Coyote Blog

As a followup to this post on security as a Trojan horse for protectionism, I wanted to link this article in the WSJ($) called The Perils of Protectionism:

Fifty-six percent of the economists polled in the latest WSJ.com
forecasting survey -- conducted in the aftermath of a flap over foreign
management of U.S. ports -- say protectionism will lead to some
slowdown in U.S. growth over the next several years, and 8% predict
that the slowdown will be significant....

The ports controversy came at a time of growing concern about
protectionism around the world. It followed the blocked bid by China's
Cnooc Ltd. to acquire Unocal Corp. last year and emerged as European
governments angle to prevent high-profile utility deals within their
borders. The fear is that if governments take steps to shield their
countries' businesses, international trade and investment flows could
be reduced. Corporations will find it more difficult to reach new
markets.

Protectionism is unambiguously bad," said David Berson, chief economist
at Fannie Mae. Indeed, the free flow of capital across national borders
is conventionally looked upon by economists as a long-term good, and
69% of those surveyed say foreign ownership of U.S. assets is positive
for the economy in the long run.

One example of why the protectionist arguments are short-sighted is demonstrated by this passage from the same WSJ article:

While the ports row has receded, the U.S.'s large bilateral trade
deficit with China, which was $17.91 billion in January, remains a
flashpoint. Some lawmakers complain the imbalance has been inflamed by
an artifically low exchange rate for China's yuan against the dollar.
Though Beijing modestly revalued the yuan last summer, allowing it to
float in a narrow range against a basket of foreign currencies, critics
have continued to lash China's currency policy and call for further
revaluation.

So the Chinese government is artificially subsidizing the US economy through reduced prices of Chinese goods via a low valuation for the yuan vs. the dollar.  And that's a bad thing?  If the Chinese government is holding down the exchange rate, then they are in fact taking their money and the money of their citizens and pumping it into lower prices for US consumers and lower interest rates on US government debt.  Ooooh, color me really concerned.

As far as the "well, we're going into debt to pay for our consumerism" argument, I and others have tried and tried to educate the world that the trade deficit is not a debt, and running a trade deficit is not bad.

I can't help but suspect of late that the whole Dubai ports mess signals an intent by protectionists of many stripes to hop on the security bandwagon as a way to repackage protectionism.  One had but to observe the many Congressmen who up to date have shown very little interest in security issues suddenly becoming born-again hawks with on the Dubai issue.  Democratic politicians who up to this point had opposed any actions targeted at Arabs or Muslims as profiling and hate-based suddenly saw the light and opposed the deal based on absolutely no other evidence than the fact the owners were from Dubai.  I particularly laughed at the quote by Howard Dean lamenting that "control of the ports of the United States must be retained by American companies" (funny, since Dubai-ownership was taking over operations from a British company, not an American company).  The Dubai ports deal opposition was first and foremost protectionism, begun at the behest of a domestic company that lost a bid in Miami and a number of domestic unions.

Now we can start to see this bandwagon grow.  I was in the airport and saw one Congressman (Duncan Hunter, I think, but I am not positive) on CNN proposing new legislation to ban foreign ownership of any infrastructure deemed security-sensitive.  He specifically mentioned power plants, which told me that he was thinking pretty expansively. This is rank protectionism, pure and simple.  You can quickly imagine everything from power plants to oil companies to telephone providers - really just about anyone - coming under the auspices of a critical industry that should be all American.  Just check out the case of low-cost airline upstart Virgin America to see how this security dodge is being used to protect companies from competition and prevent consumers from getting more choices and lower prices (also see WSJ$).

Xenophobia, in terms of this protectionism and the new immigrant backlash, appears to be one of the few bipartisan issues that politicians from both sides of the aisle can get behind.  I fear a new McCarthyism in the works.

In today's Opinion Journal, the WSJ editorializes against the proposal to even further raise marginal income tax rates in California, to the highest in the country save in New York City.  The Journal argues that this is chasing productive, high income people out of California:

The
latest Census Bureau data indicate that, in 2005, 239,416 more
native-born Americans left the state than moved in. California is also
on pace to lose domestic population (not counting immigrants) this
year. The outmigration is such that the cost to rent a U-Haul trailer
to move from Los Angeles to Boise, Idaho, is $2,090--or some eight
times more than the cost of moving in the opposite direction.

I had seen this Uhaul metric before.  The logic is that Uhaul has to keep its fleet of trucks and trailers balanced.  If everyone is going one way with them, say from California to Utah, then they are going to end up with an enormous yard full of vehicles in Utah unless they 1)  pay to backhaul the trucks to CA empty, which is really expensive, or 2) increase the price of the route to Utah and decrease the price of the route back until they are in balance or until the price of the preferred direction covers the backhaul costs.

I had never tried this myself.  I always wondered if the examples people use in articles like this are hand-selected or representative.  So I tried, at random, LA to Salt Lake City  (I have Utah on the brain, I guess, because we are going skiing up there next week, woohoo!)  and chose a date far enough in the future I didn't run into any random demand peaks.  A one-way 26-foot truck rental from LA to SLC on May 15 was quoted at $1888.  The same truck from SLC to LA was quoted at $299!  Try it yourself.

Frequent readers of my blog know I am a big supporter of open immigration, but it cannot be a good thing to send a quarter of a million of your best educated and most productive people out every year and backfill them with lower-skilled, under-educated immigrants. 

Its good that unlike us poor, mistake-prone bloggers, the major media outlets have multiple layers of editing.  Otherwise, they might make mistakes even worse than putting Tbilisi, Georgia near Atlanta, as did our "worldly" local paper, the AZ Republic.  (Hat tip:  WSJ Best of the Web$)

According to the WSJ($), you and I are going to take on the pension obligations of UAL:

A bankruptcy judge approved a
proposal from United Airlines parent UAL Corp. to transfer four
underfunded employee pension plans to the federal government, paving
the way for the largest pension default in U.S. corporate history.

The plans, which have a shortfall of $9.8 billion,
cover more than 120,000 United workers and retirees. United, the
nation's second-largest carrier in terms of traffic, wants to transfer
them to the federal Pension Benefit Guaranty Corp., or PBGC, which
would add to the already heavy strain on the agency from a spate of
pension defaults in recent years. Since accounting for United's
obligations last year, in anticipation it would assume them, the agency
has taken on obligations exceeding its assets by $23.3 billion  [ed note- the agency takes in only about $1 billion a year in premiums, so $23.3 billion in the hole is a very big number]....

The court's decision could have wide
repercussions in the airline industry, which is struggling with high
fuel costs, intense fare competition and overcapacity. Sidestepping its
pension liabilities will help UAL attract additional funding, while
giving it a huge cost advantage over many of its rivals, which are
saddled with underfunded defined-benefit retirement plans of their own.
That will put further pressure on those airlines to slash their costs
or in some cases seek bankruptcy protection in hopes of terminating
their own pension plans.

It is difficult for me to even start on how much this pisses me off.  These pensions are real obligations that UAL took on, and represent value provided in exchange for work that has already been done.  As outlined below, I am not big on the defined benefit pension model, but that does not change the fact that these companies are defaulting on a solemn obligation.  The temptation I guess is always great when finances get tight to defer obligations that are the farthest in the future, and so pension underfunding is one of the first things to occur.  There is no way management should get a pass for this, and I am flabbergasted that equity holders expect to retain anything out of the bankruptcy when employees have not been fully paid.

This being said, there is plenty of blame to go around, including for the union and the government.  The UAL unions should have been dropping the hammer on the company in the form of strikes or whatever at the first sign of under-funding.  Instead, they were more concerned about jacking up their salaries to the highest levels in the industry, ignoring the reality that airline finances by the late 90's were basically a balloon that if you pushed on it in one place, it popped out in another.  Unions allowed the underfunding to continue in large part lulled by the promise of the PBGC and taxpayers to make the pension funds whole if they continued to be underfunded.  This is the moral hazard that occurs in any kind of financial insurance like this, and the unions apparently were both right and wrong - we taxpayers will take on the obligations but their benefits will also get a haircut.

One of the lessons I thought was learned from the S&L bailouts of the 90's was that you can't provide such financial insurance without a parallel regulatory structure to make sure some kind of minimum fiduciary responsibility exists.  But, not learning a thing, the government has this pension guarantee program in place and exercises virtually no oversight over the funding or management of the insured pensions.

It is astounding to me that a large number of people still support defined benefit plans over defined contribution plans. What I don't honestly understand is why the rank and file still buy into this.  Defined contribution plans are much easier to monitor and audit and keep companies honest.  Once the money is in a vehicle such as a 401K, the money can't be taken away by the company or lost in a bankruptcy (unless the 401K is invested in the company's stock, which any adviser will tell you to never, ever do (see "Enron").  Now, I understand that there can be some tricky migration issues from one system to another, and companies use the transition as an excuse to cut back on their net contributions, but these are workable and negotiable issues .  My guess is that the support for defined benefit plans comes mainly from union leadership, since these plans give
them control of huge amounts of funds and thereby gives them extra
power (see Teamsters for the classic example, or more recently, the situation at Calpers).  I wrote more on this topic here.

The issues here are surprisingly similar to the Social Security debate, as discussed here.  Would you rather have the money in your own account, despite the fact you will then have to bear market risks, or would you rather the money remain in the hands of your company or your Congress.  In entirely parallel situations, money entrusted to UAL management and to Social Security has all been spent, with nothing now left to pay retirees. 

Update:  It just occured to me to ask - why don't frequent flyer mile holders ever have to take a haircut in an airline bankruptcy?  We frequent flyers are creditors too, holding a claim on the company in the form of our miles.  In fact, I would think my claim as a holder of miles is much much worse than other creditors.  For example, why should employees have their pensions cut before I get my miles account cut?  Heck, employees seem to have a much better claim than I do, especially since many of my miles were earned, like everyone else's, as marginally ethical kickbacks directly to me for influencing my employer's spending on air travel.  Despite this, it appears that pensions will be cut, and salaries will be cut, and bondholders will lose value, and stockholders will be diluted, but my miles will all still be good.

Update #2: Assymetrical information has a nice post along the same lines, pointing out an issue with corporate defined benefit pensions that I forgot to mention:  If you are 20 years old with a company, are you really willing to make a bet that your company will even exist in 60 years to pay off your pension?  Not to mention the portability issues, since few people remain with the same company to retirement.  I think I actually have a couple of defined benefit pension plans I am vested in from early in my career - one from Exxon, when I was about to quit to go back to school and was offered, due to poorly structured plan rules, the chance at early retirement instead.  I think I qualify for like $1.23 a month for life from that plan.

More also from Will Collier:

I don't mean to tread on Martini Boy's turf here, but the pensions
crisis among all of these old-line companies illustrates a great no-no
of long-term investing: lack of diversification. In the end, even
though they presumably didn't have much choice in the matter, all those
UAL employees who've been promised a defined-benefit pension are in the
same boat as the Enron and WorldCom employees who voluntarily put all
of their 401(k) money in their own company's stock. They bet the house
on one horse, and by they time old age caught up with the grizzled nag,
there was barely enough left of it to cart off to the glue factory

Kevin Drum also points out that these defined-benefit funds are easy to manipulate, since managers can play with the "expected returns" variable to change the necesary annual contribution. 

Earlier this week I posted my thoughts on taxation, which included thoughts on taxation and class warfare and linked this recent WSJ editorial on tax shares paid by the rich.

Today, Kevin Drum rebuts the WSJ editorial with a post of his own.  Though I find Mr. Drum's consistent socialism and the-rich-will-be-first-against-the-wall rhetoric tedious, he is a smart guy and does have a point.  There is, as usual, a mixed message in the data.  However, this also means, as I will point out in a second, that Drum is guilty of picking and choosing his data points just as much as does the WSJ.

Drum points out, rightly, that while the share of taxes paid by the "super rich" (his term for the top .5% of income earners) has increased, their share of income has increased faster, such that their rates have gone down (god forbid that anyone violate the left's rule of the tax ratchet that says that tax rates may always go up but can never ever come down).  Using the same study as the WSJ, he rebuts this table of share of tax burden...

...with this chart , including Drum's subtle annotations in red:

His point is that the Super Rich actually pay lower rates now and the middle class pays higher rates, or as he puts it:

So shed no tears for the super rich in America. Their incomes have tripled in
the past couple of decades and at the same time their tax rates have decreased
by 9 percentage points. That's a pretty sweet deal in anybody's book.

Here are some thoughts on Drum's rebuttal:

Drum cherry-picked data too:  I will get back to the folks in the top 1 percentile in a minute.  Leaving them aside for a minute, note that Drum's storyline breaks down for everyone else.  If you compare the merely rich in the 1-20th percentiles, they got a smaller reduction in the Bush tax cuts than anyone in the middle and lower quintiles.  For example (comparing the 1999 before tax cut and 1999 after tax cut lines) the 1-5% richest got a rate reduction of 0.21%, while Kevin's favored group at 40-60% got a 1.45% rate reduction.

Don't blame this administration for previous tax increases:  Drum is correct in saying that the tax rate has risen for the middle class over 20 years, but incredibly disingenuous not to explain why.   Note that the 1 point rise (which presumably Drum wants to hang on the current administration) actually consists of a 2.5 point rise from past tax increases, AMT creep, and payroll tax changes (passed by Democratic Congresses and generally supported by Drum) offset by a 1.5 point cut courtesy of the current administration.  Drum is in fact using data that clearly disproves his ongoing "tax cuts for the rich" mantra.  By the way, it is also interesting to see a good "progressive" ignoring progress on the lower two quintiles to decry higher taxes on the upper middle class -- seems like an interesting shift in focus.

Payroll taxes skew the picture:  Including payroll taxes (social security and Medicare) in these numbers causes funny things to happen.  Why?  Because social security tax is straight-out regressive since it is flat up to about $90,000 in income and then zero after that.  This means that the total tax rate shown for the lower quintiles will include nearly 8% for payroll taxes (if this looks funny to you because it seems to imply that the lowest quintile must be paying negative income taxes, you are right, they are paying negative income taxes via the EITC).  However, as incomes rise above $90,000, taxpayers get an effective total rate reduction.  For an income of $180,000, a taxpayer only is effectively paying 3.1% to Social Security.  At $1 million, they are only paying 0.56%.  So, even if income tax rates were perfectly flat with no deductions for anything, those in the 1% category of richest people would have a total rate including payroll taxes over 5.5% points lower than the middle class.  If you recast the numbers above leaving out payroll taxes, you would not see the decrease in rates into the 1% group, the numbers would continue to increase, as can be seen here (from government data):

So, for income tax rates, there is still progressivity all the way to the top.  If you want to argue Social Security taxes, fine, but don't use Social Security tax effects to make a point about income taxes

By the way, in terms of the regresivity of Social Security, the defenders of that program need to stick with a story - is it a transfer payment or is it a government run insurance program?  If it is a government run insurance program (as defenders want to argue, since that seem more palatable to the public) then the $90,000 income cutoff makes sense:  Since the program does not pay benefits based on any incomes higher than this, "premiums" shouldn't be based on higher incomes.  Update: Kevin Drum says in this post that Social Security is

a modestly progressive social insurance program that's paid for by everyone and
that benefits everyone. If it ever stops being that, if it ever stops being
universal, it will eventually cease to exist.

OK, but stop lumping the "premiums" of this program in with income taxes to try to prove a point about the income tax system.

All that being said, there may be something funny going on in the top 1%:  As pointed out above, a portion of the apparent rate reduction for the top taxpayers is in fact due to the odd math surrounding Social Security taxes.  Any income tax cut, even if it is progressive, can make total taxes more regressive by shifting the mix to the very regressive social security tax. All that being said, the taxes of the very very rich are odd, because their income streams are so very different than those of you and I.   In particular, that weird mess of targeted tax reductions that I have decried on any number of occasions come much more into play in the very rich's tax returns, with results that are almost impossible to understand or forecast.  If Drum wants to use this data to argue for flat taxes and an elimination of deductions, I am all ears.