Capping retirement accounts is a worrisome tax-cut notion

Posted on by j.giglio

Tax cuts often look like free lunches for taxpayers. Such is the case with the recent federal tax reform proposal. But tax cuts eventually have to be paid for with tax increases, closing of tax loopholes, or spending cuts, and that’s why average Americans need to pay attention to the unfolding debate on Capitol Hill.

The first red flag came several weeks ago when it was reported that House Republicans were thinking of drastically slashing the tax deduction for 401(k) contributions from the current annual $18,000 or $24,000 for workers over 50 to as little as $2,400, and mandating the use of after-tax Roth accounts for retirement savings.

Retirement income in the United States comes primarily from three sources: Social Security, pension plans sponsored by public and private employers and individual savings in taxable and tax-advantaged accounts. There are generally two types of employer-sponsored pension plans: defined benefits and defined contributions.

Back in the day, workers could depend on defined benefit pensions in which retirees received a predetermined monthly annuity, either for the rest of their lives or those of their spouses. The benefit amount was usually based on an employee’s wage, years of service and age at retirement. The employer was responsible for contributing assets sufficient to fund the promised benefits.

But employers claimed these plans left them overburdened by pension obligations and that defined contribution plans were much less expensive.

Now defined-contribution pensions are the most common employer-sponsored plans.

Around 54 million American workers participate in about 550,000 so-called 401(k) plans, named after the section of the tax code that created them in 1978. These plans hold more than $5 trillion in assets. Tax-deductible contributions to defined contribution plans are predetermined, but the amount of benefits received upon retirement is not guaranteed.

Workers pay taxes when they withdraw the funds, manage the money themselves and hope the market doesn’t crash just when they retire. While in a defined benefit plan the employer bore the risks associated with investing assets in the plans, the employee is responsible for bearing those risks un-der defined contribution.

When news filtered out that the deduction for 401(k) contributions might be slashed, retirement experts, Vanguard, Fidelity and other large mutual fund companies that manage assets in the lucrative 401(k) business joined together and howled like a pterodactyl. President Trump tweeted, “There will be NO change to your 401(k). This has always been a great and popular middle-class tax break that works, and it stays!”

Fortunately, the long-awaited GOP tax plan unveiled last week leaves current contribution limits in place and abandons the notion that American workers are saving too much for retirement.

What were these Mighty Mendicants thinking? Cooking up a raiding party on workers’ 401(k) plans was a way to pay for the middle-class tax cuts lawmakers claim they want to provide. They also want to significantly cut corporate taxes to catch up with the rest of the world, which has already done so.

The proposal was pure budget chicanery. Capping what the average American can place in these pension plans would force workers to pay more in taxes now rather than when they make withdrawals from their pension account. In effect, the proposal would have helped pay for tax cuts by pulling future tax revenues forward.

Equally important, it would have undermined workers’ retirement security since the up-front deduction is an important incentive for workers to participate in retirement plans. Mil-lions of Americans depend on the favorable tax treatment of 401(k)s, IRAs and other savings vehicles to build long-term financial security.

The fate of House Republicans’ tax proposal is uncertain; the twists and turns ahead will surely provide first-rate entertainment. And taxpayers had best pay close attention to the tax legislation as it makes its way through Congress to ensure that the notion of capping 401(k) contributions is not resurrected as lawmakers scramble to find ways to pay for the tax cuts.

 

Transformation takes the fast lane for automakers

Posted on by j.giglio

Recently, the Ford Motor Co.’s new CEO outlined plans to aggressively cut costs and funnel the savings to electric, self -driving cars. The company plans on increasing its production of profitable trucks and SUVs, while de-emphasizing less profitable cars and sedans.

What a difference a few years makes in the fast-changing automobile business. Car companies all have big plans to transform from mere sellers of vehicles to businesses that touch all aspects of mobility.

There are now multiple sources of innovation in an industry that has seen relatively little change. For over a century, the business model was how many vehicles a firm sold. Now companies are looking at how to reconcile disruptive innovations with traditional products and services.

The transformation is being driven by a succession of innovations — the Internet, the cloud, big data, 3-D printing, robotics, machine learning, artificial intelligence, autonomous vehicles, connectivity, the internet of things, electric vehicle power trains, and shared mobility, as well as changing car ownership preferences. Each reinforces the others and accelerates disruption.

China, the United Kingdom, and France are talking about banning the internal combustion engine by 2030. Moreover, China’s government has implemented aggressive incentives for electric vehicles that favor local companies, which could give Chinese firms significant advantages and economies of scale in the world’s largest consumer market.

These innovations are causing automakers to rethink the way they do business. Given how central the automobile is to the economy and to people’s daily lives, it’s not a stretch to suggest that these innovations will change how Americans live.

In addition to traditional automakers, changes in mobility will impact industries such as energy, insurance, retail, public transit, and health care. For example, the National Highway Traffic Safety Administration reported earlier this month that total traffic deaths on U.S. highways rose 5.6 percent in 2016 to a decade high of 37,461. This is roughly the same number who die from breast cancer, gun deaths and opioid overdoses combined. The Centers for Disease Control and Prevention estimated that in 2010-2011 there were an average of 3.9 million annual emergency room visits caused by motor vehicle traffic injuries.

Driverless technology creates a potentially accident-free future with drivers exiled to old-fashioned leisure trips on Sunday afternoons. What are the implications for reducing health care costs as emergency rooms lose millions of patients each year and hospitals have hundred of thousands fewer patients who need to stay overnight?

Automakers face a number of existential threats. Besides traditional rivals, a wide range of players have been racing to get in on the action, including tech companies, ride hailing firms, logistics companies and auto parts suppliers. Tech companies view the car as a platform, like a cell phone body. They see the vehicle of the future as software on wheels, enabling drivers and passengers to devote their time to personal activities. As Elon Musk once said: “Tesla is a sophisticated computer on wheels.”

On the other hand, automobile companies think of it as a car with extra software. The only certainty is that it is uncertain who will come out on top: Traditional players or new entrants? The hardware or the software folksguys? Western or Asian firms? Product or service companies?

Automobile companies are making big strategic bets on autonomous technology, electric cars, and transportation services. Financial decisions have to be made in light of the need to serve two worlds; the traditional automobile industry and disruptive technology-driven trends that will ultimately take over the mobility industry. Defining the right balance will be critical.

In a pervasive modern view, the past is a burden that must be shed to give way to a new kind of life. This is the fundamental challenge facing so many industries that are being disrupted by a succession of innovations. While it is debatable when driverless cars will be available to the masses, there is no doubt that a driverless future will profoundly change society, even in ways we are not yet even considering.

Originally Published: Oct 28, 2017

Equifax brass betrays America, walks away with a windfall

Posted on by j.giglio

Just when you think nothing can surprise you when it comes to corporate incompetence, along comes the massive data breach at the credit reporting agency Equifax.

The breach may have given hackers the names, birth dates, driver’s license numbers, Social Security numbers and other personal, intimate data of 145.5 million Americans, about half the country’s adult population. This data is what allows people to buy or rent homes, get auto loans and have credit cards.

Failing to secure consumer information puts Americans at risk of identity theft, tax return scams, and financial fraud for the rest of their lives. The extent of the pain and expense people will endure as a result of the breach is yet not fully understood.

Equifax is one of three primary national credit reporting bureaus. The firm collects, processes, maintains and sells the sensitive and personal data of more than 820 million consumers worldwide. Simply put, they harvest your information, sell it without your permission to companies who want to sell you stuff, and they do not pay you. Consumers are not the clients under this business model, they are the product, so the firm has no incentive to prioritize them.

By relying on an open source code that it knew was subject to hacking, Equifax left data exposed beginning at least on March 7, 2017. Free patches to the vulnerable software were available and well known to the firm by that date. The following day, the Department of Homeland Security alerted Equifax that its software was vulnerable to hackers, but the company failed to take precautions that would have protected the personal data of millions of people.

As a result, information was compromised between May 12 and July 30. The company learned of the breach on July 29 and “rushed” to get the word out to the public – six weeks later. They did not notify each consumer affected by the hack, so individuals learned that their information was stolen long after the crime occurred.

The firm initially asked consumers to provide the last six numbers of their Social Security numbers to gain access to an unworkable website. While Equifax may have been unsure about whether a consumer was victimized, it was clear that everyone could sign up for a supposedly free credit monitoring service that required customers to provide credit card numbers.

After a year, Equifax could start charging unless consumers cancelled the service. Those who signed up for credit monitoring were also asked to give up their rights to sue the company.

The firm, victims were being asked to pay for protection, was the same one that could not protect their information in the first place. Equifax’s senior managers must be graduates of Trump University. The firm changed the terms after the media attacked the story like white blood cells ganging up on a diseased organ.

Consumer anger has been further intensified by the actions of three senior Equifax executives, including the chief financial officer, who sold shares worth $1.8 million in the days after the breach was discovered, according to Bloomberg. The firm said the executives were unaware of the breach when they sold the stock. This does not pass the smell test.

The miscreants being punished and doing time in the near future is about as likely as finding a clean politician in New Jersey. Richard F. Smith stepped down as CEO and won’t get the $5.2 million in severance he would otherwise have received, but he will collect a lavish pension estimated at $18.4 million. Compare that to the tens of millions of victims who may be haunted by the breach for the rest of their lives.

Equifax’s senior management was criminally negligent. They put the firm’s self-interest before their duty to the public, betrayed the public trust with impunity and displayed contempt for consumers.

Once again, a big financial institution screws up. The CEO walks away with a golden parachute and millions of Americans are left holding the bag.

Originally Published: October 14, 2017

Reforming federal flood insurance in wake of hurricanes

Posted on by j.giglio

The federal government’s flood insurance program is facing billions of dollars in claims following the recent monster hurricanes, with those who live in flood-prone homes applying for government buyouts through the Federal Emergency Management Agency. Why not? American taxpayers have already bailed out the banks and automobile companies, among others.

There was a time when people who assumed increased risks as a result of where they chose to live would pay for those risks themselves. But in 1968 Congress enacted the National Flood Insurance Program, another product of the Great Society, to provide affordable insurance after private insurers stopped selling flood policies or began charging very high premiums for them because the business had become too risky. The program is administered by FEMA and covers about five million properties worth more than $1.25 trillion.

The flood insurance program borrows from the U.S. treasury because paying out more in damages than it collects in policyholder premiums has it drowning in $24.6 billion of debt. Congress must decide whether to reauthorize the program by the end of the year.

Since the value of the insurance exceeds the premiums being charged, taxpayers who reside inland foot the bill for the high-risk lifestyles of those who plant themselves in the path of hurricanes. The problem is only growing as sea levels rise and intense weather events become more frequent.

While originally designed to be self-funded from policyholder premiums, about 20 percent of flood insurance program policyholders pay insurance premiums that are about 60 percent lower than they would be if they reflected the true likelihood of flooding, according to government estimates.

The program places no restrictions on the number of times a property can be rebuilt and repetitive loss properties have accounted for 30 percent of flood claims paid since the flood insurance program began. As the Wall Street Journal recently reported, one Texas house has flooded 22 times. The homeowner made claims each time, and the resulting payments exceed the value of the house.

Why fret about rebuilding when the American taxpayer is there to foot the bill? It would be impossible for even the Angel Gabriel to make a program work when it encourages people to build in harm’s way.

A flood insurance program should discourage development in flood-prone areas by using risk-based premium pricing rather than encouraging people to use taxpayer money to build in flood zones. Those who face little risk of flooding should pay less for flood insurance; people at great risk should pay much more. The government may provide subsidies for the poor, but the flood coverage program should otherwise operate like other types of property and casualty insurance.

Encouraging development in vulnerable low-lying areas also increases the damage caused by these storms, which further increases taxpayer costs. It’s cheap for U.S. homeowners to build in harm’s way, but not for American taxpayers.

Despite the program’s rising costs, reforming the national flood insurance program will not be easy. It will require swimming upstream against the real estate lobby, homebuilders, and other development interests. The value of these littoral properties would decline if people were made to bear the true cost of their lifestyle choices, and that means a lot of coastal development would come to an end.

It is ironic that the one percenters who are affluent coastal dwellers and don’t like government programs enjoy the subsidized flood insurance premiums. Depending on others to bail them out is an addiction that knows no economic class.

Back in the day the American way was that you could live where you want, but you must assume the risks of your choice. The philosopher Joseph de Maistre wrote that people get the government they deserve. When it comes to federal flood insurance, ours is comprised of politicians mainly interested in staying in office and using taxpayer dollars to do so.

Originally Published: September 30, 2017

 

Hold Wall Street managers to account

Posted on by j.giglio

At 1:45 a.m. on Monday, Sept. 15, 2008, Lehman Brothers Holdings Inc., the fourth largest investment bank, sought Chapter 11 protection in the biggest bankruptcy proceeding ever filed. There are many reasons why Lehman failed and responsibility is shared by auditors, government officials, regulators, and credit rating agencies.

Looking back, much of the blame for Lehman’s failure and the ensuing financial meltdown that led to the Great Recession resided with senior executives, aka professional managers, in the financial markets who did a poor job of allocating capital and managing risk. They acted less like stewards of their firms and more like the keepers of a guild, accountable only to themselves and focused on short-term results at the expense of long-term performance.

The failure to understand that there are huge risks associated with the pursuit of high returns was a major contributor to the financial meltdown. One way to avoid repeating this disaster would be to require top managers in industries that are important to the public welfare to earn government licenses that testify to their qualifications, just like physicians and lawyers, who must pass tough state exams, and accountants, who must also demonstrate a certain number of years of successful professional work in their field to gain a certified public accountant license.

Why not have the same rigorous licensing requirements for professional managers before they are permitted to hold top management jobs in critical industries and public-sector positions? It has become clear that the challenges of managing large organizations have grown to such a level of complexity that only individuals with the right mix of skills can effectively meet them.

One way to begin professionalizing management is to require anyone graduating with a management degree to pass a comprehensive federal or state exam that tests their mastery of the fundamental body of knowledge they allegedly learned, including accounting, finance, statistics, data analysis and organizational behavior.

During the financial meltdown, Lehman’s top executives could have by no means been described as competent. Ditto for Merrill Lynch, AIG, and so many other firms. Finding incompetent executives among this crowd was like finding sand on the beach; they were clueless to the real dangers of excessive risk taking in the form of the lack of protective equity capital and massive use of leverage built around short-term borrowings.

Despite earning more than managers in any of the world’s other major industries, they were like irresponsible children who had somehow gained access to Cold War missile control rooms, playing with the shiny buttons that could launch nuclear warheads against an unsuspecting world.

Which they ultimately did, wiping out more than $11 trillion of wealth in the process and leaving the American taxpayer to clean up the mess.

In addition to core technical skills, a management licensure test should measure the ability to think critically and consider the moral consequences of decisions. Is it too much to expect a management graduate to be educated about how to leverage the power of markets to create a better world rather than serving only their own selfish interests? Or to possess the ability to think critically, which allows them to solve problems beyond those addressed by their functional training?

For sure, such an examination would increase employers’ faith in a graduates’ competence. It might be wise to make passing the test a periodic requirement to ensure that managers stay current in their knowledge and the ethical challenges posed by an ever-changing business world.

To paraphrase the philosopher George Santayana: those who fail to learn from history are destined to repeat it. The incompetence of senior managers was a driving force behind the 2008 financial meltdown from which many Americans still have not recovered nearly a decade later. The time has come to hold managers to the same standards as other professionals whose competence impacts the well-being of society.

Originally published: September 16, 2017

Hero CEOs need to look in the mirror about economic inequality

Posted on by j.giglio

In a strong rebuke to President Trump’s response to the recent violence in Charlottesville, Virginia, a chorus of masters of the universe, titans of industry, and corporate rock stars lined up like soldiers to take head shots at the president, criticizing him by name for his handling of the violence.

Many were so appalled by what the president did and did not say that they resigned from his business advisory councils. The media certainly milked it for all it was worth, some characterizing senior executives as heroes for speaking truth to power.

Nothing stokes cable ratings like a sustained campaign of outrage that feeds into the attention deficit disorder of the American news cycle. But perhaps some of that outrage should be directed at the crusading corporate giants themselves.

Perhaps it is only a matter of time before chief executive officers show the same passion and anger when it comes to speaking out against the economic inequality that has risen so sharply since the mid-1970s. For example, CEOs could voluntarily take less compensation and use their concentrated political and economic power to support a national living wage.

After all, the Gods of Fortune have continued to smile down upon corporate executives with outsized payoffs. The average CEO earns something close to 300 times the pay of the median American worker, whose real wages have been stagnant for decades. This ratio is up from roughly 40 to 1 in 1980. In contrast to this growing gulf between the haves and the have-nots, the ratio of CEO to average worker pay in Japan is 16 to 1. In Denmark, it is 48 to 1 and in the United Kingdom 84 to 1.

CEOs do not have to worry about saving for retirement or their children’s college education as they enjoy expensive perquisites from country club membership to second homes a little smaller than Rhode Island, to the personal use of corporate jets.

Is it any wonder that the public is mad as hell? They make the connection between business executive pay and growing economic inequality.

A few decades ago, executives were paid mostly in cash. Much of the story of executive compensation in recent decades comes down to two words: stock options.

To align incentives between shareholders and management, boards of directors use equity compensation by granting stock options. Today, they comprise two thirds of the typical executive’s pay.

Stock options give the executive the right to buy a company’s stock at a predetermined price sometime in the future. If share prices rise above the negotiated strike price, the executive stands to reap significant gains. If the options become worthless, the CEO breaks even, having paid nothing for them.

The result is a win-win for executives, especially when supplemented through the use of stock buy backs and the labyrinthine of accounting shenanigans such as excluding depreciation and amortization in calculating earnings for performance based compensation.

The stock buyback binge of $4 trillion since 2008, much of it with borrowed money thanks to low interest rates since the Great Recession, has resulted in firms reducing the number of outstanding shares by which profits have to be divided. So the share repurchases lift per-share earnings, improving a key metric for determining CEO compensation.

Solutions to the CEO compensation issue include tightening the cap on tax deductibility of CEO pay and disallowing deductions for excess salary, stock options, and perks. Fat chance, these reforms will happen when the positions of too many politicians closely reflect those of their big money donors.

Cynicism about those in positions of power seems to be confirmed afresh each day by the latest tweets, pandering, and headlines. As a general rule, assume the worst about elected officials and the thinly veiled plutocracy. That way you will not be disappointed.

Originally published: September 12, 2017

Too big to jail

Posted on by j.giglio

The war on drugs is back in fashion. The Justice Department announced a tough new stance that requires prosecutors to pursue the highest charges possible, including those that carry mandatory minimum sentences, for low-level drug users and distributors as the United States continues to supersize the modern prison complex.

But you could combine every gang banger selling crack on a corner in America and they couldn’t generate as much ill-gotten cash as the bankers who engaged in the widespread malfeasance that led to the 2008 financial crisis, which triggered the worst economic crisis since the 1930s.

Despite the gravity – and depravity – of their actions, the number of top Wall Street executives who were prosecuted for fraud related to the financial meltdown is exactly zero, even though they cost millions of Americans their jobs, homes, life savings, and hopes for a decent retirement, and forced the government to hit up those very people to pay for the bailout that saved the country from a financial apocalypse of truly biblical proportions.

Hard to believe, but the truth often is. Meanwhile, the ordinary American is still dealing with the consequences of the financial meltdown; scoring, hustling and struggling to make it in America.

There are many reasons no bankers were jailed, including the complexity of the cases and lack of criminal referrals from regulatory agencies. Prosecutors didn’t want to put executives of “too big to fail” banks in prison, often because they feared that indicting the executives would drive their firms out of business, eliminating jobs and causing serious problems for financial markets and the economy.

In addition, the argument goes that investigating top executives of large firms is difficult because they insulate themselves from day-to- day decision making. In the end, the Department of Justice choked in the clutch. The ordinary American catches the joke that doing the right thing is always harder than simply doing what’s convenient. You would be right to conclude that Lady Justice is blind because she can’t stand to watch what’s happening on the ground.

Those responsible for indicting and prosecuting Wall Street executives seemed to believe that just as there are banks that are too big to fail, there are also people who are “too big to jail”. Instead of targeting individual corporate executives with trial and imprisonment, they almost exclusively settled with corporations for money. Corporate settlements were easier than identifying and prosecuting culpable top executives. Firms could pay the settlements with shareholders’ money; it’s even easier than locking up someone for dealing drugs on a street corner.

It shouldn’t be overlooked that too many in the political elite shill for the top bankers, who come bearing large campaign contributions in both hands. As Illinois Senator Richard Durbin said in 2009, “they own this place”.

More than a century ago, President Theodore Roosevelt noted that concentrated economic power tends to capture political power, which undermines democracy. After 2008, the financial crimes committed with impunity gave rise to a tsunami of anger that washed away normal inhibitions and unleashed the Tea Party and Occupy Wall Street.

Wall Street still exerts inordinate influence over the economy, inequality is near all-time highs and, for the majority of Americans, economic opportunity is close to an all-time low. We send some gangbanger from the hood to prison, but the United States appears to have reached the point where government is afraid to prosecute a Wall Street executive for stealing millions, crashing the economy and wreaking havoc upon millions of people.

A more aggressive response followed the savings and loan crisis of the 1980s and 90s, when hundreds of small banks across the country failed due to reckless real estate loans. Back then the Department of Justice prosecuted over 1,000 people, including top executives at many of the largest failed banks.

These episodes bring to mind Honoré de Balzac’s provocative and memorable line: “Behind every great fortune lies a great crime.”

Originally published: August 5, 2017

A professor who made his mark

Posted on by j.giglio

Distinguished Professor Daniel J. McCarthy left the academic teaching treadmill on June 30 after 52 years of legendary contributions to the D’Amore McKim School of Business at Northeastern University.

Ralph Waldo Emerson wrote that “An institution is the lengthened shadow of one man.” By any measure you would be hard pressed to find anyone who has so selflessly served the university and students as Professor McCarthy. All at the university have been rewarded with his efforts.

His contributions to the institution go far beyond longevity. He was always welcoming and gracious to those who interacted with him without a tint of academic snobbery. The quintessential gentleman. Those who worked with him understand full well that he valued loyalty to the institution in the true sense of the word. It only matters when there are 10 reasons not to be loyal.

Professor McCarthy is an internationally renowned scholar, outstanding teacher, and generous benefactor to the university. He is academically prolific with crazy energy levels. He is fiercely competitive, when he puts his mind to getting something done, nothing will stop him unless a machine is attached to it.

As a scholar, since 2007 Professor McCarthy has authored or co-authored 28 articles in academically refereed journals and ten book chapters as well as presenting his papers in over 50 conferences. And if that were not enough, he was in the top five percent of scholars globally who published in the leading international business journals from 1996 to 2000.

As a teacher, he was always giving students more than they asked for or even wanted. He was always present, listening, counseling, knee-deep in student engagement, touching scores of students in meaningful and memorable ways. He deserves praise for pushing students to ask hard questions, omnivorously driving them to consider diverse perspectives, encouraging them to get to the bottom of things, and nurturing their intellectual growth without wounding their egos. He never avoided demanding excellence while always being fair. Unlike many he was not in love with the sound of his own voice.

Professor McCarthy has an almost unfair writing style with a gift for clarity. Unlike many academics he does not visit cruel and unusual punishment on the language. He makes the language work for the reader. His words travel well.

We should remember not to forget that he has enjoyed success in business as well as in the academy. Unlike many academicians, he has a deep understanding of business. He knows whereof he speaks. He understands that when there is a disparity between theory and facts, the flaws are not with the reality on the ground.

It goes without saying but it goes better with saying that Professor McCarthy and his wife Margaret have generously given personal treasure to the university over the years as well as motivating others to give. For example, Professor McCarthy and venture capitalist Jeff McCarthy (unrelated) jointly invested $1 million to fund the university wide venture mentoring program in 2012.

It is not hyperbole to acknowledge Professor McCarthy played a key role in Richard D’Amore and Alan McKim’s making the largest philanthropic investment in the school’s history of $60 million in 2012. In 2005 these two benefactors endowed the Distinguished Professor of Global Management and Innovation chair held by Professor McCarthy who mentored both when they were students at Northeastern.

While Professor McCarthy will no longer be formally teaching, fortunately for the school he will continue to be intensely involved in the university wide Venture Mentoring Network and IDEA, the student run venture accelerator both of which are housed within the University’s Center for Entrepreneurship Education for which he chairs the board.

To paraphrase that author anonymous while faculty, students, and staff may not remember all the things Professor McCarthy has done and all the things he has said, they will always remember how he made them feel.

originally published: July 8, 2017

The Marshall Plan and China’s “belt and road”

Posted on by j.giglio

In 1945, Europe lay in ruins. Its cities were devastated, its industries destroyed, and millions of its people homeless. The key to the recovery of Western Europe lay with the Marshall Plan, a decisive tool for the United States to rebuild Europe after World War II.

Seventy years later, history may be repeating itself. Only this time it is China that is the strategic benefactor with the United States playing the role of the post-war Soviet Union, on the outside looking in as China strategically uses its largesse to develop lucrative new markets.

In June 1947, Secretary of State George C. Marshall, gave a speech at Harvard’s commencement announcing a plan to provide economic assistance to all European nations, including the Soviet Union. Although Russia and its Eastern satellites predictably rejected the plan, 16 Western European nations eagerly participated.

The Marshall Plan, the largest peacetime foreign aid program in U.S. history, channeled over $13 billion of American aid (some $150 billion in 2017 dollars) into 16 Western European countries between 1948 and 1952, to help them rebuild their economies and normalize their societies. The Congressional Research Service estimates the plan’s 1949 appropriation accounted for 12 percent of the entire federal budget.

But the Marshall Plan was more than economic and financial aid; it was a way for the United States to promote its anti-communist agenda, rebuild the economies of the recipient countries and make them prosperous enough to buy large quantities of American goods. By the end of 1950, European industrial production had risen 64 percent, communist strength was declining in Western Europe and opportunities for American trade had revived.

The Marshall Plan boosted American exports, manufacturing, and employment, and led to the economies of the participating countries surpassing pre-war levels. In the two decades that followed, Western Europe achieved unprecedented growth and prosperity.

American goods flooded eastward and political and economic ties with Western Europe grew even stronger. One unintended consequence is that it later made it possible for Western European companies to compete against American business in the automobile and other industries.

Some observers have compared China’s ambitious new endeavor, the so-called Belt and Road Initiative unveiled in 2013, to the Marshall Plan as a game-changing effort to revolutionize trade and recast many long- standing relationships. The multi-trillion-dollar proposal is China’s largest economic and foreign policy undertaking since the founding of the People’s Republic. The infrastructure plan that spans more than 60 countries, about 65 percent of the world’s population and about one-third of the global economy, would spread Chinese investment and influence across Asia, Europe, and Africa.

The “belt” refers to a land route from western China through Central Asia to Europe; the “road” links to Europe by sea, connecting the country with Southeast Asia, the Middle East, and North Africa. The initiative has gained momentum thanks to the decline of American influence in East Asia in the wake of withdrawing first from the Trans-Pacific Partnership and then the Paris climate agreement.

After World War II, the United States needed to export excess capacity. Today, China’s economic growth is slowing and it too is looking for new markets. And just as the Marshall Plan was a blueprint for undermining the influence of the Soviet Union, so can the Belt and Road Initiative marginalize U.S. influence by improving relations with traditional American allies.

As German Chancellor Angela Merkel, Europe’s most influential leader, said after three days of trans-Atlantic meetings, “The times in which we can fully count on others are somewhat over.” She was referring to America’s positions on NATO, Russia, climate change, trade and its apparent relinquishing of a leadership role in world affairs contributing to a post-hegemonic era in which no country has a dominate role.

If she’s right, it could mark the end of 70 years of American world leadership.

originally published: June 24, 2017

Tax code needs lower rates, broader base

Posted on by j.giglio

Washington is again engaged in a tax debate. Each year, lobbyists and political contributors persuade politicians to insert new loopholes. As a result, the four million-word, 74,000-page Internal Revenue tax code is riddled with special interest provisions.

The mind-boggling complexity of the tax code is a money machine for lawyers, accountants, and huge corporations. Americans spend six billion hours and $10 billion annually preparing and filing their income tax returns.

This is the exact opposite of the broad tax base with low rates that would best serve the American people. A broad-based income tax is one in which whatever you earn is taxable. Taxpayers lose their deductions but get a simpler and fairer code, and much lower rates. If the tax rate is low, economic decisions will be based on business and personal considerations, not tax implications.

In April, the Trump administration released a broad outline of proposed tax changes that would reduce the corporate tax rate from 35 percent to 15 percent and include a one-time tax of 10 percent on overseas profits designed to bring the estimated $2.6 trillion stashed abroad back to be invested in the United States.

The plan cuts individual tax rates and reduces seven brackets to three. The top rate falls to 35 percent from 39.6 percent and the lowest rate starts at 10 percent. The plan also doubles standard deductions. It does not specify to which income levels each bracket would apply. It also eliminates the federal income tax deduction for state and local taxes, except for mortgage interest and charitable contributions.

The Trump administration promises that 3 percent annual GDP growth would make up for potential revenue losses. On the other side, Democrats argue that the White House and Republicans would exacerbate income and wealth inequalities by throwing money at the rich at the expense of the middle class.

Republican deficit hawks argue the plan will add trillions to the national debt over the next decade. They argue that deficit-financed tax cuts usually impede growth. For example, increased government borrowing drives up interest rates and reduces the financing available to the private sector. They want revenue neutral reform under which tax cuts are offset by closing loopholes.

Among the risks is that Americans will not spend the money they get from tax breaks, instead saving it or using it to pay down debt. Corporations could also decide to use the money to increase dividends, juice up executive pay and generate a fresh wave of mergers and acquisitions. 

Tax cuts are often confused with tax reform, which restructures the code to make it simpler, fairer, and more efficient. Cuts are easier than reform, which is a tough sell because there are winners and losers.

The United States needs a completely new tax code; one that reduces rates; broadens the tax base; and eliminates back door spending in the form of exemptions, exclusions and tax credits.

This kind of reform was accomplished in the Tax Reform Act of 1986, which reduced the top marginal rate for individual taxpayers from 50 percent to 28 percent, eliminated about $100 billion in loopholes, and taxed labor and capital at the same rate. It also cut the basic corporate tax rate from 48 percent to 34 percent and eliminated many corporate deductions.

But since then lobbyists and political contributors have succeeded at restoring tax breaks, which narrowed the base. As a result, rates had to increase to generate the same amount of revenue.

What needs to happen is clear, but don’t hold your breath waiting for it to pass. Congress and the White House are distracted by the investigation into possible ties between former Trump aides and Russia, and the Senate healthcare debate could drag on through the summer.

Meanwhile, momentum for major tax cuts or major infrastructure investments has stalled. This time next year, leaders in Washington will likely still be arguing about tax reform.

Originally published: June 10, 2017