Donnerstag, Januar 31, 2008

Why The Subprime Crisis Came About...

This is one of the best explanations of the subprime crisis I've seen to date, and is from a banker. The first part, which has less to do with the sub primes, is here. Thumbs up to the blogger...

What was/is the problem?

The fundamentals of banking are, in reality, rather simple: if you want to get money from the bank, they need to know the likelihood of you paying that money back. The more likely that is, the less you will have to pay for that money. If you have savings and want to invest that money, the higher the interest rate, the greater the likelihood that you will not see any of your money back.

The banks live on asymmetric information (if the borrower could tap the lender directly, they wouldn't need the bank!) and fees for services provided. They pay interest rates on savings that are lower than the rate they charge to borrow that money, and the interest difference is where they make their money (service fees serve only to lower their overhead). They can turn their liabilities (unpaid loans) into assets by discounting the future value plus repayment risks and selling their portfolio at a discount. You normally don't do this, as the banks want the cash flows. It's their bread and butter.

So, what happened in the sub prime crisis?

The banks no longer needed to worry about whether the money got paid back. They jiggered their internal rating systems to make all loans look good, misrepresented those loans to external investors, and laughed all the way to the ... bank. They were more than happy to do so, since if one had properly discounted the loans, they'd have been true junk, with maybe ten cents on the dollar. So they broke even and cashed in on their fees.

The external investors invested like they believed that all sub primes were actually prime loans, and were overcome by one of the most fundamental human emotions: greed. They thought they were getting solid investment instruments with great rates of return, and I cannot fathom why their due diligence failed so abjectly.

The borrowers were complicit and stupid. On the one hand, the banks were actively looking for such folks, and normally would never, ever have lent them these monies, but since the bank was selling the loan immediately, it didn't care: someone else would pay the bill.

So, it's a tragedy: billions "lost", careers ruined, homeowners evicted, and this will cost probably around 50-75 points of GDP growth for the next several years each and every quarter until the mess is cleaned up and proper banking re-emerges.

Dienstag, Januar 29, 2008

Wind Power Redux...And A Return To The Planned Economy?

Christian Bartsch, who writes for the FAZ, has an article here, unfortunately behind the "pay me" firewall.

It's an important piece, albeit short, as it dismantles the idea that wind power is an alternative energy source.

Put simply: Germany, right now, has an installed base of 21.5 Gigawatt (21500 Megawatt) of wind power. Bartsch took the trouble of taking a look at what that installed base actually generated, and it is, put very bluntly, pathetic.

The industry itself calculates that you can only "count" on the installed base providing an average of 10%, i.e. from 21500 MW down to 2150 MW. But this is highly misleading: if you take a look at the real performance for October, you get two days - that's 2, the number between 1 and 3 - where, for a few hours, 1/3rd of the installed base actually delivered electricity, and another 2 days where ca 20% of the installed base was generated. The rest of the time? Under 20%, and there were several days where no electricity was generated, either because it was too windy or not windy enough.

This was even worse during the transition from 2007 to 2008: on 29 Dec., for a few brief minutes - !!! - 50% of the installed base generated electricity, after that a sharp decline to virtually nothing as weather inversions kept winds down. There was a jump on 2 Jan, but the windmills had to be closed down because a storm was brewing on the North Sea, resulting in zero energy being generated.

Now, this fairly pathetic performance is going to get worse: current installation plans call for another 3100 MW capacity to be installed by 2012 alone in the North Sea, with 10 wind farms with 660 wind mills. Since these are off-shore, they have to be cabled: 1900 km (!) of cable will have to be installed. Since installing such cable in the North Sea costs close to € 8 mn/km, this is ... ca € 15'000 mn, just for the cable alone.

In order to pay for this, wind energy is paid for with a 30% additional fee on the average cost of a generated kWh. Since more wind power is due to be installed, this means that energy prices, for Germany, will continue to climb regardless of the price of oil or coal.

Given that Germany is supposed to turn off its nuclear and coal-powered plants in 2020, this also means that Germany will have to import energy, with the enormous irony that this energy will come from French and Czech nuclear power plants.

Bartsch also looks at some of the alternatives: sun energy, for instance, costs the German consumers 50 cents per kWh, and even the German environmental minister acknowledges that sun energy in Germany is a dead-end street.

But what are the alternatives?

Biomasse costs 14 cents per kWh; wind power - when it deigns to deliver - 9 c/kWh; burning garbage is 6 c/kWh.

Coal? Lignite or brown coal is 2.5 c/kWh, as is nuclear; hard coal is 5 c/kWh. Sure, the purported "commons costs" are not included here, but the costs of current standards for air cleanliness and the like are.

Renewable energy is raising the costs of energy and reducing living standards in Germany, since sharply increasing energy costs means that you have to spend money on energy, rather than on consumption of other goods.

But there is something more important, and fundamentally more sinister, going on here, as Bartsch points out:

This points, to a large extent, to the end of energy markets in Germany, if not throughout Europe. The principles of supply and demand are being systematically dismantled.

If wind energy were even fractionally as promising as the wind energy fanatics would have you believe, then why are there no wind-powered ships on the oceans? They were abandoned the moment that steam-powered ships made it clear that shipping was no longer dependent on the vagaries of the wind.

The same is true for electrical energy generation: wind energy is simply to flighty and unstable to be truly considered an alternative.

The real problem is that this is now being regulated by law. The Renewable Energy Act in Germany (Erneuerbare Energiegesetz or EEG) is dismantling the free markets, replacing them with regulations and control mechanisms with punishment for failing to break the laws of physics.

Germany, one of the strongest economies in the world, an industrial country with 82mn population and a very high standard of living, is, via laws like the EEG, driven by politicians whose ignorance of the natural sciences is more than outweighed by their quasi-religious belief that they are going to be viewed by future generations as the saviors of mankind, is on the best way to becoming the first planned economy of the 21st century.

And that despite the obvious failure of any and all planned economies. People have a way of finding the loopholes to exploit the system.

And more fundamentally, I find it bizarre and a clear sign of a complete and total ahistoricity that this is even a topic for discussion. Climbing energy prices means that food will become more expensive and that the German industry will increase its move overseas to more conducive environments.

The environmentalists are increasingly watermelons: green on the outside, red inside. As I've said before, it's all about control: if they can't control the economies directly, they will do it indirectly, with, as far as I am concerned, a single goal.


But for what?

Nothing less than becoming a permanent parasite. These watermelons aim at becoming the tapeworm in the belly of capitalism, taking the best nutrients and passing on the remnants to the host, of thriving and spawning at the cost of the host becoming lethargic and apathetic. These watermelons aren't interested in raising the standards of living and improving the lot of the common man: they hold up the chimera of future generations and demand their wergeld.

PS: just saw that a total of 15 off-shore wind parks have been approved for the North Sea and 3 in the Baltic; installed capacity of 6'000 MW with a total of 1200 wind mills @ 5 MW... all of which makes the waste involved even worse.

Montag, Januar 28, 2008

A Disturbing Parallel...

Let's take a look back in history.

The Japanese, prior to WW2, were an expansionist, imperialist - in the literal sense - local power, one that had liberated itself, so to speak, from fearing the West by their victory over the Russians in 1904. They believed that they were ordained to unify the world under hakko ichiu, or "all 8 corners of the world under 1 roof", with the first step the liberation of Asia from western imperialists.

This was the driving force behind the Japanese war against China. The Japanese had entered China during the Boxer Rebellion (�和�之�). While the Boxer Movement (义和团运动; literally "The Righteous and Harmonious Society Movement") was an anti-imperialist movement based on the domination of China by western powers, it failed to stand in the face of western firepower and a western willingness to spend Chinese lives to achieve their goals of restoring the dynasty. The Japanese were happy to be involved, as it was proof of their acceptance as an advanced country: they contributed close to the half of the western troops involved in the fighting, and indeed Tianjin was liberated by one Col. Kuriya. The Japanese never left China after that: while they only got a small share of reparations - only the US got less - their troops remained in China, and after their victory over Russia in 1904 they took over Russian interests in China, leading to the virtual annexation of Manchuria and ultimately to the Sino-Japanese conflict.

The Japanese were not alone in their interest in the Chinese market, but demanded "paramount interest", akin to monopoly powers over international trade, which were largely opposed by most other nations trading with China, not the least of which was the US. The Japanese use of force to gain their goals in China - the Mukden Incident, for instance, was trumped-up by the Japanese - meant that unless the US was willing to go to war for Chinese markets, sanctions were the alternative.

The only problem was that such sanctions were highly asymmetric: the loss of Japanese markets for US industry was, bluntly, fairly trivial, while the loss of US goods was, for the Japanese, critical. The Japanese imported steel scrap and oil from the US, and both were critically needed for the Japanese war effort.

In other words, Japan declared war on the US because the US had hit it with sanctions that would have forced peace if the sanctions had been allowed to work.

Why did the Japanese, with only a portion of the population of the US, with virtually no raw materials of their own, and with large military, heavily capitalized (they don't call them capital ships for nothing!), declare war on the US?

Because of a monumental error in judgment. The Japanese attacked Pearl Harbor in order to destroy the US Pacific Fleet - which almost happened - with the express goal of gaining time to consolidate their growing Asian empire, exploit the natural resources there, and then end up at the negotiating table to work out an end for the war.

Why did the Japanese think this would happen?

Because the Japanese believed, truly believed, that they would carry the upper hand. A wide-spread Japanese prejudice was that America, that polyglot nation that touted its diversity, could not and would not act with a united singular resolve, but rather was a mongrel that spend its time squabbling and bickering, such that it could not and would not be able to react to the singular goal of Japan, which was to dominate Asia and to be the primus inter pares in an "Asia for the Asians". Japan had seen how easy it was to divide the Chinese - which are, in fact, not nearly as homogeneous a folk as the Japanese - and "knew" that the US would be an easy target, with a devastating attack being all it would take to dishearten the American public and to divide the nation. There was plenty of information that supported this thesis: the "America First" movement and the various pacifist groups, along with a large German population that had more than a little sympathy with the National Socialists in Germany.

Given this belief, the Japanese convinced themselves that not only could they win, they would win: the Americans would be forced to accept the "new reality" of Japanese superiority and of course the paramount interests of Japan in Asia.

Now, what is the parallel that I refer to in the title?

Well, there is the obvious one: that anyone reading US internal politics with all its noise, flash and silliness as a way of judging US resolve in dealing with international problems is making the same kind of fatal error. Iran, for instance, can do a one-off attack, coupled with propaganda and terror acts, that could, perhaps under certain circumstances, damage or even sink a US carrier in the Persian Gulf (and don't think that Iran isn't contemplating this: it's probably the key to their war-fighting scenarios...), but it would take a concerted effort by the pacifist components of US society to prevent Iran from being severely pummeled and fundamentally destroyed.

But while it is tempting to run the parallel between Japan of then and Iran of now, the real danger is elsewhere.


Huh? China doesn't even have much of a Navy, let alone one that had any sort of correlation of forces that approaches Japan's correlation with US forces at the beginning of WW2.

But bear with me: it's all about perception.

If you look here, you can see what I mean.

This is the key portion of that analysis - which is based on Chinese sources, not US speculation - with my emphasis and some slight reformatting:

China's experts concede its army would lose a head-on fight, with one senior colonel comparing such a scenario to "throwing an egg against a rock." Instead, the Chinese would attempt what Rand calls an "anti-access" strategy: slowing the deployment of U.S. forces to the Pacific theater, damaging operations within the region and forcing the U.S. to fight from a distance.

"Taking the enemy by surprise," one Chinese military expert wrote, "would catch it unprepared and cause confusion within and huge psychological pressure on the enemy and help [China] win relatively large victories at relatively small costs." Another military volume suggests feigning a large-scale military training exercise to conceal the attack's buildup.


Because the American public is "abnormally sensitive" about military casualties, according to an article in China's Liberation Army Daily, killing U.S. airmen or other personnel would spark a "domestic anti-war cry" on the home front and possibly force early withdrawal of U.S. forces. ("The U.S. experience in Somalia is usually cited in support of this assertion," according to the Rand report.) Once this hard-and-fast assault on U.S. bases commenced, the Chinese army would "swiftly divert" its forces and "guard vigilantly against enemy retaliation," according to a Chinese expert.

The PLA also would likely use less conventional attacks on the American military's vital communications network. The goal, as one Chinese expert put it: leaving U.S. combat capabilities "blind," "deaf" and "paralyzed." Losing early-warning systems designed to detect incoming missiles would be, for the Air Force, the most devastating setback ― one that could force the service to exit the region altogether, according to Rand.

Why, thank you President Clinton for Somalia...

Now do you see the parallel? The Chinese realize that they cannot win a WW2-style war with the US, and hence must attack so that the US is "blind, deaf and paralyzed", allowing the Chinese to real their military/political goals (in this case, the taking of Taiwan), relying on domestic public pressure to stop a US response in its tracks, disheartening the public and dividing the nation.

This is extremely dangerous: the parallels are clear, at least in my mind. The same kind of "Pearl Harbor" isn't possible anymore, but I think what the Chinese are thinking is that they would start an invasion of Taiwan under cover of a large-scale exercise and that if US carriers came any where near, they'd be attacked with massed ballistic missile attacks: after all, you only need one hit, and if the Chinese could take out one carrier with each 100 ballistic missiles - no nukes here - then they'd be happy to. A given the Chinese build-up of medium-range ballistic missiles around Taiwan - right now estimates place the number of such missiles anywhere from 300 to more than 800 - in Fujian province, and you can see the risks of a "sudden" non-nuclear first strike that would be damned hard to avoid: having 100 ballistic missiles inbound can cover a lot of sea space, and it may not be possible for a carrier to maneuver its way out of such a tactical situation.

Now, why would China do such a thing?

Simple: it is heavily, heavily dependent on foreign trade. It gets 60% of its energy from the Persian Gulf; as long as the US can control the Indian Ocean and the South China Sea, Chinese economic growth is held hostage to US military might (if you are paranoid and see the world this way: in reality, the Chinese benefit enormously form the fact that the US help control piracy in the region...).

For the new mandarins in China, it must be galling to realize that the China trade exists under the sufferance of the US Navy. Given their attitude of cultural superiority, eerily similar to that of Japan in many aspects, then the parellels become even more disturbing...

Freitag, Januar 25, 2008

How Terrorists Win...

There's an editorial in the Financial Times here.

What the FT argues is that it is not merely intolerable that those living in the Gaza strip be punished for the actions of their leadership, but downright prohibited by international law. According to the FT, the Arabs and international mediators should immediately seek an armistice with Hamas and that Israel cease the blockade of Gaza. The Islamists should be brought into the talks, with the goal of an independent Palestinian state on the West Bank and Gaza, with its capital East Jerusalem, and then Hamas and all Arab countries should be required to recognize Israel.

Good lord, what is in the water at the editorial offices of the FT? Bottle it and sell it to the decadent, because it apparently takes the best and the brightest into a land of delusions and insanity.

Seriously: this is so wrong on so many levels.

First of all, the likelihood of Hamas recognizing Israel has the same likelihood that a snowball in hell has of maintaining its temperature. Who, pray tell, is going to take it upon themselves to "require" that Hamas and Arabs in general are going to recognize Israel? Anyone want to explain that mechanism?

Second of all, this is tantamount to suing for peace. The terrorist group known as Hamas - and somehow the FT failed to mention the financing of Hamas via Iran - wins under these conditions.

Hamas is using the captive population of the Gaza as a political tool to achieve its aims. Nothing more, nothing less. By giving in, by saying that it is intolerable that a population so held in thrall be punished for the actions of its political leadership, is to effectively say the Hamas and the Hamas-like thugs elsewhere that all they have to do is to take such a population hostage and the West will capitulate in order to protect the hostages.

Because what the FT calls for is surrender: it is letting the terrorists win.

What about the civilians living in Gaza? What about their frustrations, their rage, their abject poverty.

You have to make it clear who is to blame, and the West and Israel fails to do so: the situation in Gaza is nothing less than the result of the politics of Hamas, and alleviating the terrible situation there without removing Hamas is nothing less than rewarding Hamas for behaving as they have, giving them absolutely no incentive to change their politics. None whatsoever.

If anything, it gives them incentives to active make things worse. Every dead child in Gaza, every picture of the hopelessness of that population, is of use to Hamas as a political weapon to extort money from western countries who can be called naive and humanitarian at best, but who remain mind-bogglingly ignorant of what is going on.

To repeat: if the West and Israel were to follow what the FT calls for, only the terrorists win.

Put bluntly, this is an appalling editorial, filled with platitudes and outrage that the population of Gaza is suffering. This is woolly-headed thinking at its worst, and if it is indeed indicative of the thinking of London's finest, then ... good night, turn out the lights behind you.

Dienstag, Januar 22, 2008

The Market Moves...

Ah, the hysteria of the markets.

A colleague got fairly upset when he saw what had happened to his portfolio. I simply asked him if he had stop-loss orders in place and had liquidated his position.

Of course he hadn't, and indeed hadn't sold anything.

So I am asked him: what then did you lose?



Freitag, Januar 11, 2008

Helping the poor...

I've been catching up on my reading, and just recently got to some Spiegel magazines.

There's an article in Spiegel 51/2007, from 17.Dec, that talks of the German "Gerechtigkeitslücke". This is best translated as "justice gap", and points to the fact that apparently the distribution of income in Germany has gotten steeper, rather than broader.

Of course, the article in question - couldn't find any link to it, but it's in that particular issue - found all the reasons why German income inequality has worsened: globalization, manager's greed, awful capitalism, the usual suspects.

What they didn't talk about was the fact that Germany, with its reliance on VAT for a good portion of its income, uses a regressive tax system that means the poor bear an larger burden of taxes, proportional to income, than the rich.

Hence here is my recommendation for helping the poor in Germany: get off their backs. Sink the proportion of government spending of GDP from over 40% to less than 30%, and that 10% difference should be used to reduce the VAT.

Anything else is a waste of time, and will only ensure that the poor will continue to be worse off, rather than better.

Likelihood of this happening: nil.

Likelihood of any German politician realizing what the problem is: even smaller.

Mittwoch, Januar 09, 2008

Why A Fair Tax Isn't Fair... And The Laws of Unintended Consequences...

Ever since Huckabee won the Republican vote in the Iowa Caucus, there has been renewed interest in what he calls a Fair Tax.

In interest of fairness, let me provide a link to those supporting a Fair Tax that allows you to read what they say.

Basically, the Fair Tax idea is to tax consumption and not income. Income taxes are to be abolished, all other taxes as well (more or less), and everything is financed via the Fair Tax, which is differentiated from a Value Added Tax by being paid not at all stations of the value chain, but rather ONLY by the end consumer.

Hence, the basic example being the $100 widget, the current state of affairs is that you pay $100 for the widget plus your local sales tax (where applicable, not every state has sales taxes). Let's postulate that you have $100 income that is taxed at 23% (their example), that means you have to earn $130 in order to spend $100. So you had income of $100, spend $100 (assuming no current sales tax: it's clothing in New Jersey, for instance, the government gets $30.

Now, under the Fair Tax, you'd have your full $130. The widget would cost you $130, of which would be $100 plus 30% Fair Tax, the government gets $30.

So what's the difference and why all the fuss?

Simple: this is not reality.

First of all, final consumer goods are not priced according to what it costs the maker to make them, but rather what the market will bear. If incomes go up, prices will follow them as manufacturers seek to maximize their profits.

Hence in the above example, the Fair Tax advocates assume that the manufacturer would drop their prices to reflect their savings on taxes.

This is, at best, a rather naive assumption that has little or no likelihood of ever occurring.

Remember, goods are priced not COGS (cost of goods and services, i.e. all possible inputs into the production process) plus profits to cover the cost of capital and investments. Goods are rather priced at what the market will bear: the MP3 player that you readily buy for $100 online ( i.e. leaving the trade chain out of the story) costs, factoring in all possible costs, at best $25 to make (in quant 200'000) and get to the final consumer. The fact that you pay $100 for it is irrelevant: the difference is the company's profits.

This is fundamental: costs are on the one side, prices on the other. The ability to not merely balance the two, but rather to create the largest possible difference between the two, determines the success or failure of a company. Companies that balance the two fail, since they lack the funds to expand and improve their products; companies that maximize the difference, despite competition, thrive and succeed.

The real world is vastly more complex than our simple and simplistic example. You don't have income of $100 that goes for a single widget: that is a construct to make the basic idea simple. This is misleading: what you really have is gross income of, say, $63,497 per year, and you spend, say, 60% of that on consumption, with another 20% being taken up in income taxes/FICA and the rest used to pay down debt or to save. To give that real-world flavor, say $38,098 in consumption, $12,699 in taxes and $12,700 in debt servicing or savings.

Now, under the Fair Tax, you'd be spending 90% of your income on consumption (your 60% + 30%), nothing on income taxes, leading to a theoretical difference of -10% in savings (40%+20%+40% without FairTax; 70%+0%+30% under Fair Tax).

That means your disposable income went from $50,767 ($38,098+$12,669) to $63,497, an increase of 25% (63497/50767=1,2508).

Now that sounds good, doesn't it?

You consumption, though, goes from $38,098 to $49,527, a 30% increase that you, as the final consumer, pay under the FairTax concept. You're left with 63497-49527, or $13,970, which compared to your previous savings of $12,700 is an increase of 10% (13970/12700=1,1000).

Now that sounds great, doesn't it?

But what happens when a FairTax is implemented? Remember, everything you buy is now 30% more expensive in terms of perceived utility, and you have "only" a 25% increase in your disposable income. That means you will perceive your real purchasing power ability as having dropped by 5%.

Your consumption patterns *will* change.

In the real world, people have spending limits, either informal or formal. Personally, I have no qualms about spending $100 for that MP3 player: for me, that is disposable income. I don't do it every week, though: once a month is what I am comfortable with. If I were to have 25% more money in my pocket, that would jump to $120: I'm fiscally conservative. However, someone else may feel comfortable spending $150 on their MP3 player when their incomes increase, i.e. are fiscally liberal.

Now, companies making that MP3 player set price points: they know how their consumers behave (and spend huge amounts of money finding that out!). If they see incomes jump, say by the 25% in the above example, then they're going to try to increase their prices accordingly. Not immediately, but rather when the next product comes out, with "new" and "improved" added to the product description along with the price increase. Knowing how your customer reacts when his income stream increases is key to commercial success, and cannot be ignored: prices will grow, and you won't be moving up in terms of quality, but rather companies will price their products according to the disposable income of their customers. That's how the real world works, folks: anything else is an academic exercise at best.

After all, the goal of the company is to charge the maximum that the market will bear: if they can get away with charging $150 for a $35 item, they will, but will be happy enough to live with a $100 price.

Now one of the fundamental tenets of the FairTax folks is that companies will charge less for their products, as their products cost them less to manufacture. This is where the FairTax falls flat on its face: for it to work, companies must reduce their prices - pass on the benefits from lowered costs - in keeping with this reduction in their costs from lower taxation. Unless this is written specifically into law and companies are forced to do so, they won't: there is no incentive for them to do so, as all companies work within the same environment. As the FairTax FAQ correctly states, company taxes are passed on in one form or another to consumers, forcing prices up. Companies don't have a choice of doing this or not: they pass on cost increases as a matter of principle. If taxes were eliminated, there is only one incentive to reduce prices.

To gain market share.

Companies reduce prices for one reason only: to gain market share, either for ongoing products by expanding the customer base in excess of losses per unit, or by attacking the markets of their competitors to hurt their earnings greater than internal losses. Companies reduce prices to increase the perceived utility of their products, not because their costs are lower: this only works for companies who can gain a price advantage over their competition, and because this applies for all companies, this doesn't play here.

To reiterate, for the FairTax to work, companies would have to drop their prices: if they do not, then the calculations don't work.

What you've really done with the FairTax is to give inflation a huge push, as companies seek to maximize their portion of increased incomes. Again: prices in the real world are not priced at the marginal return price of the last unit made, but are priced according to what the market will bear. There are some efficient markets that will tend to lead to the marginal price of the last unit made, but there are plenty of inefficient markets out there as well.

In other words, that widget isn't going to fall from $100 to $77: it is going to stay as close to $100 pre-tax as possible, since that is the point where consumers buy. What improves is profit margins. The idea that there is a 100% trade off is naive at best.

Now, I've labeled this post as what a FairTax isn't fair.


Because at the very core of it, it's a regressive tax. There is no way to get around the fact - not opinion, but absolute, inconvertible fact - that lower income people spend more of their income on consumption than those with significantly higher incomes or wealth. It's not a life-style choice, either: the rich can, past a certain life-sustaining minimum, chose to consume; the poor must consume, meaning that someone rich can adjust their lifestyles to match what they are willing to pay in taxes, but someone at the bottom of the food chain cannot make any such decisions, as 100% of their income goes to consumption.

Now, this is rejected as an argument by the FairTax advocates, who argue that by giving something called a prebate (cash before the transaction, as opposed to a rebate, cash after the transaction) you can equal out the regressive nature of the beast.

Sorry: this assumes that this will make a real difference to the low-income consumer.

Someone who is, pre-FairTax, consuming 85% of their income, paying 15% in taxes with no savings, will, after a 15% prebate, spend 85%+30% = 115% of their pre-FairTax income, which will have risen to 115% to leave them in exactly the same situation as before.

Or let's be more exact: someone who is at the bottom income levels today, according to the FairTax FAQ, would get a 19% prebate to compensate for 30% in taxes.

How is that fair?

For me that's a 11% difference, a negative difference, that low-income folks can't avoid.

How is that fair?

Ultimately, changing the admittedly arcane and bizarre current tax code with this would have major unintended effects.

1) Inflation would increase as manufacturers exploit increases in income. This adds to the regressivity of the FairTax, as inflation will always lead corrections to any sort of prebate, resulting in real purchasing power loss, rather than gain.

2) Consumption patterns would change. We have no way of knowing what the effects will be: it may be moderate, it may be severe. If new houses are included, but existing houses are not, then fewer new houses will be built and existing houses will become significantly more expensive, creating a bubble in existing house prices, as demand chases a drastically reduced supply. This is merely one aspect: while those who are timid souls and who save a significant portion of their income regardless of taxation rates would benefit, this merely postpones the problem, as their later consumption will be taxed when their incomes are least able to finance the tax.

3) Is increasing savings and reducing consumption good for the country? Or more pertinently, is it good for me? This is more complex than I want to get into right here, but suffice to say that if consumption were to be reduced by, say, 15%, that means the flow of goods and services would be reduced by that amount as well, which drives down GDP. If that is the goal of the system, then fine: it certainly does not, however, sell itself as that. This is a serious point: I do not see how using the tax system to create greater preferences for savings against consumption can improve the lives of US taxpayers, since many, if not most, define their happiness - one of the god-given rights in the US - via material and services consumption.

4) The incentive to complete the final transaction outside of the realm of this tax would increase. Black markets would be created to complete final transactions outside of the system for high value items: if I pay 20% less for an illegal transaction, the seller has 10% more money and I've got 20% more money, with the government losing 30%; the enforcement of the FairTax would have to be wide-spread and draconian if it were to succeed, and this raises more problems than it solves.

Summing up - and this has gone on way too long already - the FairTax is neither Fair nor a good idea.

If you want to make the tax system fair, a Flat Tax is the way to go, with no deductions: everyone pays their share. A billionaire with $100,000,000 income from dividends and interest pays 20%, as does the local barber or the traveling salesman. You set it by dividing total income from all sources by needed government expenditures to get the base rate: it goes up and it goes down accordingly, each and every year, and the only way to increase income is for people to earn more or increase the tax rate.

Dienstag, Januar 08, 2008

The eternal return of the same...not.

One of the blogs I occasionally read is Global Warming Politics from Philip Stott. You can find it here.

In this post he points out, or rather points to a scholarly work that points it out, that there are problems with statistics used by environmentalists.

In this case, there have been revisions to the data such that a supposed deforestation trend appears and then after a revision disappears, repeating itself at every revision, and has been since the 1970s.

But this statistic continues to be quoted and then extrapolated to show that massive deforestation is our future.

Let me quote him:

Dr Grainger first examined data published every 10 years by the United Nations Food and Agriculture Organization (FAO) since 1980. These cover all forest in the humid and dry tropics and appear to indicate decline. FAO's Global Forest Resources Assessment 2000, for example, showed that all tropical forest area fell from 1,926 million hectares to 1,799 million hectares between 1990 and 2000. Ten years earlier, however, FAO's previous report said that tropical forest area fell from 1,910 million ha to 1,756 million ha for the same 90 countries between 1980 and 1990. 'Owing to corrections to the earlier study, the 1990s' trend was just like a 're-run' of that in the 1980s,' said Dr Grainger. 'The errors involved in making estimates for forest area could easily be of the same order as the forest area reported cleared in the previous 10 years.'


That last says it all: the errors are of the same magnitude as the deforestation process.

What does that tell us?

That such statistics are fundamentally useless.

If the error rate for a time series is so large that it makes any movement of the time series meaningless - say a rate change of 5% when the error rate is 10% - then any analysis based on that time series has just been discounted to nothing: you simply cannot make any judgment about cause and effect, of trends, of correlation, if that which you are observing is smaller than the average error rate.

The title of this post comes from Nietzsche: the eternal return in his philosophy is the ultimate affirmation of living, to accept the idea - terrifying that it is to him - that your life will constantly recycle, not merely with the joy and happiness, but also the worries, pains and despairs, the embarrassments and horrifying moments. While Nietzsche finds it frightening, to accept life this way is to place high marks on being alive, of accepting degradation and shame in order to continue to live (what one can draw out of that for pacificism is another story entirely...).

But the eternal return to faulty statistics, to incorrect conclusions and misled judgements: that is not something to be desired.