Topic: Tax and Budget Policy

Fannie and Freddie Offset Reported Government Spending

The federal government took control of mortgage giants Fannie Mae and Freddie Mac (F&F) in 2008 and have bailed them out with $189 billion of taxpayer money.

Today the mortgage companies have returned to profitability and are paying the government dividends. All profits earned by the companies since August 2012 are going to the federal government, as discussed by the CRS and the Washington Post.

How large are the F&F dividends? You can find out from a number of data sources:

  • FHFA (Table 2) shows that Fannie has paid a cumulative $114 billion in dividends to the government, while Freddie has paid $71 billion.
  • FHFA data show that F&F together paid $131 billion in dividends in calendar 2013, which matches what BEA Table 3.2 shows for federal “income receipts from assets” (dividend portion).
  • CBO (p. 101) says that F&F dividends received by the government were $97 billion in fiscal 2013 and will be $81 billion in fiscal 2014. Curiously, the CBO does not report how large future dividends are expected to be because they account for F&F going forward based on a net subsidy approach.

Here is the important thing for budget wonks and reporters: the money now pouring into the Treasury from F&F is not counted as “revenues” but as “offsetting receipts.” Those receipts are subtracted from federal spending before the “net outlays” reported by CBO and OMB, which people may wrongly assume is total federal spending.

Thus the government was reported to have spent $3.5 trillion in fiscal 2013, but without the F&F offset spending was $3.6 trillion. It is a similar story in 2014. And without the F&F dividends, federal deficits would be about $100 billion a year greater than reported.

Looking ahead, a fear is that with the return to profitability of F&F, politicians will get hooked on the inflows of cash, particularly since it has the magical effect of reducing reported spending. Reformers should press on with privatization and severing government ties to the mortgage companies as soon as possible.

A further discussion of offsetting receipts is here. Mark Calabria discusses F&F here and here.

Spending Restraint in Arkansas

For the fourth day in a row, the Arkansas House of Representatives has refused to approve the yearly appropriation for its Medicaid program, dubbed the “private-option.” If the legislature continues this refusal and reverses its decision to expand Medicaid under Obamacare, state and federal taxpayers will save billions of dollars, making the Little Rock legislative battle the most important spending fight in the country.

Last spring, Arkansas made headlines for adopting a “free-market” alternative to Medicaid expansion. Instead of expanding using the traditional Medicaid model in which the federal and state government would directly fund enrollees’ care, Arkansas decided to provide subsidies to 250,000 new enrollees, so that they could purchase private health insurance through the bureaucratic exchanges created under Obamacare. By using private insurance, supporters claimed, Arkansas would be able to provide individuals with insurance coverage and protect them from the broken Medicaid system that fails to provide “significant improvements” to enrollees’ health.

Medicaid expansion will cost the federal government $800 billion over the next 10 years if all states expand their qualification thresholds for the program as Obamacare’s architects want. (Currently, only half of the states have obliged.)

Arkansas’ expansion is actually even more expensive than the traditional expansion model envisioned by President Obama and Health and Human Services Secretary Kathleen Sebelius. According to the Congressional Budget Office, private insurance actually costs 50 percent more than traditional Medicaid coverage. Earlier this month, Arkansas Gov. Mike Beebe, a supporter of the private option plan, acknowledged that the plan costs the federal government—read taxpayers—more. Under the conservative estimates from the state, Arkansas’ expansion will cost $20 billion over the next 10 years.

Arkansas’ actions could affect other states. Following its expansion last year, Iowa, Michigan, and Pennsylvania expanded their Medicaid programs using a private-option model costing federal taxpayers billions more. Defunding Medicaid expansion in Arkansas would likely stop the wave of expansion, saving even more public dollars.

If opponents of the private option are successful, Arkansas will do far more to help federal taxpayers this month than anything coming from Washington.

Another $6.5 Billion in DOE Loan Guarantees

After Solyndra collapsed, the Department of Energy (DOE) should have learned its lesson. Guaranteeing loans for energy and industrial companies is a bad idea. The failures of Beacon Power and Fisker Automotive should have driven home the message. Now, we have further proof that the DOE isn’t paying attention.

Yesterday, DOE Secretary Ernest Moniz traveled to Georgia to announce $6.5 billion in loan guarantees for two new nuclear reactors already under construction. 

The loan, like so many others, has the markings of an incredible risky use of taxpayer dollars. According to the Washington Post, the project is already 21 months behind schedule. Additionally, Southern Company, the largest shareholder of the project, had its ratings’ outlook downgraded from “stable” to “negative” by Standard and Poor’s last year, in part because of “cost overruns” at the Georgia facility.

Even more frustrating, the company already had private loans in place to finance construction. Now we, the taxpayers, will save the company $250 million a year in interest costs by bearing the full burden of default.

The company also benefits from $2 billion in other federal tax credits, according to its CEO.

Some deal.

Water in the West: It’s Complicated

In the media, one hears two different stories regarding the drought in California and Western water problems in general. Liberals say that droughts are being made worse by climate change. Conservatives say that water shortages are being perpetrated by the EPA in a misguided effort to sacrifice farmers for some tiny fish. The Washington Times editorial today is of the latter genre.

The real story is more complicated. It’s not just Mother Nature, and it’s not just farmer vs. fish.

The fundamental problem is that the federal government has been heavily subsidizing Western water for decades, particularly for crop irrigation. Artificially low water prices have encouraged overconsumption and the planting of very dry areas where farming is inefficient and environmentally unsound. Subsidized irrigation farming has created major environmental problems in the San Joaquin Valley, for example.

To make matters worse, federal farm subsidies have boosted demand for irrigation water, which has further encouraged farmers to bring marginal lands into production.

So don’t blame the Delta smelt. Instead, blame antimarket policies going back eight decades in the case of farm subsidies and a century in the case of subsidized water from the federal Bureau of Reclamation.

The long-term solution to the West’s growing water problems is free-market economics. Policymakers should end the farm subsidies, reform water property rights, transfer federal dams and aqueducts to state ownership, and move toward market pricing of water.

For more, see my essay with Peter Hill and check out the great work from the free-market environmentalists at PERC.

White House Stimulus Report Based on ‘Keynesian Fairy Dust’

Did you sing “Happy Birthday”?

The nation just “celebrated” the fifth anniversary of the signing of the so-called American Recovery and Reinvestment Act, Political Cartoons by Nate Beelermore commonly referred to as the “stimulus.”

This experiment in Keynesian economics was controversial when it was enacted and it’s still controversial today.

The Obama administration tells us that the law has been a big success, but I have a far more dour assessment of the spending binge. Here’s some of what I wrote about the topic for The Federalist.

The White House wants us to think the legislation was a success, publishing a report that claims the stimulus “saved or created about 6 million job-years” and “raised the level of GDP by between 2 and 3 percent from late 2009 through mid-2011.”

Sounds impressive, right? Unfortunately, those numbers for jobs and growth are based on blackboard models that automatically assume rosy outcomes. Here’s how I explain it in the article:

[H]ow, pray tell, did the White House know what jobs and growth would have been in a hypothetical world with no stimulus? The simple answer is that they pulled numbers out of thin air based on economic models using Keynesian theory. … Keynesian economics is the perpetual motion machine of the left. They build models that assume government spending is good for the economy and they assume that there are zero costs when the government takes money from the private sector. That type of model then automatically generates predictions that bigger government will “stimulate’ growth and create jobs. The Keynesians are so confident in their approach that they’ll sometimes even admit that they don’t look at real world numbers. And that’s what the White House did in its estimate. The jobs number (or, to be more technical, the job-years number) is built into the model. It’s not a count of actual jobs.

Gap Pay Raise Follows Rand Not Obama

Clothing retailer Gap Inc. has won praise from the White House in announcing its decision to raise entry-level wages to $9 an hour this year, and $10 next year. President Obama applauded Gap and argued that Congress should follow suit by passing a bill to increase the federal minimum wage from $7.25 an hour to $10.10 by 2016.

But there’s a big difference between a voluntary increase in a market-determined wage rate and a government-mandated minimum wage.

Gap must report to shareholders and make a profit to stay in business; politicians report to voters and must win elections to stay in office. Polls show that the American public strongly support a higher federal minimum wage — but only if it appears to be costless.

President Obama, in promoting a higher minimum wage, argues that it would “lift wages for more than 16 million workers—all without requiring a single dollar in new taxes or spending.” This is the free lunch that politicians love to promise—and it is an illusion.

When the government arbitrarily pushes up wage rates above the competitive level, two things happen: some jobs are lost; and more workers look for jobs but can’t find them, so unemployment of lower-skilled workers increases. These effects are greater in the long run as employers switch to labor-saving technology.

When firms make adjustments in expectation of higher minimum wages (both federal and state), there will be a decrease in the number of jobs for lower-skilled workers (mostly younger, inexperienced, less-educated workers) but an increase in the demand for higher-productivity, skilled workers who complement the new technology.

Gap has already made significant investments in labor-saving technology and recently implemented a “reserve-in-store” computer program that relies on higher-skilled workers whom Gap invests in to enhance their human capital. Gone are the days when high-school dropouts could easily get a job with retailers. As Gap raises its starting wage, there will be more competition for a dwindling number of jobs. More workers will want a job, but fewer workers will be hired, and those that are will be of higher quality.

Glenn K. Murphy, Gap’s CEO, told the company’s employers upon announcing the change in policy, “To us, this is not a political issue. Our decision to invest in front-line employees will directly support our business, and is one that we expect to deliver a return many times over.”

This is free-market, Randian thinking: self-interest is the motivating factor, not altruism.

When President Obama says, “It’s time to pass [the minimum wage] bill and give America a raise,” he is making a promise that can’t be kept: some workers will gain (those who have higher productivity) but others (the least productive workers who most need a job to gain experience and move up the income ladder) will lose.

Indeed, the Congressional Budget Office now tells us that an increase in the federal minimum wage to $10.10 an hour could cost a loss of 500,000 jobs. Those most affected would be low-productivity workers in low-income families—making them poorer, not richer. (If the government promises a wage of $10.10 an hour but a worker loses her job or can’t find one, then her income is zero.) There is no free lunch!

People do what is in their own best interest. Gap may win some friends by increasing entry-level wages and saying this is in tune with company “values,” but unless that business decision is profitable Gap will lose sales, and its shares will drop in value. There is thus a market test of the decision to raise wages.

The government has no business telling private employers what to pay or telling workers they cannot offer their labor services at less than the legal minimum wage, even if they are willing to do so to retain or get a job. The President’s minimum wage is anti-economic freedom and violates personal freedom; Gap’s higher entry wage does neither. This is a case of “the emperor has no clothes!”

Jared Bernstein’s “Tax Reform” Assault on Pensions, IRAs and 401(k)s

The bad habit of defining “tax reform” in terms of fairness or “closing loopholes” sidesteps the most essential task of effective tax policy – namely, to collect taxes in ways that do the least possible damage to incentives for productive effort, investment and entrepreneurship.

The Joint Committee on Taxation list of “tax expenditures” is arbitrary accounting, not economics, and tax expenditures are not necessarily “loopholes.” These estimates do not take taxpayer behavior into account and therefore do not estimate revenues that could be raised by closing the so-called loopholes (e.g., a higher tax on capital gains would shrink asset sales and revenues). Policies that make sense in terms of economic incentives can therefore be portrayed as useless tax subsidies in the purely static accounting of “tax expenditures.”

For example, a recent New York Times article by former vice presidential adviser Jared Bernstein complains that tax deferral for retirement savings is unfair because, “most savings subsidies go to households that would surely save anyway, while almost nothing goes to the households that need help to save.” 

These “subsidies” for high-bracket taxpayers mainly consist of deferring rather than avoiding taxes, which only partly offsets the way savings are double-taxed. Even if higher-income households would actually save the same without 401(k) accounts (which contradicts research), they would still end up with much smaller retirement savings. Dividends and capital gains would then be repeatedly taxed, year after year, rather than being continually reinvested within a tax-deferred pension, IRA or 401(k) account. 

Estimated “subsidies” from tax deferral are deceptive: Instead of having recent dividends and capital gains taxed at a 15-20 percent rate in recent years, distributions from tax-deferred accounts will later be taxed at rates up to 39.6 percent. It’s a subsidy only if you don’t live much past 70.

Bernstein presents a graph showing the top 20 percent getting a 66 percent share of these “subsidies” for pensions and defined-contribution plans while the middle fifth gets only nine percent and the poorest 20 percent just two percent. What these figures actually demonstrate is that (1) people who work full-time for many years have more income to save than those who don’t, and that (2) people who pay no income tax cannot benefit from any policy that reduces taxable income, even temporarily.

There are five times as many workers in the top 20 percent than there are in the bottom 20 percent. To exclude young singles and old retirees, Gerald Mayer examined the work experience of households headed by someone between the working ages of 22 and 62. Average work hours among the poorest 20 percent still amounted to just 1,415 hours a year in 2010, while those in the middle fifth worked 2,771 hours, and the top 20 percent worked 4060 hours.

If Bernstein’s “subsidies” were properly expressed as shares of income, rather than as shares of foregone tax revenue, the differences nearly vanish. The Congressional Budget Office (the undisclosed source of his estimates) shows tax benefits for retirement savings worth only about twice as much to the top 20 percent (2 percent of net income) as to the middle 20 percent (0.9 percent of income). Retirement savings incentives appear to be worth only 0.4 percent of income to the poorest 20 percent, since they rarely owe taxes, yet annual benefits are a poor guide to lifetime benefits. Those in low income groups while they are young commonly move up to higher tax brackets by the time they start saving for retirement.

The alleged unfairness of lower-income households not getting the same dollar tax break as couples earning more than $115,100 (the top 20 percent) could be alleviated by reducing marginal tax rates on two-earner families. But Bernstein instead suggests “closing loopholes that make it easy for wealthy individuals to exceed contribution limits to tax-preferred accounts (as was found to be the case with Mitt Romney), reducing contribution limits for high-income filers, or simple limiting the value of tax breaks for the wealthiest of filers (e.g. allowing them to deduct such contributions at 28 percent instead of 39.6 percent.” None of these schemes would add a dime to the savings of low or middle-income households, of course, and they wouldn’t work.

It is not legal – and therefore not “easy”– to exceed strict contribution limits for high-income taxpayers, and Mitt Romney certainly did not do so.  What Romney did was to roll over qualified retirement plans into an IRA and then earn high compounded returns on very successful investments.  Similarly, albeit on a much smaller scale, I rolled-over a lump-sum pension into an IRA in 1990 when I changed jobs, and that IRA is now 12-times larger thanks to compound interest and bold investments.  Since I never contributed another dollar after 1990, tougher or lower contribution limits would have been entirely irrelevant.  

Bernstein’s final proposal is from the Obama budget – “allowing taxpayers to deduct contributions at 28 percent instead of 38.6 percent.” But that too is irrelevant. Any alleged “loopholes” for retirement savings have nothing to do with itemized deductions for top-bracket taxpayers, who are not allowed to deduct contributions to an IRA.  Failure to include employer contributions as taxable income is not an itemized deduction to begin with, nor is the exclusion from adjusted gross income for contributions to a Keogh retirement plan for the self-employed.  

In the process of giving “tax reform” a bad name, Jared Bernstein uses a sham fairness argument to justify arbitrary and unworkable anti-affluence policies that are irrelevant to any ill-defined problems.