Wednesday, November 5, 2008

Hold on to Your Wallets, Here Comes Obama

So you went and did America. You voted for Barack Obama. All of that "Change" and "Hope" talk snowed you, didn't it?

Well guess what? Starting with the new Democrat congress and Obama in the White House, taxes are going to skyrocket! One of the first things on the agenda will be allowing what was known as the Bush tax cuts to expire. That is an instant tax increase on all tax payers.

We also know that Congress and President-elect Obama are going to raise income taxes on anybody making $250,000, no wait, $200,000, nope, its $150,000, ok, just everybody. The tax increase that is really going to hurt the US economy is the capital gains tax.

Captial gains tax is a tax on the increase in investments. For simplicity sake, if your investment earns $100, current tax law takes $25. In percentage terms, if your investment earns 8%, your actual return is 6%, after taxes. President-elect Obama plans to raise that rate to 35%, thus making that $100 gain worth $65, or that 8% gain is really 5.2%. Will triple tax-free bonds become more popular?

What that really means is that folks will reconsider investing that next dollar, as the tax hit may not be worth it. Additionally, if companies have investment gains outside of the US, they won't repatriate that money because it will wipe out their investment returns. Without money to improve the business, or pay dividends, the economy begins to sputter. Considering the current state of the global economy, ANY tax plan that increases the burden on individuals or corporations is both dangerous and foolish. But don't blame me, I voted for McCain. Rant over.


Steven said...

Oh, you mean like increasing capital gains tax will cause a stock market meltdown...oh wait! we have one of those already!

What I am saying in my obnoxious way is that higher tax rate with some regulation might make for a less volatile stock market. Using new funds for investment or heaven forbid, deficit reduction might actually help the underlying economy.

McCain was offering no substantial cut in expenditures (or any at all) and more tax cuts. Do you really think that would have made a positive difference stoking the deficit even more? I don't think so.

WRGII said...

Steven, thank you for your comments. However, what you fail to realize is that the public companies are highly regulated, especially with regulations like Sarbanes-Oxley.

The financial markets are suffering from the US government distorting the credit market with "affordable" mortgages.

Further, let's not forget that the House of Representatives initiates all money bills (spending).

Democrats have held both houses of Congress for the last two years. So who is responsible for overspending?? Yes, Bush bears some responsibility, but Obama talked about Trillions, yes Trillions of dollars of new spending. Talk about busting the budget!

Steve said...

Sarbanes-Oxley is a regulation on public corporate reporting, not financial markets. Do you mean to suggest that the Credit Default Swap market was over regulated? Or, perhaps the CDO market? Both of these beauties are at the bottom of much our current problems.

Furthermore, the distortion to the credit markets is actually the result of our budget deficit creating huge pools of money in sovereign funds abroad. It was these funds begging for more fixed income investments which caused the market to become distorted. There was a huge demand for CDOs that had to be fed with mortgages--thus mortgages were pushed.

House initiates spending bills, but financial market regulation is the domain of the SEC, etc.(administration appointed).

That having been said, I think we can both agree that it is a matter of mis-regulation! Even Greenspan admits it was a matter of under-regulation of these markets.

WRGII said...

Steven, thanks again for your thoughtful remarks. I think we are in agreement that public companies are highly regulated in terms of transparency of their financial positions.

While I don't disagree that budget deficits create non-citizens holding large sums in US fixed assets (primarily Treasuries, but also $$$ mortgages), the amount of quality of mortgages was distorted by government policy and Fannie/Freddie.

Regarding the regulation of financial instruments, I have mixed feelings. In some cases, like hedge funds, you pays your money, you takes your chances. Relative to mortgages and underwriting, in many cases the underwriting was exceptionally shoddy. The standards were there, but not followed.

In short, I am not sure how or how much to regulate the financial markets, or what instruments. However, I am definitively against ADDITIONAL regulation of short selling.

Steve said...

I totally agree on your point on short selling and one of my reasons is that their are so many synthetic instruments out there like ETFs and options that even without short selling you can mimic a short sale. There is no way to regulate it.

Regarding hedge funds, there is an old saying. "Your right to swing your fist freely, stops where my nose begins". Sure, for investors, you pays your money, you takes your chances, but one thing that the much maligned Long Term Credit hedge fund debacle taught us, and what CDS market is teaching us today is that many moves by these hedge funds can have significant ramifications to the overall financial markets and the economy when the players and the plays get very big. This is a concern that goes beyond the investors to Joe the Plumber--thus a consideration for regulators.

Regarding the mortgage market and the roles the sovereign funds played, I recommend this NPR audio program:

Very interesting and informative.

WRGII said...

Steven, thank you for your thoughts and this exchange. I hope my readers have enjoyed it as much as I have!

All the best!

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