Search results matching tag 'Taxes'

Latest United Nations Push For Global Taxation

GaryHalbert — Tue, 16 Oct 2012 22:07:00 GMT

IN THIS ISSUE:

1. United Nations Global Taxes – Will Obama Consent?

2. Latest United Nations Push For Global Taxation

3. The UN is the Last Place We Should Give Money

4. United Nations Wants Control of the Internet

5. Conclusions – We Have A Choice

United Nations Global Taxes – Will Obama Consent?

The UN recently formalized a broad set of global taxes and penalties that it wants to impose on developed nations in the Northern Hemisphere, and especially the US, in order to raise some $400 billion annually to send to lesser developed nations in the Third World. And the kleptocrats at the UN want to implement these huge new taxes by the end of this year while President Obama is sure to be in office.

I will discuss these hideous new UN global taxes in more detail as we go along, but here are the highlights:

A 1% income tax on billionaires around the world (apprx. 1,600 total, 425 in the US);
A tax on all financial transactions including stocks, bonds & derivatives;
A tax on currency transactions in the US dollar, euro, yen & pound sterling;
A carbon tax of $25 per ton of CO2 emitted by developed countries only;
A carbon tax on all commercial airline flights from the US to Europe;
A royalty on all oil & gas extracted from wells over 100 miles offshore; and
A global tobacco tax with the proceeds going to the World Health Organization.

Oh, and one more little thing: The UN would control and regulate the Internet before long.

At first blush, you might say that this is impossible, even absurd. You might note that the UN has been trying for years to figure out how to impose global taxes, but has thus far not been successful. Yet this time around, the UN has formalized these proposals into a document to be voted on in the General Assembly before it adjourns in late December. The document is entitled: “In Search of New Development Finance”. You can read it for yourself if you wish.

For whatever reasons, senior officials at the UN believe that NOW is the best time to roll out this tax monstrosity, and they apparently think that President Obama will agree to it, especially if he is re-elected for a second term. It is rumored that Secretary of State Hillary Clinton may also be onboard, but I could not confirm this.

Since the UN does not have legal authority to tax its member nations, such an agreement would need to be structured as some kind of “treaty” between the UN and those nations that agree to the onerous new taxes. US treaties are signed by the President and ratified by the Senate. The House of Representatives has no say when it comes to treaties.

We Simply Cannot Let This Happen!

Let me be fair and say that I do not know if President Obama would agree to something like this. I hope he would not. But as we know, this president has made it abundantly clear that he views the US very differently than past presidents (with the possible exception of Carter).

One of the highlights of his first couple of years in office was his so-called “apology tour” around the world, suggesting that America’s great successes over the years might not have been entirely fair or above board. If you saw the record-breaking documentary movie 2016: Obama’s America (as I recommended), you know exactly how to put this issue into perspective. FYI, 2016 comes out on DVD today – I still highly recommend you see this documentary.

If anyone reading this is still undecided as to who to vote for in the November 6 presidential election, this UN issue should make it absolutely clear. As noted above, I don’t know if Mr. Obama would agree to this UN deal, but we simply cannot afford to take that chance!

Governor Mitt Romney was not my first choice for the Republican nomination, but I believe him to be an honorable, patriotic man. He has been incredibly successful in business and knows how to create jobs. But most importantly, he would never agree to this UN deal!

You have heard almost nothing in the mainstream media about this UN global tax initiative. Only FOX News has reported it. But there is plenty of information on this on the Internet – which the UN also wants to control as soon as possible. You really should get up to speed on this ASAP!

Let’s get into the details.

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

Latest United Nations Push For Global Taxation

Here’s how FOX News reported on this issue at the end of the United Nations’ first week of General Assembly deliberations in the last week of September.

QUOTE:

EXCLUSIVE: As the UN opens its General Assembly session,
it is already thinking up new global taxes

A 1 percent tax on billionaires around the world. A tax on all currency trading in the U.S. dollar, the euro, the Japanese yen and the British pound sterling. Another “tiny” tax on all financial transactions, including stock and bond trading, and trading in financial derivatives. New taxes on carbon emissions and on airline tickets. A royalty on all undersea mineral resources extracted more than 100 miles offshore of any nation’s territory.

The United Nations is at it again: finding new and “innovative” ways to create global taxes that would transfer hundreds of billions, and even trillions, of dollars from the rich nations of the world — especially the U.S. — to poorer ones, in line with U.N.-directed economic, social and environmental development.

These latest global tax proposals have received various forms of endorsement at U.N. meetings over the spring and summer, and will be entered into the record during the 67^th U.N. General Assembly session, which began this week. The agenda for the entire session, lasting through December, is scheduled to be finalized on Friday.

How to convince developed countries wracked by economic recession and spiraling levels of government debt – especially the U.S. — is another issue, which the world organization may well end up trying to finesse.

As the U.N. itself notes, in a major report on the taxation topic titled, “In Search of New Development Finance” -- the main topic at a high-level international meeting of the U.N.’s Economic and Social Council (ECOSOC) this summer -- “These proposals are subject to political controversy. For instance, many countries are not willing to support international forms of taxation, as these are said to undermine national sovereignty.”

The U.N. clearly hopes it can find a way to move ahead. “Politically, tapping revenue from global resources and raising taxes internationally to address global problems are much more difficult than taxing for purely domestic purposes,” admits an ECOSOC document produced last April. But, it summarizes, “the time has come to confront the challenge.”

Shortly thereafter, the tax proposals — known in U.N.-speak as “innovative methods of financing”-- got a limited endorsement from a group of government ministers and other heads of national delegations who attended a major ECOSOC meeting in New York City in July.

The global taxation idea was echoed this week by Jeffrey Sachs, head of Columbia University’s Earth Institute and also a U.N. Assistant Secretary General. Sachs was recently named by U.N. Secretary General Ban Ki-moon to head a new intellectual lobbying group of experts called the Sustainable Development Solutions Network. It “will work closely with United Nations agencies, multilateral financing institutions and other international organizations,” according to the Earth Institute website.

On Monday, the controversial economist, a vociferous supporter of the Occupy Wall Street movement, called on President Obama to implement a carbon tax that in turn could be used to finance bonds, paying for investments to combat “climate change” -- one of the major focuses of the new solutions network.

Sachs was quoted by Bloomberg News as declaring that, “I’m happy to have the future pay for a lot of this. It doesn’t have to be current financed.”

In the midst of a heated U.S. national election campaign, any official endorsement of those [UN global taxation] views is unlikely.

Nonetheless, the U.N. is taking a longer view. The world organization, and its constellation of funds, agencies and programs, has been pushing “innovative financing” for nearly a decade, since the topic was discussed in depth at an international conference in 2002. The topic was endorsed again at the failed Rio +20 conference last summer, without much detail attached.

But the need for new revenue is becoming more urgent as the world’s rich countries, gripped in recession, no longer hand out foreign aid with the same generosity as before — though the total reached $133 billion annually last year--while the demands for huge additional amounts of money for social and climate issues continues to grow.

Earlier this year, for example, the overseers of a new, U.N.-sponsored Green Climate Fund held their first meeting in Bonn to contemplate the spending of some $30 billion annually — rising to $100 billion by 2020 — to meet climate change needs in developing countries. Where all that money will come from is still not clear.

The U.N.’s latest roster of tax possibilities certainly has what the New Development Finance Report calls “large fundraising potential.” Or, at least some of them do. An around-the-world tax of $25 per ton on carbon dioxide emissions in rich countries, the report says, could raise some $250 billion a year. That new billionaire’s tax would raise anywhere from $40 billion to $50 billion per year, the report estimates, though it adds that the idea “is not yet in any international agenda.”

CLICK HERE FOR A TAX LIST

The U.N. places the same estimated value on the proposed currency tax ($40 billion), and roughly the same thing on its proposed financial tax ($15 billion to $75 billion).

Even more innovative is a notion to, in effect, borrow the lines of credit allocated to rich countries themselves at the International Monetary Fund, and “leverage” them to create new investment funds for the world’s poor. How to do this while preserving those credit lines as a reserve asset that rich countries could draw on when required, the report admits, remains to be seen.

Another “innovative” idea that may have trouble staying afloat is the notion of charging royalties on undersea minerals more than 100 miles offshore, within what are called “exclusive economic zones” — in effect, inside some country’s sovereign economic territory.

The sensitive issue here is that the world’s current “exclusive economic zones” extend 200 miles offshore — meaning that the U.N. is suggesting that it collect royalties on mineral wealth on half the “exclusive” territory, which it refers to in the report as part of the “global commons.”

For most nations, excluding the U.S., those 200 mile zones were established by the U.N.-sponsored Law of the Sea Treaty, known as LOST, which came into force in 1994 after it was signed and ratified by 162 countries. (The U.S. signed but has not ratified LOST; its 200-mile “exclusive economic zone” was established by presidential decree.)

The new, 100-mile royalty proposal in the U.N.’s financing report would require a new agreement to hand over proceeds from half of that territory to the U.N.-sponsored International Seabed Authority.

EDITOR'S NOTE: Approximately 24 hours after this story was published, a spokesman for the U.S. Mission to the United Nations sent the following unsolicited statement to Fox News: “The United States opposes global taxes because we believe that any source of revenue should remain under the control of national authorities. This is an idea that has been kicked around for years. Fortunately, it hasn’t gone anywhere, nor will it.” [Want to bet on that?]

END QUOTE

The UN is the Last Place We Should Give Money

Is there any organization less worthy of our trust to spend our money wisely than the United Nations? No. Beset by almost constant scandal, bereft of any in-house oversight or even audit, the UN is one of the most corrupt of all international organizations.

And where would the money go? To so-called “less developed countries.” The taxes are part of a global plan of redistribution of wealth from the Northern Hemisphere (the U.S., Europe and Japan) to the Southern Hemisphere (Latin America, Africa and South Asia), with the goal of reducing poverty.

But don’t think that this redistribution of wealth will reduce poverty. Foreign aid doesn’t work in most cases. In most Third World countries, the money we give typically goes to whoever controls the presidential palace – ruthless dictators in many cases. Coups, civil wars, revolutions and all sorts of violence often ensue as various factions try to get their hands on the money.

Real reduction in poverty in lesser-developed countries can come only through foreign direct investment and trade, not via massive exports of Northern Hemisphere wealth to countries controlled by corrupt dictators and tyrants.

Even if we were delusional enough to give the UN all of these new global taxes (collectively $400 billion a year), why would we trust the UN to know how to best dole it out where it would help the most people? We wouldn’t! The UN is inherently corrupt.

In the UN, each member has ONE VOTE, regardless of the size or population of the country. Venezuela, a dictatorship under Hugo Chavez with apprx. 29 million people, has the same one vote as the United States with a population of apprx. 310 million people. With this arrangement, almost anything is possible.

United Nations Wants Control of the Internet?

Not surprisingly, the UN is secretly planning to regulate and/or tax the Internet. Proposals to do so are expected to be unveiled and possibly voted on as early as this December. You can find plenty of info on this by typing “United Nations Internet control” in Google. Please do because I don’t have space to go into all of the details today.

The International Telecommunications Regulations Union (ITRU), a part of the United Nations, is pushing to control the Internet. One of our UN ambassadors, Terry Kramer, is the US representative on the ITRU, and he is fighting hard to prevent the UN from implementing new regulations on the Internet.

But Kramer warns that the UN’s Internet fee proposals are “gaining momentum,” especially in regions such as Europe, Africa and the Arab world. I urge you to get up to speed on this. There are a couple of articles on the subject in the links below.

Conclusions – We Have A Choice

No doubt what I have written today about the United Nations is controversial, maybe unthinkable. You might also think it is questionable because FOX News is the only mainstream media outlet to report on the UN’s plans for global taxation. But is that really a surprise? Just go to Google and type in “United Nations global taxation.” As usual, you’ll find plenty of information.

You might assume that no US president would agree to such a treaty, not even a re-elected President Obama. You might also assume that the Senate would never ratify a treaty or series of treaties that would obligate the United States to pay these additional proposed annual taxes to the UN. You might be correct, but if Obama is re-elected and the Democrats retain control of the Senate, you just don’t know.

The point is, we cannot take that chance.

Most Americans now realize that we elected Barack Obama without knowing a lot about him. There is still a great deal we don’t know about him (see 2016: Obama’s America documentary which is being released on video today).

What we do know is that he is an avowed liberal – he’s made no secret about that. Most liberals have great affection for the United Nations. What we do know is that President Obama is all for “spreading the wealth around.” What we also know is that he told Russian President Medvedev that he would “have more flexibility” on reducing nuclear weapons after he is re-elected.

We cannot know if President Obama would agree to the UN global tax proposals discussed above or not. What we do know is that the Republicans formally OPPOSED these UN global taxes in the GOP Party Platform in August of this year. There is an article on this in the links below. There is no such language in the Democrats’ Platform.

Bottom line: We know that a President Romney will not sign any UN treaty that subjects us to these heinous United Nations taxes. He will not agree to hand over control of the Internet to the UN kleptocrats. We can be sure of that. But with President Obama, we just don’t know for sure.

We cannot afford to take that chance three weeks from today. Be sure to vote!

Very best election season regards,

Gary D. Halbert

Doug Casey on Taxes and Freedom

DougCasey — Tue, 24 Apr 2012 22:26:00 GMT

The always-outspoken Doug Casey addresses a broader view of taxation and its costs to both individuals and society in general in this interview with Louis James.

L: Doug, the Taxman cometh, at least for most US citizens who file their annual tax papers on April 15. We get a lot of letters from readers who know about your international lifestyle and wonder about the tax advantages they assume it confers. Is this something you care to talk about?

Doug: Yes; something wicked this way comes, indeed. But first, I have to say that as much as I can understand the guy who flew his airplane into an IRS building, as we once discussed, I do not encourage anyone to break the law. That's not for ethical reasons – far from it – but strictly on practical grounds. The Taxman can and will come for you, no matter how great or small the amount of tax he expects to extract from you. The IRS can impound your assets, take your computers, freeze your accounts, and make life just about impossible for you, while you struggle to defend yourself against their claims and keep the rest of your life going. The number of IRS horror stories is beyond counting. As the state goes deeper into insolvency, its enforcement of tax laws will necessarily become more draconian. So you absolutely don't want to become a target.

L: So… just bow down and lick the boots of our masters?

Doug: Of course not. People can and should do everything they can to pay as little in taxes as possible. This is an ethical imperative; we must starve the beast. It could even be seen as a patriotic duty – if one believes in such things – to deny revenue to the state any way possible, short of endangering yourself. Starving the beast may be the only way to force it back into its cage – we certainly can't count on politicians to make the right choices – they're minions of the state. They inevitably act to make it bigger and more powerful. It's sad to see well-intentioned people supporting someone like Mitt Romney because they naïvely think he'll reduce the size of the state and its taxes. The man has absolutely no ethical center; he'll just try to change the government to suit his whims.

L: Can you expand on the ethical imperative aspect?

Doug: Yes. The first thing is to get a grip on who owns the moral high ground. The state, the media, teachers, pundits, corporations – the entire establishment, really – all emphasize the moral correctness of paying taxes. They call someone who doesn't do so a "tax cheat." As usual, they have things upside down.

Let's start with a definition of "theft," something I hold is immoral and destructive. Theft is to take someone's property against his will, i.e., by force or fraud. There isn't a clause in the definition that says, "unless the king or the state takes the property; then it's no longer theft." You have a right to defend yourself from theft, regardless of who the thief is or why he is stealing.

It's much as if a mugger grabs you on the street. You have no moral obligation to give him your money. On the contrary, you have a moral obligation to deny him that money. Does it matter if the thief says he's going to use it to feed himself? No. Does it matter if he says he's going to feed a starving person he knows? No. Does it matter if he's talked to other people in the neighborhood, and 51% of them think he should rob you to feed the starving guy? No. Does it matter if the thief sets himself up as the government? No. Now of course, this gets us into a discussion of the nature of government as an institution, which we've talked about before.

But my point here is that you can't give the tax authorities the moral high ground. That's important because decent people want to do the morally right thing. This is why sociopaths try to convince people that the wrong thing is the right thing.

If an armed mugger or a gang of muggers wanted my wallet on the street, would I give it to them? Yes, most likely, because I can't stop them from taking it, and I don't want them to kill me. But do they have a right to it? No. And every taxpayer should keep that analogy at the top of his mind.

L: I also believe that the initiation of the use of force (or fraud, which is a sort of indirect, disguised, form of force) is unethical. It doesn't matter what the reason for it might be nor how many people might approve of the action. But some people claim that taxation is really voluntary – the price one pays for living in society… and if I'm not mistaken, the US government says the federal income tax is voluntary.

Doug: [Snorts] That is a widely promoted lie. It's propaganda to help statists claim the moral high ground, confuse the argument, and intimidate people who aren't critical thinkers. Just try not volunteering to pay it and see what happens. Taxation is force alloyed with fraud – a nasty combination. It's theft, pure and simple. Most people basically admit this when they call taxation a "necessary evil," somehow mentally evading confrontation with the fact that they are giving sanction to evil. But I question whether there can be such a thing as a "necessary evil." Can anything evil really be necessary? Can anything necessary really be evil?

Entirely apart from that, if people really wanted anything the state uses its taxes for, they would, should, and could pay for it in the marketplace. Services the state now provides would be offered by entrepreneurs making a profit. I understand, and am somewhat sympathetic, to the argument that a "night-watchman" state is acceptable; but since the state always has a monopoly of force, it inevitably grows like a cancer, to the extent that the parasite overwhelms and kills the host. That's where we are today.

I think a spade should be called a spade, theft should be recognized for what it is, and evil should be opposed, regardless of the excuses and justifications given for it. Ends do not justify means – and evil means lead to evil ends, as we see in the bloated, corrupt, dangerous governments we have all over the world.

L: That runs counter to the conventional wisdom, Doug. Evil or not, most people think taxation is part of the natural order of things, like rain or day and night. Death and taxes are seen as the two inevitable things in life, and you are a silly idealist – if not a dangerous madman – if you believe otherwise.

Doug: That saying about death and taxes is both evil and stupid; it's a soul-destroying and mind-destroying perversion of reality. It's evil, because it makes people reflexively accept the worst things in the world as permanent and inevitable. As for death, technology is actively advancing to vanquish it. Who knows how far medicine, biotech, and nanotech can delay the onset of death? And taxes are, at best, an artifact of a primitive feudal world; they're actually no longer necessary in an advanced, free-market civilization.

People also once thought the world was flat, that bathing was unhealthy, and that there was such a thing as the divine right of kings. Many things "everyone knows" just aren't so, and this is one of those. A government – for those "practical" people who think they need one – that stuck to the basic core functions of police and courts to defend people against force and fraud and a military to defend against invasion, would cost a tiny, tiny fraction of what today's government costs, and that could be funded in any number of ways that essentially boil down to charging for services.

As it is now, the average US taxpayer probably works half of the year just to pay direct and indirect taxes. That doesn't even count the cost of businesses destroyed by regulation and lives lost to slow approval of new treatments by regulators, or a million other ways governments burden, obstruct, and harass people.

L: I just looked, and Tax Freedom Day this year is April 17.

Doug: That means that all the work the average guy does until April 17 goes to pay for the government that failed to protect him on September 11, 2001, failed to protect him from the crash of 2008, and continues failing him every day. We pay for an organization bent on doing not just the wrong things, but the exact opposite of the right things in economics, foreign policy, and everything else we've talked about in all our conversations. It's rather perverse that Emancipation Day – the day the first slaves in the US were freed in the District of Columbia in 1862 – is April 16. But what is a slave? He's someone who is deprived by force of the fruits of his labor. Sound familiar? I disapprove of slavery, in any form – including its current form.

However, Tax Freedom Day is an incomplete way of looking at things. What's the cost to business forced to install equipment to meet government regulations? That's not paid as a tax, but it's a serious burden. There's something called Cost of Government Day that's a somewhat more inclusive estimate of the burden the state imposes on the average guy…

L: I just looked for that too and don't see that a date for 2012 has been announced yet; but Cost of Government Day for 2011 was August 12. According to that estimate, the average US taxpayer slaved away for about two-thirds of the year to pay for the state and got to keep only a third of the fruit of his labor for his own benefit and improvement.

Doug: That may be a more accurate way of looking at the burden of government the average guy has to bear, but it still doesn't even begin to address what economists call "opportunity cost." Basically, I don't just look at what the state we have costs us in cash, but in terms of the innovation and growth we don't have because of government policies, laws, and regulations. This covers everything from new medicines to all sorts of new technologies to different forms of social and business organizations to the cleaner intellectual atmosphere I think we'd have without government propaganda machines cluttering it up.

I don't believe in utopia, but I do believe our world could be far freer, healthier, and happier than it is today – without any divine intervention, magic, or changes in the laws of physics. Just a different path, every bit as possible as the one we've taken to where we are today.

L: As in the alternative reality L. Neil Smith wrote about in his book The Probability Broach?

Doug: At least as far as the humans in that story go, yes, it's a good illustration of how much more advanced the world might be, based on a different turn of events.

Back in this world, I think that without any major differences in technological development and without assuming that people would spontaneously become angels, the average standard of living worldwide would be much higher if… Well, there are lots of turning points, some of which we've discussed. Just in the 20^th century, things would be very different if America had stayed out of WWI, or had not ratified the 16^th Amendment to the Constitution, or had not elected FDR.

L: Okay, but those things did happen, and we live in the world we have today – the one you call a prison planet. How should people try to do what's right in such a world without ending up in jail?

Doug: First, it's important to think about what's actually possible, because people will not even try to reach for what they are sure is impossible. The world needs idealists to challenge us all to aim higher… including idealists willing to go to jail for what they believe in, like Thoreau. But even he said that while he encouraged all people to disobey unjust laws, he wouldn't ask those who support families to get themselves locked up and leave their families destitute.

So my take is as we started out saying: It is both ethically and practically imperative to starve the beast. The less cooperation of any sort we give the state – but especially the less money we give it – the less mischief it can get into. We're unlikely to get politicians to vote for getting the state off our backs, out of our pocketbooks, out of our bedrooms, and out of other people's countries as a matter of principle, but we could see the state get out of places it doesn't belong simply for lack of funds. And if everybody treated minions of the state with the contempt they deserve, most of them would quit and be forced to find productive work. As Gandhi showed us, civil disobedience can not only be an ethical choice, but a very powerful force for change.

L: Any specific advice?

Doug: Get a good accountant, take every deduction you can, and look for ways to legally reduce your tax burden. For example, our readers should know that charitable contributions in the US get deducted after the alternative minimum tax wipes out your other deductions. That means that a substantial fraction of every dollar you give a registered 501(c)(3) nonprofit does not go to the federal government.

Now, as you know, I don't believe in charity, at least not in the institutional sense, but wasting money on charities is far, far better than giving it to the government to use bombing innocents and creating enemies for generations to come. And if that charity happens to be something like the Institute for Justice, the Fully Informed Jury Association, or any of the other libertarian think tanks dedicated to reducing the size and scope of government, you get to help fight the beast and starve it at the same time.

L: I do my economics and entrepreneurship camps in Eastern Europe under the auspices of the International Society for Individual Liberty – of which I should disclose that I am a director. I have to admit that it pleases me greatly to see funds that would have gone into making bombs to drop on foreigners and hiring more goons in uniform to oppress people at home redirected to something I consider constructive.

But what about the international diversification question: can that help reduce your tax burden back home?

Doug: It's different for different countries, and each individual should consult a tax specialist with the details of his or her own case, or proposed case. However, there is an exclusion for Americans who live abroad for a whole tax year – it was around $100,000 the last I looked. So there are very good tax reasons for Americans to live abroad. There are even better reasons for Canadians, Europeans, and almost everyone else to leave their native country – many can live 100% tax-free. I guess it's just a sad testimony to the medieval-serf mentality that most people suffer from that few people take advantage of this. They're born someplace, and they stay rooted there, like a plant. Oh well, everybody basically makes his own bed, reaps what he sows, and gets what he deserves…

However, as appealing as the "permanent tourist" idea is, I recommend international living first and foremost as a way to protect your assets. As we've discussed before, real estate in foreign countries cannot be repatriated or confiscated by the government that thinks of you as its milk cow. There is nothing illegal or nefarious about buying real estate abroad, and it could come in very handy if things get really chaotic back home, wherever that happens to be.

L: Okay… any investment implications to discuss?

Doug: Sure, but nothing new to our readers. Starving the state-beast is the right thing to do, ethically and practically, but I believe the state's days are numbered anyway. The thing to be aware of is that the beast won't go quietly, and in its death throes it can do a lot of harm. Still, like Nietzsche said, "That which is about to fall deserves to be pushed."

In the meantime, much higher taxes are on the way. More and more currency controls are coming. You may have heard that the US is contemplating a law denying issue or canceling the passport of anyone accused of owing more than $50,000 in taxes. I expect the transformation of what was once America into a police state to continue, and I expect other "developed" nations – especially Europe, Canada, and Australia – to follow suit. And this will happen whether or not the global economy exits the eye of the storm as I expect it to.

So you want to rig for stormy weather and invest for continuing crisis. Own gold for prudence, speculate on related stocks and others that may benefit from government profligacy, and as we've just been saying, diversify your assets and personal living arrangements internationally.

The day is coming when your local government may stop seeing you as a milk cow and start seeing you as a beef cow, and you want to have options before that day.

L: The Casey mantra. Any chance you're wrong?

Doug: Anything's possible. But we just asked ourselves that question in our conversation on the illusion of recovery, and I just don't see a way out for the old economic order.

L: Okay, Doug. I hope our readers don't tune us out for sounding like a broken record – I believe it's vital that they do take action, preparing for more volatility in the markets ahead. And hedging one's bets against social chaos may sound a bit extreme, but as an option, it sure is something that can help one sleep better at night.

Doug: I didn't formulate the rules for this crazy game; I'm just trying to play it competently.

L: Right then. Until next week.

Doug: Next time.

[For more thought-provoking ideas from Doug Casey – as well as actionable investment ideas – be sure to preorder the entire audio collection of Casey Research's upcoming Recovery Reality Check Summit. You'll hear every minute of every presentation… get specific investment information from over 30 experts… and be better prepared for what the future holds. Plus, if you order now, you'll get the set at a generous discount.]

Who's Still OK With Deficit Spending Now?

ChuckButler — Thu, 02 Feb 2012 16:52:46 GMT

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In This Issue.

* Currencies & metals allowed to hold gains.

* Canada pension board to buy A$'s.

* Taxes are going to the moon.

* Who said that?

And, Now, Today's Pfennig For Your Thoughts!

Who's Still OK With Deficit Spending Now?

Good day. And a Tub Thumpin' Thursday to you! I'm a bit under the weather this morning, so this will probably be short-n-sweet, but then you never know with me, I could go off on a tangent and not come back for awhile! But I doubt it. as I'm not even feeling up to what I've written so far!

Well. I had to laugh yesterday, when the NY traders came in, and didn't sell the currencies right away. I said to myself, "self, maybe the "big boys" read the Pfennig and now Know that I've uncovered their "game", so they have to lay low for awhile"! HA! Whatever the case, the currencies held their gains most of the day, and even added on in some cases.

Overnight, it's been a roller coaster ride, with the euro being sold ahead of the French bond auction, and then recovering after the auction results, which were not bad results, as yields on their bonds fell. The same result in Spain this morning too. More baby steps of stabilization. However, Greece continues to weigh heavily on the euro, and all other currencies as far as that goes. The ECB remains on the sidelines, and I think they'll remain there for some time, waiting until the last minute. This is worrisome for the markets, and I think a statement by the ECB that they remain the lender of last resort, would go a long way here.

The other day I told you that German Chancellor Angela Merkel was going to China, not to bash the Chinese for their currency policy, but to gain China's confidence in the Eurozone. In Merkel's meeting today with Chinese Premier Wen Jiabao, Wen stated that "China is still researching the best way to participate in the European Financial Stability Facility (EFSF)." That's a good sign.

As I've said for over a year now. China knows the steps it needs to take to become a world leader, and push the renminbi to the front of the class for reserve currency status. And one of those steps is becoming the World's financier, like the U.S. did after WWII. China already performs this function here in the U.S. and have taken the back road into Europe, but I think they will increase their financing of Eurozone debt, as they wrest the title of World's financier away from the U.S.

Gaining a wide distribution of the renminbi is another step that China has begun, as I've reported here. This whole change for China isn't going to happen any time soon, but it will happen at some point in the future. I'm thinking 2020, but could be as soon as 2017.

OK. Yesterday, I told you how manufacturing reports in Germany, China and Australia were all stronger than expected. The U.S. version of this report, strengthened from December, but, was not as strong as forecast. But the U.S. version has a good grip on expansion at this point. The weak dollar helps. and I know you're going to say, but Chuck, the dollar has been stronger recently. Yes, it has. but it's still weak!

Moving on. I found this to be a case of the kettle calling the pot black. Japanese Finance Minister Jun Azumi, took a shot at the U.S. Fed, and their interest rate policy last night. First Azumi was warning the markets about the yen's strength, and how he was in a position to do something about it (intervene by selling yen). And then he said, "Speculative moves are increasing in the market and we can't overlook them. Against the backdrop of the Fed's plan to keep interest rates exceptionally low until 2014, short term speculative buying has increased, contributing to the yen's gain."

Speaking of the Fed. They sure have had a pile of junk thrown at them and will continue to have it thrown at them. You see, Gov't spending has been a HUGE part of economic growth, measured by GDP. Now, everyone would love to see the Gov't out of the deficit spending deadly cycle they've been on for some time now. And they will attempt to do so, starting next year. But. what becomes of the economy, if the piece that the Gov't spending was taking up, isn't taken over by something else? Ahhh grasshopper, you have become so smart! Yes, the economy circles the bowl.

There were a couple of reports done recently that outline the hit that the economy will take in 2013 and beyond as the Gov't withdraws their support of the economy. JPMorgan Chase's guy thinks that 1% of GDP will be lost in 2013, as $500 Billion in spending cuts come on board in January 2013. And then another $250 Billion gets taken out by allowing the Bush tax cuts to expire. Bank of America's guy, thinks the hit will be worse. He believes that the first hit will be $586 Billion at the end of this year. And then $100 Billion per year gets taken out, as required by the agreement when lawmakers couldn't agree on spending cuts.

So. I'm all about less Government and less Government deficit spending. And if we have to suffer through withdrawal pains then that's what we need to do. We have to break this addiction to Gov't deficit spending.

Let's talk about something else. The other day I told you that the Aussie dollar (A$) had climbed back above $1.06, and the next line of resistance wasn't until $1.0770, so it had "room to run". Well. the A$ has climbed above $107 now, so the "room to run" is growing smaller. But that's just a line of resistance, there's not a "hard stop". The A$ reached $1.10 and change last year, so, it does have that ability, eh? The one thing that concerns me, is how quickly this move higher has happened. Let's not get ahead of ourselves here, OK A$ traders?

I read this morning that The Canada Pension Plan Investment Board, which manages about $155 Billion, plans to increase its longer-dated investments in Australia to boost returns. The Pension board already has about $10 Billion allocated in Australia and the A$... Pretty interesting stuff here.

Speaking of Canada. Canadian manufacturing wasn't on par with the reports from Germany, China and the U.S. yesterday, as it slipped a bit in January. The stronger Canadian dollar / loonie can be blamed for that. I'm not concerned here, Canada has the "stuff" other countries want, and will continue to attract investment.

Gold is eking out another small gain this morning, after adding about $5 to its value yesterday, it's up $4 this morning. I would rather see these small moves that fly under the radar, than the wild swings we've seen in recent years.

OK. a little game today of "Who said This?". Here you go. I'll give you this quote, and you guess you said it. the answer is at the end. "Gold, unlike all other commodities, is a currency...and the major thrust in the demand for gold is not for jewelry. It's not for anything other than an escape from what is perceived to be a fiat money system, paper money, that seems to be deteriorating. "

Then there was this. And remember yesterday when I told you that the CBO (Congressional Budget Office) had forecast that the U.S. will print a Trillion dollar Budget Deficit for the 4th consecutive years in 2012? I completely forgot to mention the most important thought on this forecast. The CBO has also forecast that the Budget Deficit in 2013, will narrow and in future years will continue to narrow. Well, just how did the CBO come to that conclusion? Ahhh, grasshopper, sit, here's how. First we have the reduction of Deficit spending that we talked about above. and then. the real reduction comes from. The CBO has calculated an increase in Gov't revenue for future years. You know what Gov't revenue is don't you? Taxes! In fact, the CBO believes that taxes will increase by 30% in the next two years!

Oh. and there are still people out there that think having debts are OK. well not when Taxes to the public have to rise 30% to help pay for them they are not! And that's just the tip of the iceberg folks. as each year comes from here on out, large numbers of baby boomers are going to hit the retirement age, and those unfunded liabilities I told you about last week? Well. I guess we'll solve that problem when we get there, eh?

To recap. The NY traders didn't reverse the currencies' overnight gains yesterday, and the currencies and metals were allowed to add to their gains all day! The gains were small, but still, gains. China is mulling over how to participate in the EFSF. It's easy. write a check! U.S. manufacturing was up nicely in January, and Canada's was down slightly. And the CBO's bomb they threw at us, is a doozy!

Currencies today 2/2/12. American Style: A$ 1.0710, kiwi .8320, C$ 1.00, euro 1.3140, sterling 1.5820, Swiss $1.0870, . European Style: rand 7.7210, krone 5.8360, SEK 6.7550, forint 223.60, zloty 3.2070, koruna 19.1760, RUB 30.31, yen 76.10, sing 1.2490, HKD 7.7555, INR 49.15, China 6.3020, pesos 12.90, BRL 1.7340, Dollar Index 79.16, Oil $97.10, 10-year 1.83%, Silver $33.58, and Gold. $1,745.00

That's it for today. Well. today is Groundhog Day! I don't pay attention to all that, but the movie with Bill Murray is pretty darn funny! And NO, it wasn't the Groundhog or Bill Murray that made that quote about Gold. it was. drum roll please. Alan Greenspan! Yes, he must be going back to his roots of a gold bug. OK. the Groundhog says we'll have 6 more weeks of winter. Hey, if the next 6 weeks of winter are anything like the last two weeks, no biggie! Well, that is for us here in St. Louis. well. I made it through the Pfennig. it was touch and go there at the start. Hopefully that's a good sign for the rest of the day! And as I'm getting ready to send this out the door, I see the currencies getting sold. I could go back and change all the prices, but I never do that, so why start now? And with that. I hope you have a Tub Thumpin' Thursday!

Chuck Butler

President

EverBank World Markets

1-800-926-4922

1-314-647-3837

Cut a Check, Mr. Buffett

GaryHalbert — Tue, 23 Aug 2011 22:13:00 GMT

IN THIS ISSUE:

1. Warren Buffett Says the Super Rich are “Coddled”

2. Breaking Down Buffett’s Numbers

3. What Buffett Didn’t Say

4. What is the “Fair Share” for the Rich?

“Coddling” the Super Rich

On August 14, Warren Buffett, arguably the world’s best known investor, wrote an op-ed piece for the New York Times suggesting that millionaires and billionaires should no longer be “coddled” by the tax code. He said that he and his “super-rich” friends continue to get “exorbitant tax breaks” while others pay a much larger percentage of their income in taxes each year.

I’m sure that Mr. Buffett’s message hit the right button with a lot of people, especially the way it was heralded in the mainstream press. However, what you need to know is that his comments were no more than another salvo in a class warfare battle that will rage from now until at least the election next year.

You might recall that Buffett supported candidate Obama back in 2008, so it’s not much of a surprise to see this kind of class warfare statement come from him. After all, he’s pretty much universally respected and has one of the best investment track records on the planet. And now he wants to volunteer himself and his peers to pay more taxes.

Not convinced about the political aspect? How about Buffett’s comment about how the “…poor and middle class fight for us in Afghanistan...?” What this has to do with income taxation I’ll never know, but I do know that this is a politically charged statement meant to show that the current tax code (read: Bush tax cuts) is inherently unfair when the “mega rich” appear to benefit more than the average taxpayer.

This week, I’m going to discuss what Mr. Buffett said – and what he didn’t say – in relation to taxation. We’ll cover who pays taxes and what the “fair share” for the rich should be. Finally, I’ll tell you about a way to voluntarily contribute money to the government, should you be so inclined. How about you, Mr. Buffett? I’ll come back to that question later.

Breaking Down the Numbers

It’s not the first time that Buffett has wished the blessings of higher taxes for himself and his peers, but this time he provided numbers. Buffett’s $6,938,744 tax bill in 2010 amounted to an overall tax rate of 17.4%, including payroll taxes. Doing a little math results in a total income for Mr. Buffett of $39,877,839 for last year ($6,938,744 divided by 0.174). However, as I’ll discuss in more detail below, he falls short of saying exactly how much of this was in the form of wages versus capital gains and dividends.

He then compared his 17.4% tax rate to those of his office staff, which ranged from 33% to 41%, with an average of 36%. At first glance, these rates seem very high for total tax rates. They appear to be more in line with marginal tax rates that apply to the various tax brackets, but Mr. Buffett’s article appears to be comparing apples to apples, so we’ll assume he’s talking total tax rates for his employees.

One answer to why the staff tax rates look so high might be the greater effect of payroll taxes on his employees. Since he mentioned in his article that his tax rate included Social Security and Medicare taxes, we’ll assume that his employees’ tax rates do as well. Payroll taxes amounted to 7.65% of the first $106,800 of pay in 2009 (known as the “taxable wage base”) and 1.45% of salary income above that amount.

While it’s impossible to tell exactly what the average earnings are for Mr. Buffett’s staff, it’s pretty safe to say that most earn less than the $1 million income level he suggests should pay more taxes. Buffett sets his sights clearly on the “millionaires and billionaires” in terms of income, not accumulated wealth. This is a big distinction since income taxes are paid on income, not your total net worth.

Buffett specifically mentions the 236,883 households with incomes of $1 million or more as those who should be paying higher taxes. However, Obama wants to raise taxes on married couples making $250,000 or more and individuals making $200,000 or more, far below Buffett’s target range which, ironically, would likely include some of Mr. Buffett’s staff. Thus, Buffett’s call for higher taxes just might land on his own staff if Obama gets his way. Gee thanks, boss!

What Buffett Didn’t Say

Many of the articles and interviews I saw related to Mr. Buffett’s latest statements noted a couple of things. First, his tax rate is low as compared to his peers at similar income levels. According to IRS income tax statistics for 2008, the top 0.1% of taxpayers was taxed at a rate of 22.70%, so Mr. Buffett must have a good CPA.

A second issue is that Mr. Buffett doesn’t say how much of his income came from wages, dividend income, short-term and long-term capital gains and “carried interest,” a type of compensation applicable to investment managers under certain conditions. While Buffett provides no breakdown of the sources of his income, his overall 17.4% would indicate that most is taxed at a rate of 15%, which applies to dividends, long-term capital gains and carried interest. This is supported by Buffett’s comment in the article that the mega-rich, “…pay income taxes at a rate of 15% on most of their earnings...”

The question now becomes why the tax code allows these types of income to be taxed at such low rates. Unfortunately, a full discussion of the justification for taxation of various types of income is beyond the scope of this short E-Letter. However, I will attempt to provide a brief summary below:

Dividends – Dividends are payments of company earnings to shareholders, essentially representing a return on the money invested in the company’s stock. The problem with dividends is that they come from money that has already been taxed once at the corporate level, and are then taxed again at the personal level.

The individual tax rate on dividends is up to 15%, while corporate profits are taxed at a maximum rate of 35% - one of the highest corporate tax rates among the developed nations. As a result, the combined personal and corporate income tax rate can be up to 50% (15 + 35). It’s hard to argue that wealthy individuals who receive dividend income are somehow being “coddled” when the money they receive in dividends has already been taxed once.

This double taxation is why you see some companies buy back shares or otherwise invest their retained earnings rather than pay dividends, since doing so is a very tax inefficient way of rewarding shareholders.

Long-Term Capital Gains – This type of income is generated when an investor sells a security (stock or bond) that has been held for one year or more. The investment of money into the economy is a keystone of capitalism and is therefore encouraged. However, there’s no guarantee that any particular investment will produce a gain, and many do not.

Thus, capital gains tax rates reward investors who make long-term commitments in stocks and bonds which help the economy grow. Because provision of capital is necessary for the economy, the tax rate for these gains is also currently set at 15%. This relatively low tax rate helps to compensate for taking the risk of losing the entire amount of the investment.

Carried Interest – This type of income is among the most difficult to explain because it applies only to a very small percentage of individuals who manage investment partnerships. Most of these investment vehicles are known as “hedge funds.” I’m sure you’ve seen news articles noting how billionaire hedge fund managers pay taxes at a rate of only 15%. Again, class warfare sells.

The justification for a 15% tax rate on carried interests is a bit harder to explain not because it’s unjustified, but rather because it involves the complexities of investment partnerships. Suffice it to say that the partnership simply passes on the tax treatment of its holdings to the partners. As a result, if carried interest is mostly dividends and long-term capital gains, then the 15% rate would apply.

However, many investment partnerships trade frequently, meaning that dividends would be minimal and gains would be short-term in nature and taxed at ordinary income rates. Beyond that, thousands of hedge funds lose money and cease to exist, offering no income to its partners or managers. These are the people the mainstream press will never tell you about.

The bottom line is that Mr. Buffett pays a lower percentage of his total income in taxes than his staff because most of his income receives preferential treatment under the tax code. The discussion above shows clearly that there are some categories of income that have been deemed important enough to merit lower rates in order to provide an incentive for investors to take risks. You and I can argue all day about whether such treatment is justified, but our argument would have to be based on more than just the idea that the rich are somehow “coddled” by the tax code.

Other Observations

There’s also the issue known as the “elasticity of income.” All this means is that some people have the ability to determine when they recognize income and when they don’t. In Mr. Buffett’s article, he notes that the mega-rich pay taxes at a rate of 15%, meaning that they have income that is mostly made up of dividends and long-term capital gains.

In the case of long-term capital gains, they are only recognized when an investor sells an asset. Thus, no sale, no tax. That being the case, those mega-rich buddies of Mr. Buffett could decide not to sell their assets so as to recognize no income. Likewise, they could invest in stocks that don’t pay dividends and also escape taxation, or put their money in municipal bonds which have even more favorable tax treatment.

History has shown that collections of capital gains taxes rise when tax rates are lower. Why? Because investors usually don’t have to sell and recognize income. As a result, they can wait until favorable tax rates come along to recognize the income. The bottom line is that you could increase the capital gains tax rate and actually collect less tax revenue from that source. Ditto for dividends. Mr. Buffett has to know this, which makes it even clearer that his article was nothing more than political rhetoric.

A final issue in the Buffett article I’d like to take issue with is his assertion that no one in his over 60 years of investing has based a decision on whether or not to invest on the prevailing tax rates. That may be true for Mr. Buffett’s crowd, but it certainly doesn’t ring true with my firm’s experience. Tax efficiency is a question often put to my staff in regard to the actively traded investments we recommend. It’s hard to believe that billionaires don’t ask the same question.

An Existing Solution for Mr. Buffett

There are a number of financial journalists who had the same reaction I did when Buffett came out with his “tax me more, please” comments. If he feels that he is paying too little in income tax, he can voluntarily contribute whatever amount he wants to the Treasury Department to help reduce the federal debt.

Let’s see how that might affect Mr. Buffett’s bank account: We know that Mr. Buffett paid 17.4% of his income in taxes and we calculated that this means his total income was $39 million and change. If we assume that he wants to pay the same 36% average tax rate as his staff members, it’s easy to do the numbers. 36% less 17.4% leaves 18.6% as Mr. Buffett’s catch-up tax rate. 18.6% of $39,877,839 amounts to an additional $7.4 million that Mr. Buffett could voluntarily pay in if he so desires.

If it makes you feel any better, making a voluntary contribution goes directly toward reducing the federal debt held by the public. Had this amount been paid in taxes, the money would go into the general fund of the government and have the effect of reducing the deficit. As a practical matter, it doesn’t make much difference whether you pay voluntarily or as an increase in taxes, since reducing the deficit has the same net effect on national debt as making a direct voluntary contribution.

Assuming my calculations above are correct, Mr. Buffett could ease his filthy rich conscience by cutting a $7.4 million check to the government. Not only that, but he could write letters to the 236,882 other households making $1 million or more per year and suggest that they do the same. Perhaps that would be a better use of his time than writing op-ed pieces for the New York Times, arguably the official publication of the Democratic Party.

Just in case you are among those who feel the need to pay additional taxes, you can learn more about making a voluntary payment to pay off a portion of the national debt held by the public at the Treasury website.

The “Fair Share” Argument

It might do well to delve into the statistics of income taxation to see why Mr. Buffett and his liberal counterparts want so much to soak the rich. I have presented income tax statistics a number of times over the years and they never fail to get responses, both positive and negative. However, the numbers are what they are.

First, let me be clear that the statistical analysis will relate only to income taxes, not payroll taxes. I have already mentioned above that workers must pay 7.65% (5.65% in 2011 due to the temporary payroll tax reduction) in payroll taxes up to $106,800 and 1.45% on wages above that amount, which the employer matches. Self-employed individuals pay double these percentages since they must pay both employer and employee sides. For these payments, workers receive future Social Security and Medicare benefits.

It is obvious that this flat rate of taxation is more of a burden on lower-paid individuals than those with higher incomes. However, since the Social Security part of the tax is used to calculate an eventual benefit, if taxes were increased on “rich” taxpayers, higher benefits would also be given to these individuals. Unless the payroll tax is uncoupled from an eventual benefit, it’s not likely to apply to higher incomes.

Plus, payroll taxes are paid on wages, not on capital gains, dividends or carried interest. Thus, based on Mr. Buffett’s opinion that most of the income for the super-rich comes from these sources, it wouldn’t do much good to increase the payroll tax unless you also made it applicable to non-wage income. I don’t see that happening anytime soon since doing so would effectively amount to a redistribution of wealth. Oh, I forgot... Obama is in favor of that, right?

In regard to income taxes, it’s obvious that Mr. Buffett feels that he and his millionaire and billionaire peers are not paying their fair share of taxes. So let’s take a look at how much income tax is paid by those at various levels of adjusted gross income:

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

Summary of Federal Individual Income Tax Data, 2008 (Updated October 2010)

	Number of Returns with Positive AGI	AGI ($ millions)	Income Taxes Paid ($ millions)	Group's Share of Total AGI	Group's Share of Income Taxes	Income Split Point	Average Tax Rate
All Taxpayers	139,960,580	8,426,625	1,031,512	100%	100%	-	12.24%
Top 1%	1,399,606	1,685,472	392,149	20.00%	38.02%	$380,354	23.27%
1-5%	5,598,423	1,241,229	213,569	14.73%	20.70%		17.21%
Top 5%	6,998,029	2,926,701	605,718	34.73%	58.72%	$159,619	20.70%
5-10%	6,998,029	929,761	115,703	11.03%	11.22%		12.44%
Top 10%	13,996,058	3,856,462	721,421	45.77%	69.94%	$113,799	18.71%
10-25%	20,994,087	1,821,717	169,193	21.62%	16.40%		9.29%
Top 25%	34,990,145	5,678,179	890,614	67.38%	86.34%	$67,280	15.68%
25-50%	34,990,145	1,673,932	113,025	19.86%	10.96%		6.75%
Top 50%	69,980,290	7,352,111	1,003,639	87.25%	97.30%	>$33,048	13.65%
Bottom 50%	69,980,290	1,074,514	27,873	12.75%	2.70%	<$33,048	2.59%
Source: Internal Revenue Service and The Tax Foundation

As the above table illustrates, the top 5% of taxpayers (those making $159,619 or more) paid well over half (58.72%) of all income taxes paid while accounting for 34.73% of total adjusted gross income (AGI). The top 10% (those making $113,799 or more) accounted for almost 70% of all income taxes.

I think you’d agree that neither of these income thresholds amount to being “rich,” but that’s where the bulk of income taxes are coming from. These numbers show the progressive nature of our tax system, in that the top 5% earns 34.73% of income but pays 58.72% of income taxes. I don’t know what it takes for some people to consider an amount to be the “fair share” for those with higher incomes, but this seems to fit the bill.

For some 50% of US taxpayers, the fair share comes out to 2.7% of all income taxes paid, which is in addition to any payroll taxes for Social Security and Medicare. Many critics of the liberals’ cries to increase taxes ask what’s unfair about 50% of taxpayers paying over 97% of all income taxes? They have a point, but considering the low income threshold of $33,048 dividing the top 50% from the bottom 50%, it’s hard to imagine the lower 50% taking on any additional taxes.

Beyond that, the Tax Policy Center estimates that 46% of American households will be exempt from paying income tax in 2011. Many conservatives focus on this number as proof of the tax code fostering a welfare state. However, it’s important to dig a little deeper to see exactly who these individuals are. According to an article summarizing the Tax Policy Center Study, this 46% is, in part, made up of the following:

Elderly on Social Security: Approximately 22% of people who pay no federal income tax are the elderly whose primary income is from Social Security;

Low incomes: A married couple with two children earning less than $26,400 will pay no income tax in 2011 due to the effect of standard deductions. This accounts for roughly half of the 46% who pay no income taxes; and

Other benefits to low-income families: Some families that earn more than the accumulated standard deductions may still escape paying income taxes due to programs such as the earned income tax credit. This and other provisions aimed at low-income families account for another 15% of those who do not pay income taxes.

The old saying goes that you “can’t draw blood out of a turnip” and it appears from the income thresholds that the bottom 50% of taxpayers pretty much fits that description. Since the wealthy have elasticity of income and can defer selling assets to avoid taxable gains, guess who’s left? That’s right – as I recently pointed out – the middle class. If you believe that Congress and President Obama can fill their desires for expanding government without raising taxes on the middle class, then you’re fooling yourself.

Of course there is another option – SHRINK THE GOVERNMENT!

When you get down to it, the problem isn’t that the rich, or the bottom 50% or the middle class aren’t paying their fair share of taxes, it’s that the government has grown so large that it consumes far more than its fair share of the wealth of our nation. Wealth that could otherwise be put to work funding expansion and creating jobs in the economy.

Conclusion

It’s no coincidence that Warrant Buffett penned his recent editorial and then President Obama echoed his proposal shortly thereafter. Make no mistake, this was a coordinated political move, pure and simple. The problem is that those identified by Obama as “rich” are making far less than the $1 million threshold discussed by Mr. Buffett.

Don’t get me wrong, I greatly respect Warren Buffett and his abilities to identify viable investments. I have no doubt that Mr. Buffett sincerely feels he is under-taxed. After all, he has joined the “Giving Pledge” which, according to its website, encourages wealthy families to leave most of their assets to philanthropy.

However, I fear that Mr. Buffett is out of his element in the political field and needs to refrain from making additional overly simplistic statements.

Very best regards,

Gary D. Halbert

More Americans on Government Dole Than Ever

GaryHalbert — Tue, 03 May 2011 20:55:00 GMT

IN THIS ISSUE:

1. GDP Growth in the 1Q Was Disappointing

2. The Fed’s Decision & the Press Conference

3. Editorial: A Tale of Two Recessions

4. Reliance on Uncle Sam Hits a Record

5. Unemployment Devastates Savings… and Benefits

Introduction

Our main topic this week is a new report from USA TODAY which found that Americans depended more on government assistance in 2010 than at any other time in the nation’s history, based on federal data. A record 18.3% of the nation’s total personal income in 2010 was a payment from the government for Social Security, Medicare, food stamps, unemployment benefits and other programs.

Yet before I get into our main topic, there has been some important news on the economy and the Fed since last week’s letter. Last Thursday’s initial report on 1Q GDP was considerably weaker than expected. The government reported that 1Q GDP rose at an anemic annualized rate of only 1.8%, as compared to 3.1% in the 4Q of 2010.

The Fed’s monetary policy committee met last week and decided that the latest round of quantitative easing (QE2) will end in June as scheduled, and that no new QE3 is in the works. They also announced that short-term interest rates will remain near zero for an extended period. And Fed Chairman Bernanke continued to maintain that he believes rising inflation is temporary. I’ll have more details below.

Following the sections on the economy and the Fed, we will dive right into the fact that more Americans are on the government dole than ever before. I think you’ll find some of the statistics fascinating – and alarming, of course. Let’s get started.

GDP Growth in the 1Q Was Disappointing

The Commerce Department reported last Thursday that the US economy grew at an annualized rate of only 1.8% in the 1Q, down from 3.1% in the 4Q of last year. The 1.8% figure was well below the pre-report consensus of 2.4%, so it was quite a disappointment. This was, however, the “advance” GDP estimate which may change going forward. The second estimate of 1Q GDP will be released on May 26.

According to the Commerce Dept., the increase in real GDP in the 1Q primarily reflected positive contributions from personal consumption expenditures (PCE), private inventory investment, exports, and nonresidential fixed investment that were partly offset by negative contributions from federal government spending, state and local government spending and imports, which are a subtraction in the calculation of GDP.

Personal consumption expenditures increased 2.7% in the 1Q, compared with an increase of 4.0% in the 4Q. Durable goods increased 10.6% in the 1Q, compared with an increase of 21.1% in the 4Q. Nondurable goods increased 2.1%, compared with an increase of 4.1% in the 4Q. This information helps explain why the economy decelerated sharply in the first three months of this year. Economists are scurrying to dial back their GDP forecasts for the rest of the year.

The price index for gross domestic purchases, which measures prices paid by US residents, increased 3.8% in the 1Q, compared with an increase of 2.1% in the 4Q. Excluding food and energy prices, the price index for gross domestic purchases increased 2.2% in the first quarter, compared with an increase of 1.1% in the 4Q.

In other reports, the Consumer Confidence Index edged slightly higher in April to 65.4 from 63.8 in March. But remember that the Index plunged in March from 72.0 in February, so consumer confidence remains quite low. With food and gasoline prices rising sharply, we should not be surprised if the Index moves lower in May.

The Index of Leading Economic Indicators (LEI) increased 0.4% in March and a revised 1.0% in February. Retail sales in March rose 0.4% but were well below the pre-report consensus. Industrial production rose 0.8% in March, slightly better than expected.

There was some modest good news on the housing front. Existing home sales grew to 5.1 million units in March from 4.92 million units in February. Housing starts rose to 549,000 units in March, as compared with 512,000 in February. But keep in mind that housing starts are down 76% from their peak of 2.27 million in 2006.

As for home foreclosures, the latest news is still bleak. March home foreclosures were up 7% over February levels according to RealtyTrac. The company noted that foreclosure filings -- default notices, scheduled auctions and bank repossessions -- were reported on 932,234 properties in the 1Q, a 16% increase from the 1Q of 2010. One in every 138 US housing units received a foreclosure filing during the quarter.

On the unemployment situation, the news is mixed. While the official unemployment rate fell to 8.8% in March, weekly claims for unemployment benefits have since risen above 400,000 in the last three consecutive weeks. For the week ended April 23, initial claims were 429,000. Jobless claims above 400,000 are generally considered a sign of a contracting job market, not a growing one.

In summary, last week’s surprising GDP report served as a wake-up call for most economists and analysts. As noted above, most are hurriedly downgrading their forecasts. Gone are the forecasts of 4-5% growth seen earlier this year. It will be most interesting to see the May issue of Blue Chip Economic Indicators which surveys the top 50 economists and analysts around the country. Earlier this month, the consensus forecast was growth of 2.9% for all of 2011. We’ll see how much that comes down when I get my next issue around the 12^th of May.

Whatever the economists say, this economy is extremely sensitive to food and energy prices. The higher they go, the lower will go consumer confidence and spending, which accounts for 70% of the economy.

The Fed’s Decision & the Press Conference

The Fed Open Market Committee (FOMC) met last Tuesday and Wednesday to set monetary policy for the next six weeks or so. A lot was riding on this meeting. Would there be QE3 when QE2 ends? Would short-term interest rates continue to be held near zero? Would Bernanke continue to insist that rising inflation is “transitory” (short-term in nature)? Would he announce any plans to support the sagging US dollar?

The official FOMC policy statement held some answers. It noted that QE2 would end on schedule in June, and no QE3 has been planned. Due to the weak economic recovery and continued high unemployment, the Fed Funds rate would be held near zero for an “extended period.” The statement acknowledged that inflation has risen over the last year, but continued to characterize it once again as “transitory” – as if it’s just going to go away sometime fairly soon. There was no acknowledgement of the falling US dollar in the statement.

Yet there was a big wrinkle in last week’s FOMC meeting. After the meeting concluded, Fed Chairman Ben Bernanke held a press conference. This was not a surprise as it was announced some weeks ago that Bernanke had decided to hold these press conferences about four times a year, even though no Fed Chairman before him has done so. There was a lot of anticipation.

I read numerous columns on the day after the Bernanke press conference, and the reviews were NOT pretty. The most common concern among the various columnists was in regard to Bernanke’s stubborn position that the current rise in inflation is “transitory.” In the span of the 45-minute press conference, gold prices soared $24 an ounce to another new record high ($1,526), even though Bernanke never once spoke the word “gold.”

Another concern is that many believe the massive government stimulus spending and the Fed’s huge quantitative easing are not helping the economy or creating new jobs. Bernanke obviously believes otherwise. But he did have to assure the markets that the Fed will act if inflation becomes a bigger problem. Apparently, he thinks he can thread the needle and know when it’s time to hit the brakes. I have my doubts.

A Tale of Two Recessions

The following editorial was in Investor’s Business Daily last Friday. On most items that I reprint, I try to offer some comment or opinion. This one, however, seems to speak for itself:

QUOTE: A Tale Of Two Recessions And Two Presidents
Posted 04/28/2011 07:10 PM ET

Growth: It's been nearly two full years since the recession officially ended, and the economy is still struggling to get off the ground. It didn't have to be this way. When the Commerce Department released its estimate for first-quarter growth — a meager 1.8% — President Obama's chief economic adviser, Austan Goolsbee, at least conceded that "faster growth is needed to replace the jobs lost in the downturn."

And granted, the economy needs to expand by at least 2.5% just to keep up with growth in the labor force. So at 1.8%, we're essentially losing ground, a fact that last week's 429,000 initial jobless claims underscores. But what Goolsbee didn't acknowledge is that the economy could be growing at a much faster rate, and would be if it weren't saddled with Obama's reckless policies.

How do we know this? Compare the two worst post-World War II recessions. Both the 1981-82 and the 2007-09 downturns were long (16 months and 18 months, respectively) and painful (unemployment peaked at 10.8% in 1981-82 and 10.1% in the last one). What's dramatically different, however, is how each president responded.

Obama massively increased spending, vastly expanded the regulatory state, and pushed through a government takeover of health care. What's more, he constantly browbeats industry leaders, talks about the failings of the marketplace and endlessly advocates higher taxes on the most productive parts of the economy.

In contrast, Reagan pushed spending restraint, deregulated entire industries, massively cut taxes and waxed poetic about the wonders of a free economy. The result? While the Reagan recovery saw turbocharged growth and a tumbling unemployment rate, Obama's has produced neither. Consider:

• GDP. In the seven quarters after the 1981-82 recession ended, the economy cranked out quarterly growth rates that averaged 7.1%. Under Obama, GDP growth has averaged a mere 2.8%. (See chart above.)

• Unemployment. Under Reagan, the unemployment rate had fallen to 7.5% by this point in the recovery. Under Obama, it's still stuck at 8.8%.

• Long-term unemployment. There were far fewer long-term unemployed by this point in the Reagan recovery; just 18% of the unemployed had been without a job 27 weeks or more. Under Obama, that figure is an astonishing 45%.

• Consumer confidence. By this point in the Reagan recovery, the Conference Board's Consumer Confidence Index had hit 100. Today, the index stands at just 65.4.

• Deficits. Under Reagan, the federal deficit was trimmed to 4.8% of GDP by 1984. Under Obama, the deficit is expected to climb to 10.9% of GDP this year.

Obama and his defenders like to say he inherited the worst downturn since the Great Depression and that things would have been worse still had he not acted. But the recession was almost over by the time he took office — and officially over just six months after that.

So while Obama's policies had little to do with bringing an end to the Great Recession, they've had everything to do with producing what is by far the worst economic recovery in the past 70 years. END QUOTE

Reliance on Uncle Sam Hits a New Record

A new report last week from USA TODAY, based on federal data, found that Americans depended more on government assistance in 2010 than at any other time in the nation’s history. The trend shows few signs of reversing, even though the supposed economic recovery is nearly two years old.

A record 18.3% of the nation’s total personal income was a payment from the government for Social Security, Medicare, food stamps, unemployment benefits and other federal programs in 2010. Social Security, Medicare, Medicaid and unemployment insurance accounted for 80% of safety-net spending in 2010.

Actual wages accounted for the lowest share of personal income – 51.0% – since the government began keeping track in 1929. The income data show how fragile and government-dependent the economic recovery is after a recession that officially ended in June 2009. This report also has most economists dialing back their forecasts for growth the rest of this year and for 2012, as noted above.

While the USA TODAY report was focused on 2010, the wage decline has continued into 2011. Wages slipped to another historic low of 50.5% of personal income in February. This decline is partly offset by President Obama’s temporary rollback of the Social Security payroll tax, which has had the effect of increasing income in 2011. The temporary tax cut puts more money in workers’ pockets and counts as an income boost, even when wages stay the same.

To put this in perspective, from 1980 to 2000, government aid was roughly constant at 12.5% of America’s total personal income. The sharp increase since then to 18.3% in 2010 – especially since the start of 2008 – reflects several changes: 1) the expansion of health care and federal programs generally; 2) the aging population; and 3) the weak economic recovery and continued high unemployment.

Here’s another way to look at this. Americans on the government dole received an average of $7,427 each in benefits in 2010, up from an inflation-adjusted $4,763 in 2000 and $3,686 in 1990. Thus, benefits have more than doubled in the last 20 years! Keep in mind that the federal government pays about 90% of these benefits.

Unemployment Devastates Savings… and Benefits

As discussed in last week’s E-Letter, total government revenues from personal income taxes are estimated to be $2.174 trillion in the 2011 fiscal year. Now compare that to the $2.3 trillion annual rate of expenditures for transfer/benefits payments in FY2011, and you quickly see that not only are many Americans receiving more in benefits than they pay in taxes, but they are receiving more in total benefits than everyone pays in federal income taxes (more on this in an upcoming E-Letter).

Perhaps most sobering of all is the realization that we’re just now seeing the tip of the iceberg! It’s frightening to think that the oldest of the Baby Boomers are just now starting to retire. Remember that 77 million people were born from 1946 through 1964, and only the oldest of these Baby Boomers will turn 65 this year. Thus, the number of Americans at or near retirement will go up every year for at least the next decade. As that happens, everyone knows that the cost of Social Security and Medicare will start to explode.

As a financial advisor, I also think about the other effects of continued high unemployment and dependence upon government aid. For example, those who are unemployed are not able to participate in 401(k) plans to fund their retirement. In fact, many of those who are “underemployed” (those working part-time or in full-time jobs that are below their qualifications) are finding it difficult to make 401(k) contributions in light of lower wages and increasing prices of food and energy.

As we see more and more unemployed going beyond the limits of unemployment compensation, we’ll also likely find that they will begin to draw upon their IRA and 401(k) balances for daily living expenses, if they haven’t already done so. Doing so removes assets from a tax-advantaged account that will be difficult, if not impossible to replace. However, when it comes down to feeding your family or keeping your 401(k) intact, we all know which option is going to win.

And let’s not forget that while people are out of work, they are not making contributions to Social Security, which will have a negative effect on their eventual level of benefits. Those who accept jobs at lower wages than they previously were paid are also likely to see Social Security retirement benefits drop as a result of lower contributions.

Retirement issues aren’t the only stresses being experienced by those who are out of work. In addition, there’s the matter of college education for children. With federal loans and grants becoming harder to get, funding a college education falls more and more upon the family. The same goes for paying for care of elderly parents.

For a generation that hasn’t saved enough for retirement in the first place, these additional stresses on the ability to contribute to, or taking early withdrawals from, retirement accounts will result in more problems later on as individuals realize that they do not have enough money put back for a comfortable retirement. With more and more Boomers retiring each year for at least a decade, the problem will only get worse. You’d think we would be hearing a lot more about it.

Conclusions & Happy Mother’s Day

The latest GDP report showing growth of only 1.8% in the 1Q vs. 3.1% in the 4Q was a real disappointment, as discussed above. What I didn’t point out is the fact that it makes the odds of a double-dip recession higher. Hopefully, that is not where we’re headed, but as investors we need to keep in mind that the odds have increased.

The Fed’s decision to end quantitative easing in June was no surprise. But no one knows what will happen when the Fed stops buying about $85 billion of Treasury bonds a month. Will interest rates go up? Will the stock market – the big winner as a result of QE2 – go down as liquidity contracts? And how about the dollar – will its slump continue?

The fact that Americans’ dependence on government benefits has hit an all-time record, and continues to go up, should concern all of us. Yet we heard sparingly little about it in the mainstream press and nothing at all from the White House or members of Congress. You would think it’s just fine with them. Never mind that we can no longer afford it.

Polls consistently show that most Americans want government spending cut. But the polls also show that most Americans do not want entitlements cut. As I pointed out last week, it is now impossible to significantly bring down our deficits without cutting both. Politicians on both sides of the aisle don’t have the will to do it.

I believe this will end in another crisis. The question is when. The timing is not in our control. Sadly, it will be decided by the foreigners who buy most of our debt and the bond market, neither of which we can control.

To end on a positive note, let me wish all of you mothers out there a HAPPY MOTHER’S DAY. My Mother passed away over a decade ago, so my focus on Mother’s Day is my wife Debi who is one of the best Mothers on the planet, my business partner for over 25 years and most importantly, my best friend. We just celebrated our 25^th wedding anniversary. Lucky me!

And finally, let me extend my congratulations to, and deep appreciation for, all those who participated in the raid on Osama bin Laden’s compound in Pakistan which resulted in his death, and especially to the members of Navy SEAL Team Six. President Obama gets credit as well.

Very best regards,

Gary D. Halbert

SPECIAL ARTICLES

Record Number of Americans get government help
http://money.cnn.com/2011/04/12/news/economy/government_safety_net/index.htm

Bernanke Rolls the Dice on Unemployment
http://www.realclearmarkets.com/articles/2011/05/02/bernanke_rolls...unemployment_98997.html

Bin Laden death marks turn in US history
http://www.bloomberg.com/news/2011-05-02/bin-laden-death-marks-...-by-jonathan-alter.html

ObamaCare Kicks In - Taxes Sure to Rise

GaryHalbert — Tue, 05 Oct 2010 19:22:00 GMT

IN THIS ISSUE:

1. Rasmussen: 61% Favor Repeal of Healthcare Law

2. ObamaCare Officially Kicked-off on September 23

3. ObamaCare is Even Worse Than Critics Thought

4. Will Government Put Insurers Out of Business?

5. Income Tax on “Rich” Headed Higher Than in Clinton-era

Introduction

Phase I of the Patient Protection & Affordable Care Act of 2010, better known as “ObamaCare,” officially kicked in on September 23, six months after it was signed into law. This week, we look at the main provisions that went into effect late last month, and what they may mean for health insurers, healthcare providers and you.

Interestingly, just three days before Phase I of ObamaCare went into effect, the latest Rasmussen poll found that 61% of likely voters want ObamaCare repealed. That’s the highest number in several months. So much for Americans coming to like ObamaCare once they learn more about it, as the president suggested.

We have learned quite a lot about ObamaCare since Nancy Pelosi told us late last year that “We have to pass this bill to see what’s in it.” As it turns out, ObamaCare is even worse than its critics suggested before it was signed into law. I’ll give you the details on that as we go along.

We’ve also learnedthat the Obama administration is going to strong-arm the insurance industry for raising healthcare premiums, regardless of how much healthcare services increase in costs. Health & Human Services Secretary Kathleen Sebelius took the health insurance industry to task in a letter in early September that basically threatened to put them out of business if they raise their rates too much or blame the increases on ObamaCare.

Finally, it remains to be seen whether Congress will pass a new law to extend the Bush tax cuts before they expire at the end of this year. Of course, there remains the question of whether the tax cuts will expire only for those individuals making over $200,000 and couples making over $250,000.

Currently, the maximum tax rate is 35%, and most people believe it will rise to 39.6% if the tax cuts for the “rich” expire. However, I am going to show you how, by 2013, the top rate will go much higher than in the Clinton-era, despite Obama’s claims otherwise.

Rasmussen: 61% Favor Repeal of Healthcare Law

When President Obama and the Congress rammed the new healthcare law down the throats of Americans last March, well over 50% of Americans opposed it, according to various polls. People were particularly angry at the way the bill was so narrowly passed, what with all the backroom deals and legislative chicanery that went on to get just enough votes to pass it.

At the time of ObamaCare’s passage, pollster Scott Rasmussen found that 53% of likely voters opposed the new healthcare law and wanted it repealed. President Obama, Senate Majority Leader Harry Reid and House Speaker Nancy Pelosi all promised that the American people would come to like ObamaCare the more they came to understand it. Oops!

On September 20, just three days before ObamaCare Phase I kicked in, Rasmussen reported that 61% of likely voters now favor repeal of the new national healthcare law. That number was up eight points from the prior survey and was the highest level of opposition measured since late May when 63% wanted it repealed. Only 33% of likely voters opposed the repeal of ObamaCare in Rasmussen’s September 20 poll.

While the president, Reid and Pelosi promised that we would come to embrace ObamaCare as we learned more about it, just the opposite is happening. The more we collectively learn about government healthcare, the more we dislike it.

As noted above, the initial provisions of ObamaCare kicked in on September 23, six months after the president signed the bill into law. I will summarize these initial provisions as we go along. While some of these provisions are nice things to have, they will result in higher health insurance premiums and the loss of certain types of health insurance altogether.

As I repeatedly warned before ObamaCare became law, there was a lot not to like in that massive 2,400-page bill. As more of the details become known, and the initial provisions of the bill are kicking in, opposition to ObamaCare should continue to rise. I will bring you the specifics just below.

ObamaCare Officially Kicked-off on September 23

With very little coverage by the mainstream media, ObamaCare officially began on September 23. Since a majority of Americans want ObamaCare repealed, and since we are less than a month from the election, most in the media avoided making a big deal of it. Most of the Democrats running for re-election that voted for ObamaCare are keeping silent as well.

Here is a summary of the initial provisions of ObamaCare that kicked in late last month from Kaiser Health News:

Insurers must allow parents to keep their adult children up to age 26 on their health plan and those young adults can’t be charged more than any other dependent. Some insurers began this policy early during the summer. BUT: This doesn’t begin until your new plan year begins – for many, that will be Jan. 1, 2011. And, if your child has an offer of coverage from an employer, he/she might not be able to be on your plan.
Insurers can’t charge co-pays or deductibles for preventive services such as breast cancer screening and cholesterol tests. BUT: “Grandfathered” plans – those that don’t make major changes from the previous plan year – don’t have to follow this requirement. [See my June 29 E-Letter to learn why this grandfather provision may be nothing more than an illusion for many employers.]
Insurers must cover children up to age 19 with a pre-existing medical condition. New individual plans and all group plans – such as those you get at work – can’t refuse to cover a child. BUT: “Grandfathered” individual health plans can refuse to cover a child.
Insurers cannot cancel coverage once you get sick, a practice known as “rescission.” BUT: If you committed outright fraud and intentionally hid something, your insurer can refuse to pay.
Consumers get direct access to physicians: You – not your insurance company – decide which primary physician, gynecologist, obstetrician and pediatrician you see among your plan’s list of approved providers. BUT: The usual obstacles remain, like whether the doctor is taking new patients or has an appointment opening available.
No additional payments can be required for out-of-network emergency room care: Insurers cannot require higher co-payments or deductibles if you have a medical emergency and seek treatment at an emergency room that’s not in your health insurance plan. BUT: Once again, “grandfathered” plans are exempted.
Annual limits on coverage will be going away. BUT: First, they’ll be raised to $750,000 for all employer plans and new individual plans, rising to $1.25 million after Sept. 23 of 2011 and then to $2 million the following September.
No lifetime limits: All plans, even “grandfathered” plans, will be prohibited from setting dollar limits on lifetime coverage. NO “But” on this one!

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

While the following provisions of the health law have been around for a while they’re worth noting, as well:

High-Risk Pools: Designed to help people who have been uninsured for six months get coverage. Each state has its own pool.
Help to Companies Paying for Early Retirees: More than 2,000 employers and unions have applied for government grants to cover up to 80 percent of retirees’ medical costs between $15,000 and $90,000 until they can qualify for Medicare coverage.
Small Business Tax Credits: Small businesses with 25 or fewer full-time employees who earn an average yearly salary of $50,000 or less will qualify for a tax credit of up to 35 percent of the cost of premiums. That credit will rise to 50 percent in 2014. To qualify, businesses must cover at least 50 percent of the cost of workers’ insurance.

ObamaCare is Even Worse Than Critics Thought

There are many reasons why it was so difficult to pass the massive healthcare reform bill back in March. The concept of government-run healthcare, accounting for almost one-fifth of the US economy, is completely foreign to most Americans. That is why a majority of people oppose it to this day. We have not warmed up to the idea as Obama and the liberals in Congress expected.

There were many promises made about how nationalized healthcare would make our lives better, improve the quality of care and reduce costs. But most Americans knew well that you can’t add over 32 million uninsured people to the healthcare rolls without increasing costs and rationing care. There are only so many doctors and so many hospitals, after all.

As the first of the ObamaCare provisions officially kicked in late last month, the realities of government-run healthcare are becoming obvious. Here are just a few:

1. ObamaCare will not decrease healthcare costs for the government or consumers. According to the Centers for Medicare and Medicade Services, it will increase costs by at least $300 billion over the 10 years 2011-2020 – despite the fact that it will collect premiums for five years before any benefits are paid out.

In May, the Congressional Budget Office estimated that ObamaCare will add $134 billion to the federal deficit in 2010-2019. But former CBO director Douglas Holtz-Eakin calculates that ObamaCare will add $500 billion to the deficit over the same period. The CBO also estimated in May that the overall cost for ObamaCare will be at least $940 billion over the same period. Some private estimates put the actual cost of ObamaCare at close to $2 trillion over the next 10 years.

2. ObamaCare will increase insurance premiums – in some places, it already has. Insurers, suddenly forced to cover clients’ children until age 26, have little choice but to raise premiums, and most are expected to go up by 1%-9% in 2011. Obama's only method of preventing massive rate increases so far has been to threaten insurers.

3. As I explained in my June 29 E-Letter, ObamaCarewon’t allow employees or most small businesses to keep the coverage they have and like – as Obama promised. By the Obama administration’s own estimates (after the bill passed), as many as 69% of employees, 80% of small businesses and 64% of large businesses will be forced to change their health insurance coverage, most likely to more expensive plans.

4. ObamaCare imposes a huge non-medical tax compliance burden on small business. It will require them to mail IRS 1099 tax forms to every vendor – including corporations – from whom they make purchases of more than $600 in a year, with duplicate forms going to the Internal Revenue Service ( click here for more details). This will result in millions of new 1099 forms that small businesses will have to send out starting in 2012.

Like so much else in the 2,400-page bill, our senators and representatives were apparently unaware of this when they passed the measure. The last thing small businesses need right now is another tax reporting burden disguised as a way to help pay for ObamaCare.

5. ObamaCare forces states to guarantee not only treatment of, but also payment for, indigent Medicaid patients. With many doctors now refusing to take Medicaid (because they lose money doing so), cash-strapped states could be sued and ordered to increase reimbursement rates beyond their means. Never mind that ObamaCare cuts almost $600 billion over 10 years from Medicare funding and will force millions of seniors out of the popular Medicare Advantage program by 2019.

6. ObamaCare allows the IRS to confiscate part or all of your tax refund if you do not purchase a qualified health insurance plan. The bill provides funding 16,000 new IRS agents to make sure Americans follow the new rules.

These are but a few of the troubling provisions of ObamaCare. If you wonder why so many American voters are angry at the president and Congress, you need to look no further than ObamaCare, which will be a pivotal issue in the upcoming elections.

Will Government Put Insurers Out of Business?

Everyone reading this will remember that President Obama promised that his healthcare plan would “bend the healthcare cost curve downward.” Most of us didn’t believe that promise, and the CBO has since confirmed that healthcare costs will rise under ObamaCare. Even the president admitted it in a press conference on September 10:

“As a consequence of us getting 30 million additional people health care, at the margins that’s going to increase our costs—we knew that.”

That wasn’t how he sold the plan, but, anyway, that’s a truism – costs will go up. Here’s another: The White House was always going to blame insurance companies for any cost increases, even when its own policies caused them.

Witness Health Secretary Kathleen Sebelius’s September 9 letter to America’s Health Insurance Plans, the industry trade group, which was a thuggish message even by her standards. The HHS Secretary wrote that some insurers have been attributing part of their 2011 premium increases to ObamaCare and warned that “there will be zero tolerance for this type of misinformation and unjustified rate increases.”

President Obama himself warned that if insurance companies raise their rates too much (according to whom?), they would be barred from participating in ObamaCare’s subsidized “insurance exchanges” when they come on line in 2014. That would almost certainly drive them out of business. Who knows, maybe that was the plan to begin with! President Obama has said that the new healthcare law was a good step toward an eventual single-payer system.

Income Tax on “Rich” Headed Higher Than in Clinton-era

Everyone reading this is no doubt aware that there is a fierce debate ongoing about whether to extend the Bush tax cuts which automatically expire at the end of this year. President Obama has said for months that he favors extending the Bush tax cuts for all but those individuals making over $200,000 and couples making over $250,000 a year.

But with the prospect of a Republican tidal wave in the November mid-term elections, even many Democrats up for re-election have had a change of heart and want all of the Bush tax cuts extended, even for those making over $200K/$250K a year. Yet despite the likelihood of a GOP landslide in November, Obama remains steadfast in raising taxes on the “rich.”

President Obama repeatedly reminds us that extending the Bush tax cuts for the rich will cost the government upwards of $700 billion over the next 10 years, so he says. The rich, he says, need to pay their “fair share” even though they already pay over 50% of all income taxes paid.

Obama also emphasizes that eliminating the Bush tax cuts for the rich would only mean that their “tax rates would just go back to where they were under President Clinton.” And he reminds us that the economy grew at a rapid clip during the Clinton years, adding tens of millions of new jobs. I have a real problem with this analogy on several levels!

As I have written in the recent past, those making $200/$250K a year, many of whom are entrepreneurs, account for over 50% of all new job creation. Raising their taxes from 35% currently to 39.6% if the Bush tax cuts expire is not a good way to stimulate the economy. In fact, it will have just the opposite effect.

But there’s more to this story that you need to know. Thanks to a little-known provision in the new healthcare law, the president’s plan will push the top tax rates for most types of income above Clinton-era levels starting next year and even more in 2013. In other words, the rich are already in for another tax increase whether the Bush tax cuts are extended or not.

If the Bush high-income rate reductions expire, it will be the Obama administration’s second move to increase the top marginal tax rates.

In 2010, the top income tax rate bracket for ordinary income is 35%. Besides wages and interest income, this income category includes profits from pass-through business firms, such as sole proprietorships, partnerships, and S-corporations. Under the president’s proposal, the top tax bracket will rise to 39.6% on January 1 on all these entities, for those making over $200K/$250K. But it gets worse.

Another stealth provision of Obama’s proposed federal budget for 2011would phase out high-income taxpayers’ itemized deductions starting next year, adding another 1.2% (average) to the effective tax rate for many high-income earners, bringing it to as much as 40.8%.

Most people don’t think about Medicare taxes, currently at 2.9%, (paid half by the employer and half by the employee), but it is a tax nonetheless. Under ObamaCare, this tax will increase to 3.8% in 2013 for those making over $200K/$250K. But for purposes of this discussion, we will not include the Medicare tax as it is very complicated.

Also in 2013, a new 3.8% tax, called the Unearned Income Medicare Contribution (UIMC), will be imposed on high-income taxpayers’ interest income and most of their pass-through business income that’s not currently subject to the Medicare tax. If you are subject to this tax and the phase-out of itemized deductions, your tax rate will be far beyond the top rate of 39.6% under Clinton. But it gets even worse.

A similar pattern holds for capital gains taxes. Under the president’s plan, in 2011 and 2012, the top rate on gains – currently at 15% – will go to 20%beginning on January 1, 2011. And it gets even worse. Starting in 2013, capital gains will also be hit by the 3.8% UIMC tax noted above, thus pushing the new cap gains rate as high as 23.8% for some who make over $200K/$250K.

Under the president’s proposal, virtually all of top earners’ ordinary income will be taxed at 44.6 percent, starting in 2013. We’re not just going back to the Clinton-era rates of 40.8 and 43.7 percent.

Dividends are on track to see a much steeper tax increase starting next year. President Obama’s proposed federal budget for fiscal 2011 calls for the dividend tax rate to go from 15% to 20% in 2011, but Congress quickly changed that to 39.6% for those making over $200K/$250K. Congress has yet to pass Obama’s 2011 budget, as amended, but it likely will at some point just ahead. If nothing else changes, the top dividend tax rate will rise from 15% today to 39.6% in 2011 and 2012, with the 3.8% UIMC tax pushing the rate that much higher starting in 2013 for those making over $200K/$250K.

In short, if the Bush high-income tax rates expire and the budget for fiscal 2011 passes as amended, it will be the Obama administration’s and congressional lawmakers’ second move to increase the top marginal tax rates. The first shoe has already dropped, in the form of the UIMC tax which is scheduled to take effect in 2013.

It’s bad enough that this tax received little attention or scrutiny before it became law, with not a single congressional hearing to explore its economic impact. Worse yet, you never hear President Obama or the Democrats mention this 3.8% tax when they talk about marginal tax rates. No wonder!

I could go into a lengthy discussion about why these significant tax increases will be bad for the economy and job creation. But I suspect that most of my readers already have their minds made up regarding whether or not the government should raise taxes on those making over $200/$250K – the supposedly “rich.”

I will make one other observation, however. It galls me to hear President Obama say that by extending the Bush tax cuts for all but the wealthy, he is giving “immediate tax relief for the middle class.” If the Bush tax cuts are extended, that is no relief – rather, it will be no change at all since tax rates will remain the same as they are today, except for those making over $200K/$250K.

Obama can say whatever he wants, but at the end of the day, it’s up to Congress to pass a new law to extend the Bush tax cuts, or they expire automatically on January 1 – for everyone. It now appears that Congress won’t take this matter up until after the November 2 election. There are going to be a LOT of angry lame ducks in Washington after the election, and they have a lot of work to do before the holidays. So, don’t bank on the tax cuts being extended for anyone until you see it!

Very best regards,

Gary D. Halbert

SPECIAL ARTICLES:

Don’t let ObamaCare reach its third birthday.
http://www.weeklystandard.com/articles/obamacare-follies?page=1

Health care law’s massive, hidden tax change
http://money.cnn.com/2010/05/05/smallbusiness/1099_health_care_tax_change/

The Chances of a Double Dip

JohnMauldin — Sat, 18 Sep 2010 03:39:00 GMT

The Chances of a Double Dip
Houston, My Book, and New York

I am on a plane (yet again) from Zurich to Mallorca, where I will meet with my European and South American partners, have some fun, and relax before heading to Denmark and London. With the mad rush to finish my book (more on that later) and a hectic schedule this week, I have not had time to write a letter. But never fear, I leave you in the best of hands. Dr. Gary Shilling graciously agreed to condense his September letter, where he looks at the risk of another recession in the US.

I look forward at the beginning of each month to getting Gary's latest letter. I often print it out and walk away from my desk to spend some quality time reading his thoughts. He is one of my "must-read" analysts. I always learn something quite useful and insightful. I am grateful that he has let me share this with you.

If you are interested in getting his letter, his website is down being redesigned, but you can write for more information at insight@agaryshilling.com. If you want to subscribe (for $275), you can call 888-346-7444. Tell them that you read about it in Thoughts from the Frontline, and you will get an extra one month on your subscription. And now, let turn to Gary.

The Chances of a Double Dip

By Gary Shilling

Investor attitudes have reversed abruptly in recent months. As late as last March, most translated the year-long robust rise in stocks, foreign currencies, commodities and the weakness in Treasury bonds that had commenced a year earlier into robust economic growth - the "V" recovery.

As a result, investors early this year believed that rapid job creation and the restoration of consumer confidence would spur retail spending. They also saw the housing sector's evidence of stabilization giving way to revival, and strong export growth also propelling the economy. Capital spending, led by high tech, was another area of strength, many believed.

Not So Fast

But a funny, or not so funny, thing happened on the way to super-charged, capacity-straining growth. In April, investors began to realize that the eurozone financial crisis, which had been heralded at the beginning of the year by the decline in the euro, was a serious threat to global growth. Stocks retreated (Chart 1 ), commodities fell and Treasury bonds rallied and the dollar rose. It is, after all, just one big trade among these four markets, so their correlated actions on the down as well as the up side aren't surprising.

Furthermore, investors began to worry about the health of the U.S. economy and the prospects for a second dip in the Great Recession that started in December 2007. The gigantic 2009 fiscal stimuli of close to $1 trillion was running out, threatening a relapse in an economy that was running on government life support. The $8,000 tax rebate for new home buyers was expiring April 30 and might be followed by a drop in house sales as had its predecessor that expired in November 2009 as the spike in activity early this year only borrowed from future sales. The outlook for exports had turned negative with the robust buck, sagging European economies and the current "stop" phase of China's "stop-go" monetary and fiscal policies. With unemployment remaining high last spring, investors began to fret that consumer spending would falter as fiscal stimuli was exhausted.

Deleveraging

Although investor views of the economy have reversed in the last five months, the reality probably hasn't. The good life and rapid growth that started in the early 1980s was fueled by massive financial leveraging and excessive debt, first in the global financial sector, starting in the 1970s and in the early 1980s among U.S. consumers. That leverage propelled the dot com stock bubble in the late 1990s and then the housing bubble. But now those two sectors are being forced to delever and in the process are transferring their debts to governments and central banks.

This deleveraging will probably take a decade or more - and that's the good news. The ground to cover is so great that if it were traversed in a year or two, major economies would experience depressions worse than in the 1930s. This deleveraging and other forces will result in slow economic growth and probably deflation for many years. And as Japan has shown, these are difficult conditions to offset with monetary and fiscal policies.

The deleveragings of the global financial sector and U.S. consumer arena are substantial and ongoing. Household debt is down $374 billion since the second quarter of 2008. The credit card and other revolving components as well as the non-revolving piece that includes auto and student loans are both declining. Total business debt is down, as witnessed by falling commercial and industrial loans.

Meanwhile, federal debt has exploded from $5.8 trillion on Sept. 30, 2008 to $8.8 trillion in late August. Many worry about the inflationary implications of this surge, but the reality is that public debt has simply replaced private debt. The federal deficit has leaped as consumers and business retrenched, which curtailed federal tax revenues, while fiscal stimulus, aimed at replacing private sector weakness, has mushroomed.

Four Cylinders

As discussed in our May 2010 Insight, in the typical post-World War II economic recovery, four cylinders fire to push the economic vehicle out of the recessionary mud and back out on to the highway of economic growth. At present, only one - the ending of inventory liquidation - is generating significant power. The other three - employment gains, consumer spending growth and a revival in residential construction - are sputtering at best.

The Inventory Cycle

Historically, the liquidation of excess inventories accounts for major shares of the decline in economic activity in recessions. Around business cycle peaks, the sales of manufacturers, wholesalers and retailers begin to weaken but their managers can't tell whether that's the beginning of a major drop in business or just a minor dip in an upward trend. So they delay cutting production and orders until the downward trend is firmly established. Meanwhile, inventory-sales ratios leap as the numerators, inventories, rise and the denominators, sales, fall. That makes cuts in production and orders imperative and propels the economic downward trend in the process.

That was also the case in the Great Recession. In our view, it really started in early 2007 with the collapse in subprime residential mortgages, and then spread to Wall Street that summer with the implosion of the two Bear Stearns hedge funds in June. But these were financial declines, and recessions are measured by production, employment and spending, which are dominated by the goods and nonfinancial services segments of the economy. So the recession didn't officially start until December 2007.

Consumers Go On Strike

Furthermore, it wasn't until late 2008 that the collapse in home equity as house prices nosedived (Chart 2), rising layoffs (Chart 3) and the drying up of consumer lending drove consumers into retrenchment. But they suddenly went on a buyers strike in the last four months of 2008, and the results were leaps in inventory-sales ratios. Consequently, the cuts in inventories to get rid of unwanted stocks were far and away the biggest in the post-World War II era.

The reduction in inventory liquidation has been key to economic growth starting in the second half of 2009. In the third quarter of last year, it accounted for 66% of the 1.6% annual rate real GDP gain and 58% of the fourth quarter's 5.0% advance. The inventory-building in the first quarter of this year was responsible for 67% of the 3.7% annual rate rise in real GDP and 36% of the rise of 1.6% in the second quarter. In total, in the last four quarters, the inventory swing provided 58% of the 3.0% rise in real GDP.

Whether inventories will continue to hype the economy remains to be seen. As of June, the inventory-sales ratio for retailers had returned to its downtrend, but was still above trend for wholesalers and, especially, manufacturers. Furthermore, it's one thing to complete the liquidation of unwanted inventories but another to rebuild them significantly. The latter probably requires sales strength originating in other areas of the economy, and the other three cylinders of the economic engine aren't providing it in meaningful ways. Quite the opposite. It appears that recently disappointing retail sales have stuck merchants with unwanted goods that may be liquidated if consumers continue to retrench.

Employment Lags

In post-World War II recessions before the 1990-1991 decline, payroll employment's bottom came close to the low point in the overall business decline and was followed by rapid rebounds (Chart 4 ). In the mild 1990-1991 and even shallower 2001 recessions, however, the job market remained weak for over a year into economic recovery. The same is true this time, assuming the economic decline ended in July 2009, as many believe. What's changed?

It isn't that a shallow recession results in weak job recovery because even though the 1990-1991 and 2001 downturns were mild, the Great Recession certainly wasn't in terms of jobs (Chart 4). A more likely explanation is that globalization, starting in the 1980s, forced American business to cut all costs vigorously, including labor costs, by outsourcing to domestic and foreign suppliers, promoting productivity and curtailing hiring. This has been especially prevalent in the last decade.

Jobs Lost Forever

Despite the huge employment losses since the end of 2007, many of those jobs are unlikely to return. Of the 7.7 million net nonfarm jobs eliminated between December 2007 and July of this year, 86% were in construction, manufacturing, wholesale and retail trade, finance and leisure and hospitality. These six sectors accounted for 44.5% of nonfarm payrolls in July, only about half as much as their losses. Furthermore, job losses in those industries spawned employment losses in service and other sectors that depend on them. Home building, for example, spurs employment in the production of appliances, furniture, home furnishings and homeowner insurance and provides revenues that support state and local employment.

Given the gigantic overhang of excess house inventories and resulting further price declines, it will be years before residential construction shows any meaningful revival, as we've explained in past Insights and will update next month. Similarly, financially troubled and massively vacant commercial real estate will inhibit new construction and jobs for many years.

The inventory cycle did stabilize manufacturing employment in recent months, but that inventory-related bounce is over and the 2 million manufacturing jobs lost since December 2007, if anything, will probably become an even bigger number. Goods production continues to move offshore. job-reducing productivity gains continue in manufacturing, and consumer retrenchment and deflation will continue to curtail consumer durable goods consumption. Wholesale and especially retail trade will continue under pressure with the 25-year consumer borrowing and spending binge now replaced by a saving spree (Chart 5). That retrenchment as well as persistent business spending restraint will continue to retard jobs in leisure and hospitality.

Financial activities jobs stabilized with the March 2009-March 2010 revival of Wall Street, but the likely continuance of more recent weakness in many securities markets will lead to more layoffs and bonus cuts. The federal government, naturally, has added people, 262,000 since December 2007, as it expands in response to the weak economy. But state governments cut 6,000 on balance and local municipalities 128,000, largely in education.

Diligent Cost-Cutting

American business has been diligently cutting costs since the recession started in December 2007, especially labor costs. A recent survey shows that over half of adults have been affected by some combination of layoffs, wage and benefits cuts, involuntary furloughs and involuntary shifts to temporary jobs. Many may never be restored to their earlier statuses. Those layoffs lucky enough to find new jobs often are paid less than earlier.

About 20% of major employers with over 1,000 workers cut or eliminated their 401(k) plan contributions during the downturn but half have failed to restore them so far. Of those with 500 or fewer employees that cut contributions, only 36% have reinstated them or plan to in the next 12 months, according to a Fidelity Investments survey. Furthermore, 10% of all employers plan to reduce or eliminate matching 401(k) contributions in the next year.

Consumer Spending

All the layoffs, involuntary furloughs, and temporary jobs and benefit and wage reductions have been instrumental in the rebound in corporate profits, but devastating to employee compensation. This spells weakness for consumer spending. Also, consumers are no longer saving less and borrowing more on credit card, home equity and other loans to bridge the gap between income and desired spending growth. Furthermore, home equity has evaporated (Chart 6 ) and tight lending standards on credit card and other loans prevail. So they're on a saving spree and debt reduction binge, further slashing the outlook for consumer spending, the third cylinder that normally fires to propel economic recovery from recessions.

In fact, without massive fiscal stimuli, subdued compensation and the recession would have pushed consumer outlays down substantially. Our calculations show that consumers saved 80% of the tax rebates they received in the summer of 2008. And they initially saved 100% of 2009's tax cuts and special payments of $250 for each Social Security beneficiary. Those actions resulted in the spikes in the saving rate shown in Chart 5. This is remarkable since the tax cuts did not go to highincome people, normally the only big savers. Also, those folks are relatively few in number so they received few of the extra Social Security checks. Consequently, middle- and lower-income households stepped out of character to save heavily.

Households are deleveraging their balance sheets with a vengeance. Since the end of the fourth quarter of 2007 when stocks began to collapse, personal sector assets have fallen $3.0 trillion. Some $1.8 trillion was in equities and $277 billion in mutual funds due to losses on balance and withdrawals from equity direct ownership and from mutual funds. Investors put money into mutual funds on balance in January, March and April, but cut their holdings, especially in stock funds, in May and June. Also, private pension reserves fell $754 billion from the end of 2007 to the end of March 2010 and government pension reserves in household accounts were down $290 billion. Increases of Treasury bond holdings of $533 only partially offset the decline in government agency and securities of $593 billion. Meanwhile, liabilities of the personal sector dropped $500 billion, largely due to the decline in mortgage and consumer debt as some debts were repaid while others were written off as hopeless.

Support By Government

Since the recession began in December 2007 through June 2010, personal income from wages and salaries, proprietors' income, rents, interest, dividends and transfers such as pension benefits, Social Security, Medicare and Medicaid payments and unemployment insurance increased $285 billion. It would have declined $247 billion without a $532 billion increase in government transfer payments. These increases in government transfers also flowed through to Disposable Personal Income (after-tax income), which further benefited by lower personal taxes that fell $382 billion due to tax cuts and the lower taxable income resulting from layoffs, wage declines and bonus cuts.

In total, DPI was enhanced by $532 billion from the increase in government transfers and $382 billion from the lower taxes. Without these significant boosts, DPI would have fallen $247 billion since December 2007 instead of rising $667 billion. Without question, and much more so than in any previous post-World War II recession, the consumer has been supported by massive government money in the form of increased transfers and tax cuts. And these numbers do not include wages from jobs created by federal spending on infrastructure or saved by federal transfers to state and local governments to curtail teacher layoffs and other employment reductions.

Where Did The Money Go?

What happened to that $667 billion increase in DPI and what does it tell us about the likelihood of a chronic consumer saving spree? About 43% of it was spent and 64% saved, so maybe some of the earlier tax cuts were spent, but with delays. Nevertheless, a 64% marginal saving rate does seem to support our chronic saving spree thesis.

Also, in terms of spending and saving, note that whatever has been going on in the consumer arena has been supported by massive federal stimuli. Those stimuli may persist at near current levels in future years due to chronic high unemployment, as noted in earlier Insights, but seems unlikely to rise at the rates they did since the recession began due to their effects on the already massive federal deficits. Republicans and even some Democrats in Congress are so worried about the mushrooming deficit that current stimuli is unlikely to be renewed at least until unemployment leaps further. In that case, the resulting withdrawal of support for consumer outlays may push them down. So the leap in consumer spending as a share of personal income (Chart 7 ), which has been propelled by tax cuts that were only partially offset by saving increases, is highly unlikely to persist.

Evidence of recent consumer retrenchment is rampant. Consumer confidence has flattened as people worry about employment and income prospects as well as losses on their stocks and houses. Credit card loans outstanding fell 10% last year and promise to fall further as consumers repay debt, lending standards tighten and the new federal law cuts the profitability of credit card lending. Meanwhile, banks report that demand for consumer loans continues to drop, although at declining rates.

Increased saving is not only being used to repay debt but also to rebuild 401(k)s. Fidelity Investments found that in the second quarter, 5.3% of participants raised their contribution while 2.9% reduced them. That excess of increases over decreased has persisted for five quarters and follows three quarters of the reverse. Still, the numbers that tapped their accounts for loans or hardship withdrawals also rose.

Subdued Spending

On the spending side, vehicle sales in July were at an 11.5 million annual rate, up from the sub-10 million levels of 2008-2009, but well below the pre-recession levels. Consumer spending on TVs, computers, videos and telephone equipment rose 1.8% in the first half of 2010 compared with a year earlier while appliance purchases fell 3.6% and furniture outlays dropped 11%. Apparel sales also lost out to electronic gadgets. This shift reflects two forces. First, consumers are saving more and spending less on equipping their houses that are no longer appreciating but now depreciating assets. Second, they still want the satisfaction of buying iPads and other Small Luxuries, an investment theme we identified years ago and explained fully in our August Insight.

Housing Remains Depressed

The housing sector is an important generator of the normal economic recovery even though residential construction only accounts for 4.7% of GDP on average in the post-World War II years. It's the volatility that matters. Residential construction was 6.3% of GDP at its recent peak in the fourth quarter of 2005, but fell to 2.4% at its low in the first quarter of 2010. This 3.9 percentage point decline is very significant, considering that a 3% top to bottom decline in real GDP constitutes a major recession.

State and Local Government Spending

Spending by state and local governments is not one of the sources of economic revival after recessions end because it has been such a steady 12% to 13% share of GDP since the early 1970s. In the early post-World War II decades, it grew rapidly to finance the education of the postwar babies and the growth of mushrooming suburbs. Municipalities have also provided a steady source of jobs since, until recently, many fewer employees were laid off or fired than in the private sector and relatively few quit. Years ago, the "social contract" held that those employees received lower wages than private sector workers, so early retirement provisions and lush pensions allowed them to catch up in their later years. But since the early 1980s, the private sector has been globalized with very little growth in real incomes. Meanwhile, state and local government employees have continued to receive pay raises in excess of inflation and now have wages that are 34% higher than for private sector employees (Chart 8).

Federal Help

As part of its fiscal stimulus program, the federal government is transferring $246 billion to state governments to prevent more school teacher layoffs, help fund Medicaid cost increases and plug other holes in state budgets. Federal money is filling 30% to 40% of state budget gaps, but 46 states are projecting a collective deficit of $121 billion for the 2011 fiscal year that begins next July 1, equivalent to 19% of their budgets. And 39 states see gaps that total $102 billion for fiscal 2012. Unless federal assistance continues, these deficits will be much larger. All the states but Vermont are required to balance their budgets in one form or another, but most are honored in the breach as fiscal gimmicks and creative accounting get really creative.

Budget legerdemain no doubt is related to the rapid growth in state spending in recent years and leap in debt. State and local governments now use debt to fund investments that used to be done on a current budget basis, and some issue debt to cover up routine budget shortfalls. Total state and local bond debt outstanding leaped 93% between 2000 and 2009, from $1.2 trillion to $2.3 trillion.

It obviously takes a lot of gnashing of teeth in the outer darkness for state and local government to flatten, much less cut, their spending after a decade of 6% to 7% annual growth rates. Jumping municipal employment is the main reason for mushrooming spending in earlier years, and cutting often unionized state and local workforces is very difficult. Since the Great Recession started in December 2007 through April, private payroll employment has dropped 6.8%. Still, state and local jobs have declined but by much less, only 1.4%. In July, state and local governments, which employ 9.5 million, cut 48,000 jobs, 102,000 in the past three months and 169,000 so far this year.

Raise Taxes

In reaction to their financial woes, many state and local governments have attempted to raise taxes and fees. The usual suspects include higher sin taxes on tobacco and alcoholic beverages as well as taxes on companies based out of state but doing some business in the state. Attempts to raise taxes and cut spending have proved wholly inadequate to solving state and local government funding problems. And those woes appear chronic, especially if our forecast of slow economic growth and even deflation is valid. Rises in taxable personal and corporate incomes will be muted. Retail sales and taxes on them will be sluggish as consumers persist for the next decade in their saving spree, replacing the borrowing and spending binge of the last decade.

House prices are likely to fall further in the next year or so, under the weight of gigantic excess inventories. Even when those inventories are worked off, house prices will probably rise little, if at all, in a low inflation or deflationary climate. Historically, they've been flat after correcting for overall inflation and the growing size of houses over time. And now that house prices have fallen nationwide for the first time since the 1930s, home buyers no longer see their abodes as also great, leveraged investments, and want smaller, cheaper houses. That will also reduce assessments on property taxes.

Meanwhile, commercial real estate high vacancies and severe financial problems will take years to resolve, keeping prices depressed for some time (Chart 9 ). So, all things considered, local government property taxes are likely to be curtailed for many years. Meanwhile, municipal expenses will be hard to cut. Chronic high unemployment will spawn high Medicaid enrollment and costs. Welfare and unemployment benefit costs will no doubt rise as well.

Deteriorating finances are raising the risks of defaults on state and local obligations and even municipal bankruptcies. Harrisburg, Pennsylvania's capital, will not make a $3.3 million municipal bond payment on $51.5 million debt that's due in two weeks, and earlier this year, city officials discussed bankruptcy. Harrisburg also lacks the funds to continue payments for the $288 million debt on an incinerator project. Earlier, Jefferson County, Ala., home of Birmingham, defaulted on $227 million due on its disastrous sewer upgrades.

Taxpayer Revolt?

People working in the private sector apparently were willing to accept the higher pay, more job security and better retirement benefits for state and local employees in past years. High employment in the private sector and robust economic growth at least held out the hope that their lots would improve tomorrow. But with slow economic growth, limited income expansion and high unemployment now expected by them for years, voter attitudes appear to be changing.

Americans still want basic municipal services like police and fire protection, good schools for their kids, clean streets and garbage collection. But they apparently are deciding they're paying too much for those services; that 34% higher wages for state and local employees compared to private sector workers isn't justified as pay cuts multiply in the private sector and those laid off earn much less if and when they can find another job; that 66% higher benefit costs is over the top, especially as private sector employees are paying more of their health care premiums and seeing their defined benefit pension plans replaced by much more uncertain 401(k)s.

As taxpayers revolt, there are plenty of things that can be done to reduce state and local government costs in an orderly way. Following in the footsteps of bankrupt GM, two-tier wage structures are being established with existing employees continuing at current salary levels, but new hires paid the much lower wages adequate to attract qualified people. And the new people are enrolled in defined contribution pension plans that require employee contributions, not defined benefit plans, while their retirement ages are increased.

Foreign Trade

Another economic sector that normally isn't a significant engine of economic recovery but is important at present is exports since the Administration hopes they will double in the next five years and provide meaningful economic growth. The President's zeal to achieve that goal rises as he realizes that massive fiscal stimuli have not revived the economy, and already-huge federal deficits impede further rounds of big spending.

But two significant problems are likely to retard export growth in future years - rising protectionism that clearly impedes foreign trade, and finding foreign countries that will buy this doubling of American exports. It's like the story of the stockbroker who calls his client during May's Flash Crash to tell him that stocks are collapsing. "Sell my entire portfolio!" yells the distressed client. "Sure," retorts the broker, "but to whom? There are no buyers."

Foreign Buyers?

As far as foreign buyers of U.S. exports is concerned, the reality is that many of those markets that are showing robust growth and therefore might be able to absorb American products, lands like China and Germany, are major exporters themselves, not importers on balance. Indeed, it's no surprise that the EU's measures of both industry and household confidence shows that export-led Germany has the highest level while the economically weak Club Med net importers are at the bottom of the pile (Chart 10).

Currency changes have only limited effects on export or import prices. The volatility of U.S. import prices is only about one-fourth that of the dollar and a third in the case of American export prices. Why? Many products are sold under long-term contracts and immune from most currency fluctuations. Also, importers and exporters resist reflecting the full extent of exchange rate changes in their prices. If the yen is strong against the dollar, importers of Lexus cars shave their profit margins to offset some of the higher prices in dollars to avoid losing market share. Conversely, U.S. exporters to Japan don't pass on in lower yen prices the full extent of the dollar's decline in order to increase their profits.

The "processing trade" in which components are imported, assembled and then re-exported makes up about half of Chinese exports. This reduces the importance of the yuan's exchange rates. Furthermore, even goods with more domestic content aren't completely sensitive to exchange rates in a global world. About 50% of a Chinese manufacturer of children's clothes costs are fabric and around 50% of the fabric's costs are cotton, a globally-traded commodity priced in dollars. So, 25% of the total cost is not affected by yuan fluctuations. Also, another 25% might be in the combined profits of the clothing and the fabric producers, and could be adjusted to offset currency fluctuations - or production moved to lower-cost Vietnam or Bangladesh if the yuan leaped in value.

Double Dip Recession?

We've made our case for very slow U.S. economic growth in the quarters, indeed the years, ahead. The economic rebound due to the inventory cycle is over. Employment and consumer spending remain weak. Housing is too overburdened with excess inventory and the resulting price weakness to revive any time soon. State and local government spending and employment are retreating. And meaningful export gains are unlikely as economic growth abroad slips. Interestingly, the consensus forecast is moving toward our position as growth estimates have been reduced rapidly in recent months. In both April and June, the Wall Street Journal's poll of economists (not including us) expected 3% economic growth in the second half of this year. We wonder if they still do.

Will slow growth deteriorate into another recession, the so-called double dip scenario? Before exploring that question, let's define a double dip. It seems to mean a second period of economic decline following the 2007-2009 nosedive. That could imply that the recession that the accepted authority, the Business Cycle Dating Committee of the nonprofit National Bureau of Economic Research, pinpointed as commencing in December 2007, is still underway. Sure, real GDP grew in the last four quarters, but it's common to have quarters of gain within recessions. In the 11 post-World War II recessions so far, seven, including the 2007- 2009 decline, had at least one quarter of rising real GDP within the recession. In fact, two - the 1960-1961 and the 2001 declines - didn't even have two quarters of consecutive decline. Even in the 1929-1933 economic collapse, GDP rose in six quarters.

Still, to have a four-quarter interlude between the declining phases of the same recession would be unprecedentedly long, assuming that real GDP declines in the current quarter. So another period of economic weakness could be classified as a second recession, much as the 1981-1982 decline, which started in July 1981, only 12 months after the 1980 recession ended.

Slow Growth to Recession

We're on record for a 50% or higher probability of a second dip or another recession, whatever it would be called. The composition of the ECRI Weekly Leading Index remains proprietary, but its growth rate has fallen to the level that in the past was always associated with recessions (Chart 11). Historically, however, recessions have been propelled by shocks. The post- World War II downturns prior to 2001 were caused by Fed tightening in response to threats of economic overheating and the resulting higher inflation. Since then, other shocks have been responsible. The 2001 recession resulted from the 2000 collapse of the dot com bubble augmented by the 9/11 shock. The 2007-2009 downturn resulted from the collapse in subprime residential mortgages that commenced early in 2007.

In the current economic and financial climate, it's highly unlikely that the Fed will tighten credit for years. In fact, the central bank has shifted from planning last spring to withdraw liquidity as the economy grew to renewing quantitative easing and worrying about deflation and subpar growth. It said after its August 10 policy meeting that household spending is being retarded by high unemployment, slow income growth, lower home equity and tight credit conditions while bank lending "has continued to contract."

Pushing On A String

Conventional monetary ease is now impotent with the federal funds rate close to zero , the money multiplier collapsed and banks sitting on hoards of cash (Chart 12) and over $1 trillion in excess reserves. Sure, large banks report to the Fed that they are easing lending standards for small business, but after the intervening financial crisis, many fewer potential borrowers are deemed creditworthy than in the loose lending days. Furthermore, the small business trade group, the National Federation of Independent Business, reports that 91% of small business owners have had their credit needs met or business is so slow that they don't want to borrow. The Fed is pushing on the proverbial string.

The Fed also worries about deflation, which means that even zero interest rates are positive in real terms, as has been the case for years in deflationary Japan. Also, deflation encourages buyers to wait for still-lower prices in a self-feeding cycle, as is seen in Japan and as we have discussed often in conjunction with our forecast of 2% to 3% per year chronic deflation. In it s post- August 10 meeting statement, the Fed said that "measures of underlying inflation," already low, "have trended lower" lately and are "likely to be subdued for some time." James Bullard, President of the Federal Reserve Bank of St. Louis, recently warned of the risks of deflation.

Deflation is a scary phenomenon, but we can't resist noting that the Fed as well as many other forecasters are moving in the direction of our forecast. In contrast, an April 6 Wall Street Journal piece by Peter Eavis stated unequivocally, "No one in their right mind would bet on inflation remaining substantially below 4% for the next 10 years." Maybe we better have our head examined.

A Baby Step

So, with conventional monetary ease exhausted and further fiscal stimulus on hold because of the already-huge federal deficit, the Fed at its August 10 meeting took a baby step toward more quantitative ease by deciding to buy Treasury bonds to replace the maturing and refinanced Treasury and mortgage-backed securities in the $1.7 trillion hoard it finished buying earlier this year. With low mortgage rates, refinancings were projected to raise the Fed's portfolio contraction from an earlier estimate of $200 billion by the end of 2011 to $340 billion, with another $55 billion coming from retirement of Fannie Mae and Freddie Mac debt held by the Fed.

Furthermore, the Fed is open to further steps if the economy continues to slip. It could buy even more Treasurys or mortgage debt. But would the resulting lower interest rates encourage prospective home buyers who now know that house prices can and do fall? Would another $1 trillion in excess reserves induce more bank lending than the first $1 trillion? The Fed could also promise to keep short-term interest rates low, but it's already said it would for an "extended period."

It could cut out the 0.25% it pays the banks on their reserves, but would that induce reluctant banks to lend? Finally, the Fed could set an inflation target over its formal 1.5% to 2.0% range. That would be anathema for inflation-wary central bankers, and how could the Fed hit that target in a deflationary world where ample supply exceeds weak demand? Despite all the credit easing actions that Chairman Ben Bernanke, in his famous November 2002 speech, said the Fed could take if the federal funds target reached zero, the credit authorities are about out of ammo - except for dumping money out of helicopters. Remember the "Helicopter Ben" moniker?

Other Shocks

If the Fed is highly unlikely to shock slow growth into recession, what could? This brings us back to the series of seemingly isolated events that are occurring on the deleveraging road, such as further financial woes in Europe, a crisis in commercial real estate, a nosedive in the Chinese economy and a slow motion train wreck in Japan. They are all possibilities - as are other shocks here or abroad that we don't foresee. Maybe the exhausting of federal stimulus will be enough to trigger an economic downturn. Keep your eyes pealed, however, because it won't take much disruption to push the fragile global economy back into decline.

Houston, My Book, and New York

Tuesday was a very special day. My co-author, Jonathan Tepper of Variant Perception (based in London), and I spent the entire day reading the first complete rough draft of our forthcoming book, The End Game. We went cover to cover, making comments and notes. Of course, I had read the bits and pieces, but not in one sitting. I have to say that I am more than happy. It is a very good first draft, much better than I thought it would be. There is a lot of work ahead, of course, to try and make it a great book, but I can "feel" it. And I think we have managed to capture some very difficult topics and make them simple and maybe even a fun read. We are on target for a January 1 launch.

We make what I feel is an overwhelming case for a period of slow growth in the developed world, with more volatility as the base case. The research we review is very strong. But there are pockets of potential if you step back and take off your localized blinders.

I will be in Houston (along with Gary Shilling, David Rosenberg, Bill King, and Jon Sundt) at the one-day X-Factor Conference on October 1. Quite the lineup. You can learn more by going to www.streettalklive.com. Then I will be in New York in late October, speaking at the BCA conference and a few media events.

It has been interesting talking with investment types in Europe. They are very curious about the US and what they perceive as our lack of seriousness about the deficit. It appears that Greece has focused their attention. And of course, I get off the plane from Malta yesterday and the headline in the Financial Times says, "Greece rules out possibility of default." I know that made me feel better. And gave us all a laugh. If you have not, read the piece from Michael Lewis in Vanity Fair on Greece. And then share my amusement about the chances of no default.

It is time to hit the send button. I feel a nap coming on. Jet lag has been worse than normal this trip. And maybe another glass of Prosecco to ease me into slumberland.

Your excited about almost finishing this book analyst,

John Mauldin

Obama’s Plans to Help(?) Small Business

GaryHalbert — Tue, 14 Sep 2010 19:41:00 GMT

IN THIS ISSUE:

1. Does Small Business Need a Bailout?

2. Obama & the Democrats to the Rescue

3. What’s Not to Like About TARP III?

4. Higher Taxes Hurt Only 3% of Small Businesses – Wrong!

5. President Obama’s “September Surprises” So Far

6. My Thoughts on the Surprising Mood of the Electorate

Introduction

Two key pieces of legislation that President Obama requested are working their way through Congress, both of which are supposedly designed to provide help for small businesses. Both bills passed comfortably in the House back in June. The legislation is currently bogged down in the Senate as most Republicans and some Democrats want to change it.

In essence, one of the bills would create a $30 billion stimulus fund that would be loaned primarily to local “community banks” that would, in turn, lend it to small businesses. President Obama claims that this $30 billion can be leveraged up by the banks to $300 billion in total lending to small businesses. The other bill would create $2 billion to be used in the form of loan guarantees and tax incentives for small businesses that want to make new investments, expand and/or hire more employees.

While all of this sounds good on the surface, there are numerous problems with this legislation. Obviously, this is yet another government bailout. There are questions about whether or not there is anywhere near $300 billion in demand from America’s qualified small businesses; most small and medium sized businesses have already adjusted to the slower economy; and many have no interest in expanding or adding new employees because of fears of a double-dip recession, higher taxes next year and rising health insurance costs.

And speaking of higher taxes, President Obama remains steadfast in his demand that the Bush tax cuts for those making over $200,000/$250,000 expire at the end of this year. The Obama administration says that these tax hikes will affect only 3% of small business owners. Yet IRS data show that 48% of small business income goes to households that make $200,000 or more.

At the risk of sounding political, I will try to explain in the following pages why this new $32 billion bailout for small businesses – at least as these two bills are structured – is not a good idea and will only put the country deeper in debt. These bills will, however, allow the Obama administration to influence a big chunk of community banks and many small businesses.

Does Small Business Need a Bailout?

We can all agree that small business is the largest growth engine in the US economy. We can all further agree that small businesses – defined as those with less than 500 employees – create between 60% and 70% of all new jobs, and they employ just over half of all private sector employees. Likewise, we can all agree that most small businesses have struggled during the credit crunch and the recession.

So you would think that virtually everyone would want to do something to help out small businesses, right? Not exactly. Many Americans are scared to death about our runaway federal spending and the exploding national debt. They don’t want to see another government bailout, especially one that many small business owners neither want nor need.

President Obama argues that small businesses are having trouble getting credit, and he has some solid statistics to back him up. In late July, the National Small Business Association reported that 41% of small businesses can’t get adequate financing, although other sources suggest this figure is overstated. This same report noted that among owners unable to secure capital, 44% said they have been unable to expand their business, while 20% have been forced to cut their workforces.

Regular readers will remember the chart I have reprinted several times this year showing the huge decline in bank lending since the credit crisis unfolded in 2008. I won’t reprint that chart again here, but suffice it to say it’s no secret that bank lending is still significantly below pre-recession levels.

So, is the small business lending problem more that the banks won’t lend, or that there is not enough demand for such loans? Actually, it’s some of both. Wells Fargo & Co. claims to be the nation’s largest lender to small businesses. Its CEO John Stumpf said recently that his bank is “sitting here with tons of liquidity and we’re marching double time in search of more loans.”

Bank of America Corp., the largest US lender, is trying to “make every good loan we can,” said David Darnell, president of global commercial banking, in a recent statement. “Our clients are telling us that until they see sales pick up, they are reluctant to hire and invest.”

So, it is clear that the decline in small business lending is partly due to still-tight credit and partly due to lack of demand – most likely more of the latter.

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

Obama & the Democrats to the Rescue

With part of the problem being tight credit and another part weak demand for loans, there is an amazingly simple solution: ramp up the Small Business Administration. The SBA is a government entity that has been in the business of making loans to small businesses since it was created in 1953. The SBA could make new loans to those businesses that want them, and those who don’t could just stay put. How simple.

The government would, however, have to add more funding to the SBA. But why not, since the vast majority of these loans are paid back? Unfortunately, the SBA’s Administrator Karen Mills said recently that SBA funding has stalled, and that more than 600 small businesses are currently waiting in line for loans.

Rather than take this relatively simple step, President Obama and many Democrats see an opportunity to both ease the problem with lending to small businesses and score some potentially big political points with these two bills pending in the Senate. Not only do the Democrats score points if they pass the bills, it purposely puts the Republicans in a very tough spot. After all, who wants to vote against small business?

There is another element to this that I hesitate to delve into. If the $30 billion bill passes, it will be loaned out primarily to so-called “community banks” around the country, with incentives to loan it to small businesses. With the government doling out all the money, Uncle Sam will have influence over these banks that it has never had, and ultimately, over the small businesses that take out the loans. (I must admit that I don’t know for sure if this was a major consideration for President Obama when he asked Congress to write this legislation, but it certainly could be.)

According to a number of articles I have read, many community banks around the country want no part of this money, which is now being called “TARP Junior” or “TARP III.” Many banks, small and large,take great pride in the fact that they took no TARP money. And there are some other reasons why they don’t want the money, as I will discuss later. Here’s how these loans will be structured if the $30 billion bill passes.

The Treasury will make the loans primarily to community banks (those under $10 billion in assets); the loans would be secured with the banks’ stock; and the interest on the loans will start out at 5%. The banks will be incentivized to make loans to small businesses. Specifically, if the banks don’t loan out the money over time, the interest rate can go up to 7-8%. If the banks loan all or most of the money, the interest rate goes down to only 1-2%, thereby increasing the banks’ profits. All these loans from the Treasury must be repaid within 10 years.

What’s Not to Like About TARP III?

Aside from the fact that the small business lending problem could be simply addressed by increasing SBA funding, there are several reasons not to like this legislation. As noted above, millions of Americans are deeply concerned about our runaway spending and exploding national debt. They don’t want to see another bailout. In addition to these general concerns, there are several specific reasons why TARP III may not work and could fail.

As alluded to above, many of the nation’s healthy, stable banks are going to avoid TARP III money like the plague. They don’t want to be stigmatized with TARP. What that could well mean is that most of the TARP III money will go to weaker banks that have higher odds of failing. The same could be said for most of the small businesses that take out these loans.

President Obama promises that this bill is fully paid for by fees, interest and other charges. He recently said the bill will cost taxpayers “not one single dime.” Yet this assumes that all of the money will be paid back. Maybe the president hasn’t seen figures like those in the chart below. Despite Mr. Obama’s assurances, taxpayers could lose a LOT on this bailout.

The next thing not to like in the bill is the fact that the banks that take the TARP III money are not required to lend it for up to two years, according to the bill passed by the House in June (H.R. 5297), and as far as we know in the Senate bill as well. This is ridiculous! While I don’t know if this new bailout is needed or wanted, if they are going to get this new federal money in any case, they shouldn’t be allowed to sit on it for up to two years.

Furthermore, the banks are not legally required to lend the money to any small businesses. They will merely be incentivized to do so. In fact, in the House version, any “commercial” loans will be counted toward the TARP III, whether they are made to small businesses or not.

Folks, it is madness such as this that makes me wonder if this isn’t just a new government takeover of the community banks and the businesses that borrow from them.

The next thing not to like in the bill is the lack of regulatory oversight. The Special Inspector General for TARP (SIGTARP) would be excluded from oversight of the new program, even though SIGTARP has developed the necessary expertise and systems to oversee the TARP program and is requesting access to the new program. Instead, the Inspector General of the Department of the Treasury would be given the responsibility of oversight, but it admits that it might not be able to direct sufficient attention to this task given its many other responsibilities.

Finally, CNBC reported this morning that H.R. 5297 also includes a provision to repeal the Small Business Act of 1958 under certain conditions. The Small Business Act requires that at least 23% of government spending contracts must be awarded to small businesses, as opposed to very large corporations. As of this moment, I have not been able to confirm whether or not this provision is also included in the Senate version that may be voted on this week.

My guess is that Senator Harry Reid will manage to get enough Democrats and the usual Republican suspects to pass this latest $32 billion bailout before the end of the year. I just hope that the banks that take the money and the small businesses that borrow it will understand that they are subjecting themselves to more government control and influence.

Higher Taxes Hurt Only 3% of Small Businesses – Wrong!

As you all know, the Bush tax cuts automatically expire at the end of this year – all of them. Congress must pass new legislation to extend the tax cuts or they expire by law. For several months now, President Obama has been saying that, due to the weak economy, he wants to extend the Bush tax cuts for all but those individuals making $200,000 and couples making $250,000 – those he labels as the wealthiest Americans.

There are strong arguments on both sides of the debate about whether or not to raise taxes on the “rich” – those making $200,000/$250,000 per year. Those who oppose the tax increase say that people making $200K/$250K a year are the very people who create the most jobs. Those in favor of the tax increase say that the rich can afford it and they need to pay their “fair share.”

Gary D. Halbert, ProFutures, Inc. and Halbert Wealth Management, Inc.
are not affiliated with nor do they endorse, sponsor or recommend the following product or service.

Never mind that those making $200K/$250K already pay over 50% of all income taxes. And that’s not a fair share?

Recently, the debate has focused on how Obama’s proposed tax increase on the rich will affect small businesses. Many Republicans in Congress, including House Minority Leader John Boehner, want all of the Bush tax cuts to be extended, citing that higher taxes on the “rich” will harm small business owners. Vice President Joe Biden harshly rejected Boehner’s and others’ assertions that the tax hikes would harm small businesses.

Specifically, Biden said: “He [Boehner] has created this myth that a tax cut for millionaires is actually a tax cut for small business. There aren't 3% of small businesses in America that would qualify for that tax cut.” So where did this 3% number come from? I’ll tell you below.

House Speaker Nancy Pelosi flipped the number around, saying that the planned tax increases on those making $200k/$250K would exempt “98% of American families and about 97% of small businesses.” There’s that 3% number again.

The fact is, the impact will be far more severe than Ms. Pelosi and Mr. Biden suggest. The sound bite about 3% of small businesses, which has been picked up by numerous pundits, is one of the more misleading statements in the long history of economic propaganda.

The 3% figure, which is computed from IRS data, is based on simply counting the number of tax returns with ANY pass-through business income. So, if somebody makes a little money selling products on eBay and reports that income on Schedule C of their tax return, they are counted as a small business. The fact that there are millions of people in the lower tax brackets with small amounts of business income may be interesting for some purposes, but it is irrelevant for the assessment of the economic impact of the tax hikes.

The numbers are clear. According to IRS data, fully 48% of the net income of sole proprietorships, partnerships, and S corporations reported on tax returns went to households with incomes above $200,000 in 2007. That’s the number to look at, not the 3%. Would Ms. Pelosi and Mr. Biden deny that the more successful firms owned by individuals in the top income-tax bracket are disproportionately responsible for investment and job creation?

It is clear that business income for large and small firms will be hit by the higher tax rates. And in point of fact, firms of all sizes contribute to the nation’s prosperity. So it’s a mistake to focus only on the impact of increased tax rates on small business. But will the higher rates actually cause a significant reduction in business activity? I suspect we are about to find out.

President Obama’s September Surprises So Far

In my August 31 E-Letter, I suggested that we might well see a “September Surprise” or two from President Obama, given the Democrats dreadful poll numbers ahead of the mid-term elections. My prediction proved true on Labor Day when the president announced a new $50 billion planto boost federal spending to rebuild roads, railways and runways. While this new stimulus is intended to boost the Democrats’ standings in the polls, the new program won’t add many new jobs, if any, until next year.

Then on Wednesday of last week in Cleveland, President Obama called for a $180 billion spending plan in what administration officials said was part of a new economic policy push. The new proposal would increase and permanently extend research and development tax credits for businesses that develop new technologies.

Second, and perhaps more important in the short-run, the new Obama proposal would allow businesses to fully expense investments in new capital assets such as new plants, equipment, computers, technology, etc. in a single year in 2011. While this should spark some additional economic growth next year, it will steal growth from 2012 and 2013. It will almost certainly be like the “Cash-for-Clunkers” program that simply moved future demand to the present.

While President Obama’s latest economic proposals were welcomed by many, keep in mind that ALL of this new money will have to be borrowed and will add to our already enormous deficits. And one other factoid: During the presidential campaign in 2008, candidate Obama opposed these same kinds of spending and tax credits to help the business community.

It remains to be seen if President Obama has even more September Surprises up his sleeve. If I had to guess, I would say yes. Of late, there are rumors that the White House is seriously considering a temporary payroll tax holiday that could cost upwards of $300 billion in lost federal revenues. Should the president actually go for the payroll tax holiday, he will get lambasted by his liberal base. But the Democrats are in such dire straits in the polls, he might actually do it. We’ll see.

My Thoughts on the Mood of the Electorate
With the mid-term elections less than 50 days away, many of my friends and even clients are asking me for my thoughts about the mood of the electorate and how we have gotten to where we are today. About two years ago, most of the country was in “Bush Fatigue” and it looked like the Republicans would be banished to the Hinterland for a very long time.

Here are my brief thoughts on how we have gotten to where we are today.

There are millions of Americans who voted for Barack Obama either because they saw John McCain as the “same old, same old” or they thought “why not try something new” or both. After all, they wondered, how much damage could this relatively inexperienced guy do anyway?

Now, almost two years later, many realize just how naïve that kind of thinking can be, what with trillion-dollar deficits as far as the eye can see, and the national debt on-track to nearly double by 2020 or even sooner. Americans are rightly concerned about runaway spending and a ballooning federal government.

They see the impending takeover of one-fifth of the US economy in the form of ObamaCare that was promised to cost less, but now we know it will cost more, and care will have to be rationed. They see cap-and-trade legislation that, if passed, will raise all energy prices significantly, which raises the prices of just about everything else. They see a massive financial regulatory reform bill that will create a huge new government bureaucracy and will almost certainly increase costs on most financial transactions and investments.

They’ve seen the first American president to embark on a global “apology tour” with specific references to all the bad things the United States has done over the years. Not to mention bowing to foreign leaders, some of whom don’t like us very much.

The public has grown weary of this president who has spent his political capital to push through his liberal agenda while doing virtually nothing to directly stimulate the economy or create jobs. Most economists now feel that his $787 billion “stimulus” package has not worked, and the American people widely agree. No wonder Obama’s approval rating is now 45 or below.

It is also no wonder, then, that the Democrats are on course to take a beating on Election Day. The Republicans recently moved to a 10-point lead in Gallup’s “Generic Ballot” (Will you vote Republican or Democrat in November?). That was the largest margin any party has ever achieved in Gallup’s history of the mid-term election Generic Ballot.

Democrat pollsters are believed to have given up on holding the House of Representatives some time ago. Now it looks like the GOP could possibly retake the Senate as well. Political commentator Dick Morris and some others now believe the Republicans will win at least the 10 seats necessary to retake the majority in the Senate, but that is a tall order.

If all this happens, it will confirm that a majority of Americans feel misled and want the runaway spending stopped; they want less, not more, government intrusion into their lives; and they want the liberal experiment that is the Obama presidency to go away.

Best regards,

Gary D. Halbert

SPECIAL ARTICLES:

Obama Small Business Aid May Create $300 Billion in “Junk” Loans
http://www.bloomberg.com/news/2010-07-26/small-business-program-from-obama-may-create-300-billion-of-junk-loans.html

Obama’s wrong moves on the economy
http://www.baltimoresun.com/news/opinion/oped/bs-ed-obama-stimulus-20100909,0,4589921.story

The Last Half

JohnMauldin — Sat, 11 Sep 2010 03:00:00 GMT

The Last Half
But It's More Than the Deficit
Not Everyone Can Run a Surplus
Pity the Greeks
The Competitive Currency Devaluation Raceway
Amsterdam, Malta, Zurich, Mallorca, Denmark, and London

There are a number of economic forces in play in today's world, not all of them working in the same direction, which makes choosing policies particularly difficult. Today we finish what we started last week, the last half of the last chapter I have to write to get a rough draft of my forthcoming book, The End Game. (Right now, though, it appears this will actually be the third chapter.) We will start with a few paragraphs to help you remember where we were (or you can go to www.investorsinsight.com to read the first part of the chapter).

But first, I recorded two Conversations yesterday, with the CEOs of two biotech firms that are working on some of the most exciting new technologies I have come across. I found them very informative, and we will post them as soon as we get them transcribed.

For new readers, Conversations with John Mauldin is my one subscription service. While this letter will always be free, we have created a way for you to "listen in" on my conversations (or read the transcripts) with some of my friends, many of whom you will recognize and some whom you will want to know after you hear our conversations. Basically, I call one or two friends every now and then; and just as we do at dinner or at meetings, we talk about the issues of the day, back and forth, with give and take and friendly debate. I think you will find it enlightening and thought-provoking and a real contribution to your education as an investor. Plus, we throw in a series I do with Pat Cox of Breakthrough Technology Alert, where we interview some of the leading up-and-coming biotech companies; and I also do a Conversation with George Friedman of Stratfor 3-4 times a year. Quite a lot for the low price.

I recently recorded a Conversation with Mohamed El-Erian, CEO and co-CIO of PIMCO, who is one of the smartest human beings I know, as well as one of the nicest. As you can see, I can get some rather interesting people to come to the table. Current subscribers can renew for a deeply discounted $129, and we will extend that price to new subscribers as well. To learn more, go to http://www.johnmauldin.com/newsletters2.html. Click on the Subscribe button, and join me and my friends for some very interesting Conversations. (I know the price says $199 on the site, but for now you will only be charged $129 - I promise.)

All of the previous Conversations are posted and available, as well as most of the speeches from my Strategic Investment Conference a few months ago. I do work hard to make sure my subscribers get more than their money's worth. And now, to the letter.

The Last Half

A $1.5-trillion-dollar yearly increase in the national debt means that someone has to invest that much in Treasury bonds. Let's look at where the $1.5 trillion might come from. Let's assume that all of our trade deficit comes back to the US and is invested in US government bonds. That could be as much as $500 billion, although over time that number has been falling. That still leaves $1 trillion that needs to be found to be invested in US government debt (forget about the financing needs for business and consumer loans and mortgages).

$1 trillion is roughly 7% of total US GDP. That is a staggering amount of money to find each and every year. And again, that assumes that foreigners continue to put 100% of their fresh reserves into dollar-denominated assets. That is not a safe assumption, given the recent news stories about how governments are thinking about creating an alternative to the dollar as a reserve currency. (And if we were watching the US run $1.5-trillion deficits, with no realistic plans to cut back, we would be having private talks, too.)

There are only three sources for the needed funds: either an increase in taxes or people increasing savings and putting them into government bonds or the Fed monetizing the debt, or some combination of all three.

Leaving aside the monetization of debt (for a later chapter on inflation), using taxes or savings to handle a large fiscal deficit reduces the amount of money available to private investment and therefore curtails the creation of new businesses and limits much-needed increases in productivity. That is the goose we will kill if we don't deal with our deficit.

But It's More Than the Deficit

We talked earlier about how increasing government debt crowds out the necessary savings for private investment, which is the real factor in increasing productivity. But there is another part of that equation, and that is the percentage of government spending in relationship to the overall economy. Let's look at some recent analysis by Charles Gave of GaveKal Research.

It seems that bigger government leads to slower growth. The chart below is for France, but the general principle holds across countries. It shows the ratio of the private sector to the public sector and relates it to growth. The correlation is high. (In the book we will show the same graph for other countries.)

That is not to say that the best environment for growth is a 0% government. There is clearly a role for government, but government does cost and that takes money from the productive private sector.

Charles next shows us the ratio of the public sector to the private sector when compared to unemployment (again in France). While there are clearly some periods where there are clear divergences (and those would be even more clear in a US chart), there is a clear correlation over time.

And that makes sense, given our argument that it is the private sector that increases productivity. Government transfer payments do not. You need a vibrant private sector and dynamic small businesses to really see growth in jobs.

And at some point, government spending becomes an anchor on the economy. In an environment where assets (stocks and housing) have shrunk over the last decade and consumers in the US and elsewhere are increasing their savings and reducing debt as retirement looms for an aging Boomer generation, the current policies of stimulus make less and less sense. As Charles argues:

"This is the law of unintended consequences at work: if an individual receives US$100 from the government, and at the same time the value of his portfolio/house falls by US$500, what is the individual likely to do? Spend the US$100 or save it to compensate for the capital loss he has just had to endure and perhaps reduce his consumption even further?

"The only way that one can expect Keynesian policies to break the 'paradox of thrift' is to make the bet that people are foolish, and that they will disregard the deterioration in their balance sheets and simply look at the improvements in their income statements.

"This seems unlikely. Worse yet, even if individuals are foolish enough to disregard their balance sheets, banks surely won't; policies that push asset prices lower are bound to lead to further contractions in bank lending. This is why 'stimulating consumption' in the middle of a balance sheet recession (as Japan has tried to do for two decades) is worse than useless, it is detrimental to a recovery.

"With fragile balance sheets the main issue in most markets today, the last thing OECD governments should want to do is to boost income statements at the expense of balance sheets. This probably explains why, the more the US administration talks about a second stimulus bill, the weaker US retail sales, US housing and the US$ are likely to be. It probably also helps explain why US retail investor confidence today stands at a record low."

This is the fundamental mistake that so many analysts and economists make about today's economic landscape. They assume that the recent recession and aftermath are like all past recessions since WWII. A little Keynesian stimulus and the consumer and business sectors will get back on track. But this is a very different environment. It is the end of the Debt Supercycle. It is Mohammed El-Erian's New Normal.

As we will see in a few chapters, the periods following credit and financial crises are substantially different. They play out over years (if not decades) and are structural in nature and not merely cyclical recessions. And the policies needed by the government are different than in other cyclical recessions. We will go into those later in the book, as they differ from country to country. But business as normal is not the medicine we need, even though that is what many countries are going to attempt.

Not Everyone Can Run a Surplus

The desire of every country is to somehow grow its way out of the current mess. And indeed that is the time-honored way for a country to heal itself. But let's look at yet another equation to show why that might not be possible this time. It is yet another case of people wanting to believe six impossible things before breakfast.

Let's divide a country's economy into three sections: private, government, and exports. If you play with the variables a little bit you find that you get the following equation. Keep in mind that this is an accounting identity, not a theory. If it is wrong, then five centuries of double-entry bookkeeping must also be wrong.

Domestic Private Sector Financial Balance + Governmental Fiscal Balance - the Current Account Balance (or Trade Deficit/Surplus) = 0

By Domestic Private Sector Financial Balance we mean the net balance of businesses and consumers. Are they borrowing money or paying down debt? Government Fiscal Balance is the same: is the government borrowing or paying down debt? And the Current Account Balance is the trade deficit or surplus.

The implications are simple. The three items have to add up to zero. That means you cannot have surpluses in both the private and government sectors and run a trade deficit. You have to have a trade surplus.

Let's make this simple. Let's say that the private sector runs a $100 surplus (they pay down debt), as does the government. Now, we subtract the trade balance. To make the equation come to zero there must be a $200 trade surplus:

$100 (private debt reduction) + $100 (government debt reduction) - $200 (trade surplus) = 0.

But what if the country wanted to run a $100 trade deficit? Then either private or public debt would have to increase by $100. The numbers have to add up to zero. One way for that to happen would be:

$50 (private debt reduction) + (-$150) (government deficit) - (-$100) (trade deficit) = 0. (Note that we are adding a negative number and subtracting a negative number.)

Bottom line: you can run a trade deficit, reduce government debt, and reduce private debt, but not all three at the same time. Choose two. Choose carefully.

We are going to quote from a paper by Rob Parenteau, the editor of The Richebacher Letter, to help us understand why this simple equation is so important. Rob was writing about the problems in Europe, but the principles are the same everywhere.

"The question of fiscal sustainability looms large at the moment - not just in the peripheral nations of the eurozone, but also in the UK, the US, and Japan. More restrictive fiscal paths are being proposed in order to avoid rapidly rising government debt-to-GDP ratios and the financing challenges they may entail, including the possibility of default for nations without sovereign currencies.

"However, most of the analysis and negotiation regarding the appropriate fiscal trajectory from here is occurring in something of a vacuum. The financial balance approach reveals that this way of proceeding may introduce new instabilities. Intended changes to the financial balance of one sector can only be accomplished if the remaining sectors also adjust in a complementary fashion. Pursuing fiscal sustainability along currently proposed lines is likely to increase the odds of destabilizing the private sectors in the eurozone and elsewhere - unless an offsetting increase in current account balances can be accomplished in tandem.

"...The underlying principle flows from the financial balance approach: the domestic private sector and the government sector cannot both deleverage at the same time unless a trade surplus can be achieved and sustained. Yet the whole world cannot run a trade surplus. More specific to the current predicament, we remain hard pressed to identify which nations or regions of the remainder of the world are prepared to become consistently larger net importers of Europe's tradable products. Countries currently running large trade surpluses view these as hard-won and well-deserved gains. They are unlikely to give up global market shares without a fight, especially since they are running export-led growth strategies. Then again, it is also said that necessity is the mother of all invention (and desperation its father?), so perhaps current-account-deficit nations will find the product innovations or the labor productivity gains that can lead to growing the market for their tradable products. In the meantime, for the sake of the citizens in the peripheral eurozone nations now facing fiscal retrenchment, pray there is life on Mars that exclusively consumes olives, red wine, and Guinness beer." - Rob Parenteau, CFA [1]

This has profound implications for those countries struggling to deal with large government deficits, large trade deficits, and a desire on the part of individuals and businesses to reduce their debt, while wanting the government to curtail its spending. Something in that quest has to take a back seat.

The time-honored (and preferred) way a country digs itself out from a debt or financial crisis is to grow its way out. And that is what Martin Wolf, the highly regarded columnist for the Financial Times in London, suggests that Great Britain should do. Wolf argues, rather cogently, that the answer is to increase exports and aim for a further weakening of the pound. Quoting:

"Weak sterling, far from being the problem, is a big part of the solution. But it will not be enough. Attention must also be paid to nurturing a more dynamic manufacturing sector. With the decline in energy production under way, this is now surely inescapable."

When Martin Wolf writes, he reflects what the cognoscenti of Britain are thinking. The pound is already down by 25% against the dollar as we write. We think it could go down even further. John has long been on record that the pound could reach parity with the dollar (and was saying so when the pound was much stronger).

How can Britain accomplish this? By printing money to help the current deficit crisis even as the government institutes austerity measures. We see a hand waving in the back. The question is, "Wouldn't that be inflationary?"

Of course it would. That's the plan. A little inflation along with decreasing deficits will result in a weaker currency and therefore (hopefully) more exports, and you "grow" your way out of the crisis. Of course, inflation means you can buy less with your currency, especially from foreign markets. And those on fixed incomes get hurt, and maybe even savagely hurt, depending on the level of inflation. But of course the hope is that it will be "mild" inflation and spread out over time, which is better for people who owe debt (as in governments).

Here is their dilemma. In order to reduce the government's fiscal deficit, either private business must increase their deficits or the trade balance has to shift, or some combination of the two. Lucky for them, they can in fact allow the pound to drift lower by monetizing some of their debt. Lucky, in that they can at least find a path out of their morass. Of course, that means that pound-denominated assets drop by another third against the dollar. It means that the buying power of British citizens for foreign goods is crushed. British citizens on pensions in foreign countries could see their locally denominated incomes drop by half from their peak (well, not against the euro, which is also in freefall).

What's the alternative? Keep running those massive deficits until ever-increasing borrowing costs blow a hole in your economy, reducing your currency valuation anyway. And remember, if you reduce government spending, in the short run that is a drag on the economy, so you are guaranteeing slower growth in the short run. As I have been pointing out for a long time, countries around the world are down to no good choices.

Britain's is a much slower economy (maybe in another recession), with much lower buying power for the pound and lower real incomes for its workers, yet they have a path that they can get them back on track in a few years. Because they have control of their currency and their debt, which is mostly in their own currency, they can devalue their way to a solution.

Pity the Greeks

Some of my fondest memories were made in Greece. I like the country and the people. But they have made some bad choices and now must deal with the consequences.

We all know that Greek government deficits are somewhere around 14%. But their trade deficit is running north of 10%. (By comparison, the US trade deficit is now about 4%.) Going back to the equation, if Greece wants to reduce its fiscal deficit by 11% over the next three years, then either private debt must increase or the trade deficit must drop sharply. That's the accounting rules.

But here's the problem. Greece cannot devalue its currency. It is (for now) stuck with the euro. So, how can they make their products more competitive? How do they grow their way out of their problems? How do they become more productive relative to the rest of Europe and the world?

Barring some new productivity boost in olive oil and other agricultural produce, there is no easy way. Since the creation of the euro in1999, Germany has become some 30% more productive than Greece. Very roughly, that means it costs 30% more in Greece to produce the same amount of goods. That is why Greece imports $64 billion and exports $21 billion.

What needs to happen for Greece to become more competitive? Labor costs must fall by a lot. And not by just 10 or 15%. But if labor costs drop (deflation) then that means that taxes also drop. The government takes in less and GDP drops. The perverse situation is that the debt-to-GDP ratio gets worse, even as they enact their austerity measures.

In short, Greek lifestyles are on the line. They are going to fall. They have no choice. They are going to have to willingly put themselves into a severe recession or, more realistically, a depression.

Just as British incomes relative to their competitors will fall, Greek labor costs must fall as well. But the problem for Greeks is that the costs they bear are still in euros.

It becomes a most vicious spiral. The more cuts they make, the less income there is to tax, which means less government revenue, which means more cuts, which mean, etc.

And the solution is to borrow more money they cannot at the end of the day hope to repay. All that is happening is that the day of reckoning is being delayed in the hope of some miracle.

What are their choices? They can simply default on the debt. Stop making any payments. That means they cannot borrow any more money for a minimum of a few years (Argentina seemed to be able to come back fairly quickly after default), but it would go a long way toward balancing the government budget. Government employees would need to take large pay cuts, and there would be other large cuts in services. It would be a depression, but you work your way out of it. You are still in the euro and need to figure out how to become more competitive.

Or, you could take the austerity, downsize your labor costs, and borrow more money, which would mean even larger debt service in a few years. Private citizens can go into more debt. (Remember, we have to have our balance!) This is also a depression.

Finally, you could leave the euro and devalue, as Britain is going to do. Very ugly scenario, as contracts are in euros. The legal bills would go on forever.

There are no good choices for the Greeks. No easy way. And then you wonder why people worry about contagion to Portugal and Spain?

I see that hand asking another question. Since the euro is falling, won't that make Greece more competitive? The answer is yes, and no. Yes, relative to the dollar and a lot of emerging-market currencies. No to the rest of Europe, which are their main trade partners. A falling euro just makes economic-export power Germany and the other northern countries even more competitive.

Europe as a whole has a small trade surplus. But the bulk of it comes from a few countries. For Greece to reduce its trade deficit means a very large lifestyle change.

Germany is basically saying, you should be like us. And everyone wants to be. But not everyone can.

Every country cannot run a trade surplus. Someone has to buy. But the prescription that politicians want is for fiscal austerity and trade surpluses, at least for European countries. That is the import of Martin Wolfe's editorial we mentioned above. He is as wired in as you get in Britain. And in a few short sentences he has laid out the formula Britain will pursue. Devalue and put your goods and services on sale. Figure out how to get to that surplus.

Germany has been thriving because much of Europe has been buying its goods. If they are forced by circumstances to buy less, that will not be good for Germany. It's all connected.

Yet politicians want to believe that somehow we can all run surpluses - at least in their own countries. We can balance the budgets. We can reduce our private debts. We all want to believe in that mythical Lake Woebegone, where all the kids are above average. Sadly, it just isn't possible for everyone to have a happy ending.

Before we leave this part of the chapter, a few thoughts about the situation in the US. The mood in the country, if not in Washington (at least before the elections last November), is that the deficit needs to be brought down. And consumers are clearly increasing savings and cutting back on debt. But those accounts must balance. If we want to reduce the deficits AND reduce our personal debt, we must then find a way to reduce the trade deficit, which is running about $500 billion a year as we write, or about $1 trillion less than the deficit.

If the US is going to really attempt to balance the budget over time, reduce our personal leverage, and save more, then we have to address the glaring fact that we import $300 billion in oil (give or take, depending on the price of oil).

This can only partially be done by offshore drilling. The real key is to reduce the need for oil. Nuclear power, renewables, and a shift to electric cars will be most helpful. Let us suggest something a little more radical. When the price of oil approached $4 a few years ago, Americans changed their driving and car-buying habits.

Perhaps we need to see the price of oil rise. What if we increased the price of oil with an increase in gas taxes by 2 cents a gallon each and every month until the demand for oil dropped to the point where we did not need foreign oil? If we had European gas-mileage standards, that would be the case now.

And take that 2 cents a month and dedicate it to fixing our infrastructure, which is badly in need of repair. In fact, the US Infrastructure Report Card (www.infrastructurereportcard.org), by the American Society of Civil Engineers, which grades the US on a variety of factors (the link has a very informative short video), gave our infrastructure the following grades in 2009: Aviation (D), Bridges (C), Dams (D), Drinking Water (D-), Energy (D+), Hazardous Waste (D), Inland Waterways (D-), Levees (D-), Public Parks and Recreation (C-), Rail (C-), Roads (D-), Schools (D), Solid Waste (C+), Transit (D), and Wastewater (D-).

Overall, America's Infrastructure GPA was graded a "D." To get to an "A" would requires a 5-year infrastructure investment of 2.2 trillion dollars.

That infrastructure has to be paid for. And we need to buy less oil. And we know price makes a difference. The majority of that 2 cents would need to stay in the states where it was taxed, and forbidden to be used on anything other than infrastructure.

(And while we are at it, why not build 50 thorium nuclear plants now? No fissionable material, no waste-storage problem, and an unlimited supply (at least for the next 1,000 years) of thorium in the US. The reason we chose uranium was to be able to produce nuclear bombs, among other reasons.) We'll get into this and more when we get to the chapter on the way back for the US.

The Competitive Currency Devaluation Raceway

Greg Weldon likened the competitive currency devaluations in Asia in the middle of the last decade to that a NASCAR race. Each country tried to get in the "draft" of the other ones, keeping its currency and selling power more or less in line as it tried to market its products to the US and Europe. This is a form of mercantilism, where countries encourage exports and, by reducing the value of their currencies, discourage imports. It also helps explain the massive current-account surpluses building up in emerging-market countries, especially in Asia.

There is the real potential for this race to become far more "competitive." Indeed, Martin Wolf's few sentences are the equivalent of the NASCAR announcer saying,

"Gentlemen, start your engines."

We touched on Britain. But there are structural weaknesses in the euro as well (again, in later chapters). In the early part of the last decade, when the euro was at $.88, John wrote that the euro would rise to $1.50 (seemingly unattainable at the time) and then fall back to parity with the dollar by the middle of this decade. He was overly optimistic, as the euro went to $1.60 but is now retracing that rise.

The title for our chapter on Japan is "A Bug in Search of a Windshield." While the currency of the Land of the Rising Sun is very strong as we write, there are again real structural reasons, as well as political ones, why we predict the yen will begin to weaken. At first, its fall will be gradual. But without real reform in government expenditures, the yen could weaken substantially. A fall of 50% or more against the dollar by the middle of the decade (if not sooner) is quite thinkable.

The euro at parity. The pound at parity. The value of the yen in half. What will be the response of other countries around the world? Do they sit by and allow their currencies to rise, making it more difficult to compete with Europe and Japan? The Swiss are clearly not happy with the rise of the Swiss Franc. The Scandinavian countries? The rest of Asia?

And what of China? Europe is an extremely important market to them. Do they sit by and let their currency rise (a lot!) against the euro and hurt their exports? But if they react, that makes the US unhappy and starts another competitive devaluation throughout Asia.

What does the US do? US senators are mad enough about the valuation of the Chinese yuan. Do Schumer, Graham, et al. start talking about tariffs on European goods? On Japanese goods?

The US and the world went into a deep recession in the early 1930s, but it took the protectionist Taft-Hartley bill to stretch it out into a prolonged depression. It was a beggar-thy-neighbor policy that swept the world. It was disastrous and sowed the seeds of World War II. There was an unintended consequence on every page of that bill.

In a few years, the world will be at significant risk of protectionist policies damaging world trade. Let us hope that cool heads will be in the lead and avoid the policies that so clearly would hurt us all.

This chapter has been a kind of introduction to the macroeconomic forces that are at play in the world in which we find ourselves. While much of the developed world has no good choices, we (each country on its own) still must decide on a path forward. We can choose between bad choices and what would be disastrous choices. We can make the best of what we have created and move on. If we make the correct choices to solve the structural problems, we can emerge into a brighter future for ourselves and our children. If we choose to avoid the problems, we will hit the wall in spectacular and dramatic fashion.

As Ollie said to Stan (Laurel and Hardy), "Here's another fine mess you've gotten me into!" A fine mess indeed.

Amsterdam, Malta, Zurich, Mallorca, Denmark, and London

I leave for Europe tomorrow evening, and will be flitting here and there, packing a lot into a few days. I will be meeting with Jonathan Tepper, and we will finalize the rough draft of The End Game and send it out to a few friends for comments. There is a lot of editing, going back to find that missing piece of data, adding footnotes, etc. The plan is to be done with it by the end of September. I am so ready to move on.

John Grisham (who knows a thing or two about writing) recently had this to say about his first book:

"I had never worked so hard in my life, nor imagined that writing could be such an effort. It was more difficult than laying asphalt, and at times more frustrating than selling underwear. But it paid off. Eventually, I was able to leave the law and quit politics. Writing's still the most difficult job I've ever had - but it's worth it." (http://www.nytimes.com/2010/09/06/opinion/06Grisham.html?_r=2)

It is time to hit the send button. I look forward to the next few weeks, as I will be with old friends and meet new ones in interesting places. But I will be remembering another 9/11 just nine years ago as I get on an American Airlines flight to London. And take a moment to remember those who did not make it home.

Your reflective analyst,

John Mauldin

[1] From a paper by Rob Parenteau, editor of The Richebacher Letter. You can read it in two parts at www.nakedcapitalism.com.

Are We There Yet?

JohnMauldin — Sat, 31 Jul 2010 04:51:00 GMT

Are We There Yet?
Driving with No Spare
A Muddle Through Economy
Absent a Policy Mistake
Maine and Turks, Etc.

"... [this economic condition] has been brought about by policies which the majority of economists recommended and even urged governments to pursue. We have indeed at the moment little cause for pride: as a profession we have made a mess of things."

- Friedrich August von Hayek, Nobel Speech 2010 1974

Those of us who have taken young children on long road trips to somewhere they wanted to go are familiar with the plaintive question "Are We There Yet?" As a nation and indeed the developed world, it is not unreasonable to be asking "Are We There Yet?" about the road to recovery. The NBER, those self-appointed economists who are the official keepers of the score sheet of recessions and recoveries, have yet to tell us we are out of recession. Yet the economy is growing. Kind of. Today we look at the most recent data on second-quarter US GDP (which came out this morning), and even though it is backward-looking data, we'll see what we can discern that might help us chart the direction of the future. And then, if there is time, I'll highlight what is a very serious and growing problem for our state and local governments. There is a lot to cover and so, with no "but firsts," let's dive in.

Are We There Yet?

The economy of the US grew at a weaker than expected 2.4% in the second quarter, but the first quarter was revised back up to 3.7% on the strength of stronger-than-projected inventory rebuilding. But the recession years were revised downward rather significantly for this late in the cycle. We find now that the recession was worse than we thought, taking the economy down a total of 4.1% during the recession. As of today, we are not quite back to where we started, still down 1%. That means it is quite possible that we could finish the year and still not be "there yet." (To see a 1% rise in GDP we would need to see a 2% annualized rise for the rest of the year. We'll look at that possibility in a few paragraphs.)

Let's look at a few charts courtesy of the Dismal Scientist, at www.economy.com. First, recent GDP numbers:

If this were an average recovery, the economy would be growing at a 6% rate at this point, which pretty much says it all about our current 2.4% number. Further, 2.5 years after the beginning of a recession, we are typically already 8% higher than the prior high. This is a very tepid recovery, indeed.

Now, let's look at the actual numbers.

There is a category called "Final Real Sales" you can create by subtracting the inventories number from the real GDP number. That reveals that final real sales grew by 1.3% last quarter. This is against what is normally a 4% number this far into a recovery. Is it any wonder that small businesses are asking "When will we get there?"

Next, look at the contribution from fixed residential investment. It has been negative or flat for six of the previous seven quarters. This time it added 0.6% to last quarter's GDP. But the housing market is lousy. What gives?

It seems that the housing tax credits induced home builders to increase construction by an annualized 28% last quarter. That was in spite of there being 18.9 million homes vacant in the US (an all-time high), and the number of foreclosures rising by as much as 100% in some cities. (Hat tip: David Rosenberg)

"Lenders are accelerating foreclosures as borrowers fall behind in mortgage payments after the worst housing crash since the Great Depression. A record 269,962 US homes were seized in the second quarter, according to RealtyTrac Inc. Foreclosures probably will top 1 million this year, the Irvine, California-based data company said in a July 15 report." (Daily Reckoning)

Ownership rates are falling and heading back to more traditional levels. Mortgage delinquencies are rising as the unemployment level stays persistently high. It is my guess that residential real estate will not contribute much if anything to GDP this quarter.

What about inventories? That has been a strength the last few years, adding a lot to our national growth. But inventory-to-sales ratios are at an 8-month high, which suggests that businesses may back off from increasing inventories at the recent pace.

Government spending? The bulk of the stimulus programs are going away in the latter half of the year, especially those that benefited state and local governments. Governments are slated to cut back spending or raise taxes by almost 1% of GDP. As many as 500,000 government employees may lose their jobs.

On a positive note, fixed nonresidential investments were the best they have been in several years. Let's hope that businesses keep it up!

A Muddle Through Economy

All that being said, if we take away housing and project slower inventory growth and less government spending, we could see the GDP number for this quarter fall to the 1% range and stay there for the rest of the year. Even the normally bullish Economy.com suggests that growth will be "sluggish" in the last half of the year. All in all, the very definition of a Muddle Through Economy.

Until we start to see a real rise in employment, it is hard to get too enthusiastic. Everyone seems to be happy that initial claims have come down from their highs. But they have gone sideways for almost a year. Let's look at two charts. First, the last five years of initial claims.

Then a chart (courtesy of Bill King) which shows that continuing claims are at levels typically associated with recessions. This is not the stuff that "V"-shaped recoveries are made of.

Driving with No Spare

I was on CNBC and Fox this last Thursday to talk about deflation. On CNBC I was side by side with my good friend Paul McCulley. It is no secret that Paul is a rather liberal Democrat. He is all for increasing taxes on the rich. This spring he told me at my conference that tax increases on the rich do not have the same multiplier as those for everyone else, and so therefore taking the Bush tax cuts away will not threaten the economy. I, of course, think it will.

I called Paul up to chat before we went on together. I was quite surprised to learn that he now thinks the Bush tax cuts should be extended for maybe another two years.

Why? We are both concerned about an unwelcome bout of deflation stemming from lack of final demand (as opposed to falling prices from increased productivity). Look at the graph below. Notice that prior to the beginning of the last recession inflation was running at a 4% clip and actually rose to above 5% before falling to a minus 2% and then rising to almost 3%. Since the beginning of the year, as the economy has softened, inflation has been steadily falling and is now at 1%. If the economy continues to falter, one would suspect that inflation could fall even lower.

If the economy were to tip into a recession with inflation so very low (or even near zero at the end of the year), the results could be very toxic. As Paul's colleague and my friend Mohamed El-Erian writes, we are driving our economic car without a spare tire. If we were to go into a deflationary recession, there is not much that government could do. Our deficits are already at dangerous levels, and a recession would mean that tax collections would fall further. The Fed has some policy room, but it is of a variety that has not been tried for a very long time. Frankly, we cannot be sure of the unintended consequences.

One of the guest hosts on Fox informed me that double-dip recessions are very rare things. And I agree. Absent a policy mistake it should not happen. But increasing taxes to the level that is now contemplated, along with spending cuts and tax increases at the state and local levels, is a very dangerous experiment with the economy being as soft as it is.

Absent a Policy Mistake

The key words are "absent a policy mistake." If the economy is growing at 3% and inflation is over 2%, if a majority thinks that taxes should be raised, then so be it. We would survive. But raising taxes in January is an experiment on our economic body without benefit of anesthesia.

Mark Haines (host at CNBC) rightly pointed out that there is a lot of sentiment for reducing the deficit, and was I against reducing the deficit? The answer is "no." But I want to do it with spending cuts and spending freezes until the economy is more vigorous and inflation is above target levels. And then let's see what Obama's tax commission comes up with in December.

This is a variant on Pascal's Wager. The losses are very large if we fall back into recession: Increased unemployment on top of already high levels. Reduced tax receipts. A very sick stock market. The world will suffer from our reduced demand. The cost to prevent that outcome? We forego a few hundred billion in the next year against the deficit.

One last thought. The correlation between CPI and M2 has risen to -.85 in the last 15 or so years. M2 is continuing to fall, as is the velocity of money. Just one more reason to wait until there is clear evidence of a real recovery.

Ok, one more last thought. One of the guys on Fox (you can't see who, in a remote studio) said we shouldn't worry about inflation because corporate profits are doing well. Really? That seems to be the bull argument everywhere for everything. Look at the above chart. Corporate profits have been rising as inflation and M2 have been falling, as bank lending is imploding, as capacity utilization is at recession-era levels, unemployment is outrageously high, savings rates are back up to 6% (see below), and consumer spending is abnormally weak compared to what it should be after a recession.

When those corporate profits start turning into jobs, when we can see pricing power in the markets, then we can possibly say that there is a correlation between profits and inflation.

Maine and Turks, Etc.

I fly to Minneapolis on Sunday for a speech on Monday morning, then back to Dallas that afternoon. On Wednesday I fly with my youngest son, Trey (16), to New York. Larry Kudlow is planning on working me into the show on Wednesday, so watch or hit your record button. Then Trey and I are off to Maine for the annual Shadow Fed fishing trip hosted by David Kotok. This year Bloomberg will be covering it on Friday. Then it's back to NYC on Sunday for some meetings, on to Washington DC for a Tuesday consulting gig for the Defense Department, and then down to Miami and off for five days to the Turks and Caicos with Barry Habib and his family.

I am still working on the book, and we will have a full rough draft in the next few days. I am very happy with the way it is coming together.

Some of my readers know that every year for the last four years Trey has caught more fish than I have. That is a little frustrating. This year, one of my readers has sent me some special hi-tech lures. If they work, I will give you a link. Maybe Dad can finally come into camp without Trey bragging about how much better a fisherman he is (which is unfortunately true).

It is time to hit the send button. Have a great week.

Your hoping for lots of tight lines analyst,

John Mauldin

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