are “unearned income.” The 1% have pulled off a brilliant con over last 30 years, where they’ve been able to convince the government that unearned income – the kind that comes from capital gains, dividends and interest – should not be subject to the kind of taxation that the rest of us face. In terms of income tax, long term capital gains are taxed at 15%, far below the current maximum marginal rate of 35%. 

But it gets worse in terms of Social Security, because these things have ... never been taxed at all.  

In 2009, the IRS reported that there was nearly $7.7 trillion in income, $5.7 of which was salaries and wages. Now, just because something isn't salaries and wages does not necessarily mean it would qualify as "unearned income," but it does give us a sense of scale. If only half of it was -- $1 trillion -- then applying the 2009 employee Social Security rate of 6.2% would yield an additional $60.2 billion in revenue. 

And all of this increase would be on income -- literally -- that no one worked for.

In 2009, the average Social Security benefit was $1,153 per month (and the maximum was $2,323), and Social Security paid out a total of $686 billion in benefits. So if we were to raise Social Security benefits by 10% -- to a whopping $1268 a month (and a maximum of $2555) -- we'd need another $68.6 billion. As shown above, if we could tax half of unearned income, we'd come up with nearly 90% of that figure. We could probably make up the rest by not invading Iran.

By the way -- ever wonder how much is in the Social Security Trust Fund? It's $2.5 trillion. As the current national debt is about $15.6 trillion, that means that about 16% of our national debt is financed internally, in the form of a special series of Treasury bonds held by the Trust Fund.

Congress Kills No Birds with Two Stones

Kevin Drum notes that the Senate (but not the House) has passed legislation to save the Post Office. As we discussed here, the Post Office is fighting a losing battle against e-mail, so much so that first-class mail now makes up less than 30% of all mail delivered. (The rest -- mostly catalogs and the like -- is sent via standard mail.)


The USPS had suggested a series of sensible changes -- ending Saturday delivery, relaxing delivery times (40% of first-class mail is delivered within one day), and closing a bunch of post offices and postal centers.


We also noted that much of the current "crisis" is fake, as the USPS was forced by (the Republican-controlled) Congress to pre-fund 75 years worth of its employee benefits within a 10-year window. That helped turn the USPS' $1 billion surplus in 2006 into a $5 billion deficit in 2007.


So how did the Senate do? Kevin Drum summarizes (and we editorialize):

Allows USPS to recoup more than $11 billion that it had overpaid into one of its pension funds.	About time.
Provides early retirement incentives for nearly 100,000 USPS workers.	Good one.
Restructures payments to a health benefits fund for future retirees.	Probably a good thing.
Frees up USPS to offer a broader range of services like delivering beer and wine for retailers.	Okay – but we could do more.
Creates a USPS chief innovation officer.	Absolutely pointless.
Halts the immediate closing of up to 252 mail-processing centers and 3,700 post offices.	Not good.
Forces USPS to preserve overnight delivery of mail sent to nearby communities.	More not good.
Forbids USPS from closing a rural post office unless the next-nearest location is no more than 10 miles away.	Still  more not good.
Places a one-year moratorium on closing rural post offices and then requires the mail agency to take rural issues into special consideration.	Oh, Christ.
Prevents USPS from cutting Saturday delivery for two years, until the agency can prove such a cut is needed as a "last resort."	Seriously?
Transitions from door-to-door delivery to curbside delivery in some areas, such as suburban neighborhoods.	Meh.
Strengthens the appeals process for customers opposed to closing a post office.	Bleh.
Caps bonuses and pay for USPS executives.	Pointless.
Forces USPS to wait until after Election Day to close postal facilities in states that permit voting by mail.	Apparently, these states don’t have mailboxes.
Permits USPS to co-locate post offices in government-owned buildings.	Good.

So, Kevin, what do you think?

There's nothing in there about allowing the postal service to increase postal rates. 

This is crazy. 

Take a look at countries around the world that have smaller volumes of mail than us: they all charge higher postage rates. They have to. And as volumes keep declining in America, we're going to need higher rates here too. Right now, a first-class equivalent stamp runs 75¢ in Germany, 72¢ in Britain, 82¢ in France, 98¢ in Switzerland, 97¢ in Belgium, and 63¢ in the Netherlands. There's no way that we can stay at 45¢ as volumes decline and pretend that somehow everything will be hunky-dory. 

Agreed.

And the Senate also failed to consider resurrecting the United States Postal Savings System, which was shut down during the patchouli-scented days of 1967, when we all thought the banking system was safe. Not only would the United States Postal Savings System provide another revenue stream, it would require virtually no start-up costs -- the USPS already engages on certain small-scale financial transactions (money orders) and the post offices themselves are already built and fully staffed.

A revived Unites States Postal System would also provide crucial financial services to a population which increasingly can't afford to use banks. An April 2011 study by the Pew Charitable Trust found 16.4% of all Mississippians didn't have a bank. And it's about to get a lot worse.

The New York Times reports that:

An increasing number of the nation’s large banks — U.S. Bank, Regions Financial and Wells Fargo among them — are aggressively courting low-income customers ... with alternative products that can carry high fees. They are rapidly expanding these offerings partly because the products were largely untouched by recent financial regulations, and also to recoup the billions in lost income from recent limits on debit and credit card fees. 

Banks say that they are offering a valuable service for customers who might not otherwise have access to traditional banking and that they can offer these products at competitive prices. The Consumer Financial Protection Bureau, a new federal agency, said it was examining whether banks ran afoul of consumer protection laws in the marketing of these products. 

In the push for these customers, banks often have an advantage over payday loan companies and other storefront lenders because, even though banks are regulated, they typically are not subject to interest rate limits on payday loans and other alternative products.

For example:

When David Wegner went looking for a checking account in January, he was peppered with offers for low-end financial products, including a prepaid debit card with numerous fees, a short-term emergency loan with steep charges, money wire services and check-cashing options. 

“I may as well have gone to a payday lender,” said Mr. Wegner, a 36-year-old nursing assistant in Minneapolis, who ended up choosing a local branch of U.S. Bank and avoided the payday lenders, pawnshops and check cashers lining his neighborhood. 

Along with a checking account, he selected a $1,000 short-term loan to help pay for his cystic fibrosis medications. The loan cost him $100 in fees, and that will escalate if it goes unpaid. 

And it gets worse:

 Lenders are also joining the prepaid card market. In 2009, consumers held about $29 billion in prepaid cards, according to the Mercator Advisory Group, a payments industry research group. By the end of 2013, the market is expected to reach $90 billion. A big lure for banks is that prepaid cards are not restricted by Dodd-Frank financial regulation law. That exemption means that banks are able to charge high fees when a consumer swipes a prepaid card. 

The companies distributing the cards have drawn criticism for not clearly disclosing fees that can include a charge to activate the card, load money on it and even to call customer service. Customers with a “convenient cash” prepaid card from U.S. Bank, for example, pay a $3 fee to enroll, a $3 monthly maintenance fee, $3 to visit a bank teller and $15 dollars to replace a lost card. 

Capital One charges prepaid card users $1.95 for using an A.T.M. more than once a month, while Wells Fargo charges $1 to speak to a customer service agent more than twice a month.

Banks are evil. The Post Office is not. For more on why the United States Postal Savings System is a good idea, check out our earlier post here.

The Lemmy and Vikram Pandit

Kudos, firstly, to Citibank shareholders. From the New York Times:

Citigroup received a particularly public rebuke on Tuesday when its shareholders voted to reject the bank’s executive compensation package at its annual shareholder meeting. Citigroup was required to hold this vote as part of the “say on pay” provision of the Dodd-Frank Act that mandates that companies hold advisory shareholder votes on their executive compensation pay. While the shareholder rejection is only advisory, it creates a major headache for Citigroup. 

... 

 Last year, the Citigroup board paid Mr. Pandit almost $15 million, plus one-time retention awards with a potential value of $34 million.... [A] proxy advisory firm recommended against Mr. Pandit’s package because parts of his awarded pay were not based on Citigroup’s financial performance, Citigroup stock had declined by more than 90 percent in the last five years and Mr. Pandit’s pay package was not in alignment with that of his peers. 

Citigroup in part defended this pay package by arguing that Mr. Pandit had not received a meaningful salary for the three previous years, being paid only a dollar a year. This was nice of Mr. Pandit, but it must be put against the fact that Citigroup paid about $800 million to acquire Mr. Pandit’s hedge fund, Old Lane, an investment that Citigroup subsequently wrote off completely. And Mr. Pandit received an $80 million payment from Citigroup last year as part of the Old Lane buyout. He’s not about to become part of the 99 percent anytime soon.

As the Lemmy (or LMI, or Lifetime Median Income or $1.36 million  -- the total amount of revenue the median American can expect to make over his lifetime) was defined to make large amounts of money more understandable, let's re-write the last two paragraphs above using the Lemmy.

Last year, the Citigroup board paid Mr. Pandit almost 11 Lemmies, plus one-time retention awards with a potential value of 25 Lemmies.... [A] proxy advisory firm recommended against Mr. Pandit’s package because parts of his awarded pay were not based on Citigroup’s financial performance, Citigroup stock had declined by more than 90 percent in the last five years and Mr. Pandit’s pay package was not in alignment with that of his peers. 

Citigroup in part defended this pay package by arguing that Mr. Pandit had not received a meaningful salary for the three previous years, being paid only a dollar a year. This was nice of Mr. Pandit, but it must be put against the fact that Citigroup paid about 588 Lemmies to acquire Mr. Pandit’s hedge fund, Old Lane, an investment that Citigroup subsequently wrote off completely. And Mr. Pandit received a 59 Lemmy payment from Citigroup last year as part of the Old Lane buyout. He’s not about to become part of the 99 percent anytime soon.

Matt Ygelsias notes that another SEC rule should be coming into play shortly.

Dodd-Frank instructs the SEC to promulgate a rule requiring firms to publish information about the ratio of CEO compensation to median employee compensation.

Introducing ... the Lemmy

And the Lemmy Tax.

Named after Motörhead bassist and founder Ian Fraser Kilmister, the Lemmy is the pronunciation for the LMI, or Lifetime Median Income. As the disparity between the 1% and everyone else has grown, it has become harder and harder to to illustrate how much money some of these guys are making. For example, when we learn that Mitt Romney made $20.9 million last year, it seems like a lot -- but can we properly understand how much of "a lot" it is?


Here's where the Lemmy is useful. The LMI is based on a simple formula:

Median Income per Year x Total Years Working

which gives us a basic calculation of how much the average American could expect to make over the course of his life. In short, this is the total aggregate revenue value of an average American life.


According to the Social Security Administration, the median income in 2010 was $26,364, and inflation in 2011 ran at 3.2%, so let's bump that figure up to $27,207. And figuring the average work life at 50 years (which might be a bit high, but we're being conservative here), that gives us a 2011 Lemmy of $1,360,000.


So Mitt Romney' $20.9 million translates into 15.4 Lemmies. Which means that if you took fifteen average (median) Americans, put them to work and then grabbed every penny they ever made, over the course of their entire lifetime -- literally leaving them with nothing -- you still wouldn't have as much money as Mitt Romney made last year.


We raise this idea because the New York Times published  a list of the top five most profitable hedge fund managers for 2011. They are:

	NAME	FIRM	VALUE
1	Ray Dalio	Bridgewater Associates	$3.9 billion
2	Carl Icahn	Icahn Capital Management	$2.5 billion
3	James H. Simons	Renaissance Technologies	$2.1 billion
4	Kenneth C. Griffin	Citadel	$700 million
5	Steven A. Cohen	SAC Capital Partners	$585 million

But these numbers are simply too big to comprehend. But with the Lemmy, we can put a more human face on these stats.

	NAME	FIRM	LEMMIES
1	Ray Dalio	Bridgewater Associates	2888
2	Carl Icahn	Icahn Capital Management	1838
3	James H. Simons	Renaissance Technologies	1544
4	Kenneth C. Griffin	Citadel	514
5	Steven A. Cohen	SAC Capital Partners	430

So last year, Ray Dalio made, roughly, the same amount as 2888 people would -- over the course of their entire lifetimes. Or, to put it another way, in one year, Ray made as much as an average American would in 2888 lifetimes. With life expectancy now being about 78 years, it would take that average American 225,264 years to make that much (if you include childhood and senescence).

The only problem with this (yes, the only one) is that there were no humans 225,000 years ago (the Middle Paleolithic era) -- there were only Neanderthals. So, technically speaking, you'd need to go back to 225,000 years, be reborn 2888 times and change species, from Homo neanderthalensis to Homo sapiens (and eventually to the sub-species Homo sapiens sapiens).

Lemmy?

In short, Ray Dalio made more last year than one median person could have in all of human history. So good for Ray, but we'd like to see him pay a bit more in taxes.

Readers of our earlier posts may remember that we've already called for a top marginal rate of 50% (as well as treating capital gains and the like as regular income). But because these numbers are so obscene, we'd like to introduce a surtax, applicable to a portion of the 1%.  Here goes:

The Lemmy: If you make more in a year than the average American does in his life, your top marginal rate goes to 55% (with the top bracket starting at one Lemmy). 

The Double Lemmy: If you make more in a year than the average American does in two lifetimes, your top marginal rate goes to 60% (with the top bracket starting at two Lemmies). 

The Triple Lemmy: If you make more in a year than the average American does in three lifetimes, your top marginal rate goes to 65% (with the top bracket starting at three Lemmies).

To be fair, the idea behind the Lemmy Tax is meant to address gross inequality more than raise money. But instituting the Lemmy Tax on just these five gentlemen would raise over $1.4 billion when compared to this site's tax reform package, and over $4.8 billion when compared to current tax law.

Now here's the cool part. Because the Lemmy is based off of median personal income, the level at which any of the Lemmy Taxes would kick in goes up whenever personal income increases. So the interests of the 1% become aligned with those of the rest of us, which is a good thing as median personal income has barely grown in the last twenty years. In 1990, it was $14,498, which converted to 2010 dollars gets you $24,199. So in twenty years, median personal income has gone up $2164, or about 9%.


Meanwhile, the top 1% have seen their average income increase by 47% in that same time period, and by 52% if you include capital gains. (Folk at the median personal income have virtually no capital gains.)

From the Top World Incomes Database

If the median personal income had grown by 50% since 1990, it would be at $36,300, and the Lemmy would be $1,815,500. That's roughly an extra half-million a year that would not be subject to our surtax.


Bonus question: Why no Quadruple Lemmy? Because of The Case for a Progressive Tax: From Basic Research to Policy Recommendations by Peter Diamond and Emmanuel Saez. (Obama nominated Diamond, a Nobel laureate, to the Federal Reserve Board, but mouth-breathing Sen. Richard Shelby blocked the vote.) Paul Krugman explains:

D&S analyze the optimal tax rate on top earners. And they argue that this should be the rate that maximizes the revenue collected from these top earners — full stop. Why? Because if you’re trying to maximize any sort of aggregate welfare measure, it’s clear that a marginal dollar of income makes very little difference to the welfare of the wealthy, as compared with the difference it makes to the welfare of the poor and middle class. So to a first approximation policy should soak the rich for the maximum amount — not out of envy or a desire to punish, but simply to raise as much money as possible for other purposes. 

Now, this doesn’t imply a 100% tax rate, because there are going to be behavioral responses – high earners will generate at least somewhat less taxable income in the face of a high tax rate, either by actually working less or by pushing their earnings underground. Using parameters based on the literature, D&S suggest that the optimal tax rate on the highest earners is in the vicinity of 70%.

Or, to put it another way, 70% or so is where the Laffer Curve kicks in -- where you actually raise less money with higher rates. A Quadruple Lemmy would put us at 70%, so to be cautious, we simply won't go there.