Power & Market
In a new report for the TaxPayers' Alliance in the UK, Ben Ramanauskas makes an important point: deficit spending and government debt are moral issues, and not just matters for arcane economic theory. That is, when current voters side with current politicians to drive a government deeper into debt, they hand down a big fat bill to future taxpayers and citizens who have no say in the matter right now:
There are significant moral implications of having a large national debt. Money which is borrowed today will have to be paid back at some point in the future, perhaps by people who are yet to be born. As a result of the profligacy of current governments, a burden will be placed on future generations who will have to pay higher taxes and have less money to spend on essential services. It is one of the defining principles of Parliamentary Supremacy that Parliament cannot bind its successors. The reasoning behind this is that it would be an affront to democracy to allow future generations to be bound by previous generations.However, by having such a high national debt, the government binds future generations and curtails their freedom to choose by ensuring that they will have to spend a significant proportion of their money servicing the debt which also places restrictions on what they can spend their money on, and will also have implications for levels of taxation.
Therefore, increased borrowing will result in a burden being placed on future generations. A high national debt can have numerous negative consequences. For example, a high level of debt can lead to an increase in the yields paid on UK sovereign bonds. This is because if investors believed that the UK’s national debt was so high that it would be at risk of defaulting on its debt or that the country would inflate them away, they would need to be incentivised to purchase the UK’s gilts by high yields. Very high national debt can have a negative impact on economic growth. For example, borrowing can crowd out other investment as investors loan money to the government, rather than to the private sector. Nations typically see growth slow when their debt levels reach 90 percent of GDP, with the median growth rate falling by 1 percent and average growth falling by even more.
Moreover, research focussing on the US has found that raising the Federal deficit has an adverse effect on the economy by reducing private sector investment, economic growth, and employment. As mentioned above, government debt has to be paid. Furthermore, interest payments have to be paid on the debt. This, therefore, places restrictions on government budgets and so diminishes their ability to be able to spend money on essential services. Moreover, in order to repay and service the debt, governments tend to either raise taxes or decide not to lower them. An in depth explanation of the folly of increasing taxes and the benefits associated with tax cuts goes beyond the scope of this paper, and the TaxPayers’ Alliance has written extensively on this topic. However, the evidence is clear that tax increases tend to be harmful for the economy, whereas tax cuts tend to have a positive impact.
Although it may seem an attractive policy to borrow money in order to fund government spending, this is not a sensible approach. Although interest rates are historically low, government borrowing is not free and has to be funded. Furthermore, although there have been other periods in its history when the UK has had a high level of national debt, the socio-economic situation is very different from those periods. It should also be remembered that not only has this money got to eventually be paid back, but that also interest has to be paid on the debt too.
These interest payments represent a significant proportion of government expenditure, and is money which could have been spent on essential public services such as healthcare, education, or provision for the elderly. Moreover, proponents of the idea that the government should take advantage of low interest rates by borrowing more are correct to point out that rates are historically low, but that is precisely the point. They are historically low, and so one should not expect them to remain as such over the coming years and decades. Furthermore, we have seen that even a small increase in rates of one per cent, increases the national debt as a percentage of GDP significantly in the long term. Furthermore, there are serious economic and moral ramifications to increasing national debt. For example, a high national debt can seriously hamper economic growth. Moreover, increasing the national debt places a burden on future generations who will have to pay it back.
As Ramanauskas notes, it's not just a matter of higher bills for government services either. All that extra spending discourages private-sector investment as well, creating a more run-down, more capital-impoverished version of the future than would have otherwise been the case.
In America, at least, this is the legacy of the current Baby Boomer generation, and their parents. They want their Medicare, and their highly-paid government jobs, and federally-subsidized roads, and endless wars fought in the far reaches of the world. But their children and grandchildren will be paying the bill.
Apparently, South African Airways is "on the verge of bankruptcy" and is, according to the BBC, "haemorrhaging cash." Unfortunately for South African taxpayers, SAA is also a state-owned operation, it's deeply in debt, and it may not be able to make payroll in the near future.
Clearly, there's a problem.
James Peron, writing at South Africa's Business Day suggests Ludwig von Mises may have the answer:
The mess that is South African Airways (SAA) is widely known today. What many do not realise is that in 1944, Yale University published a book that laid out the reasons for the mess.
While it is true that Ludwig von Mises’s Bureaucracy does not mention SAA by name, it does dissect the differences between "profit management" and "bureaucratic (or political) management".
Mises argues that under each system of management, there exist incentives. Managers and/or owners respond to those incentives.
Transfer the bureaucrat to a system of "profit management" and his actions will change. Put a businessman in charge of a bureaucratic system of governance and he will act like all the bureaucrats before him. Change the incentives and you change the response.
The key word here, when it comes to incentives is "political." It's not the fact that SAA has a bureaucratic structure. Most large organizations do. The difference between SAA and a private organization is that profit is not the primary motivation — because bailouts and other political solutions can substitute for serving customers in the marketplace. IF SAA ceases to make a profit, as is already the case, it seems, it will continue to exist so long as government agents see fit to continue subsidizing it. In a truly private market, of course, an organization that fails to make a profit — regardless of how "bureaucratic" it is — ceases to exist.
Articles about the tax exploits of global corporations generally are short on facts and long on innuendo. This recent missive from the Associated Press about Apple is a standard example of the genre: full of breathless accounts (Bermuda! Loose rules! Shelters!) that imply sinister motives behind standard business practices. Call it whatever you like, but tax avoidance is perfectly ordinary for a public company like Apple. It owes shareholders an obligation to operate in a cost-effective manner. Taxes are a cost, not some social duty owed to the world.
It's tempting to think progressives like Apple CEO Tim Cook deserve scrutiny on grounds of hypocrisy, but we should resist this temptation. Apple has done nothing wrong, nothing illegal, and nothing immoral. Every dollar it saves in taxes goes somewhere much better than Washington DC (such as into product development or even to Apple's hedge fund in Nevada).
"Offshore" simply means not within US tax jurisdiction. Every other sovereign country technically is offshore by this definition, so journalists should dispense with the nefarious language. Reporters and even tax professionals use lazy jargon to insinuate unregulated activity is happening somewhere, without US oversight. Yet I'm confident the AP understands that actual business activity occurs outside the US, some of which presumably is not the business of the IRS or American regulators. This maniacal insistence on taxing every US person or business on everything they do around the globe is the unfortunate result of our "worldwide" income tax system. Blame that system of government greed, not corporate greed, for complex tax structures and creative avoidance.
Moreover a "tax shelter" is any device that permits a taxpayer to reduce his/her/its tax bill. The garden variety mortgage interest deduction is as much a shelter as the most complex corporate tax structure (e.g. the "Double Irish with a Dutch Sandwich," preferred by big US tech companies until a few years ago). Living in Texas creates an income tax shelter relative to living in California. Buying and holding stocks for more than a year shelters long term investors from paying higher capital gains rates than day traders. And so forth. Shelters are a good thing.
Finally, neither Apple nor any other US multinational corporation "avoids tens of billions of dollars in taxes by using overseas havens." At most they delay paying US taxes. They do not avoid nor postpone income foreign taxes. Those "havens" are real countries with real people who buy Apple devices, including nations across Europe and Asia. When Apple devices are made in foreign countries, then sold in foreign countries by foreign salespeople, when the money collected remains in that foreign country, and Apple pays income tax to that foreign country, why should Uncle Sam demand a cut? This is not tax evasion, this is what doing business on a global scale looks like. If and when Apple decides to repatriate wholly foreign earnings to its US parent company in the form of a dividend, then the IRS can have its way. But it's outrageous to insist on taxing income that has not been paid. It's also a form of hubris that imagines all business earnings around the world should roll up into the US government's coffers.
Apple is not the British East India Company. It need not pay tribute to Washington, DC as a surrogate Queen.
Hunter Lewis's op-ed at Foxnews today explains how Trump's new nominee for the Fed Chairmanship, Jerome Powell, is anything but a departure fron business as usual. Lewis begins by comparing Powell's appointment to that of Ben Bernanke:
By nominating Jerome Powell as chairman of the Federal Reserve, President Trump is elevating a nominal Republican but also an Obama administration appointee to the chairmanship of our nation’s central bank. Many consider the chairmanship to be the second-most powerful position in the U.S. government.
This is not the first time something similar has happened. In 2006 President George W. Bush appointed Ben Bernanke, also a nominal Republican at the time, who on leaving the Federal Reserve registered as a Democrat.
No wonder that Democratic Sens. Chuck Schumer of New York and John Kerry of Massachusetts publicly rejoiced when Bernanke was appointed. They correctly surmised that he was closer to them philosophically than to President Bush.
Democrats should be equally pleased about the Powell nomination. This puts someone in charge of the Federal Reserve who is more aligned philosophically with Schumer than with President Trump.
Lewis then goes into some history of the Fed's enthusiasm for "non-traditional" monetary policy which is designed primarily to help Wall Street and Washington, DC. The crash itself, had been triggered in part by Fed policy:
The trigger for the Crash was the chairman’s stubborn refusal to reconsider the imposition of “mark to market” accounting on U.S. banks. This form of accounting reflects the current market value of assets and liabilities. Steve Forbes accurately identified “mark to market” regulations as “mark to make believe.” They were guaranteed to make the entire banking system insolvent.
When Bernanke finally relented and announced the termination of “mark to market” the stock market bottomed only a few days later and thereafter soared as more easy money was poured in. These policies, cheered on by the Democrats, represented true trickle-down economics. They helped those already rich, not the poor or the middle class.
During the Crash, Bernanke devised a novel monetary policy that was remarkably unsupported either by economic evidence or theory. Federal Reserve economists acknowledged that they could not model it. The stated purpose was to protect Main Street, although it was obvious that Wall Street and not Main Street was being bailed out. What was not so obvious was that the real intention was to rescue a tottering federal government debt system.
Hunter concludes by noting that Powell is merely a continuation of the current monetary status quo:
On the Federal Reserve, Powell has been a “good soldier.” He never voted against the wishes of either Bernanke or Yellen. He vigorously opposed legislation proposed by Rep. Ron Paul, R-Texas, and his son, Sen. Rand Paul, R-Ky., to audit the Federal Reserve.
The Paul legislation would have penetrated some of the secrecy of the Federal Reserve, which finances itself “off-budget” with newly created money, notwithstanding the Constitution’s requirement that government spending be approved by Congress.
Powell can be relied on to oppose any reform of the Federal Reserve or any reconsideration of the Bernanke system, despite the dismal record of the U.S. economy since the Crash. Powell was reportedly favored by current Treasury Secretary Steve Mnuchin, who earlier worked for Goldman Sachs and liberal financier and donor George Soros.
Powell Has Long Hated Fed Reform
For further evidence of Powell's position on Fed reform, we need look no further than his official comments on "Audit the Fed" legislation:
Audit the Fed also risks inserting the Congress directly into monetary policy decisionmaking, reversing decades of deliberate effort by the Congress to insulate the Fed from political pressure in carrying out its day-to-day duties. Indeed, some advocates of the bill have expressed support for complete elimination of the Federal Reserve. Long experience, in the United States and in other advanced economies, has demonstrated that monetary policy is most successful when decisions are rendered independent of influence by elected officials. As recent U.S. history has shown, elected officials have often pushed for easier policies that serve short-term political interests, at the expense of higher inflation and damage to the long-term health and stability of the economy.
Powell goes on to repeat the usual orthodoxy pushed by central bankers which pushes the myth of Fed independence, and the idea that the Fed is a non-political organization. In short, Powell believes the Fed does only excellent work, and no reform is warranted at all.
Powell is nothing more than the usual sort of central banker.
Apologies for the pay-walled link, but this Wall Street Journal article documenting the cheery fortunes of the Swiss National Bank really is remarkable. It's remarkable not only because the SNB actively chose to pour hundreds of billions of Francs into foreign stock purchases, or because currency devaluation remains a cornerstone of Swiss monetary policy (hasn't the fetish for exports been conclusively debunked?). What is most remarkable is the Journal's blasé attitude about the whole thing: nothing new to see here, folks. Of course central banks own stocks, why it's the current year!
The SNB’s profit was lifted by a trio of positive forces: low bond yields preserved the value of its foreign bonds; higher equity prices raised the value of SNB holdings that included $2.8 billion in Apple stock at the middle of 2017 and $1.3 billion in Facebook Inc. and the weaker Swiss currency made those foreign assets worth more in franc terms. For the first nine months of 2017, the SNB’s profit was 33.7 billion francs. Of that, over 14 billion francs was from rising equity prices and another 10.5 billion francs came from the valuation effects of the weaker franc, which fell around 5% against the euro last quarter.
Not a bad paper gain for a nation of only 8.5 million people. But the rumor is stocks sometimes actually go down, while gold and cows and fine watches and chocolate have a slightly more enduring Swiss feel to them.
The SNB of course merely followed in the footsteps of the Bank of Japan and other central banks which own equities. And the ECB continues to flirt with the idea. But if the notion of central banks "embracing risk" and seeking returns sounds like moral hazard writ large to you, you're not thinking like a banker: large piles of reserves just laying around demand some kind of yield!
Is it really so far-fetched to imagine the Fed snapping up FAANG shares to prop up the NASDAQ during a rough patch? Or simply buying equities and corporate bonds generally, across the board, in the event of an economic downturn? It's an idea Janet Yellen already floated at the Fed's annual Jackson Hole meeting last year. It would require legislation (US law currently forbids the Fed from buying stocks), but given how obliging Congress was during the 2008 Crash it's hard to imagine much resistance the next time Wall Street gets shaky.
At this point can anyone still argue with a straight fact that the Fed exists as the "banker's bank," a neutral referee in financial markets and a lender of last resort?
With Trump poised to announce his pick for Fed Chair on Thursday, former Fed boss Paul Volcker quietly announced the forthcoming publication of his memoirs. Hopefully we will be spared a shamelessly self-serving title like Bernanke's The Courage to Act. But in contrast to the fanfare surrounding post-retirement books by Alan Greenspan and Bernanke, Volcker's offering likely won't resonate with the financial press. It's been 30 years since he served as Chair (1979 to 1987), and many of the principals in his story are dead or elderly. It all sounds like ancient history, especially to the under-40 quants populating Wall Street. In fact the 90 year old Volcker is mostly unknown both to the public today, though at 6'7'' he literally and figuratively once cast a long shadow across the central bank.
But faint vestiges of his legacy survive, even in this sordid era of "extraordinary" monetary policy. David Stockman largely praises Volcker in The Great Deformation, reminding us that the former Chair "did not...dream of levitating the economy through the "wealth effect' or by coddling Wall Street speculators." Stockman also praises his willingness to steer short-term interest rates well above long-term bond yields, thus throttling the carry trade that is the target of Stockman's unrelenting ire today. And unlike the madcap QE excesses of Bernanke and Janet Yellen, Volcker was not afraid to attack monetary inflation head-on, through the Fed's balance sheet:
Volcker accomplished this true anti-inflation objective with alacrity. By curtailing the Fed’s balance sheet growth rate to less than 5 percent by 1982, Volcker convinced the markets that the Fed would not continue to passively validate inflation, as Burns and Miller had done, and that speculating on rising prices was no longer a one-way bet. Volcker thus cracked the inflation spiral through a display of central bank resolve, not through a single-variable focus on a rubbery monetary statistic called M1.
Murray Rothbard, needless to say, held all Fed Chairs and Governors in low regard-- bemoaning what he considered their "hagiographic treatment" by the press. Paul Volcker did not escape his withering pen:
When it looked for a while that the great Paul Volcker might not be reappointed as Fed chairman, the financial press went into a paroxysm of agony: no, no, without the mighty Volcker at the helm, the dollar, the economy, nay even the world, would fall apart. And yet, when Volcker finally left the scene years later, the nation, the economy, and the world, somehow did not fall apart; in fact, ever since, none of those who once danced around Volcker for every nugget of wit and wisdom, seem to care any longer that Paul Volcker is still alive.
Yet by current standards there is much to admire in Volcker's tenure at the Fed.
First, he was (and likely will remain) the last Chairman even remotely worthy of the title "Fed hawk." As Stockman makes clear, Volcker understood the argument for monetary tightening-- an argument completely lost to political concerns today. Second, he demonstrated (for awhile) actual political independence during both the Carter and Reagan administrations and was willing to abide a short-term recession. Finally, he understood the critical role interest rates and saving played in the lives of ordinary people depending on thrift rather than investing savvy.
Paul Volcker is no Austrian. But in our neo-Keynesian world of unbridled monetary stimulus, and compared to his successors, Paul Volcker looks pretty good.