The week of October 25: chaos, energy, inflation, taxation, stagflation, and much, much more (little of it good).
Omnishambles is a neologism first used in the BBC political satire The Thick of Itin 2009. The word is compounded from the Latin prefix omni-, meaning “all”, and the word shambles, a term for a situation of total disorder. Originally a “shambles” denoted the designated stock-felling and butchery zone of a medieval street market, from the butchers’ benches (Latin scamillus “low stool, a little bench”). The word refers to a situation that is seen as shambolic from all possible perspectives. It gained popularity in 2012 after sustained usage in the political sphere led to its being named Oxford English Dictionary Word of the Year, and it was formally added to the online editions of the Oxford Dictionary of English in August 2013 . . .
— Via Wikipedia
The Capital Letter is, of course, a family-friendly publication, and it’s unfortunate that some of the background to — and the full quotation surrounding — this word, all of which appear in the Wikipedia entry, is on the rough side. Look away, the easily offended.
Nevertheless, a term connoting a “situation of total disorder” seems appropriate for the situation in which the U.S. now finds itself as tax proposals come, and tax proposals go, and the administration gives every impression of just wanting to get something done. Although those somethings vary, they do have one thing in common: They are unlikely to be helpful to the operation of a free-market system.
In the case of the (discarded) wealth tax on billionaires — and that is what it was, however much Janet Yellen attempted to dodge that constitutionally and politically tricky term by claiming, oh Janet, Janet, that it was merely “a tax on unrealized capital gains of exceptionally wealthy individuals”— the agenda was something more ambitious, a return to the premodern. As I have argued in the past:
A wealth tax is a sophisticated, lighter touch derivative of feudalism, but the core of it is the same: The state (“the king”) has, theoretically, a call on everything you own.
Progressives tend to believe that the arc of history moves in a certain (progressive, surprisingly) direction. The idea is nonsense (history is chaotic, to bowdlerize a famous line, “just one thing after another”), but it is bleakly entertaining to read that progressives now appear to believe that that arc is headed toward . . . feudalism, even if that’s not how they would describe it. Lenin, however, would have understood.
If the wealth tax is indeed dead, it is only dead for now. No one has put a stake through it. Now the idea has gained a certain vindictive respectability, it will be back when the votes are there.
Instead (at the time of writing: this is a very fluid situation), the latest attempts to loot the rich have shifted to attempting to slap a surtax on their income.
Howard Gleckman, writing in Forbes on Thursday October 28, explained how this would work:
A “millionaire’s surtax,” announced by President Biden this morning, would raise taxes on all forms of income, including wages, capital gains, and dividends.
It would impose a 5 percentage point surtax on adjusted gross income (AGI) between $10 million and $25 million and an additional 3 percentage points on income in excess of $25 million . . .
Someone with income between $10 million and $25 million would pay the ordinary 37 percent income tax rate for wages and salary plus the 5 percent surtax, for a combined rate of 42 percent. Long-term capital gains and most dividends would be taxed at 20 percent plus the 3.8 percent net investment income tax plus the 5 percent surtax, for a combined rate of 28.8 percent.
Put another way, aspiration and investment are to be punished.
These surtaxes will raise the top marginal personal income tax rate to 45% or so and around 60% in New York and California, which would be higher than in European welfare states. The top rate in the U.K. is 45%, Italy 47.2%, Germany 47.5% and France is 55.4%. Congrats, Mr. President, you’ve won the tax race to the top.
And remember this, too:
Small business owners will get slammed by a 3.8% Medicare surcharge on active-investment income. A 5% surtax on income over $10 million and 8% above $25 million will hit the ephemeral rich who experience a windfall, say, after cashing in stock compensation after decades of work.
The war against aspiration — and against achievement — is what it is.
Companies are not spared either, with a proposal to introduce a corporate version of the alternative minimum tax.
Since the 2017 GOP tax cut, the number of Fortune 500 companies paying $0 in federal income taxes has continued to grow. One analysis found 55 corporations paid no federal income tax on more than $40 billion in profits last year, including brand names such as Nike and FedEx. The White House’s plan would aim to put an end to that practice, establishing a new “minimum tax” of 15 percent on all U.S. corporations earning more than $1 billion a year in profits. The minimum tax would be assessed on “book” income reported to shareholders, rather than on profits reported to the IRS.
But it’s worth recalling that there was an industrial logic behind some of the “breaks” responsible for those enviably undemanding tax bills.
The Wall Street Journal (my emphasis added):
Manufacturers and tech companies could be among those hardest hit by the plan, because the tax breaks they currently benefit from, such as expensing capital investments or stock options, would effectively be limited. If they get too much of a benefit in any year, the minimum tax would kick in, and they would have to pay some of the tax they otherwise would have avoided or deferred.
The political, financial, regulatory, and economic environment that is now being created by the Biden administration is not one designed to encourage investment (and the “scarring” effect created by the pandemic will only make things worse). Under the circumstances, putting in place measures that will act as an additional disincentive to corporate investment seems unwise. No investment, no growth.
Meanwhile, away from the omnishambles, inflation continues to rise, boosted by higher energy prices (themselves boosted by poorly judged climate policies) and the supply-chain chaos.
The spike in energy prices has filled significant portions of the last five six Capital Letters, and is unlikely to go away anytime soon, at least for long. The good news is that European natural-gas prices have recently dropped; the bad news (on any long-term view) is why.
European natural gas and power prices dropped after more signals from President Vladimir Putin that Russia will send extra gas to the continent next month. The Russian leader ordered Gazprom PJSC late Wednesday to focus on filling its European storage sites from Nov. 8, a day after it completes the process in Russia. He said the move should ease supply tightness in Europe, where high prices are squeezing industry and fueling inflation . . .
Tom Marzec-Manser, an analyst at pricing agency ICIS, said the timing of Putin’s comments on adding fuel to Gazprom’s storage sites in Germany and Austria could be connected to Germany’s Economy Ministry saying on Tuesday that certification of Nord Stream 2 wouldn’t pose any risks to security of supply . . .
That move “will have been received positively in Moscow as it brings the new pipeline one step closer to operation,” he said. “We still don’t know how much extra gas could arrive from Nov. 8 in response to President Putin’s instructions.
There was more good/bad news on Friday (via the Financial Times):
Gas prices in the UK and continental Europe tumbled by as much as a fifth on Friday on further signs Russia will increase exports to the region after restricting supplies for months.
Russia’s state-run gas exporter Gazprom said on Friday it had hit its target for filling domestic storage two days after President Vladimir Putin ordered the company to start filling its European storage facilities. The intervention comes after allegations from some analysts that Moscow has stoked an energy crisis by holding back supplies.
The UK benchmark day-ahead contract dropped by almost 20 per cent to £1.39 a therm after trading at record levels above £2 a therm for most of October.
But prices are still roughly three times where they stood at the beginning of the year.
Russia’s actions were not the only reason that gas prices have fallen sharply from the earlier highs (for instance, Norway’s largely state-owned Equinor, a company that, in less squeamish days was known as Statoil, has been able to boost production earlier than expected), but the sway that Russia has established over the European market is here to stay, something that was only underlined by the always diplomatically adept Biden administration on Monday, October 25.
FRANKFURT, Germany (AP) — A senior energy adviser to U.S. President Joe Biden urged Russia to supply more natural gas to Europe now rather than wait for approval of a newly completed pipeline, saying Monday that “they should do it quickly” to ward off the risk of severe gas shortages this winter.
In the same report it was noted that Europe imports “90 percent of its natural gas supply, largely from Russia.” That overstates it. It would be more accurate to say that the west of continental Europe imports something like that, with Norway providing about 24 percent, and Russia just under 50 percent. Nevertheless, Russia is in an immensely strong position and the Biden administration will at some time have to acknowledge that its climate policy (discouraging U.S. fossil-fuel production while encouraging Russian and OPEC fossil-fuel production) and U.S. geostrategic aims are at odds with each other. Doubtless John Kerry, “the diplomat” (click on the link and scroll down, you won’t be disappointed), will sort it out, and hopefully quickly.
Vijay Jayaraj in Real Clear Energy:
Vladimir Putin has increased Russia’s dominance in the natural gas sector. The Journal of Petroleum Technology reported, “Russia is pouring investment into liquefied natural gas projects as it seeks to leverage the world’s largest natural gas reserves together with the logistical advantages of delivering it at a competitive price to Asia and Europe along the now-navigable Northern Sea Route.”
Putin has also ramped up Russia’s coal infrastructure in recent years. Russia still has coal reserves that can last hundreds of years under the current production rate.
Russia Deputy Prime Minister Alexander Novak stated, “Decades from now, oil and gas will continue to account for the majority of global energy consumption.”
He reiterated that Russia has a more realistic view of energy needs and will persist with fossil fuels. “The share of oil and gas in the world’s energy mix is set to drop from 85 percent to around 65-70 percent, not to 20-30 percent as some experts have forecast,” said the Deputy Prime Minister.
But not all the discouragement of investment in fossil fuels in the democratic world is coming from governments. An increasing amount of the blame must be laid at the feet of those in the investment community who have moved away from doing what they are meant to do — focus primarily on making money for their clients — to attempting to advance a socio-political agenda, often known by the shorthand “ESG” (this means investment-management companies weighing investments or potential investments, at least in part, by how they perform against certain environmental, social, and governance yardsticks).
Now some on Wall Street are beginning to sound the alarm.
Steve Schwarzman, Blackstone’s billionaire co-founder, became the latest financier to sound the alarm about an energy crunch. (The most recent sign: U.S. oil prices hit $85 a barrel this week, a seven-year high.) Speaking at the Future Investment Initiative conference in Saudi Arabia, he warned that an energy shortage could lead to “real unrest” across the world — and put forward a provocative culprit.
A focus on E.S.G. is driving a credit crunch for oil and gas companies, Schwarzman and others say. So-called environmental, social and corporate governance investing principles have spurred investment giants to divest their holdings in oil and gas companies. That, according to Schwarzman, has made it hard for the industry to invest in new wells and other sources of capacity. “If you try and raise money to drill holes, it’s almost impossible to get that money,” he said. (Blackstone has invested in both fossil-fuel and renewable energy companies.)
Some think the energy shortfall could be huge. JPMorgan analysts wrote this year that as much as $600 billion must be invested in oil by 2030 to meet continued demand.
One of the most prominent champions of ESG has been Larry Fink, the chairman and CEO of BlackRock, but, from the same New York Times story:
Even Larry Fink of BlackRock, who has been among the biggest advocates for Wall Street adopting E.S.G., is worried that outflows from the fossil-fuel industry may be overdone. “We have these visions we could go from a brown world and we could wake up tomorrow there’d be a green world,” he said at the F.I.I. conference. “That is not going to happen.”
Writing in the FT, Amrita Sen pointed to a long-term imbalance between fossil-fuel supply and demand. She saw the fall-off in investment as beginning when shale production took off (it discouraged investment in conventional oil) but also points to the impact of ESG on capital allocation by fossil-fuel companies.
For some energy watchers, higher prices for natural gas, coal and oil will be “transitory”, to use the language of the US Federal Reserve. They are wrong. High prices are here to stay for years . . .
Traditionally, higher prices balance the market by encouraging more supply and curbing demand. An inventory and spare-capacity cushion acts as a global shock absorber until higher prices spur production to balance rising demand. But the energy transition is changing the rules of engagement.
So far, the supply response to elevated prices has been muted. Global upstream capital expenditure averaged $320bn-$350bn in 2020 and 2021. This is half the level of 2011-14 and 25 per cent short of what is needed to hold oil production steady at 100m b/d, the level global demand has now surpassed as mobility restrictions ease.
And, yes, ESG is playing an increasingly important part in this constriction of investment (in the West):
ESG considerations account for much of the decline in capital expenditure by international oil companies in recent years and the investor exodus out of oil and gas markets. It will not end with higher oil and gas prices. Today, investment in fossil fuel is vilified and financing has become sparse as big western banks withdraw. The International Energy Agency is calling for an end to all oil, gas and coal funding if the world is to reach net zero by 2050.
Due to long lead times between investment and supplies, we are yet to see the full impact of this slowdown in spending on conventional oil and gas production. In other words, supplies will continue to lag behind demand for the next few years. This is particularly true as US shale producers are focusing on shareholder returns and preserving cash flow — a significant change from the past 10 years.
But the focus on ESG hasn’t had the same impact on demand. Oil demand — and energy demand in general — is extremely sticky. Fossil fuels accounted for 84 per cent of global energy demand in 2020, unchanged from 1980. The only real change was a slight shift from coal to gas. Renewables are making inroads, but largely in developed economies. From a global perspective, hydrocarbons remain in pole position. Energy demand will continue rising as the world’s population grows and income levels rise.
The implications for inflation will not be pretty, but no matter: Sen’s something of a fan of higher prices. And in the climate community she’s not alone (again, my emphasis added) in that respect:
Technological leaps aside, higher prices are the most effective catalyst of changes in demand-side behaviour. After all, there is always a price that ensures demand equals supply. True, this can lead to pain for consumers and prompt panic among governments. Already, China, Germany and the US are designing measures to ease the green energy burden. The US is even considering tapping into its strategic petroleum reserve to ease oil prices at the pump. But keeping oil, gas and electricity prices artificially lower prevents consumers from adjusting their demand patterns and implies a slower shift to green energy.
Shifting capital from hydrocarbon production is crucial for a successful transition. But global emissions will not drop if fossil fuel demand does not decline, and prices will be high so long as demand is high.
So, if governments are serious about climate change, the focus cannot just be on legislation that shifts supply. They must tackle demand. High energy prices, even if unpopular with voters, will be needed if we are to have any chance of meeting the ambitious energy targets set by governments.
Complex debates surround the transition, but there are two certainties: the transition is inflationary and achieving it will require stark trade-offs. Tackling climate change will be costly.
Those trade-offs will be stark indeed. Not only is climate policy at odds with U.S. geostrategic interest but it is also at odds with the fight against inflation and for growth. It’s not hard to see why Schwarzman sees trouble ahead.
For some reason, that old (quite possibly misquoted) line about it being necessary to destroy the village to save it comes to mind.
Meanwhile, nuclear power, one possible way of reconciling the policy aims of the climate warriors with the preservation of our economies, continues to struggle against ancient environmentalist terror (and not the only one evident within climate fundamentalism: as a movement with a strong millenarian strain, it reflects rather too many ancient fears for comfort).
An unusual scuffle broke out last summer about what role nuclear energy should play at next week’s United Nations climate summit hosted by the U.K.
The tiff began in August when organizers invited the International Atomic Energy Agency and other industry advocates to set up shop in the meeting’s quieter Blue Zone instead of the public Green Zone, where companies enjoy higher visibility. “Every application on nuclear energy for the Green Zone at the upcoming COP26 conference has been rejected,” London-based lobbyists at the World Nuclear Association complained in a letter to COP President Alok Sharma. “We are deeply concerned.”
As mentioned in earlier Capital Letters, climate policy and Putin’s manipulation of Western European demand are not the only reason for the surge in energy prices. Far from it. Similarly, higher energy costs are not the only reason for rising inflation. Some of the latter is due to the supply-chain mess, about which NR’s Dominic Pino has been writing for weeks (you can see some of his work below). Much of that is a consequence of the pandemic, or, more precisely, the lockdowns that accompanied it. To egotistically quote myself from two weeks back:
Those in charge [of lockdowns] overestimated the ease with which economies could be switched off, and then back on. That was never likely to be an easy task, and — this shouldn’t have been hard to work out — the longer the period of disruption, the more difficult it becomes to put everything back together again. An economy operates through an immensely complicated web of connections. Tear a hole in that web, and then leave it there for a while, and it becomes exceedingly difficult to fix. Knowing that helps understand what we are seeing now.
And part of that understanding must be that these problems were never likely to be as short-lived as the phrase “pandemic-related” has been widely assumed to mean.
CNN:
Even Amazon and Apple are grappling with the global supply chain crunch.
Both companies reported revenue results on Thursday that fell short of Wall Street analysts’ expectations and warned that supply chain issues could weigh on business in the December quarter . . .
Amazon CEO Andy Jassy warned in a statement that, in the upcoming fourth quarter, the company’s consumer business expects to incur several billion dollars of additional costs. Those costs, he said, come “as we manage through labor supply shortages, increased wage costs, global supply chain issues, and increased freight and shipping costs — all while doing whatever it takes to minimize the impact on customers and selling partners this holiday season.”
Earlier this year, the chip shortage seemed like it might ease sometime in 2022. Now, that forecast appears to have been optimistic.
“The shortages are going to continue indefinitely,” Brandon Kulik, head of Deloitte’s semiconductor industry practice, told Ars. “Maybe that doesn’t mean 10 years, but certainly we’re not talking about quarters. We’re talking about years.”
It is becoming clear that snarls in the semiconductor supply chain are weighing on economic growth. Yesterday, both GM and Ford said that missing chips led to slashed profits for the third quarter, and Apple is rumored to be cutting this year’s production targets for its iPhone lineup, the company’s cash cow. Chip woes have become so widespread that a division of Wells Fargo thinks the pressures will curtail US GDP growth by 0.7 percent . . .
The pandemic is not, however, the only source of these problems, but whatever the reasons for these disruptions, it is clear that they will persist for a while. And so, therefore, will their effect on inflation, which, as people are beginning to realize, is going to be anything but “transitory.”
From a couple of weeks ago, Atlanta Fed president Raphael Bostic (via Bloomberg):
“Transitory is a dirty word,” Bostic said in a virtual speech to the Peterson Institute for International Economics on Tuesday. He spoke with a glass jar labeled “transitory” at his side, depositing $1 each time he used the “swear word,” as it’s become known to him and his staff over the past few months.
“It is becoming increasingly clear that the feature of this episode that has animated price pressures — mainly the intense and widespread supply-chain disruptions — will not be brief,” Bostic said. “By this definition, then, the forces are not transitory.”
In other inflation news (also via Bloomberg):
Figures showed euro-area inflation jumped to 4.1% in September, higher than the 3.7% rate economists had forecast. It’s only the second time ever in the euro’s history that inflation has topped 4%.
And closer to home (via the Wall Street Journal):
[U.S.] consumer prices rose at the fastest pace in 30 years in September while workers saw their biggest compensation boosts in at least 20 years, according to new government data released Friday.
Consumer spending also rose in September despite the expiration of enhanced unemployment benefits, the data showed.
The reports point to a recovery caught between robust consumer demand and severe supply shortages, leading to a rapid uptick in inflation.
Oh, there’s this too:
Consumers in October also anticipated the highest year-ahead inflation rate since 2008 at 4.8%, according to the sentiment survey. Higher consumer inflation expectations are a concern for policy makers because they could prompt firms and workers to raise prices and salary demands in the future, making the expectations self-fulfilling.
But the economy’s engine may be sputtering even as it roars:
The Wall Street Journal (October 28):
The U.S. economy grew at the slowest pace of the recovery in the third quarter, but economists expect strong consumer demand and an easing pandemic to boost growth in the coming months despite lingering supply constraints.
Gross domestic product grew at a seasonally adjusted annual rate of 2.0% from July to September, the Commerce Department said Thursday, marking the weakest quarter of growth since the recovery began in mid-2020.
Growth was hit by two big factors: a surge in virus cases due to the highly contagious Delta variant of Covid-19 and deepening supply bottlenecks affecting goods from autos to food. Dynamics that helped GDP grow at a historically fast rate in the first half of this year—government stimulus, widespread business reopenings and rising vaccination rates—also faded.
To be sure, the Delta effect seems to be proving quite genuinely transitory.
The good news for the economy is that the direct damage done by the Delta variant was relatively modest and has begun to fade. Spending at hotels and restaurants rose in the third quarter, although more slowly than earlier in the year. More recent data from OpenTable, the restaurant-reservation app, and the Transportation Security Administration suggest that dining and air travel have begun to rebound as virus cases have fallen.
But, as we have discussed, that may not be the case with the supply-chain disruptions.
There’s also this (also via the New York Times):
Economists always expected goods spending to fall somewhat as the effect of government aid checks sent out earlier this year waned and as pandemic-driven shifts in spending patterns began to return to normal.
And then there’s this from the Wall Street Journal, from an article that looks beyond the Delta chatter and features dark talk about incipient stagflation — as indeed it should:
The summer of stagflation also reveals that the Biden Administration’s Keynesian policy mix has been an historic bust. The White House and Democrats in Congress pushed out trillions of dollars in government spending to goose demand. Monetary policy has remained wide open, also in service of demand, though the pandemic recession ended in summer 2020 and there’s no shortage of money available.
But a shortage of demand hasn’t been the problem. The issue is the supply side of the economy, which has been experiencing a shortage of labor, resources and components to produce goods. Keynesians typically ignore, or even deride, supply problems because they don’t fit their academic models. The White House and Federal Reserve are dominated by economists who focus on demand, which is one reason they overestimated growth this year but underestimated inflation.
This bias has led to policy mistakes that have added to the supply woes. The flood of government money, untied to any work requirement, has reduced the incentive for millions to return to the labor force. Businesses are paying more but can’t find enough willing workers.
The uncertainty over the White House promise of higher taxes and more regulation has put a damper on investment.
Unexpectedly.
And the numbers are already damning enough:
Private business investment . . . contributed 1.94 percentage points to GDP in the quarter but all of that was a buildup in private inventories. Investment in nearly everything else besides intellectual property products such as software was stagnant.
That’s not what I’d call a vote of confidence in the Biden economy. As mentioned above, his Build Back, uh, Better program contains little to make business executives believe that it will do much for growth:
The welfare and entitlement spending will deter work, while the tax increases will reduce incentives. Certain industries like green energy will get a subsidy lift, but the risk to the broader economy is misallocated investment.
Risk? The Journal is being unusually circumspect. Pouring resources into “green” energy is an almost textbook example of malinvestment, an investment, at best, in inefficiency, unreliability and (often) rent-seeking.
Speaking of confidence, the same report notes that “the burst of inflation to 5.4% over the last 12 months has hit consumer confidence.” If this burst persists, it won’t be long (especially if it eats into real wages, as in many cases it will) before the rising cost of living will start to eat into demand.
Put everything together, and we could indeed be looking at the return not only of inflation but, to return to the S-word, stagflation, a word with very unhappy memories to those of us who can remember the 1970s. In Law & Liberty, the ever-cheerful David Goldman argues that this is what lies ahead:
Since the start of the COVID-19 pandemic, the federal government has injected $5.8 trillion of spending power into the US economy. That’s about two-fifths of the consumption component of GDP. That has produced a burst of consumer spending, but also the highest inflation in forty years, along with chronic shortages of key commodities, supply chain disruptions, and a bulge in the trade deficit . . .
We do not know whether the stimulus will produce continued economic growth with high inflation—perhaps very high inflation—or lead to stagflation, that is, cutbacks in production as well as consumption caused by inflation . . .
Businesses cannot raise prices fast enough to keep up with rising input costs. The widely-followed Philadelphia Federal Reserve survey of manufacturers shows that more respondents report higher input costs than higher prices received.
A widening gap between prices paid and prices received often precedes recessions, as in 1973, 1979, 2000, and 2008. This gap does not always predict recessions (it did not in 1993 and 1987, for example). But it strongly suggests that corporate profit margins are under pressure. In some cases, including the US automotive industry, manufacturers have been able to increase profit margins substantially, because a scarcity of cars allowed dealers to eliminate incentives. Overall, the present inflation is likely to constrain production . . .
America’s supply chains could not meet the surge in demand created by the stimulus, so American consumers bought more from the world’s largest manufacturer, namely China. The problem lies in chronic underinvestment in US manufacturing. A rough gauge of the state of US manufacturing investment is the level of orders at US companies for industrial machinery. After inflation, this measure stands at the same level as 1992, or half the 1999 peak.
In theory, China could continue exporting to the United States, and continue to lend the United States the money to pay for its goods, for an indefinite period. But China’s supply chains are under pressure, and rising raw materials costs as well as energy prices constrain its ability to produce as well. Prices for China’s manufactured imports are rising, apart from the tariff effect, and that portends more inflation in the United States.
The most likely outcome in my view is that the biggest US consumer stimulus in history will produce sustained inflation in excess of 5 percent a year. Falling real wages and shrinking profit margins will continue to depress output, and the US economy will enter a period of stagflation something like the late 1970s. At some point, the United States Treasury will find itself unable to borrow the equivalent of 10% of GDP per year, at least not at negative real interest rates. As long as investors are willing to pay the Treasury to hold their money for them, the US government can sustain arbitrarily large deficits. That is the brunt of so-called Modern Monetary Theory. But the Herb Stein principle applies: Whatever can’t go on forever, won’t. The creditors of the United States will not accept negative returns on an ever-expanding mountain of US debt indefinitely. At some point, perhaps not long from now, the US will face sharply higher interest rates and the type of budgetary constraints that were typical of profligate Third World borrowers.
Enjoy the weekend!
The Capital Record
We released the latest of our series of podcasts, the Capital Record. Follow the link to see how to subscribe (it’s free!). The Capital Record, which appears weekly, is designed to make use of another medium to deliver Capital Matters’ defense of free markets. Financier and NRI trustee David L. Bahnsen hosts discussions on economics and finance in this National Review Capital Matters podcast, sponsored by National Review Institute. Episodes feature interviews with the nation’s top business leaders, entrepreneurs, investment professionals, and financial commentators.
In the 41st episode, David is joined on Capital Record by Amity Shlaes, one of the great economic historians and the leading Calvin Coolidge scholar of our time. David and Amity enjoy a robust conversation about the Great Depression, parallels between the 1920s and the 2020s, and the policy perspective of one of our great presidents that is surely missing today.
The Capital Matters week that was . . . Antitrust Overreach
Jessica Melugin:
Earlier this month, U.S. senators Amy Klobuchar (D., Minn.) and Chuck Grassley (R., Iowa) unveiled plans for their American Innovation and Choice Online Act. The legislation would empower federal regulatory agencies to prevent the biggest platforms — namely, Amazon, Google, Facebook, Apple, and Microsoft — from giving preference to their own products and services over those of third parties. Unfortunately, the bill does not live up to its name: Allowing such companies to prefer their products over others confers value and convenience for consumers, not harm . . .
This legislation is nothing more than a solution in search of a problem that doesn’t exist. Take Amazon, for instance, who makes money in two ways: first, from their cut from third-party sales on Amazon Marketplace and second, by competing against those same third-party sellers with their own generic-products line, Amazon Basics. The bill seeks to thwart Amazon’s promotion of these private-label items, but neglects the fact that the company already must delicately balance these two revenue streams. The best way to strike that profit-maximizing balance is to let customers decide, not regulators. Whether it means suggesting an Amazon Basics product or highlighting a superior offering from a third-party seller, the market signals keep Amazon working hard to please customers. The same cannot be said for members of Congress willing to throw consumers’ interests overboard to score political points for bashing Big Tech . . .
Alden Abbott and Andrew Mercado:
The battle against bona fide competition in the U.S. continues apace. A new antitrust proposal in the Senate, named the “American Innovation and Choice Online Act,” would punish the largest platforms and technology companies for conduct that has been benefiting consumers since goods began to be sold in stores. Under this bill — and its companions in the House — store brands, self-advertising, and large savings at checkout would be found to violate antitrust laws, punishable with fines of up to 15 percent of the company’s revenue. The catch: These new bills affect only seven companies, whose market capitalization is $550 billion or greater, which is the Senate bill’s statutory threshold. In other words, they are not antitrust bills at all.
More accurately, these proposals are clear regulation of the technology sector, dressed up in a trendy new outfit, aimed at harming the most productive sector of our economy and knee-capping the innovative output of the United States for the foreseeable future . . .
Businesses have had a clear pathway to legal consolidation for over 40 years. But regulators are now turning the process into a guessing game.
In September 2020, Illumina, a genomics company, acquired cancer-screening startup Grail for approximately $8 billion. One year later, the Federal Trade Commission (FTC) is trying to unravel the deal.
Under normal circumstances, this acquisition would have progressed without incident. Illumina already had strong ties to Grail: It founded the startup in 2015 and spun it off in 2017, retaining a 20 percent stake thereafter. According to former FTC Commissioner Joshua Wright, the agency should have approved the transaction because, among other reasons, Grail operated in a separate market and had a highly differentiated product. But in August, the FTC filed an administrative complaint and authorized a federal court to block the acquisition . . .
The Jobs Market
Ari David Blaff:
The story of truck drivers today is the story of blue-collar America. Our disdain for manual labor led us to ignore the contributions of blue-collar America, particularly their crucial role in modern economies. Speaking with NPR, Garret Morgan, an ironworker, explained that he was given the advice most teenagers hear today: “All through my life it was, ‘If you don’t go to college you’re going to end up on the streets.’ . . . Everybody’s so gung-ho about going to college.” Mike Rowe, known for hosting the show Dirty Jobs, acknowledged much the same during a PBS Newshour interview. “The push for one form of education, in my view, really was the beginning of a long list of stigmas and stereotypes and myths and misperceptions that to this day dissuade millions of kids from pursuing a legitimate opportunity to make six figures in the trades.”
Now, thanks to the blue-collar job boom, many are doubting the myth of success on the one-way road through college. “Blinded by taboos,” Amitai Etzioni wrote in 2010, white-collar workers overlook the possibilities and potential of blue-collar work. Indeed, Chris Cortines of the educational-research organization National Student Clearinghouse points to such misconceptions as one of the driving forces behind university dropout rates. Lack of awareness and the social taboo of ducking college, Cortines fears, lead many to ignore other worthwhile options, such as trade school.
The stigma is now coming home to roost. By 2017, Associated General Contractors of America found that 70 percent of firms were having trouble finding qualified craft workers . . .
The United States is facing a critical shortage of doctors. Our health-care system produces fewer physicians per person than virtually every other developed country. Of the doctors we do train, most opt for high-paying specialties instead of pursuing careers in primary care. The result has been a persistent gap in primary-care access despite soaring levels of spending, now exacerbated by the COVID-19 crisis.
At the root of our primary-care shortage is America’s broken system of graduate medical education. Becoming a doctor in the U.S. requires at least eight years of post-secondary education, plus three to nine years of training in postgraduate residency and fellowship programs. The average doctor graduates holding over $240,000 in student debt. With no guarantee of securing a residency spot (thousands of U.S. graduates go unmatched each year), it’s no surprise that those who make it through the pipeline get pulled into lucrative specialties with the highest earning potential . . .
Tax
Daniel Tenreiro:
The White House plan would tax the capital gains of billionaires annually, irrespective of whether their assets have been sold. This idea, first proposed by Senator Ron Wyden (D., Ore.) in 2019, would be a logistical nightmare. For starters, the year-end cutoff for calculating capital gains would impose entirely arbitrary tax burdens. For instance, an investor holding $100 million in shares of movie-theater chain AMC at the start of 2020 would have seen his stake reduced to roughly $30 million by year-end. Assuming standard capital-gains deductions apply, that $70 million loss could be written off on future tax bills, but only in increments of $3,000 — meaning it would take 200 lifetimes to realize the deduction.
In 2021, this hypothetical $30 million stake would have grown to $540 million. Assuming AMC’s share price stays flat through December, the investor in question would owe more than $120 million under the proposal — for an effective tax rate close to 28 percent, well above the maximum statutory rate. If those shares depreciate in value next year, say, to $300 million, then the holder would have paid $120 million on a $200 million net gain . . .
Desperate for any new tax at this late hour of the “Build Back Better” soap opera of socialism, all hands have come on deck for perhaps the craziest idea yet — an income tax on income that doesn’t actually exist.
To be sure, things are fluid at the moment. Democrats haven’t released an actual plan, so policy analysts have been trying to piece things together based on prior proposals. But one proposal involves what Democrats are calling “mark to market” taxation, as usual masking an insane tax idea in opaque, faculty-lounge argle-bargle.
This new policy would, for the first time in American history, tax the annual increase in asset values held by “the rich” (those people, over there). It doesn’t matter whether the taxpayer in question sold the asset and realized an actual profit or not — merely the increased gain in value would be enough to trigger annual taxation. If certain versions of the proposal prevailed, it could mean that, if your house went up in value last year, Uncle Sam will want to tax you on the growth in its Zillow Zestimate . . .
Is it time for a 50 percent tax increase on the American middle class? What say you, Senator Warren?
You’ll know that American progressives are serious about adopting European-style social-welfare policies when they start talking about adopting European levels of taxation on the middle classes instead of pretending that Jeff Bezos and cigarette smokers can pay for the Danish welfare maximalism they fantasize about.
Until then, it’s pretty much all piffle.
The current tax posture of our progressive friends is partly irresponsible, partly ignorant, and partly dishonest. If you compare Alexandria Ocasio-Cortez (whose ignorance and arrogance are mutually reinforcing) with Elizabeth Warren (deeply informed, deeply mendacious), what you’ll see is that the more Democrats know, the less honest they are able to be in this matter — a clear and frank account of the situation would be very bad politics for progressives . . .
In the brief interval since my last post, Congress released some legislative text on the Build Back Better Act. Now, we can put some numbers to their claims on tax enforcement.
Here’s a rundown of where Democrats have been on increased revenue from better tax enforcement:
In April, the White House said better tax enforcement could raise $700 billion over the decade.
In May, the Treasury department reiterated $700 billion. They also said that would result from $80 billion in extra IRS funding, so subtract $80 billion to get a net revenue gain of $620 billion. Treasury thought that was a conservative estimate.
In June, the White House offered “reduce the IRS tax gap” as a way to finance the bipartisan infrastructure deal, not the reconciliation bill. It did not put a number on how much revenue it would raise . . .
I was going to do a roundup of everything we know about the terrible policy proposal to tax unrealized capital gains. However, the news is changing so fast that it is hard to know which aspect of the Democrats’ plan to pay for their spending bills is worth writing about. As the WSJ notes:
One day it’s an increase in tax rates on corporations and the affluent. But wait, that doesn’t have the votes. How about a carbon tax? That won’t fly either. Hey, there goes Jeff Bezos. Let’s tax him and 699 other billionaires. It polls well. Everyone hates billionaires!
Oh, but that may be unconstitutional. We still need money, so let’s try a 15% corporate minimum tax—though be sure to exempt investments in green energy and other pet progressive ideas. So it will have to be a minimum tax on some companies but not others.
But there is more. The NYT’s DealBook newsletter this morning announced that “‘Super-rate brackets’ may be the next attempt to tax the uber-rich, according to Punchbowl News. This would create higher taxes for incomes over a certain amount — 5 percent extra on incomes above $10 million and another 3 percent on incomes above $25 million. This idea is still under negotiation and may not materialize with these details, if at all.” . . .
Supply-Chain Woes
Dominic Pino:
When something causes nationwide problems, it’s tempting to look for a nationwide response. The current supply-chain crisis is indeed causing nationwide problems, and many have looked to the Department of Transportation and other federal authorities for a solution. There don’t seem to be any on offer.
Now that he’s back on the job, Pete Buttigieg’s McKinsey instincts must be kicking in as he tries to craft a perfect plan to put the supply chains back together again. The truth is that there’s not much the federal government can do about many of the important issues. The problems we currently face cannot be eliminated by spending a bunch of money or ordering people to act differently.
What can help, however, is allowing people to make higher stacks of shipping containers . . .
For all the job losses of recent decades, the hallmark of the current supply-chain crisis is not unemployment but the opposite: a historic labor shortage fueled by the lowest rate of labor-force participation in decades. Chiefly as a result of a critical shortage of truck drivers, scores of container ships bearing hundreds of thousands of 20-foot containers are now stranded off the coast of Los Angeles, whose ports handle 40 percent of America’s container traffic.
Shippers have explored the possibility of alternative ports, to no avail. Most of the alternatives are too small for the mega ships loitering offshore. That is one consequence of the Jones Act, which requires any ship transiting between American ports to be made in America, owned by Americans, and crewed by Americans. As a result of the exorbitant costs imposed by the law, America’s coast-wise trade is frightfully tiny, one reason that most American ports are too small to handle large container ships. The World Economic Forum rates America’s shipping-industry regulations as the most restrictive in the world, chiefly because of the Jones Act . . .
To handle the deluge in goods Americans have purchased, the country needs more logistics capacity. That’s especially true at the Ports of Los Angeles and Long Beach, where powerful unions and outdated trade policies have combined to produce two of the least efficient major ports in the world . . .
Inflation
Veronique de Rugy:
Yesterday, the New York Times had a piece that included this paragraph about why inflation should be cooling down soon:
“They point to calculations by Mark Zandi, a Moody’s Analytics economist, that suggest Americans who have left the labor force will begin flocking back into the job market by December or January, because they will likely have exhausted their savings by then.”
Isn’t that a roundabout way to admit that inflation was in part the product of COVID-relief packages? Another way to say this: Isn’t this a soft admission that the decrease in aggregate supply, which most blame for the current inflation, may also be partly caused by the policy responses to COVID? I will point to this post by Tyler Cowen that asked a question about the role played by the relief packages.
As an aside, it is an interesting statement coming the same Zandi who predicted last year that ending unemployment insurance would mean that “unemployment will remain in double-digits until well after the pandemic is over.” Now he talks about workers “flocking back into the labor market” when they have exhausted their savings, which are in part a product of those benefits . . .
Bloomberg reports that the Institute of International Finance (IIF), the trade group for the financial-services industry, has found that while all countries are dealing with post-pandemic inflation, the United States has it worse than most. In a new report to be released in full tomorrow, the IIF says there’s a supply-side reason and a demand-side reason for America’s outlier status.
On the supply side, shipping delays in the U.S. are worse than shipping delays elsewhere, the IIF says. This is consistent with the point that Scott Lincicome made back in September: American ports are near the bottom of the developed world in terms of efficiency, and that results in reduced capacity. This is not primarily because of COVID, but rather because of labor and trade policy that has been in place for decades. According to the most recent round of service announcements from DHL, ships are waiting eight to ten days for a berth at Los Angeles/Long Beach. They’re waiting one to two days at Shanghai and Ningbo. American West Coast congestion is so bad that it’s becoming worthwhile for some shippers to send their cargo through the Panama Canal to East Coast ports instead . . .
Hyperinflation
Daniel Di Martino and Jon Hartley:
Hyperinflation takes place when the money supply grows at a significantly faster rate than economic output, and inflation expectations spiral out of control. In Venezuela’s case, it has occurred as a result of the government printing money to perpetuate its out-of-control spending. But printing money carries physical as well as inflationary costs. Venezuela doesn’t actually print its own bills; they are shipped from neighboring Brazil and paid for in U.S. dollars. In order to cut costs, Venezuela’s socialist regime now expands the money supply almost exclusively digitally.
This practice has landed Venezuela in the paradoxical position of having so large a money supply that prices increase rapidly but so little cash that people don’t have currency to pay their bills.
The silver lining of this crisis is that hyperinflation and the cash shortage precipitated a spontaneous dollarization of the economy . . .
The Fed
Ramesh Ponnuru:
The Houston-area congressman, the ranking Republican on the House Ways and Means Committee, spoke to me today in advance of tomorrow’s release of the preliminary estimate of GDP in the third quarter. His prediction was blunt: “It will prove President Biden is bungling the economic recovery. He’s a million jobs short of his promises, and we are stuck in a worsening labor shortage.” (See here for more on Brady’s point about jobs.) “Growth has already peaked for the president. It’s unfortunately downhill from here.”
The congressman blamed two policies, in particular, for labor-market problems: the administration’s expansion of Obamacare subsidies and its severing of the link between the child tax credit and work “for the first time since Republicans created it in 1997.” Brady also says that while “we all want higher vaccination rates,” he is hearing from employers in a range of sectors that they fear that a federal vaccine mandate will further reduce labor-force participation. He thinks it should at least be delayed until after the holidays.
Asked whether President Biden should appoint Jay Powell to another term as chairman of the Federal Reserve, Brady responded, “I am losing faith in his leadership . . .”
Regulatory Games
Roger Severino and Rachel Morrison:
According to The Princess Bride, one should “never get involved in a land war in Asia” and “never go in against a Sicilian when death is on the line.” We suggest a modern addendum to the classic blunders list: Never trust a bureaucrat claiming emergency powers. Last week, we met with federal government officials to object to President Biden’s impending so-called emergency COVID-19 vaccine mandate for the American workplace. We were one of more than 80 groups to meet with officials from the White House’s Office of Information and Regulatory Affairs (OIRA) and the Occupational Safety and Health Administration (OSHA), after the president ordered OSHA to impose the vaccine mandate without doing cost-benefit analysis, as would be needed to justify such an unprecedented intervention in the American economy and personal health decisions . . .
Build Back Better
Dominic Pino:
The White House today announced a framework for its “Build Back Better” plan. We have no reason to believe much of it is true.
Initially, progressives wanted $6 trillion. Biden said he wanted $3.5 trillion. Today’s framework is for $1.75 trillion — maybe. (There’s another $100 billion in immigration-related spending that isn’t included in that total.) The framework also has $1.995 trillion in offsets. That means, according to the framework, this plan would reduce the national debt by $245 billion over the next ten years.
Biden has promised the bill would be fully paid for (erroneously equating that with the bill being free). But he has never promised that it would reduce the debt. The memo of understanding between Joe Manchin and Chuck Schumer said that any revenue over $1.5 trillion was to be used for deficit reduction. But this framework does not keep that promise, since it raises $495 billion more than $1.5 trillion, but only reduces the debt by $245 billion . . .
The Economy
Dan McLaughlin:
At some point, you have to ask whether Joe Biden and congressional Democrats are even trying anymore on the economy. Or perhaps they have just internalized the theory that bad economic news increases demand for government spending and services, so why not just focus on capitalizing on that rather than doing anything to help?
Recent economic news has been grim, with bad news on a staggering array of fronts . . .
Health Care
Brian Blase:
On October 25, 2021, all 14 Republican members of the powerful U.S. Senate Committee on Finance sent a letter to the administrator of the Centers for Medicare and Medicaid Services (CMS) Chiquita Brooks-LaSure requesting information about Medicaid’s large and growing improper-payment problem. In the letter, the senators wrote that having this information is vital before Congress considers legislation that could dramatically expand Medicaid. The senators’ letter cited the November 2020 CMS improper-payment-rate report and the 21.4 percent improper-payment rate in Medicaid. They also cited my analysis with Hayden Dublois released in NRO in December 2020; in this analysis, we noted that Medicaid’s true improper-payment rate almost certainly exceeds 25 percent, which equates to more than $100 billion in improper payments each year. (The December 2020 NRO piece explains why the true rate is likely this high.)
Medicaid’s escalating improper-payment rate is directly due to problems with Obamacare’s expansion of the program . . .
The SEC’s Mission Creep
Benjamin Zycher:
Inside the Beltway, most priorities are driven by the perceived political imperatives of the moment rather than by any set of actual principles. The ongoing herculean effort by the Securities and Exchange Commission to promulgate a rule forcing public companies to disclose the “risks” of climate change for their investors is no exception. It is clear that this rule will be followed by another seeking to mandate such “disclosures” by private companies as well. Indeed, this imminent rulemaking is a central component of the administration’s goal of forcing most of the private sector to endorse the climate “crisis” narrative, notwithstanding the body of evidence on the climate phenomena that is vastly more mixed and complex than commonly asserted.
Nor do I betray any secret by pointing out that this effort is being driven heavily by the administration’s need to trumpet climate-policy victories — pieces of paper — at the U.N.’s climate conference (COP-26), beginning in Glasgow on Halloween. The future impact of the existing Paris agreement would be trivial — 0.178 degrees C by 2100 — even if we take that agreement seriously (it is not). There exist massive rifts between the more- and less-developed economies on the magnitude of the subsidies to be delivered by the former to the latter states to induce them to substitute expensive energy in place of efficient power. (The demands from India are particularly vociferous, and the Chinese are not far behind.) And given the impossibility that any effective reduction in greenhouse-gas emissions will result from COP-26, the Biden pieces of paper actually might prove the most significant “achievements” in the record, however meaningless they are in reality considering the entire Biden net-zero-emissions goal would reduce global temperatures in 2100 by 0.173 degrees C.
And so back to the SEC disclosure effort. No plausible list of the SEC’s areas of expertise includes climate science and policy . . .
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